Image Sensing Systems, Inc.
Annual Report 2017

Plain-text annual report

Annual Report 2017 UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549 FORM 10‑K (Mark one)☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the fiscal year ended December 31, 2017or☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the transition period from ____________ to ____________Commission file number: 0‑26056 Image Sensing Systems, Inc.(Exact name of registrant as specified in its charter)Minnesota 41-1519168(State or Other Jurisdiction of Incorporation or Organization) (I.R.S. Employer Identification No.) 500 Spruce Tree Centre, 1600 University Avenue West St. Paul, MN 55104(Address of Principal Executive Offices) (Zip Code)(651) 603‑7700(Registrant’s telephone number, including area code)Not applicable.(Former name, former address and former fiscal year, if changed since last report)Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered Common Stock, $0.01 par value The NASDAQ Capital Market Preferred Stock Purchase Rights The NASDAQ Capital Market Securities registered pursuant to Section 12(g) of the Act: None.Indicate by check mark if the registrant is a well‑known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ☐ No ☒Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or Section 15(d) of the Securities Exchange Act of1934 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 filingrequirements for the past 90 days. Yes ☒ No ☐Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data Filerequired 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 requiredto submit and post such files). Yes ☒ No ☐Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S‑K is not contained herein, and will not be contained, to thebest of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10‑K or any amendment to this Form10‑K. ☒Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non‑accelerated filer, smaller reporting company, or anemerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule12b‑2 of the Exchange Act. (Check one): Large accelerated filer ☐Accelerated filer ☐ Non-accelerated filer ☐ (Do not check if a smaller reporting company)Smaller reporting company ☒ Emerging growth company ☐If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any newor revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b‑2 of the Act). Yes ☐ No ☒As of June 30, 2017, the aggregate market value of the registrant’s common stock held by non‑affiliates of the registrant was $13,865,180 based on the closing saleprice as reported on The NASDAQ Capital Market. The number of shares outstanding of the registrant’s $0.01 par value common stock as of February 28, 2018 was5,210,448 shares.DOCUMENTS INCORPORATED BY REFERENCEDocument Parts Into Which IncorporatedProxy Statement for the 2018 Annual Meeting of Shareholders (Proxy Statement) Part III  TABLE OF CONTENTSPART I1Item 1. Business1Item 1A. Risk Factors6Item 1B. Unresolved Staff Comments15Item 2. Properties15Item 3. Legal Proceedings15Item 4. Mine Safety Disclosures15PART II16Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities16Item 6. Selected Financial Data17Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations18Item 7A. Quantitative and Qualitative Disclosures About Market Risk24Item 8. Financial Statements and Supplementary Data25Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure45Item 9A. Controls and Procedures45Item 9B. Other Information46PART III47Item 10. Directors, Executive Officers and Corporate Governance47Item 11. Executive Compensation47Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters47Item 13. Certain Relationships and Related Transactions, and Director Independence47Item 14. Principal Accountant Fees and Services47PART IV48Item 15. Exhibits and Financial Statement Schedules48Item 16. Form 10-K Summary51Signatures52Exhibit Index53 iPART IItem 1. BusinessGeneralImage Sensing Systems, Inc. (referred to in this Annual Report on Form 10-K as “we,” “us,” “our” and the “Company”) develops and marketsvideo and radar processing products for use in traffic applications such as intersection control, highway, bridge and tunnel traffic managementand traffic data collection.We are a leading provider of above-ground detection products and solutions for the intelligent transportation systems (“ITS”) industry. Ourfamily of products, which we market as Autoscope® video or video products (“Autoscope”), and RTMS® radar or radar products (“RTMS”),provides end users with the tools needed to optimize traffic flow and enhance driver safety. Our technology analyzes signals from sophisticatedsensors and transmits the information to management systems and controllers or directly to users. Our products provide end users withcomplete solutions for the intersection and transportation markets.Our technology is a process in which software, rather than humans, examines outputs from various types of sophisticated sensors to determinewhat is happening in a field of view. In the ITS industry, this process is a critical component of managing congestion and traffic flow. In manycities, it is not possible to build roads, bridges and highways quickly enough to accommodate the increasing congestion levels. On average,United States commuters spend 42 hours a year stuck in traffic, and congestion costs motorists $160 billion a year. We believe this growing useof vehicles will make our ITS solutions increasingly necessary to complement existing and new roadway infrastructure to manage traffic flowand optimize throughput.We believe our solutions are technically superior to those of our competitors because they have a higher level of accuracy, limit the occurrenceof false detection, are generally easier to install with lower costs of ownership, work effectively in a multitude of light and weather conditions,and provide end users the ability to manage inputs from a variety of sensors for a number of tasks. It is our view that the technical advantagesof our products make our solutions well suited for use in ITS markets.We believe the strength of our distribution channels positions us to increase the penetration of our technology‑driven solutions in themarketplace. We market our Autoscope video products in the United States, Mexico, Canada and the Caribbean through exclusive agreementswith Econolite Control Products, Inc. (“Econolite”), which we believe is the leading distributor of ITS intersection control products in thesemarkets.We market the RTMS radar systems to a network of distributors, and on a limited basis directly to end users, worldwide. We market ourAutoscope video products outside of the United States, Mexico, Canada and the Caribbean through a combination of distribution and directsales channels, through our offices in Spain and Romania. Our end users primarily include governmental agencies and municipalities.Industry OverviewThe Intelligent Transportation Systems Market. ITS encompasses a broad range of information processing and control electronicstechnologies that, when integrated into roadway infrastructure, help monitor and manage traffic flow, reduce congestion and enhance driversafety. The ITS market has been built around the detection of conditions that impact the proper operation of roadway infrastructure. ITSapplications include a wide array of traffic management systems, such as traffic signal control, tolling and variable messaging signs. ITStechnologies include video vehicle detection, inductive loop detection, sensing technologies (such as radar), floating cellular data,computational technologies and wireless communications.In traffic management applications, vehicle detection products are used for automated vehicle detection and are a primary data source uponwhich ITS solutions are built. Traditionally, automated vehicle detection is performed using inductive wire loops buried in the pavement.However, in‑pavement loop detectors are costly to install, difficult to maintain, expensive to repair and not capable of either wide‑area vehicledetection without installations of multiple loops.1Above‑ground detection solutions for ITS offer several advantages to in‑pavement loop detectors. Above‑ground detection solutions tend tohave a lower total cost of ownership than in‑pavement loop detectors because above‑ground solutions are non‑destructive to road surfaces, donot require closing roadways to install or repair, and are capable of wide‑area vehicle detection with a single device, thus enabling one inputdevice to do the work of many in‑pavement loops. Due to their location above-ground, these solutions have no exposure to the wear and tearassociated with expanding and contracting pavement and generally less exposure to the vibration and compaction caused by traffic.Furthermore, in the event of malfunction or product failure, above‑ground detection solutions can be serviced and repaired without shuttingdown the roadway. Each of these factors results in greater up‑time and increased reliability of above‑ground detection solutions compared toin‑pavement loop detectors. These technology solutions also offer a broader set of detection capabilities and a wider field of view thanin‑pavement loop detectors. In addition, a single unit video‑ or radar‑based system can detect and measure a variety of parameters, includingvehicle presence, counts, speed, length, time occupancy, headway and flow rate as well as environmental factors and obstructions to theroadway. An equivalent installation using loops would require many installations per lane.We believe that several trends are driving the growth in ITS and adjacent market segments:Proliferation of Traffic. In many countries, there has been a surge in the number of vehicles on roadways. Due to the growth of emergingeconomies and elevated standards of living, more people desire and are able to afford automobiles. The number of vehicles utilizing the world’sroadway infrastructure is growing at a quicker pace than new roads, bridges and highways are being constructed. According to the FederalHighway Administration, American drivers put a record 3.22 trillion miles on public roads and highways in 2016, an increase of 2.8% from 3.1trillion miles in 2015. Overall, the growth in roadway infrastructure is failing to match the surge in the number of vehicles using it. Above-ground detection based traffic management and control systems address the problem by monitoring high traffic areas and analyzing data thatcan be used to mitigate traffic problems.The Demographics of Urbanization. Accelerated worldwide urbanization drives the creation and expansion of middle classes and producesheightened demand for automobiles. Currently, there are at least 500 cities in the world with over 1 million people. Because automobiles can beintroduced to a metropolitan area faster than roadway infrastructure can be constructed, the result is continuously worsening traffic. Expandingthe roadway infrastructure is slow and costly to implement, and often environmentally undesirable, so government agencies are increasinglyturning to technology‑based congestion solutions that optimize performance and throughput of existing and new roadway infrastructure.Detection is the requisite common denominator for any technology‑based solution.The Melding of Large City Service Domains. Large cities require a wide range of service domains, including traffic. These cities are increasinglyturning to centralized management of these service domains, employing a command and control model that requires sharing and integratingdata across service domains to operate effectively and lower total cost. For example, data collected for the traffic management service domain isrelevant to all of the other service domains. This means that each sensor can supply information to multiple domain services. In turn, thesharing of detection information across service domains should increase the level of sophistication required to process and interpret thatinformation. Additionally, above-ground detection products are more capable of performing certain complicated tasks than humans. Thismakes the concepts of “rich sensing” and “instrumenting the city” through above-ground detection solutions cost effective, which we believewill result in the extensive proliferation of sophisticated sensors and detection devices.Solutions for Adjacent Markets. We believe that the adjacent markets of ITS and security/surveillance are converging, and that thisconvergence will accelerate as above-ground detection systems become more cost‑effective now that a single sensor can be used for multiplepurposes. Because the technologies involved are closely related, our sensor technology can be adapted to or is already capable of addressingthese adjacent markets.Our Competitive StrengthsWe are a leading provider of above-ground detection products and solutions for the ITS industry. We have the following competitive strengthsthat we expect will continue to enhance our leadership position:Leading Proprietary Technologies. Over the last two decades, we have developed or acquired a proprietary portfolio of complex softwarealgorithms and applications that we have continuously enhanced and refined. These algorithms, which include our advanced signal processingtechnologies, allow our video and radar products to capture and analyze objects in diverse weather and lighting conditions and to balance theaccuracy of positive detection and the avoidance of false detections. Due to the strength of our proprietary technologies, we believe wecommand premium pricing. Above-ground detection technologies similar to ours are also difficult to develop and refine in a commercially viablemanner. We are therefore well positioned to quickly introduce innovative next‑generation products to market.2Proven Ability to Develop, Enhance and Market New Products. We are continually developing and enhancing our product offerings. Over thelast two decades, we have demonstrated our ability to lead the market with new products and product enhancements. For example, theAutoscope Solo system was the first fully integrated color camera, zoom lens and machine vision processor in the above-ground detectionmarket. Our RTMS Radar business unit was one of the first to introduce radar‑based technology solutions for ITS applications, and wecontinue to lead the market with technology enhancements and new products. Furthermore, our next generation video product,Autoscope Vision, is an example of development driven by the voice of our customers. We have developed a high definition video detectionsolution with increased accuracy, performance, and ease of use. We have successfully collaborated with our long‑term channel partners tomarket these products. We believe that developing, enhancing and marketing new products with our partners can translate into strong organicrevenue growth and high levels of profitability.Leading Distribution Channel. Since 1991, we have maintained a relationship with Econolite, which has the exclusive right to manufacture,market and distribute our Autoscope video products in the United States, Mexico, Canada and the Caribbean. We believe that Econolite is theleading distributor of ITS control products in North America and the Caribbean. This relationship enhances our ability to commercialize andmarket new products and allows us to focus more resources on developing advanced signal processing software algorithms.Broad Product Portfolio. Our product portfolio leverages our core software‑based algorithms to enable end users to detect and monitorobjects in a designated field of view. We believe that our family of Autoscope video and RTMS radar products allows us to offer a broadproduct portfolio that meets the needs of our end users.Experienced Management Team and Engineering Staff. Our management team and engineering staff are highly experienced in the ITS andsoftware industries. Additionally, the continuity of our engineering staff should allow the uninterrupted development of new or improvedproducts.Our Growth StrategyAs part of our growth strategy, we seek to:Enhance and Extend Our Technology Leadership in ITS. We believe we have established ourselves as a leading provider of technology inthe ITS market segment. We believe that we continue to have an opportunity to accelerate our growth. We plan to do this by improving theaccuracy and functionality of our products and opportunistically expanding our product offering into adjacent markets, as well as expandingour portfolio and channels through licensing. Having developed and introduced our next-generation video product, we expect to takeadvantage of our technical leadership in ITS and further differentiate us from our competitors.Expand into Adjacent Markets. Our core skill is the implementation of above-ground detection products and solutions. Over the past twodecades, we have been developing and refining our complex signal processing software algorithms. We should be able to effectively utilize ourcore software skills more broadly as markets converge. We believe that a driver of this convergence is that above-ground detection systems willbecome more cost‑effective when a single sensor can be used for multiple purposes. As a result, our objective is to become the leading supplierof critical detection components to third party management systems, particularly those that exploit the convergence of traffic. To do this, we areintegrating this concept into our long‑range engineering development road‑map and will evaluate the use of technology licensing and channelstrategies that support this vision.Increase the Scope of Our Distribution and Direct Sales. We have made substantial investments in product adjustments to tailor our solutionsto the differing needs of our international end users and in new product acquisitions for both domestic and international markets. We have alsoinvested in sales and marketing expansion, with a focus on our European subsidiaries. Markets in Eastern Europe, the Asia/Pacific region, theMiddle East, Africa and South America, which have historically lagged North America and Western Europe in their use of above-grounddetection, have begun to increase the adoption of detection technology in their traffic systems. We intend to take advantage of the acceleratedpace of the adoption of above-ground detection throughout the developing world by increasing end user awareness of our products andapplications as well as improve user aptitude.Our Products and SolutionsOur vehicle and traffic detection products are critical components of many ITS applications. Our Autoscope video systems and RTMS radarsystems convert sensory input collected by video cameras and radar units into vehicle detection and traffic data used to operate, monitor andimprove the efficiency of roadway infrastructure. At the core of each product line are proprietary digital signal processing algorithms andsophisticated embedded software that analyze sensory input and deliver actionable data to integrated applications. We invested approximately$4.1 million and $4.6 million on research and development in 2017 and 2016, respectively, to develop and enhance our product technology. Ourdigital signal processing software algorithms represent a foundation on which to support additional product development into the automaticincident detection (AID) market. A diagram displaying our fundamental product architecture is shown below.3The Image Sensing Product Architecture Autoscope Video. Our Autoscope video system processes video input from a traffic scene in real time and extracts the required traffic data,including vehicle presence, bicycle presence/differentiation, counts, speed, length, time occupancy (percent of time the detection zone isoccupied), turning movements (quantifying the movement of vehicles ) and flow rate (vehicles per hour per lane). Autoscope supports a varietyof standard video cameras or can be purchased with an integrated high-definition video camera. For intersections, the system communicateswith the intersection signal controller, which changes the traffic lights based on the data provided. In highway applications, the system gathersvehicle count and flow rates. In any application, the data may also be transmitted to a traffic management center via the internet or otherstandard communication means and processed in real time to assist in traffic management and stored for later analysis for traffic planningpurposes.The Autoscope system comes in two varieties. Autoscope Vision is our flagship integrated product that includes a color high-definition, zoomcamera and a machine vision processing computer contained in a compact housing that is our leading offering in the North American market. Autoscope Pn-520 is our card only machine vision processing computer that is located in an intersection signal controller, control hub, incidentmanagement center or traffic management center that receives video from a separate camera. The Pn-520 and its variants are our top sellingAutoscope products in international markets. Autoscope rack-based products offer digital MPEG‑4 video streaming, high speed Ethernetinterface, web browser maintenance and data and video over power line communications. The Autoscope Vision product offers digitalstreaming video, built-in WiFi for quick and easy setup, cost-effective three-wire cable and full screen object detection and motion trackingalgorithm technology for best in class detection accuracy.RTMS Radar. Our RTMS radar systems use radar to measure vehicle presence, volume, occupancy, speed and classification information forroadway monitoring applications. Data is transmitted to a central computer at a traffic management center via standard communication means,including wireless. Data can be processed in real time to assist in traffic management and stored for later analysis for traffic planning purposes.RTMS radar is an integrated radar transmitter/receiver and embedded processor contained in a compact, self‑contained unit. The unit istypically situated on roadway poles and side‑fired, making it especially well-suited for highway detection applications.The RTMS radar system come in a few different varieties. RTMS Sx-300 is our base, non-intrusive radar for detection and measurement of trafficon roadways and is our leading offering in both North America and the Middle East. The RTMS Sx-300 HDCAM has a high-definition camerathat provides the user with visual setup confirmation, data capture and real-time traffic surveillance. The Sx-300 HDCAM has been widelydeployed in North America for various applications such as ramp metering and wrong way driver detection. The RTMS Sx-300 BT is anintegrated Sx-300 with dual channel Bluetooth sensor and is ideal for providing the most accurate travel time and origin/destinationinformation. We also offer a wrong way module that interfaces with the Sx-300 HDCAM digital video stream and leverages our video detectionalgorithms to detect occurrences of vehicles driving the incorrect direction. The event is captured and sent to the end users via SMS and emailin parallel with actuation or roadside or in-pavement warning systems.4Distribution, Sales and MarketingWe market and sell our products globally. Together with our partners, we offer a combination of high‑performance detection technology andexperienced local support. Our end users primarily consist of federal, state, city and county departments of transportation, port, highway, tunneland other transportation authorities. The decision‑makers within these entities typically are traffic planners and engineers, who in turn oftenrely on consulting firms that perform planning and feasibility studies. Our products sometimes are sold directly to system integrators or othersuppliers of systems and services who are operating under subcontracts in connection with major road construction contracts.Sales of Autoscope Video in the United States, Mexico, Canada and the Caribbean. We have granted Econolite an exclusive right tomanufacture, market and distribute the Autoscope video system in the United States, Mexico, Canada and the Caribbean. The agreement withEconolite grants it a first refusal right that arises when we make a proposal to Econolite to extend the license to additional products in theUnited States, Mexico, Canada and the Caribbean and a first negotiation right that arises when we make a proposal to Econolite to includerights corresponding to Econolite’s rights under our current agreements in countries not in these territories. Econolite provides the marketingand technical support needed for its sales in these territories. Econolite pays us a royalty on the revenue derived from its sales of theAutoscope system. We cooperate in marketing Autoscope video products with Econolite for the United States, Mexico, Canada and theCaribbean and provide second‑tier technical support. We have the right to terminate our agreements with Econolite if it does not meet minimumannual sales levels or if Econolite fails to make payments as required by the agreements. In 2008, the term of the original agreement withEconolite, as amended, was extended to 2031. The agreements can be terminated by either party upon three years’ notice.Sales of RTMS Radar in North America, the Caribbean and Latin America. We market the RTMS radar systems to a network of distributorscovering countries in North America, the Caribbean and Latin America. On a limited basis, we sell directly to the end user. We provide technicalsupport to these distributors from our various North American locations.Sales in Europe, Asia, the Middle East and Africa. We market our Autoscope video and RTMS radar product lines of products to a network ofdistributors covering countries in Europe, the Middle East, Africa and Asia through our wholly‑owned subsidiaries that have offices in Europe.On a limited basis, we sell directly to the end user. Technical support to these distributors is provided by our wholly‑owned subsidiaries inEurope, with second‑tier support provided by our engineering groups. From time to time, we may grant exclusive rights to Econolite for marketsoutside of our significant markets for certain jurisdictions or product sales based on facts and circumstances related to the opportunities.CompetitionWe compete with companies that develop, manufacture and sell traffic management devices using video and radar sensing technologies as wellas other above‑ground detection technologies based on laser, infrared and acoustic sensors. For ITS applications, we also compete withproviders of in‑pavement loop detectors and estimate that more than 60% of the traffic management systems currently in use in the U.S. usein‑pavement loop detectors. For competition with other above‑ground detection products, we typically compete on performance andfunctionality, and to a lesser extent on price. When competing against providers of loop detectors, we compete principally on ease ofinstallation and the total cost of ownership over a multi‑year period, and to a lesser extent on functionality.Among the companies that provide direct competition to Autoscope video worldwide are Iteris, Inc., Wavetronix, LLC, FLIR Systems, Inc.,Signal Group Inc. (Peek), Citilog S.A., Sensys Inc., and Smartmicro Inc. Among the companies that provide direct competition to RTMS radarworldwide are Wavetronix, LLC, Houston Radar, LLC, MS Sedco Inc., Smartmicro Sensors GmbH, and TraffiCast. To our knowledge, Autoscopevideo and RTMS radar have the largest number of installations as compared to their direct competitors. In addition, there are smaller localcompanies providing direct competition in specific markets throughout the world. We are aware that these and other companies will continue todevelop technologies for use in traffic management applications. One or more of these technologies could in the future provide increasedcompetition for our systems.Other potential competitors of which we are aware include Siemens AG, Cognex Corp., Augusta Technologie AG, Matsushita Electric IndustrialCo., Ltd. (Panasonic), Sumitomo Corporation and Omron Electronics LLC. These companies have machine vision or radar capabilities and havesubstantially more financial, technological, marketing, personnel and research and development resources than we have.5ManufacturingAutoscope video products for sale under the Econolite license agreement are manufactured through agreements with Econolite and WirelessTechnology, Inc. Econolite is responsible for setting warranty terms and must provide all service required under this warranty. In Europe andAsia, we engage contract manufacturers to manufacture the Autoscope family of products.We engage Wireless Technology, Inc. to manufacture our radar products and perform warranty and post-warranty repairs for all radar unitssold.We typically provide a two to five-year warranty on our products.Most of the hardware components used to manufacture our products are standard electronics components that are available from multiplesources. Although some of the components used in our products are obtained from single‑source suppliers, we believe other componentvendors are available should the necessity arise. The European Parliament has enacted a directive for the restriction of the use of certainhazardous substances in electrical and electronic equipment (“RoHS”). To our knowledge, our contract manufacturing and component vendorsin Europe and Asia comply with the European directive on RoHS.Intellectual PropertyTo protect our rights to our proprietary know‑how, technology and other intellectual property, it is our policy to require all employees andconsultants to sign confidentiality agreements that prohibit the disclosure of confidential information to any third parties. These agreementsalso require disclosure and assignment to us of any discoveries and inventions made by employees and consultants while they are devoted toour business activities. We also rely on trade secret, copyright and trademark laws to protect our intellectual property. We have also enteredinto exclusive and non‑exclusive license and confidentiality agreements relating to our own and third‑party technologies. We aggressivelyprotect our processes, products, and strategies as proprietary trade secrets. Our efforts to protect intellectual property and avoid disputes overproprietary rights include ongoing review of third‑party patents and patent applications.Environmental MattersWe believe our operations are in compliance with all applicable environmental regulations within the jurisdictions in which we operate.EmployeesAs of December 31, 2017, we had 59 employees, consisting of 49 employees in North America and 10 employees in Europe. None of ouremployees are represented by a union.Item 1A. Risk FactorsInformation Regarding Forward‑Looking StatementsThis Annual Report on Form 10‑K contains forward‑looking statements within the meaning of Section 27A of the Securities Act of 1933, asamended, and Section 21E of the Securities Exchange of 1934, as amended. Forward‑looking statements represent our expectations or beliefsconcerning future events and can be identified by the use of forward‑looking words such as “believes,” “may,” “will,” “should,” “intends,”“plans,” “estimates,” or “anticipates” or other comparable terminology. Forward‑looking statements are subject to risks and uncertainties thatmay cause our actual results to differ materially from the results discussed in the forward‑looking statements. Some factors that might causethese differences include the factors listed below. Although we have attempted to list these factors comprehensively, we wish to cautioninvestors that other factors may prove to be important in the future and may affect our operating results. New factors may emerge from time totime, and it is not possible to predict all of these factors, nor can we assess the effect each factor or combination of factors may have on ourbusiness.We further caution you not to unduly rely on any forward‑looking statements because they reflect our views only as of the date the statementswere made. We undertake no obligation to publicly update or revise any forward‑looking statements whether as a result of new information,future events or otherwise.6If governmental entities elect not to use our products due to budgetary constraints, project delays or other reasons, our revenue mayfluctuate severely or be substantially diminished.Our products are sold primarily to governmental entities. We expect that we will continue to rely substantially on revenue and royalties fromsales of our systems to governmental entities. In addition to normal business risks, it often takes considerable time before governmentalinitiated projects are developed to the point at which a purchase of our systems would be made, and a purchase of our products also may besubject to a time‑consuming approval process. Additionally, governmental budgets and plans may change without warning. Other risks ofselling to governmental entities include dependence on appropriations and administrative allocation of funds, changes in governmentalprocurement legislation and regulations and other policies that may reflect political developments, significant changes in contract scheduling,competitive bidding and qualification requirements, performance bond requirements, intense competition for government business andtermination of purchase decisions for the convenience of the governmental entity. Substantial delays in purchase decisions by governmentalentities, or governmental budgetary constraints, could cause our revenue and income to drop substantially or to fluctuate significantly betweenfiscal periods.A majority of our gross profit has been generated from sales of our Autoscope family of products, and if we do not maintain the market forthese products, our business will be harmed.Historically, a majority of our gross profit has been generated from sales of, or royalties from the sales of, Autoscope products. Gross profitfrom Autoscope sales accounted for approximately 74% of our gross profit in 2017 and 78% in 2016. We anticipate that gross profit from thesale of Autoscope systems will continue to account for a substantial portion of our gross profit for the foreseeable future. As such, anysignificant decline in sales of our Autoscope system would have a material adverse impact on our business, financial condition and results ofoperations.If Econolite’s sales volume decreases or if it fails to pay royalties to us in a timely manner or at all, our financial results will suffer.We have agreements with Econolite under which Econolite is the exclusive distributor of the Autoscope video system in the United States,Mexico, Canada and the Caribbean. Our current agreements grant Econolite a first refusal right that arises when we make a proposal toEconolite to extend the license to additional products in the United States, Mexico, Canada and the Caribbean. In addition, the agreements grantEconolite a first negotiation right that arises when we make a proposal to Econolite to include rights corresponding to Econolite’s rights underour current agreements in countries not in these territories. In exchange for its rights under the agreements, Econolite pays us royalties for salesof the Autoscope video system. Since 2002, a substantial portion of our revenue has consisted of royalties resulting from sales made byEconolite, including 59% in 2017 and 55% in 2016. Econolite’s account receivable represented 77% of our accounts receivable at December 31,2017 and 61% of our accounts receivable at December 31, 2016. We expect that Econolite will continue to account for a significant portion of ourrevenue for the foreseeable future. Any decrease in Econolite’s sales volume could significantly reduce our royalty revenue and adverselyimpact earnings. A failure by Econolite to make royalty payments to us in a timely manner or at all will harm our financial condition. In addition,we believe sales of our products are a material part of Econolite’s business, and any significant decrease in Econolite’s sales of the otherproducts it sells could harm Econolite, which could have a material adverse effect on our business and prospects.As a result of our continuing review of our business, we may have to undertake further restructuring plans that would require additionalcharges, including incurring facility exit and restructuring charges.We continue to evaluate our business, which may result in restructuring activities. We may choose to divest certain business operations basedon management's assessment of their strategic value to our business, consolidate or close certain facilities or outsource certain functions.Decisions to eliminate or limit certain business operations in the future could involve the expenditure of capital, consumption of managementresources, realization of losses, transition and wind-up expenses, reduction in workforce, impairment of assets, facility consolidation and theelimination of revenues along with associated costs, any of which could cause our operating results to decline and may fail to yield theexpected benefits. For more information regarding our restructuring and divestiture activities in 2017 and 2016, see the discussion in Note 2 andNote 14 of our Notes to Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K.The features and functions in our products have not been as widely utilized as traditional products offered by our competitors, and thefailure of our end users to accept the features and functions in our products could adversely affect our business and growth prospects.Video and radar technologies have not been utilized in the traffic management industry as extensively as other more traditional technologies,mainly in‑pavement loop detectors. Our financial success and growth prospects depend on the continued development of the market foradvanced technology solutions for traffic detection and management and the acceptance of our current Autoscope video and RTMS radar andalso future systems we may develop as reliable, cost‑effective alternatives to traditional vehicle detection systems. We cannot assure you thatwe will be able to utilize our technology profitably in other products or markets. If our end users do not continue to increase their acceptance ofthe features and functions provided by our current systems or other systems we may develop in the future, our business and growth prospectscould be adversely affected.7Our operating costs tend to be fixed, while our revenue tends to be seasonal, thereby resulting in operating results that fluctuate fromquarter to quarter.Our expense levels are based in part on our product development efforts and our expectations regarding future revenues and, in the short‑term,are generally fixed. Our quarterly revenues, however, have varied significantly in the past, with our first quarter historically being the weakestdue to weather conditions in parts of North America, Europe and Asia that make roadway construction more difficult. Additionally, ourinternational revenues have a significant large project component, resulting in a varying revenue stream. We expect the seasonality of ourrevenue and the fixed nature of our operating costs to continue in the foreseeable future. Therefore, we may be unable to adjust our spending ina timely manner to compensate for any unexpected revenue shortfall. As a result, if anticipated revenues in any quarter do not occur or aredelayed, our operating results for the quarter would be disproportionately affected. Operating results also may fluctuate due to factors such asthe demand for our products; product life cycle; the development, introduction and acceptance of new products and product enhancements byus or our competitors; changes in the mix of distribution channels through which our products are offered; changes in the level of operatingexpenses; end user order deferrals in anticipation of new products; competitive conditions in the industry; and economic conditions generally.No assurance can be given that we will be able to achieve or maintain profitability on a quarterly or annual basis in the future.Increased competition may make it difficult for us to acquire and retain end users. If we are unsuccessful in developing new applicationsand product enhancements, our products may become noncompetitive or obsolete.Competition in ITS is continuing to grow. Some of the companies that may compete with us in the business of developing and implementingtraffic control and related security systems have substantially more financial, technological, marketing, personnel and research anddevelopment resources than we have. Therefore, they may be able to respond more quickly than we can to new or changing opportunities,technologies, standards or end user requirements. If we are unable to compete successfully with these companies, the market share for ourproducts will decrease, and competitive pressures may seriously harm our business.Additionally, the market for vehicle detection is continuously seeking more advanced technological solutions to problems. Technologies suchas embedded loop detectors, pressure plates, pneumatic tubes, radars, lasers, magnetometers, acoustics and microwaves that have been usedas traffic sensing devices in the past are being enhanced for use in the traffic management industry, and new technologies may be developed.We are aware of several companies that are developing traffic management devices using machine vision technology or other advancedtechnology. Floating vehicle and/or radio frequency identification (RFID) tagged license plate initiatives are under consideration and may beimplemented. We expect to face increasingly competitive product developments, applications and enhancements. New technologies orapplications in traffic control systems from other companies or the development of new and emerging technologies and applications, includingvehicle-to-vehicle (VTV) communications, mobile applications, and new algorithms or sensor technologies, may provide our end users withalternatives to our products and could render our solutions noncompetitive or obsolete. If we are unable to increase the number of ourapplications and develop and commercialize product enhancements and applications in a timely and cost-effective manner that respond tochanging technology and satisfy the needs of our end users, our business and financial results will suffer.We may not achieve our growth plans for the expansion of our business. In addition to market penetration, our long‑term success depends on our ability to expand our business through new product development,mergers and acquisitions, and/or geographic expansion.New product development would require that we maintain our ability to improve existing products, continue to bring innovative products tomarket in a timely fashion, and adapt products to the needs and standards of current and potential customers. Our products and services maybecome less competitive or eclipsed by technologies to which we do not have access or which render our solutions obsolete.Geographic expansion would be primarily outside of the U.S. and hence will be disproportionately subject to the risks of internationaloperations discussed in this Annual Report on Form 10-K.Mergers and acquisitions would be accompanied by risks which may include:● difficulties identifying suitable acquisition candidates at acceptable costs;● unavailability of capital to conduct acquisitions;● failure to achieve the financial and strategic goals for the acquired and combined businesses;● difficulty assimilating the operations and personnel of the acquired businesses; 8● disruption of ongoing business and distraction of management from the ongoing business;● dilution of existing shareholders and earnings per share;● unanticipated, undisclosed or inaccurately assessed liabilities, legal risks and costs; and● difficulties retaining our key vendors, customers or employees or those of the acquired business.In addition, acquisitions of businesses having a significant presence outside the U.S. will increase our exposure to the risks of internationaloperations discussed in this Annual Report on Form 10-K.Our dependence on third parties for manufacturing and marketing our products may prevent us from meeting customers’ needs in a timelymanner.We do not have, and do not intend to develop in the near future, internal capabilities to manufacture our products. We have entered intoagreements with Econolite and Wireless Technology, Inc. (“WTI”) to manufacture the Autoscope system, the RTMS radar products and relatedproducts for sales in the United States, Mexico, Canada and the Caribbean. We work with suppliers, most of whom are overseas, to manufacturethe rest of our products. We also need to comply with the European Union’s regulatory RoHS directive restricting the use of certain hazardoussubstances in electrical and electronic equipment. If Econolite, WTI, or our other suppliers are unable to manufacture our products in the future,we may be unable to identify other manufacturers able to meet product and quality demands in a timely manner or at all. Our inability to findsuitable manufacturers for our products could result in delays or reductions in product shipments, which in turn may harm our businessreputation and results of operations. In addition, we have granted Econolite the exclusive right to market the Autoscope video system andrelated products in the United States, Mexico, Canada and the Caribbean. Consequently, our revenue depends to a significant extent onEconolite’s marketing efforts. Econolite’s inability to effectively market the Autoscope video system, or the disruption or termination of thatrelationship, could result in reduced revenue and market share for our products. We and our third party manufacturers obtain some of the components of our products from a single source, and an interruption in thesupply of those components may prevent us from meeting customers’ needs in a timely manner and could therefore reduce our sales.Although substantially all of the hardware components incorporated into our products are standard electronics components that are availablefrom multiple sources, we and our third party manufacturers obtain some of the components from a single source. The loss or interruption ofany of these supply sources could force us or our manufacturers to identify new suppliers, which could increase our costs, reduce our salesand profitability, or harm our customer relations by delaying product deliveries.Regulations related to the use of conflict‑free minerals may increase our costs and cause us to incur additional expenses.The Dodd‑Frank Wall Street Reform and Consumer Protection Act contains provisions to improve the transparency and accountability of theuse by public companies in their products of minerals mined in certain countries and to prevent the sourcing of such “conflict” minerals. As aresult, the Securities and Exchange Commission enacted annual disclosure and reporting requirements for public companies who use theseminerals in their products, which apply to us. Under the final rules, we are required to conduct due diligence to determine the source of anyconflict minerals used in our products. Although we expect to file the required report on a timely basis, our supply chain is broad‑based andcomplex, and we may not be able to easily verify the origins for all minerals used in our products. To the extent that any information furnishedto us by our suppliers is inaccurate or inadequate, we could face reputational and enforcement risks. In addition, the conflict mineral rulescould reduce the number of suppliers who provide components and products containing conflict‑free minerals and thus could disrupt oursupply chain or that of our manufacturers and increase the cost of the components used in manufacturing our products and the costs of ourproducts to us. Any increased costs and expenses could have a material adverse impact on our financial condition and results of operations.Some of our products are covered by our warranties and, if the cost of fulfilling these warranties exceeds our warranty allowance, it couldadversely affect our financial condition and results of operations.Unanticipated warranty and other costs for defective products could adversely affect our financial condition and results of operations and ourreputation. We generally provide a two to five year warranty on our product sales. These warranties require us to repair or replace faultyproducts, among other customary warranty provisions. Although we monitor our warranty claims and provide an allowance for estimatedwarranty costs, unanticipated claims in excess of the allowance could have a material adverse impact on our financial condition and results ofoperations. Additionally, we rely on our third party manufacturers to fulfill our warranty repair obligations to our customers. Adverse changesin these parties’ abilities to perform these repairs could cause a delay in repairs or require us to source other parties to perform the repairs andcould adversely affect impact our financial condition and results of operations. In addition, the need to repair or replace products with designor manufacturing defects could adversely affect our reputation.9We may face increased competition if we fail to adequately protect our intellectual property rights, and any efforts to protect ourintellectual property rights may result in costly litigation.Our success depends in large measure on the protection of our proprietary technology rights. We rely on trade secret, copyright and trademarklaws, confidentiality agreements with employees and third parties, and patents, all of which offer only limited protection. We cannot assure youthat the scope of these protective measures will exclude competitors or provide competitive advantages to us. We also cannot assure you thatwe will become aware of all instances in which others develop similar products, duplicate any of our products, or reverse engineer ormisappropriate our proprietary technology. If our proprietary technology is misappropriated, our business and financial results could beadversely affected. Litigation may be necessary in the future to enforce our intellectual property rights, to protect our trade secrets or todetermine the validity and scope of the proprietary rights of others. In addition, we may be the subject of lawsuits by others who claim weviolate their intellectual property rights.Intellectual property litigation is very costly and could result in substantial expense and diversions of our resources, either of which couldadversely affect our business and financial condition and results of operations. In addition, there may be no effective legal recourse againstinfringement of our intellectual property by third parties, whether due to limitations on enforcement of rights in foreign jurisdictions or as aresult of other factors.We have not applied for patent protection in all countries in which we market and sell our products. Consequently, our proprietary rights in thetechnology underlying our systems in countries other than the U.S. will be protected only to the extent that trade secret, copyright or othernon‑patent protection is available and to the extent we are able to enforce our rights. The laws of other countries in which we market ourproducts may afford little or no effective protection of our proprietary technology, which could harm our business.We plan to continue introducing new products and technologies and may not realize the degree or timing of benefits we initiallyanticipated, which could adversely affect our business and results of operations.We regularly invest substantial amounts in research and development efforts that pursue advancements in a range of technologies, productsand services. Our ability to realize the anticipated benefits of these advancements depends on a variety of factors, including meetingdevelopment, production, certification and regulatory approval schedules; the execution of internal and external performance plans; theavailability of supplier‑produced parts and materials; the performance of suppliers and vendors; achieving cost efficiencies; the validation ofinnovative technologies; and the level of end user interest in new technologies and products. These factors involve significant risks anduncertainties. We may encounter difficulties in developing and producing these new products and may not realize the degree or timing ofbenefits initially anticipated. In particular, we cannot predict with certainty whether, when or in what quantities our current or potential endusers will have a demand for products currently in development or pending release. Moreover, as new products are announced, sales of currentproducts may decrease as end users delay making purchases until such new products are available. Any of the foregoing could adverselyaffect our business and results of operations.Our business could be adversely affected by product liability and commercial litigation. Our products or services may be claimed to cause or contribute to personal injury or property damage to our customers’ employees or facilities.Additionally, we are, at times, involved in commercial disputes with third parties, such as customers, distributors, vendors and others. See Note16 of our Notes to Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K. The ensuing claims may arisesingularly, in groups of related claims, or in class actions involving multiple claimants. Such claims and litigation are frequently expensive andtime‑consuming to resolve and may result in substantial liability to us, which liability and related costs and expenses may not be recoverablethrough insurance or any other forms of reimbursement.Our business could be affected by various legal and regulatory compliance risks, including those involving antitrust, environmental, anti-bribery or anti-corruption laws and regulations.We are subject to various legal and regulatory requirements and risks in the U.S. and other countries in which we have facilities or sell ourproducts involving compliance with antitrust, environmental, anti-bribery and anti-corruption laws and regulations, including the U.S. ForeignCorrupt Practices Act and the U.K. Anti-Bribery Act. Although we have internal policies and procedures with the intention of assuringcompliance with these laws and regulations, our employees, contractors, agents and licensees involved in our international sales may takeactions in violation of such policies. Any future adverse development, ruling or settlement could result in charges that could have an adverseeffect on our results of operations or cash flows.We price a segment of our product portfolio at a premium compared to other technologies. As such, we may not be able to quickly respondto emerging low‑cost competitors, and our inability to do so could adversely affect revenue and profitability.We price segment of our product portfolio at a premium as compared to products using less sophisticated technologies. As the technologicalsophistication of our competitors and the size of the market increase, competing low‑cost developers of machine vision products for traffic arelikely to emerge and grow stronger. If end users prefer low‑cost alternatives over our products, our revenue and profitability could be adverselyaffected.10Our revenue could be adversely affected by the emergence of local competitors and local biases in international markets.Our experience indicates that local officials that purchase traffic management products in the international markets we serve favor products thatare developed and manufactured locally. As local competitors to our products emerge, local biases could erode our revenue in Europe and Asiaand adversely affect our sales and revenue in those markets.Our failure to predict technological convergence could harm our business and could reduce our sales.Within our product families, we currently utilize only certain detection technologies available in the ITS field. If we fail to predict convergence oftechnology preferences in the market for ITS, or fail to identify and acquire complementary businesses or products that broaden our currentproduct offerings, we may not capture certain segments of the market, which could harm our business and reduce our sales.We sell our products internationally and are subject to various risks relating to such international activities, which could harm ourinternational sales and profitability.Sales outside of the United States, including export sales from our U.S. business locations, accounted for approximately 17% of our totalrevenue in 2017 and 18% of our total revenue in 2016. By doing business in international markets, we are exposed to risks separate and distinctfrom those we face in our U.S. operations. Our international business may be adversely affected by changing political and economic conditionsin foreign countries. Additionally, fluctuations in currency exchange rates could affect demand for our products or otherwise negatively affectprofitability. Engaging in international business inherently involves a number of other difficulties and risks, including:• export restrictions and controls relating to technology;• pricing pressure that we may experience internationally;• exposure to the risk of currency value fluctuations where payment for products is denominated in a currency other than U.S.dollars; • variability in the U.S. dollar value of foreign currency‑denominated assets, earnings and cash flows;• required compliance with existing and new foreign regulatory requirements and laws;• laws and business practices favoring local companies;• longer payment cycles;• difficulty of enforcing agreements, including patent and trademarks, and collecting receivables through foreign legal systems;• disputes with parties outside of the U.S., which may be more difficult, expensive and time-consuming to resolve than disputes withparties located in the U.S.;• political and economic instability, including volatility in the economic environment of the European Union caused by the ongoingsovereign debt crisis in Europe;• tax rates in certain foreign countries that exceed those in the U.S. and the imposition of withholding requirements on foreignearnings;• higher danger of terrorist activity, war or civil unrest compared to domestic operations;• difficulties and costs of staffing and managing foreign operations; and• difficulties in enforcing intellectual property rights.11Our exposure to each of these risks may increase our costs, lengthen our sales cycle and require significant management attention. One or moreof these factors may harm our business.Our inability to comply with European and Asian regulatory restrictions over hazardous substances and electronic waste could restrictproduct sales in those markets and reduce profitability in the future.The European Union’s Waste Electrical and Electronic Equipment (“WEEE”) directive makes producers of electrical goods financiallyresponsible for specified collection, recycling, treatment and disposal of past and future covered products. This directive must be enacted andimplemented by individual European Union governments, and certain producers will be financially responsible under the WEEE legislation. Thismay impose requirements on us, which, if we are unable to meet them, could adversely affect our ability to market our products in EuropeanUnion countries, and our sales revenues and profitability would suffer as a consequence. In addition, the European Parliament has enacted adirective for the restriction of the use of certain hazardous substances in electrical and electronic equipment. This RoHS legislation restricts theuse of substances such as mercury, lead, cadmium and hexavalent cadmium. If we are unable to have our products manufactured in compliancewith the RoHS directive, we would be unable to market our products in European Union countries, and our revenues and profitability wouldsuffer. In addition, various Asian governments could adopt their own versions of environment‑friendly electronic regulations similar to theEuropean directives, RoHS and WEEE. This could require new and unanticipated manufacturing changes, product testing and certificationrequirements, thereby increasing cost, delaying sales and lowering revenue and profitability.Our inability to manage growth effectively could seriously harm our business.Growth and expansion of our business could significantly strain our capital resources as well as the time and abilities of our managementpersonnel. Our ability to manage growth effectively will require continued improvement of our operational, financial and management systemsand the successful training, motivation and management of our employees. If we are unable to manage growth successfully, our business andoperating results will suffer.Our business operations will be severely disrupted if we lose key personnel or if we fail to attract and retain qualified personnel.Our technology depends upon the knowledge, experience and skills of our key management and scientific and technical personnel.Additionally, our ability to continue technological developments and to market our products, and thereby develop a competitive edge in themarketplace, depends in large part on our ability to attract and retain qualified scientific and technical personnel. Competition for qualifiedpersonnel is intense, and we cannot assure you that we will be able to attract and retain the individuals we need, especially if our businessexpands and requires us to employ additional personnel. In addition, the loss of personnel or our failure to hire additional personnel couldmaterially and adversely affect our business, operating results and ability to expand. The loss of key personnel, or our inability to hire andretain qualified personnel, would harm our business.We may not be successful in integrating any acquired companies into our business, which could materially and adversely affect ourfinancial condition and operating results.Part of our business strategy has been to acquire or invest in companies, products or technologies that complement our current products,enhance our market coverage or technical capabilities or offer growth opportunities. For any acquisition, a significant amount of management’stime and financial resources may be required to complete the acquisition and integrate the acquired business into our existing operations. Evenwith this investment of management time and financial resources, an acquisition may not produce the revenue, earnings or business synergiesanticipated. Acquisitions involve numerous other risks, including the assumption of unanticipated operating problems or legal liabilities;problems integrating the purchased operations, technologies or products; the diversion of management’s attention from our core businesses;restrictions on the manner in which we may use purchased companies or assets imposed by acquisition agreements; adverse effects on existingbusiness relationships with suppliers and customers; incorrect estimates made in the accounting for acquisitions and amortization of acquiredintangible assets that would reduce future reported earnings (such as goodwill impairments); ensuring acquired companies’ compliance with therequirements of the U.S. federal securities laws and accounting rules; and the potential loss of customers or key employees of acquiredbusinesses. We cannot assure you that any acquisitions, investments, strategic alliances or joint ventures will be completed or integrated in atimely manner or achieve anticipated synergies, will be structured or financed in a way that will enhance our business or creditworthiness, orwill meet our strategic objectives or otherwise be successful.We may be required to recognize impairment charges for long‑lived assets. As of December 31, 2017, the net carrying value of our long‑lived assets (property and equipment, deferred tax assets and other intangibleassets) totaled approximately $4.0 million. In accordance with U.S. generally accepted accounting principles, we periodically assess these assetsto determine if they are impaired. Significant negative industry or economic trends, a significant and sustained decline in our stock price,disruptions to our businesses, significant unexpected or planned changes in our use of assets, divestitures and market capitalization declinesmay result in impairments to our goodwill and other long‑lived assets. Future impairment charges could significantly affect our results ofoperations in the periods recognized.12Our stock is thinly traded and our stock price is volatile.Our common stock is thinly traded, with 3,880,439 shares of our 5,210,448 outstanding shares held by non‑affiliates as of February 28, 2018.Based on the trading history of our common stock and the nature of the market for publicly traded securities of companies in evolvinghigh‑tech industries, we believe there are several factors that have caused and are likely to continue to cause the market price of our commonstock to fluctuate substantially. The fluctuations may occur on a day‑to‑day basis or over a longer period of time. Factors that may causefluctuations in our stock price include announcements of large orders obtained by us or our competitors, substantial cutbacks in governmentfunding of highway projects or of the potential availability of alternative technologies for use in traffic control and safety, quarterly fluctuationsin our financial results or the financial results of our competitors, consolidation among our competitors, fluctuations in stock market prices andvolumes, and the volatility of the stock market.Difficult and volatile conditions in the capital, credit and commodities markets and in the overall economy could continue to adverselyaffect our financial position, results of operations and cash flows, and we do not know if these conditions will improve in the near future.Our financial position, results of operations and cash flows could continue to be adversely affected by difficult conditions and significantvolatility in the capital, credit and commodities markets and in the overall worldwide economy. Although certain economic conditions in theUnited States have improved, economic growth has been slow and uneven and may not be sustained. During economic downturns,governmental entities in particular, which constitute most of our end users, reduce or delay their purchase of our products, which has had andmay continue to have an adverse effect on our business. Any uncertainty about the federal budget in the U.S. could have a negative effect onthe U.S. and global economy. The continuing impact that these factors might have on us and our business is uncertain and cannot be estimatedat this time. Current economic conditions have accentuated each of these risks and magnified their potential effect on us and our business. Thedifficult conditions in these markets and the overall economy affect our business in a number of ways. For example:• Although we believe we have sufficient liquidity under our financing arrangements to run our business, under extreme marketconditions, there can be no assurance that such funds would be available or sufficient, and, in such a case, we may not be able tosuccessfully obtain additional financing on favorable terms, or at all. • Continuing market volatility has exerted downward pressure on our stock price, which could make it more difficult or unfavorablefor us to raise additional capital in the future. • Economic conditions could result in customers in our markets continuing to experience financial difficulties, including limitedliquidity and their inability to obtain financing or electing to limit spending because of the economy which may result, for example,in customers’ inability to pay us at all or on a timely basis and in declining tax revenue for our customers that are governmentalentities, which in turn could result in decreased sales and earnings for us. We do not know if market conditions or the state of the overall economy will improve in the near future, when improvement will occur or if anyimprovement will benefit our market segment.Our articles of incorporation and bylaws, Minnesota law and our shareholder rights plan may inhibit a takeover that shareholdersconsider favorable.Provisions of our articles of incorporation and bylaws and applicable provisions of Minnesota law may delay or discourage transactionsinvolving an actual or potential change in our control or change in our management, including transactions in which shareholders mightotherwise receive a premium for their shares or transactions that our shareholders might otherwise deem to be in their best interests. Theseprovisions:• permit our board of directors to issue up to 5,000,000 shares of preferred stock with any rights, preferences and privileges as it maydesignate, including the right to approve an acquisition or other change in our control; • provide that the authorized number of directors may be increased by resolution of the board of directors; • provide that all vacancies, including newly‑created directorships, may, except as otherwise required by law, be filled by theaffirmative vote of a majority of directors then in office, even if less than a quorum; and • eliminate cumulative voting rights, therefore allowing the holders of a majority of the shares of common stock entitled to vote inany election of directors to elect all of the directors standing for election, if they should so choose. 13Section 302A.671 of the Minnesota Business Corporation Act (“MBCA”) generally limits the voting rights of a shareholder acquiring asubstantial percentage of our voting shares in an attempted takeover or otherwise becoming a substantial shareholder of our company unlessholders of a majority of the voting power of all outstanding shares and the disinterested shares approve full voting rights for the substantialshareholder. Section 302A.673 of the MBCA generally limits our ability to engage in any business combination with certain persons who own10% or more of our outstanding voting stock or any of our associates or affiliates who at any time in the past four years have owned 10% ormore of our outstanding voting stock. These provisions of the MBCA may have the effect of entrenching our management team and maydeprive shareholders of the opportunity to sell their shares to potential acquirers at a premium over prevailing market prices. This potentialinability to obtain a control premium could reduce the price of our common stock.In addition, in June 2013, we adopted a shareholder rights plan and declared a dividend to our shareholders of one preferred share purchaseright for each outstanding share of common stock. In August 2016, our Board of Directors amended the shareholder rights plan to preserve thevalue of certain deferred tax benefits to the Company, including those generated by net operating losses. Generally, the shareholder rights plan,as amended, provides that if a person or group acquires 4.99% or more of our outstanding shares of common stock, subject to certainexceptions and under certain circumstances, the rights may be exchanged by us for common stock or the holders of the rights, other than theacquiring person or group, could acquire additional shares of our capital stock at a discount of the then current market price. Such exchanges orexercise of rights could cause substantial dilution to a particular acquirer and discourage the acquirer from pursuing the Company. The mereexistence of a shareholder rights plan often delays or makes a merger, tender offer or other acquisition more difficult to complete. In March2018, our Board of Directors extended the shareholder rights plan to continue to preserve the value of certain deferred tax assets, subject toshareholder approval at the Company's next annual meeting.We can issue shares of preferred stock without shareholder approval, which could adversely affect the rights of common shareholders.Our articles of incorporation permit our board of directors to establish the rights, privileges, preferences and restrictions, including votingrights, of future series of our preferred stock and to issue such stock without approval from our shareholders. The rights of holders of ourcommon stock may suffer as a result of the rights granted to holders of preferred stock that may be issued in the future. In addition, we couldissue preferred stock to prevent a change in control of our Company, depriving common shareholders of an opportunity to sell their stock at aprice in excess of the prevailing market price.We do not intend to declare cash dividends on our stock in the foreseeable future.We currently intend to retain any and all future earnings for the operation and expansion of our business and, therefore, do not anticipatedeclaring or paying cash dividends on our common stock in the foreseeable future. Any payment of cash dividends on our common stock willbe at the discretion of our board of directors and will depend upon our operating results, earnings, current and anticipated cash needs, capitalrequirements, financial condition, future prospects, any contractual restrictions and any other factors deemed relevant by our board ofdirectors. Therefore, shareholders should not expect to receive dividend income from shares of our common stock. 14Item 1B. Unresolved Staff CommentsNone.Item 2. PropertiesWe currently lease and occupy approximately 26,775 square feet in St. Paul, Minnesota for our headquarters. In February 2014, we entered intoan amendment to the lease for our headquarters which expanded the leased space from approximately 20,000 square feet to approximately 26,775square feet, extended the term of the lease to July 2020, and gave us the right to further extend the term of the lease for one additional five yearterm. We also lease smaller facilities in Canada, Spain and Romania.We believe that our current space is generally adequate to meet our current expected needs, and we do not intend to lease significantly morespace in 2018.Item 3. Legal ProceedingsWe are involved from time to time in various legal proceedings arising in the ordinary course of our business, including primarily commercial,product liability, employment and intellectual property claims. In accordance with United States generally accepted accounting principles, werecord a liability in our Consolidated Financial Statements with respect to any of these matters when it is both probable that a liability has beenincurred and the amount of the liability can be reasonably estimated. With respect to any currently pending legal proceedings, we have notestablished an estimated range of reasonably possible additional losses either because we believe that we have valid defenses to claimsasserted against us or the proceeding has not advanced to a stage of discovery that would enable us to establish an estimate. We currently donot expect the outcome of these matters to have a material effect on our consolidated results of operations, financial position or cash flows.Litigation, however, is inherently unpredictable, and it is possible that the ultimate outcome of one or more claims asserted against us couldadversely impact our results of operations, financial position or cash flows. We expense legal costs as incurred.On May 5, 2016, Econolite, our exclusive North American manufacturer and distributor, served a complaint on us for a lawsuit filed by Econolitein the Superior Court of the State of California for the County of Orange. The complaint asserted claims against us under the Manufacturing,Distributing and Technology License Agreement, as amended, with Econolite (the “Econolite Agreement”) for breach of contract and breach ofimplied covenant of good faith and fair dealing and sought specific performance related to the transition of North American RTMS sales andmarketing activities from Econolite to us in July 2014. In the complaint, Econolite requested damages from us in an amount to be proven at trialand sought certain other remedies. On May 27, 2016, we removed the case to the Federal District Court, District of Central California. OnNovember 15, 2016, Econolite and the Company entered into an Arbitration Agreement. On November 16, 2016, Econolite voluntarily dismissedall of its claims against the Company in the U.S. District Court but filed a demand for arbitration with JAMS (which is an alternative disputeresolution provider), asserting the same claims against the Company that it had asserted in the lawsuit. Arbitration commenced on November16, 2016. On January 23, 2018, the Company received the arbitrator's final decision concerning this matter. As a result of the arbitrator'sdecision, the Company is to pay to Econolite $262,000 for unused RTMS inventory and $246,000 for RTMS royalties. The Company wasawarded $205,000 for RTMS royalties already paid to Econolite. As a result, the Company recorded $303,000 of expense in its financialstatements as of and for the quarter ended December 31, 2017.Item 4. Mine Safety DisclosuresNot applicable.15PART IIItem 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of EquitySecuritiesMarket InformationOur common stock is traded on The NASDAQ Capital Market under the symbol “ISNS.” The quarterly high and low sales prices for ourcommon stock for our last two fiscal years are set forth below. 2017 2016Quarter High Low High Low First $ 3.90 $ 2.80 $ 3.43 $ 2.63Second 3.70 2.85 2.90 2.15Third 3.85 2.65 4.09 2.24Fourth 3.55 2.85 3.98 3.55 ShareholdersAs of February 28, 2018, there were 27 holders of record of our common stock. The number of holders of record is based upon the actualnumber of holders registered at such date and does not include holders of shares in “street names” or persons, partnerships, associates,corporations, or other entities identified in security position listings maintained by depositories.DividendsWe have never declared or paid a cash dividend on our common stock. We currently intend to retain earnings for use in the operation andexpansion of our business, and, consequently, we do not anticipate paying any dividends in the foreseeable future.Debt CovenantsOur credit agreement included certain financial covenants, including minimum debt service ratios, minimum cash flow coverage ratios, and otherfinancial measures. These financial covenants would have restricted our ability to pay dividends and purchase outstanding shares of commonstock. At December 31, 2016, we were in compliance with these financial covenants. At December 31, 2017 we were no longer subject to anydebt covenants. Information on our debt agreements is included in Item 7 of this Annual Report on Form 10‑K.16Item 6. Selected Financial DataThe following statement of income data for the years ended and as of December 31, 2017 and 2016 are derived from our audited ConsolidatedFinancial Statements. The following information should be read in conjunction with “Management’s Discussion and Analysis of FinancialCondition and Results of Operations” and with our Consolidated Financial Statements and the related notes thereto included elsewhere in thisAnnual Report on Form 10-K. 2017 2016 (in thousands, except per share data)Consolidated Statements of Operations Data: Revenue: Product sales$5,919 $6,398 Royalties 8,605 7,744 14,524 14,142 Cost of revenue: Product sales 2,563 4,008 Software amortization362 90 2,925 4,098 Gross profit 11,599 10,044 Operating expenses: Selling, marketing and product support 2,486 2,417 General and administrative 3,981 3,868 Research and development 3,010 2,946 Restructuring — 126 9,477 9,357 Operating income from operations 2,122 687 Other, net 41 (25)Income from operations before income taxes 2,163 662 Income tax expense (benefit) 85 (25)Net income $2,078 $687 Net income per share: Basic$0.41 $0.14 Diluted$0.40 $0.14 Weighted average number of common shares outstanding: Basic 5,128 5,050 Diluted 5,136 5,055 17Item 7. Management’s Discussion and Analysis of Financial Condition and Results of OperationsThe following discussion and analysis of our financial condition and results of operations should be read in conjunction with the SelectedFinancial Data and our Consolidated Financial Statements and the accompanying Notes to Consolidated Financial Statements includedelsewhere in this Annual Report on Form 10-K. Our actual results could differ materially from those anticipated in the forward‑lookingstatements included in this discussion as a result of certain factors, including, but not limited to, those discussed in “Risk Factors” includedelsewhere in this Annual Report on Form 10-K.General. We are a leading provider of above-ground detection products and solutions for the intelligent transportation systems ("ITS")industry. Our family of products, which we market as Autoscope video or video products ("Autoscope"), and RTMS radar or radar products("RTMS"), provides end users with the tools needed to optimize traffic flow and enhance driver safety. Our technology analyzes signals fromsophisticated sensors and transmits the information to management systems and controllers or directly to users. Our products provide userswith complete solutions for the intersection and transportation markets.Our technology is a process in which software, rather than humans, examines outputs from various types of sophisticated sensors to determinewhat is happening in a field of view. In the ITS industry, this process is a critical component of managing congestion and traffic flow. In manycities, it is not possible to build roads, bridges and highways quickly enough to accommodate the increasing congestion levels. On average,United States commuters spend 42 hours a year stuck in traffic, and congestion costs motorists $160 billion a year. We believe this growing useof vehicles will make our ITS solutions increasingly necessary to complement existing and new roadway infrastructure to manage traffic flowand optimize throughput.We believe our solutions are technically superior to those of our competitors because they have a higher level of accuracy, limit the occurrenceof false detection, are generally easier to install with lower costs of ownership, work effectively in a multitude of light and weather conditions,and provide end users the ability to manage inputs from a variety of sensors for a number of tasks. It is our view that the technical advantagesof our products make our solutions well suited for use in ITS markets.We believe the strength of our distribution channels positions us to increase the penetration of our technology‑driven solutions in themarketplace. We market our Autoscope video products in the United States, Mexico, Canada and the Caribbean through an exclusive agreementwith Econolite Control Products, Inc. ("Econolite"), which we believe is the leading distributor of ITS intersection control products in thesemarkets.We market the RTMS radar systems to a network of distributors in North America, the Caribbean and Latin America. On a limited basis, we selldirectly to the end user in these geographic areas. We market our Autoscope video and RTMS radar products outside of the United States,Mexico, Canada and the Caribbean through a combination of distribution and direct sales channels, through our offices in Spain and Romania.Our end users primarily include governmental agencies and municipalities.The following discussion of year-to-year trends in financial statement results under “Management’s Discussion and Analysis of FinancialCondition and Results of Operations” aligns with the financial statement presentation described above. Trends and Challenges in Our BusinessWe believe the expected growth in our business can be attributed primarily to the following global trends:• worsening traffic caused by increased numbers of vehicles in metropolitan areas without corresponding expansions of roadinfrastructure and the need to automate safety, security and access applications for automobiles and trucks, which has increaseddemand for our products;• advances in information technology, which have made our products easier to market and implement;• the continued funding allocations for centralized traffic management services and automated enforcement schemes, which haveincreased the ability of our primary end users to implement our products; and• general increases in the cost‑effectiveness of electronics, which make our products more affordable for end users.18We believe our continued growth primarily depends upon:• continued adoption and governmental funding of ITS and other automated applications for traffic control, safety and enforcementin developed countries;• a propensity by traffic engineers to implement lower cost technology‑based solutions rather than civil engineering solutions suchas widening roadways;• countries in the developing world adopting above‑ground detection technology, such as video or radar, instead of in‑pavementloop technology to manage traffic; and• our ability to develop new products that provide increasingly accurate information and enhance the end users’ ability tocost‑effectively manage traffic and environmental issues.Because the majority of our end users are governmental entities, we are faced with challenges related to potential delays in purchase decisionsby those entities and changes in budgetary constraints. These contingencies could result in significant fluctuations in our revenue betweenperiods. The ongoing economic environment in Europe and the United States is further adding to the unpredictability of purchase decisions,creating more delays than usual and decreasing governmental budgets, and it is likely to continue to affect our revenue.Key Financial Terms and MetricsRevenue. We derive revenue from two sources: (1) royalties received from Econolite for sales of the Autoscope video systems in the UnitedStates, Mexico, Canada and the Caribbean and (2) revenue received from the direct sales of our RTMS radar systems and our Autoscope videosystems in Europe and Asia. Autoscope video royalties are calculated using a profit sharing model where the gross profits on sales of productmade through Econolite are shared equally with Econolite. This royalty arrangement has the benefit of decreasing our cost of revenues and ourselling, marketing and product support expenses because these costs and expenses are borne primarily by Econolite. Although this royaltymodel has a positive impact on our gross margin, it also negatively impacts our total revenue, which would be higher if all the sales made byEconolite were made directly by us. The royalty arrangement is exclusive under a long‑term agreement.Cost of Revenue. Software amortization is the sole cost of revenue related to royalties, as virtually all manufacturing, warranty and related costsare incurred by Econolite. Cost of revenue related to product sales consists primarily of the amount charged by our third party contractors tomanufacture hardware platforms, which is influenced mainly by the cost of electronic components. The cost of revenue also includes logisticscosts, estimated expenses for product warranties, restructuring costs and inventory reserves. The key metric that we follow is achieving certaingross margin percentages on product sales by geographic region and to a lesser extent by product line.Operating Expenses. Our operating expenses fall into three categories: (1) selling, marketing and product support; (2) general andadministrative; and (3) research and development. Selling, marketing and product support expenses consist of various costs related to sales andsupport of our products, including salaries, benefits and commissions paid to our personnel; commissions paid to third parties; travel, tradeshow and advertising costs; second‑tier technical support for Econolite; and general product support, where applicable. General andadministrative expenses consist of certain corporate and administrative functions that support the development and sales of our products andprovide an infrastructure to support future growth. These expenses include management, supervisory and staff salaries and benefits, legal andauditing fees, travel, rent and costs associated with being a public company, such as board of director fees, listing fees and annual reportingexpenses. Research and development expenses consist mainly of salaries and benefits for our engineers and third party costs for consultingand prototyping. We measure all operating expenses against our annually approved budget, which is developed with achieving a certainoperating margin as a key focus. Also included in operating expenses are any restructuring costs.Non‑GAAP Operating Measure. We provide certain non-GAAP financial information as supplemental information to financial measurescalculated and presented in accordance with GAAP (Generally Accepted Accounting Principles in the United States). This non-GAAPinformation excludes the impact of depreciating fixed assets and amortizing intangible assets and may exclude other non-recurring items. Management believes that this presentation facilitates the comparison of our current operating results to historical operating results.Management uses this non-GAAP information to evaluate short-term and long-term operating trends in our core operations. Non-GAAPinformation is not prepared in accordance with GAAP and should not be considered a substitute for or an alternative to GAAP financialmeasures and may not be computed the same as similarly titled measures used by other companies. 19The table below reconciles non-GAAP income from continuing operations, which is a non-GAAP financial measure, to comparable GAAPfinancial measures: Year Ended December 31, 2017 2016 Operating income from continuing operations$2,122 $687Adjustments to reconcile to non-GAAP net income Amortization of intangible assets 362 90Arbitration 303 —Depreciation 218 300Restructuring — 126Non-GAAP operating income from continuing operations$3,005 $1,203 Seasonality. Our quarterly revenues and operating results have varied significantly in the past due to the seasonality of our business. Our firstquarter generally is the weakest due to weather conditions that make roadway construction more difficult in parts of North America, Europe andnorthern Asia. We expect such seasonality to continue for the foreseeable future. Additionally, our international revenues regularly containindividually significant sales. This can result in significant variations of revenue between periods. Accordingly, we believe thatquarter‑to‑quarter comparisons of our financial results should not be relied upon as an indication of our future performance. No assurance canbe given that we will be able to achieve or maintain profitability on a quarterly or annual basis in the future.Segments. We currently operate in two reportable segments: Intersection and Highway. Autoscope video is our machine‑vision product line,and revenue consists of royalties (all of which are received from Econolite), as well as a portion of international product sales. Video productsare normally sold in the Intersection segment. The RTMS radar is our radar product line, and revenue consists of sales to external customers.Radar products are normally sold in the Highway segment. As a result of business model changes and modifications in how we manage ourbusiness, we may reevaluate our segment definitions in the future.The following tables set forth selected financial information for each of our reportable segments (in thousands): For the year ended December 31, 2017 Intersection Highway Total Revenue $10,109 $4,415 $14,524Gross profit 9,048 2,551 11,599Amortization of intangible assets 362 — 362Intangible assets 2,477 1,008 3,485 For the year ended December 31, 2016 Intersection Highway Total Revenue $8,829 $5,313 $14,142Gross profit 8,099 1,945 10,044Amortization of intangible assets 90 — 90Intangible assets 2,795 — 2,795 20Results of OperationsThe following table sets forth, for the periods indicated, certain consolidated statements of operations data as a percent of total revenue andgross profit on product sales and royalties as a percentage of international sales and royalties, respectively. Years Ended December 31, 20172016 Product sales40.8% 45.2%Royalties59.2 54.8Total revenue100.0 100.0Gross profit - product sales56.7 37.4Gross profit - royalties95.8 98.8Selling, marketing and product support17.1 17.1General and administrative27.4 27.4Research and development20.7 20.8Restructuring— 0.9Operating income from operations14.6 4.9Income tax expense (benefit)0.6 (0.2)Net income from operations14.3 4.9 Year Ended December 31, 2017 Compared to Year Ended December 31, 2016. Total revenue increased to $14.5 million in 2017 from $14.1million in 2016, an increase of 2.7%. Royalty income increased to $8.6 million in 2017 from $7.7 million in 2016, an increase of 11.1%. Autoscopevideo royalties were higher in the year ended December 31, 2017 compared to the year ended December 31, 2016. Included in 2017 wereroyalties related to the Miami-Dade County sale through Econolite. Product sales decreased to $5.9 million in 2017 from $6.4 million in 2016, adecrease of 7.5%. The decrease in product sales was a result of reduced sales into the North American region compared to the prior yearperiod, partially offset by increased product sales into the European region.Revenue for the Intersection segment increased to $10.1 million in 2017 from $8.8 million in 2016, an increase of 14.5%. The increase can beprimarily attributed to a significant royalty sale into Miami-Dade County in 2017 and higher sales volume into the European region compared tothe prior year.21Revenue for the Highway segment decreased to $4.4 million in 2017 from $5.3 million in 2016, a decrease of 16.9%. The decrease of revenue inthe Highway segment is mainly attributable to reduced product sales into the North American region.Gross profit for product sales increased to 56.7% in 2017 from 37.4% in 2016. Product sales gross profit increased $966,000 or 40.4% comparedto the prior year. The increase in product gross margin is driven by a $473,000 non-cash warranty charge in the fourth quarter of 2016 which didnot occur in 2017. Product sales gross profit for the Intersection product lines has historically been lower than gross profit for the Highwayproduct lines and therefore the mix of the product lines sold in any given period can result in varying gross profit. Additionally, the geographicsales mix of our product sales can influence margins, as products sold in some jurisdictions have lower margins.Gross profit for royalty sales decreased to 95.8% in 2017 from 98.8% in 2016. Gross profit for royalties increased $589,000 or 7.7% compared tothe prior year. Royalties gross profit percent decreased due to the amortization of software capitalization costs related to the Autoscope Visionproduct released for sale in October 2016.On a non-GAAP basis, excluding the individually significant warranty charge related to the legacy product no longer sold, full year 2016 non-GAAP gross margin and product gross margin percentages would have been 74.4% and 44.8%, respectively.Selling, marketing and product support expense increased to $2.5 million in 2017 from $2.4 million in 2016, remaining constant year-over-year at17.1% of revenue.General and administrative expense increased to $4.0 million from $3.9 million in 2016, remaining constant year-over-year at 27.4% of revenue.General and administrative expenses increased in 2017 because of approximately $303,000 incurred cost related to the Econolite arbitrationdecision, offset by cost saving measures enacted in 2016.Research and development expense increased to $3.0 million or 20.7% of total revenue in 2017, from $2.9 million or 20.8% of total revenue in2016. The increase is primarily due to $1.1 million of software development costs related to the development of our new video and radardetection technologies that were capitalized. In comparison, we capitalized $1.7 million of software development costs in 2016.In the first quarter of 2016, the Company implemented restructuring plans for our office in Canada. Because of these actions, restructuringcharges of approximately $126,000 were recorded in 2016. There were no restructuring charges recorded in 2017.Income tax expense of $85,000 or 4.0% of our pretax income was recorded for the year ended December 31, 2017, compared to income tax benefitof $25,000 or 3.8% of pretax income for the year ended December 31, 2016.Liquidity and Capital ResourcesAt December 31, 2017, we had $3.2 million in cash and cash equivalents, compared to $1.5 million at December 31, 2016.On July 9, 2015, the Company entered into a share and asset sales purchase agreement (the "SAPA") with TagMaster AB for the purchase priceof $4.2 million, subject to certain customary closing adjustments based on the difference between estimated net asset value and final net assetvalue, of which $3.8 million was paid to the Company at closing. The remaining $420,000 was placed in an escrow account and was availableuntil July 9, 2016 to satisfy any indemnification obligations the Company may have had under the SAPA. The $420,000 in escrow was releasedto the Company during the third quarter of 2016. Net cash provided by operating activities was $3.0 million in 2017 compared to $447,000 in 2016. The primary reason for the increase in net cashprovided by operating activities in 2017 was the increase in net income combined with the timing of the payment of outstanding payables.22Net cash used for continuing investing activities was $1.4 million in 2017, compared to net cash used for continuing investing activities of $1.8million in 2016. The decreased investing of cash used for continuing investing activities in 2017 compared to the prior period is the result of thecapitalized software development costs.No net cash was used for financing activities in 2017 compared to $17,000 of net cash used for financing activities in 2016.In May 2014, the Company entered into a credit agreement and related documents with Alliance Bank which provided for a revolving line ofcredit for the Company. The credit agreement and related documents with Alliance Bank (collectively, the "Alliance Credit Agreement")provided up to $5.0 million revolving line of credit bearing interest at a fixed annual rate of 3.95%. Any advances would have been secured bythe Company's inventories, accounts receivable, cash, marketable securities, and equipment. We were subject to certain covenants under theAlliance Credit Agreement. In April 2016, we entered into an agreement with Alliance Bank amending the Alliance Credit Agreement to extendthe maturity date from April 1, 2016 to May 12, 2017. We chose not to renew the Alliance Credit Agreement.We believe that cash and cash equivalents on hand at December 31, 2017, along with the cash provided by operating activities, will satisfy ourprojected working capital needs, investing activities, and other cash requirements for the foreseeable future.Off‑Balance Sheet ArrangementsWe do not participate in transactions or have relationships or other arrangements with an unconsolidated entity, including special purpose andsimilar entities or other off‑balance sheet arrangements.Critical Accounting PoliciesOur Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K are prepared in accordance with U.S. generallyaccepted accounting principles (“GAAP”), which require us to make estimates and assumptions in certain circumstances that affect amountsreported. In preparing these financial statements, management has made its best estimates and judgments of certain amounts, giving dueconsideration to materiality. We believe that of our significant accounting policies, the following are particularly important to the portrayal ofour results of operations and financial position, may require the application of a higher level of judgment by our management, and as a result,are subject to an inherent degree of uncertainty. For further information, see Note 1 of our Notes to the Consolidated Financial Statementsincluded in Item 8 of this Annual Report on Form 10‑K.Revenue Recognition and Allowance for Doubtful Accounts. We are required to comply with a variety of technical accounting requirements inorder to achieve consistent and accurate revenue recognition. Royalty income is recognized based on sales shipped or delivered to ourcustomers as reported to us by Econolite. Revenue is recognized when both product ownership and the risk of loss have transferred to thecustomer and we have no remaining obligations. Allowances for doubtful accounts are estimated by management based on an evaluation ofpotential losses related to customer receivable balances. We determine the allowance based on historical write‑off experience in the industry,regional economic data, and an evaluation of specific customer accounts for risk of loss. We review our allowance for doubtful accountsmonthly. Account balances are charged off against the allowance when we believe it is probable the receivable will not be recovered. We do nothave any off‑balance sheet credit exposure related to our customers. The establishment of this allowance requires the use of judgment andassumptions regarding the potential for losses on receivable balances. Although management considers these balances adequate and proper,changes in economic conditions in specific markets in which we operate could have an effect on reserve balances required.Warranty Liabilities. The estimated cost to service warranty and customer service claims is included in cost of sales. This estimate is based onhistorical trends of warranty claims. We regularly assess and adjust the estimate of accrued warranty claims by updating claims rates for actualtrends and projected claim costs. Our warranty liability contains uncertainties because our warranty obligations cover an extended period oftime. While these liability levels are based on historical warranty experience, they may not reflect the actual claims that will occur over theupcoming warranty period, and additional warranty reserves may be required. A revision of estimated claim rates or the projected cost ofmaterials and freight associated with sending replacement parts to customers could have a material adverse effect on future results ofoperations.Software Development Costs. We incur costs associated with the development of software to be sold, leased, or otherwise marketed. Softwaredevelopment costs are expensed as incurred until technological feasibility has been established, as which time future costs incurred arecapitalized until the product is available for general release to the public. A significant amount of judgment and estimation is required to assesswhen technological feasibility is established as well as in the ongoing assessment of the recoverability of capitalized costs. In evaluating therecoverability of capitalized software costs, we compare expected product performance, utilizing forecasted revenue amounts, to the total costsincurred to date and estimates of additional costs to be incurred. If revised forecasted product revenue is less than, and/or revised forecastedcosts are greater than, the previously forecasted amounts, the net realizable value may be lower than previously estimated, which could result inrecognition of an impairment charge in the period in which such a determination is made. 23Impairment of Long‑Lived Assets. We review the carrying value of long‑lived assets or asset groups, such as property and equipment andintangibles subject to amortization, when events or changes in circumstances such as asset utilization, physical change, legal factors, or othermatters indicate that the carrying value may not be recoverable. When this review indicates the carrying value of an asset or asset groupexceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset or asset group, werecognize an asset impairment charge against operations. The amount of the impairment loss recorded is the amount by which the carryingvalue of the impaired asset or asset group exceeds its fair value. Our impairment loss calculations contain uncertainties because they require management to make assumptions and to apply judgment toidentify events or changes in circumstances indicating the carrying value of assets may not be recoverable, estimate future cash flows, estimateasset fair values, and select a discount rate that reflects the risk inherent in future cash flows. Expected cash flows may not be realized, whichcould cause long‑lived assets to become impaired in future periods and could have a material adverse effect on future results of operations.Income Taxes. We record a tax provision for the anticipated tax consequences of the reported results of operations. Deferred tax assets andliabilities are measured using the currently enacted tax rates that apply to taxable income in effect for the years in which those deferred taxassets and liabilities are expected to be realized or settled. We record a valuation allowance to reduce deferred tax assets to the amount that isbelieved more likely than not to be realized. We believe it is more likely than not that forecasted income, including income that may be generatedas a result of certain tax planning strategies, together with the tax effects of the deferred tax liabilities, will be sufficient to fully recover theremaining net realizable value of our deferred tax assets. If all or part of the net deferred tax assets are determined not to be realizable in thefuture, an adjustment to the valuation allowance would be charged to earnings in the period such determination is made. In addition, thecalculation of tax liabilities involves significant judgment in estimating the impact of uncertainties in the application of complex tax laws.Resolution of these uncertainties in a manner inconsistent with management’s expectations could have a material impact on our financialcondition and operating results. Item 7A. Quantitative and Qualitative Disclosures About Market RiskForeign Currency Exchange Risk Approximately 20% of our revenue has historically been derived from shipments to customers outside of the United States, and a large portionof this revenue is denominated in currencies other than the U.S. dollar. Our international subsidiaries have functional currencies other than ourU.S. dollar reporting currency and, occasionally, transact business in currencies other than their functional currencies. These non‑functionalcurrency transactions expose us to market risk on assets, liabilities and cash flows recognized on these transactions.The strengthening of the U.S. dollar relative to foreign currencies decreases the value of foreign currency‑denominated revenue and earningswhen translated into U.S. dollars. Conversely, a weakening of the U.S. dollar increases the value of foreign currency‑denominated revenue andearnings. A 10% adverse change in foreign currency rates, if we have not properly hedged, could have a material effect on our results ofoperations or financial position.24Item 8. Financial Statements and Supplementary DataIMAGE SENSING SYSTEMS, INC. CONSOLIDATED BALANCE SHEETS(in thousands, except share data) December 31, 2017 2016ASSETS Current assets: Cash and cash equivalents$3,190 $1,547 Accounts receivable, net of allowance for doubtful accounts of $20 and $90,respectively 3,339 3,011 Inventories 335 141 Prepaid expenses and other current assets 255 281 Total current assets 7,119 4,980 Property and equipment: Furniture and fixtures 164 486 Leasehold improvements 26 426 Equipment 998 3,561 1,188 4,473 Accumulated depreciation 702 4,102 486 371 Intangible assets, net 3,485 2,795 Deferred income taxes 38 58 TOTAL ASSETS$11,128 $8,204 LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable$563 $256 Warranty 858 1,223 Accrued compensation 288 193 Other current liabilities 778 323 Total current liabilities 2,487 1,995 TOTAL LIABILITIES 2,487 1,995 Shareholders' equity Preferred stock, $.01 par value; 5,000,000 shares authorized, none issued oroutstanding — — Common stock, $.01 par value; 20,000,000 shares authorized, 5,210,448 and5,094,473 issued and outstanding, respectively 51 50 Additional paid-in capital 24,355 24,055 Accumulated other comprehensive loss (310) (363)Accumulated deficit (15,455) (17,533)Total shareholders' equity 8,641 6,209 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY$11,128 $8,204 See accompanying notes to the consolidated financial statements. 25IMAGE SENSING SYSTEMS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share data) Years ended December 31, 2017 2016Revenue: Product sales$5,919 $6,398 Royalties 8,605 7,744 14,524 14,142 Cost of revenue: Product sales 2,563 4,008 Software amortization 362 90 2,925 4,098 Gross profit 11,599 10,044 Operating expenses: Selling, marketing and product support 2,486 2,417 General and administrative 3,981 3,868 Research and development 3,010 2,946 Restructuring — 126 9,477 9,357 Operating income from operations 2,122 687 Other, net 41 (25)Income from operations before income taxes 2,163 662 Income tax expense (benefit) 85 (25)Net income$2,078 $ 687 Net income per share: Basic$ 0.41 $ 0.14 Diluted$0.40 $0.14 Weighted average number of common shares outstanding: Basic 5,128 5,050 Diluted 5,136 5,055 See accompanying notes to the consolidated financial statements. 26IMAGE SENSING SYSTEMS, INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME(in thousands) Years ended December 31, 2017 2016Net income$2,078 $ 687 Other comprehensive income (loss): Foreign currency translation adjustment 53 (105)Comprehensive income$2,131 $ 582 See accompanying notes to the consolidated financial statements. 27IMAGE SENSING SYSTEMS, INC. CONSOLIDATED STATEMENTS OF CASH FLOW(in thousands) Years ended December 31, 2017 2016Operating activities: Net Income$2,078 $687 Adjustments to reconcile net income to net cash provided (used for) by operatingactivities: Depreciation 218 300 Software amortization 362 90 Stock-based compensation 301 247 Deferred income tax expense (benefit) 20 (39)Loss on disposal of assets 2 17 Changes in operating assets and liabilities: Accounts receivable, net (328) 52 Inventories (194) 507 Prepaid expenses and other current assets 26 165 Accounts payable 280 (1,263)Accrued expenses and other current liabilities 185 (316)Net cash provided by operating activities 2,950 447 Investing activities: Capitalized software development costs(1,052) (1,675)Purchases of property and equipment (300) (163)Net cash used for continuing investing activities (1,352) (1,838)Net cash provided by discontinued investing activities — 420 Net cash used for investing activities (1,352) (1,418) Financing activities: Stock for tax withholding — (17)Net cash used for financing activities — (17) Effect of exchange rate changes on cash 45 (113)Increase (decrease) in cash and cash equivalents 1,643 (1,101) Cash and cash equivalents at beginning of period 1,547 2,648 Cash and cash equivalents at end of period$3,190 $1,547 Non-Cash investing and financing activities: Purchase of property and equipment in accounts payable$ 27 $ — See accompanying notes to the consolidated financial statements. 28IMAGE SENSING SYSTEMS, INC. CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY(in thousands, except share data) Accumulated Additional Other Shares Common Paid-In Comprehensive Accumulated Issued Stock Capital Loss deficit Total Balance, December 31, 2015 5,028,000 $ 49 $ 23,826 $ (258) $ (18,220) $ 5,397 Stock-based compensation 70,915 1 246 — — 247 Stock for tax withholding (4,442) — (17) — — (17)Comprehensive income: Foreign currency translationadjustment — — — (105) — (105)Net income — — — — 687 687 Balance, December 31, 2016 5,094,473 $ 50 $ 24,055 $ (363) $ (17,533) $ 6,209 Stock-based compensation 115,975 1 300 — — 301 Comprehensive income: Foreign currency translationadjustment — — — 53 — 53 Net income — — — — 2,078 2,078 Balance, December 31, 2017 5,210,448 $ 51 $ 24,355 $ (310) $ (15,455) $ 8,641 See accompanying notes to the consolidated financial statements. 29Image Sensing Systems, Inc.Notes to Consolidated Financial Statements December 31, 20171. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIESDESCRIPTION OF BUSINESSImage Sensing Systems, Inc. (referred to herein as “we,” the “Company,” “us” and “our”) develops and markets video and radar processingproducts for use in applications such as intersection control, highway, bridge and tunnel traffic management and traffic data collection. We sellour products primarily to distributors and also receive royalties under a license agreement with a manufacturer/distributor for certain of ourproducts. Our products are used primarily by governmental entities.CONSOLIDATIONThe Consolidated Financial Statements include the accounts of Image Sensing Systems, Inc. and its wholly‑owned subsidiaries: Image SensingSystems HK Limited (ISS HK) located in Hong Kong; Image Sensing Systems (Shenzhen) Limited (ISS WOFE) located in China; Image SensingSystems Holdings Limited (ISS Holdings), Image Sensing Systems Europe Limited (ISS Europe), and Image Sensing Systems EMEA Limited(ISS UK) located in the United Kingdom; Image Sensing Systems Europe Limited SP.Z.O.O. (ISS Poland) located in Poland; Image SensingSystems Spain SLU (ISS Spain) located in Spain; Image Sensing Systems Germany, GmbH (ISS Germany) located in Germany; and ISS ImageSensing Systems Canada Limited (ISS Canada) located in Canada. All significant inter‑company transactions and balances have beeneliminated.REVENUE RECOGNITIONWe recognize revenue on a sales arrangement when it is realized or realizable and earned, which occurs when all of the following criteria havebeen met: persuasive evidence of an arrangement exists; delivery and title transfer have occurred or services have been rendered; the salesprice is fixed and determinable; collectability is reasonably assured; and all significant obligations to the customer have been fulfilled.Certain sales may contain multiple elements for revenue recognition purposes. We consider each deliverable that provides value to thecustomer on a standalone basis as a separable element. Separable elements in these arrangements may include the hardware, software,installation services, training and support. We initially allocate consideration to each separable element using the relative selling price method.Selling prices are determined by us based on either vendor‑specific objective evidence (“VSOE”) (the actual selling prices of similar productsand services sold on a standalone basis) or, in the absence of VSOE, our best estimate of the selling price. Factors considered by us indetermining estimated selling prices for applicable elements generally include overall economic conditions, customer demand, costs incurred byus to provide the deliverable, as well as our historical pricing practices. Under these arrangements, revenue associated with each deliveredelement is recognized in an amount equal to the lesser of the consideration initially allocated to the delivered element or the amount for whichpayment is not deemed contingent upon future delivery of other elements in the arrangement. Under arrangements where special acceptanceprotocols exist, installation services and training may not be considered separable. Under those circumstances, revenue for the entirearrangement is recognized upon the completion of installation, training and the fulfillment of any other significant obligations specific to theterms of the arrangement. Arrangements that do not contain any separable elements are typically recognized when the products are shippedand title has transferred to the customer.Revenue from arrangements for services such as maintenance, repair, consulting and technical support are recognized either as the service isperformed or ratably over the defined contractual period for service maintenance contracts.Econolite Control Products, Inc. (“Econolite”) is our licensee that sells certain of our products in the United States, Mexico, Canada and theCaribbean. The royalty of approximately 50% of the gross profit on licensed products is recognized when the products are shipped or deliveredby Econolite to its customers.We record provisions against sales revenue for estimated returns and allowances in the period when the related revenue is recorded based onhistorical sales returns and changes in end user demand.Revenue is recorded net of taxes collected from customers that are remitted to governmental authorities, with the collected taxes recorded ascurrent liabilities until remitted to the relevant government authority.30SHIPPING AND HANDLINGFreight revenue billed to customers is reported within revenue on the Consolidated Statements of Operations, and expenses incurred forshipping products to customers are reported within cost of revenue on the Consolidated Statements of Operations.CASH AND CASH EQUIVALENTSWe consider all highly liquid investments with an original maturity of three months or less when purchased to be cash equivalents. Cashequivalents, both inside and outside the United States, are invested in money market funds and bank deposits in local currency denominations.Cash located in foreign banks was $677,000 and $316,000 at December 31, 2017 and 2016, respectively. We hold our cash and cash equivalentswith financial institutions and, at times, the amounts of our balances may be in excess of insurance limits.ACCOUNTS RECEIVABLEWe grant credit to customers in the normal course of business and generally do not require collateral from domestic customers. When deemedappropriate, receivables from customers outside the United States are supported by letters of credit from financial institutions. Managementperforms on‑going credit evaluations of customers. The allowance for doubtful accounts is based on management’s assessment of thecollectability of specific customer accounts and includes consideration of the credit worthiness and financial condition of those specificcustomers. We record an allowance to reduce receivables to the amount that is reasonably believed to be collectible and consider factors suchas the financial condition of the customer and the aging of the receivables. If there is a deterioration of a customer’s financial condition, if webecome aware of additional information related to the credit worthiness of a customer, or if future actual default rates on trade receivables ingeneral differ from those currently anticipated, we may have to adjust our allowance for doubtful accounts, which would affect earnings in theperiod the adjustments were made.INVENTORIESInventories are primarily electronic components and finished goods and are valued at the lower of cost or net realizable value determined underthe first‑in, first‑out accounting method.PROPERTY AND EQUIPMENTProperty and equipment is stated at cost. Additions, replacements, and improvements are capitalized at cost, while maintenance and repairs arecharged to operations as incurred. Depreciation is recorded using the straight‑line method over the estimated useful lives of the assets and byaccelerated methods for income tax purposes. Leasehold improvements are depreciated over the shorter of the estimated useful lives of theassets or the contractual term of the lease, with consideration of lease renewal options if renewal appears probable. Depreciation is recordedover a three to seven‑year period for financial reporting purposes.INCOME TAXESWe record a tax provision for the anticipated tax consequences of the reported results of operations. Deferred tax assets and liabilities aremeasured using the currently enacted tax rates that apply to taxable income in effect for the years in which those deferred tax assets andliabilities are expected to be realized or settled. We record a valuation allowance to reduce deferred tax assets to the amount that is believedmore likely than not to be realized. We believe it is more likely than not that forecasted income, including income that may be generated as aresult of certain tax planning strategies, together with the tax effects of the deferred tax liabilities, will be sufficient to fully recover the remainingnet realizable value of deferred tax assets. If all or part of the net deferred tax assets are determined not to be realizable in the future, anadjustment to the valuation allowance would be charged to earnings in the period such determination is made. In addition, the calculation of taxliabilities involves significant judgment in estimating the impact of uncertainties in the application of complex tax laws. Resolution of theseuncertainties in a manner inconsistent with management’s expectations could have a material impact on our financial condition and operatingresults. We recognize penalties and interest expense related to unrecognized tax benefits in income tax expense.INTANGIBLE ASSETSWe capitalize certain software development costs related to software to be sold, leased, or otherwise marketed. Capitalized softwaredevelopment costs include purchased materials, services, internal labor and other costs associated with the development of new products andservices. Software development costs are expensed as incurred until technological feasibility has been established, at which time future costsincurred are capitalized until the product is available for general release to the public. Based on our product development process, technologicalfeasibility is generally established once product and detailed program designs have been completed, uncertainties related to high-riskdevelopment issues have been resolved through coding and testing, and we have established that the necessary skills, hardware, and softwaretechnology are available for production of the product. Once a software product is available for general release to the public, capitalizeddevelopment costs associated with that product will begin to be amortized to cost of sales over the product’s estimated economic selling life,using the greater of straight-line or a method that results in cost recognition in future periods that is consistent with the anticipated timing ofproduct revenue recognition. 31 Capitalized software development costs are subject to an ongoing assessment of recoverability, which is impacted by estimates andassumptions of future revenues and expenses for these software products, as well as other factors such as changes in product technologies.Any portion of unamortized capitalized software development costs that are determined to be in excess of net realizable value have beenexpensed in the period in which such a determination is made. In the years ended December 31, 2017 and 2016, we reached technologicalfeasibility for certain software products and, as a result, capitalized approximately $1.1 million and $1.7 million of software development costsduring the years ended December 31, 2017 and 2016, respectively. Intangible assets with finite lives are amortized on a straight‑line basis over the expected period to be benefited by future cash flows andreviewed for impairment. At both December 31, 2017 and 2016, there were no indefinite‑lived intangible assets.IMPAIRMENT OF LONG‑LIVED ASSETSWe review the carrying value of long‑lived assets or asset groups, such as property and equipment and intangibles subject to amortization,when events or changes in circumstances such as asset utilization, physical change, legal factors, or other matters indicate that the carryingvalue may not be recoverable. When this review indicates the carrying value of an asset or asset group exceeds the sum of the undiscountedcash flows expected to result from the use and eventual disposition of the asset or asset group, we recognize an asset impairment chargeagainst operations. The amount of the impairment loss recorded is the amount by which the carrying value of the impaired asset or asset groupexceeds its fair value. No such impairment losses were recorded during the years ended December 31, 2017 and 2016.RESEARCH AND DEVELOPMENTResearch and development costs associated with new products are charged to operations in the period incurred.WARRANTIESWe generally provide a two to five year warranty on product sales. We record estimated warranty costs at the time of sale and accrue forspecific items at the time that their existence is known and the amounts are determinable. We estimate warranty costs using standardquantitative measures based on historical warranty claim experience and an evaluation of specific customer warranty issues. In addition,warranty provisions are recognized for certain nonrecurring product claims that are individually significant.FOREIGN CURRENCYThe financial position and results of operations of our foreign subsidiaries are measured using local currency as the functional currency. Assetsand liabilities are translated using fiscal period‑end exchange rates, and statements of operations are translated using average exchange ratesapplicable to each period, with the resulting translation adjustments recorded as a separate component of shareholders’ equity under“Accumulated other comprehensive loss.” Gains and losses from foreign currency transactions are recognized in the Consolidated Statementsof Operations.NET INCOME PER SHAREBasic income per share excludes dilution and is computed by dividing net income attributable to common shareholders by the weighted‑averagenumber of common shares outstanding during the period. Diluted income per share includes potentially dilutive common shares consisting ofstock options and restricted stock using the treasury stock method. Under the treasury stock method, shares associated with certain stockoptions have been excluded from the diluted weighted average shares outstanding calculation because the exercise of those options would leadto a net reduction in common shares outstanding. As a result, stock options to acquire 103,681 and 212,232 weighted common shares have beenexcluded from the diluted weighted shares outstanding calculation for the years ended December 31, 2017 and 2016, respectively, because theexercise prices were greater than the average market price of the common shares during the period and were excluded from the calculation ofdiluted net income per share. LOSS CONTINGENCIESWe establish an accrual for loss contingencies when it is both probable that an asset has been impaired or a liability has been incurred and theamount of the loss can be reasonably estimated. When loss contingencies are not probable and cannot be reasonably estimated, we do notestablish an accrual. However, when there is at least a reasonable possibility that a loss has been incurred, but it is not probable or reasonablyestimated, we disclose the nature of the loss contingency and an estimate of the possible loss or range of loss as applicable. Any adjustmentmade to a loss contingency accrual during an accounting period affects the earnings of the period.32 USE OF ESTIMATESThe preparation of financial statements in accordance with U.S. generally accepted accounting principles requires management to makeestimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities as of the dateof the financial statements, and reported amounts of revenue and expense during the reporting period. Predicting future events is inherently animprecise activity and, as such, requires the use of judgment. Ultimate results could differ from those estimates. Changes in these estimates willbe reflected in the financial statements in future periods.STOCK‑BASED COMPENSATIONWe measure the cost of employee services received in exchange for the award of equity instruments based on the fair value of the award at thedate of grant and recognize the cost over the period during which an employee is required to provide services in exchange for the award. Stockoptions or awards are granted at exercise prices equal to the closing market price of our stock on the day before the date of grant.For purposes of determining the estimated fair value of stock‑based payment awards, we utilize a Black‑Scholes option pricing model, whichrequires the input of certain assumptions requiring management judgment. Because our employee stock option awards have characteristicssignificantly different from those of traded options, and because changes in the input assumptions can materially affect fair value estimates,existing models may not provide a reliable single measure of the fair value of employee stock options. Management will continue to assess theassumptions and methodologies used to calculate estimated fair value of stock‑based compensation. Circumstances may change and additionaldata may become available over time that could result in changes to these assumptions and methodologies and thereby materially impact thefair value determination of future grants of stock‑based payment awards. If factors change and we employ different assumptions in futureperiods, the compensation expense recorded may differ significantly from the stock‑based compensation expense recorded in the currentperiod.RECENT ACCOUNTING PRONOUNCEMENTSIn March 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2016-09,“Compensation-Stock Compensation (Topic 718)." ASU 2016-09 provides guidance on how an entity should account for stockcompensation. It is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016, and early adoption ispermitted. The Company adopted ASU 2016-09 effective January 1, 2017, and the adoption did not have a material impact on its consolidatedfinancial statements and related disclosures.In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers.” ASU 2014-09 provides guidance related to how anentity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the considerationto which the entity expects to be entitled in exchange for those goods or services. In addition, ASU 2014-09 specifies accounting for costsassociated with obtaining or fulfilling contracts with customers and expands the required disclosures related to revenue and cash flows fromcontracts with customers.On July 9, 2015, the FASB affirmed its proposal to defer the effective date of ASU 2014-09 for all entities by one year. As a result, publicbusiness entities, certain not-for-profit entities, and certain employee benefit plans will apply ASU 2014-09 to annual reporting periodsbeginning after December 15, 2017. All other entities will apply ASU 2014-09 to annual reporting periods beginning after December 15, 2018. Additionally, the FASB affirmed its proposal to permit all entities to apply ASU 2014-09 early, but not before the original effective date for publicbusiness entities, certain not-for-profit entities, and certain employee benefit plans (that is, annual periods beginning after December 15, 2017). Entities choosing to implement early will apply ASU 2014-09 to all interim reporting periods within the year of adoption. The Company willadopt ASU 2014-09 in its first quarter of 2018, utilizing the full retrospective transition method. The Company's adoption of ASU 2014-09 didnot have a material impact on the amount and timing of revenue recognized in its consolidated financial statements.In July 2015, the FASB issued ASU 2015-11, "Simplifying the Measurement of Inventory." ASU 2015-11 simplifies the subsequent measurementof inventory by requiring inventory to be measured at the lower of cost and net realizable value. ASU 2015-11 applies only to inventories forwhich cost is determined by methods other than last-in first -out and the retail inventory method. ASU 2015-11 is effective for public companiesfor annual reporting periods beginning after December 15, 2016, and interim periods within those fiscal years. The adopted ASU 2015-11effective January 1, 2017, and the adoption did not have a material impact on its consolidated financial statements and related disclosures.In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842).” ASU 2016-02 provides guidance on how an entity should accountfor leases and recognize associated lease assets and liabilities. ASU 2016-02 is effective for fiscal years, and interim periods within those years,beginning after December 15, 2018, and early adoption is permitted. ASU 2016-02 must be adopted using a modified retrospective transition,and it provides for certain practical expedients. In addition, the transition will require application of ASU 2016-02 at the beginning of the earliestcomparative period presented. We are currently assessing the impact of ASU 2016-02 on the consolidated financial statements. 332. Divestiture of Automatic License Plate Recognition BusinessOn July 9, 2015, the Company entered into a share and asset sales purchase agreement (the “SAPA”) with TagMaster AB (the “Buyer”). Underthe terms of the SAPA, the Company and Image Sensing Systems EMEA Limited, a wholly-owned subsidiary of the Company (“ISS EMEA”),sold to the Buyer the entire issued share capital of Image Sensing Systems UK Limited, a wholly-owned subsidiary of ISS EMEA, as well ascertain other assets owned by the Company primarily used or primarily held for use in connection with its license plate recognition ("LPR")business. The Buyer also agreed to assume on the closing date certain agreements and liabilities relating to the LPR business and the acquiredassets. Additionally, the Company and the Buyer entered into a transitional services agreement.The purchase price for the LPR business was $4.2 million, subject to certain customary closing adjustments based on the difference betweenestimated net asset value and final net asset value, of which $3.8 million was paid to the Company at closing. The remaining $420,000 wasplaced in an escrow account and was available until July 9, 2016 to satisfy any indemnification obligations the Company may have had underthe SAPA. The $420,000 in escrow was released to the Company during the third quarter of 2016.There was no impact from discontinued operations in 2016 or 2017.3. FAIR VALUE MEASUREMENTSThe guidance for fair value measurements establishes the authoritative definition of fair value, sets out a framework for measuring fair value andoutlines the required disclosures regarding fair value measurements. Fair value is the price that would be received to sell an asset or paid totransfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between marketparticipants at the measurement date. We use a three‑tier fair value hierarchy based upon observable and non‑observable inputs as follows:• Level 1 – observable inputs such as quoted prices in active markets;• Level 2 – inputs, other than the quoted prices in active markets, that are observable either directly or indirectly; and• Level 3 – unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.Assets and Liabilities that are Measured at Fair Value on a Recurring BasisThe fair value hierarchy requires the use of observable market data when available. In instances in which the inputs used to measure fair valuefall into different levels of the fair value hierarchy, the fair value measurement has been determined based on the lowest level input that issignificant to the fair value measurement in its entirety. Our assessment of the significance of a particular item to the fair value measurement inits entirety requires judgment, including the consideration of inputs specific to the asset or liability.Nonfinancial Assets Measured at Fair Value on a Nonrecurring BasisOur intangible assets and other long‑lived assets are nonfinancial assets that were acquired either as part of a business combination,individually or with a group of other assets. These nonfinancial assets were initially, and have historically been, measured and recognized atamounts equal to the fair value determined as of the date of acquisition.Periodically, these nonfinancial assets are tested for impairment by comparing their respective carrying values to the estimated fair value of thereporting unit or asset group in which they reside.Financial Instruments not Measured at Fair ValueCertain of our financial instruments are not measured at fair value and are recorded at carrying amounts approximating fair value, based on theirshort‑term nature or variable interest rate. These financial instruments include cash and cash equivalents, accounts receivable, accountspayable and other current financial assets and liabilities.4. INVENTORIESInventories consisted of $335,000 and $141,000 of finished goods as of December 31, 2017 and 2016, respectively.345. INTANGIBLE ASSETSIntangible assets consisted of the following (dollars in thousands): December 31, 2017 Weighted Gross Net Average Carrying Accumulated Carrying Useful Life Amount Amortization Value (in Years)Developed technology$ 3,900 $(3,900) $ — —Vision development costs 2,929 (452) 2,477 8.0Software development costs 1,008 — 1,008 — $ 7,837 $(4,352) $ 3,485 8.0 December 31, 2016 Weighted Gross Net Average Carrying Accumulated Carrying Useful Life Amount Amortization Value (in Years)Developed technology$ 3,900 $(3,900) $— —Vision development costs 2,885 (90) 2,795 8.0 $ 6,785 $(3,990) $ 2,795 8.0 The estimated future amortization expense related to other intangible assets for the next five fiscal years is as follows (dollars in thousands): Amortization Expense2018 $ 3672019 3672020 3672021 3672022 367 The above amortization expense relates to capitalized costs related to software development of the Autoscope Vision, which was available forsale starting in the fourth quarter of 2016. This expense is included as a component of royalty cost of revenue. Additionally, future amortizationamounts presented above are estimates. Actual future amortization expense may be different due to future acquisitions, impairments, changesin amortization periods, or other factors.In accordance with United States generally accepted accounting principles ("GAAP"), we performed an assessment of recoverability on oursoftware development costs, which is impacted by estimates and assumptions of future revenue and expenses for these products, as well asother factors such as changes in product technologies. We determined that the estimated undiscounted cash flows is greater than the assetcarrying value and there were no impairment triggers as of December 31, 2017.6. CREDIT FACILITIESIn May 2014, the Company entered into a credit agreement and related documents with Alliance Bank which provided for a revolving line ofcredit for the Company. The credit agreement and related documents with Alliance Bank (collectively, the “Alliance Credit Agreement”)provided up to a $5.0 million revolving line of credit bearing interest at a fixed annual rate of 3.95%. Any advances would have been secured bythe Company’s inventories, accounts receivable, cash, marketable securities, and equipment. We were subject to certain covenants under theAlliance Credit Agreement. In April 2016, we entered into an agreement with Alliance Bank amending the Alliance Credit Agreement to extendthe maturity date from April 1, 2016 to May 12, 2017. We chose not to renew the Alliance Credit Agreement.35 7. WARRANTIESWarranty liability and related activity consisted of the following (in thousands): Years ended December 31, 2017 2016 Beginning balance$ 1,223 $ 760 Warranty provisions 47 242 Warranty claims (126) (330)Adjustments to preexisting warranties* (286) 551 Ending balance$ 858 $ 1,223 *Includes a $473,000 warranty charge in the fourth quarter of 2016 related to a legacy product that is no longer sold.8. INCOME TAXESThe components of income before income taxes were as follows (in thousands): Years ended December 31, 2017 2016 Income from operations before income taxes Domestic$ 2,364 $ 801 Foreign (201) (139)Total$ 2,163 $ 662 The components of income tax expense (benefit) were as follows (in thousands): Years ended December 31, 2017 2016 Current: Federal$— $ — State 5 2 Foreign 60 12 $ 65 $ 14 Deferred: Federal$(3) $ — State — — Foreign 23 (39) 20 (39)Total income tax expense (benefit)$ 85 $(25) 36 A reconciliation from the federal statutory income tax provision to our effective tax expense (benefit) is as follows (in thousands): Years ended December 31, 2017 2016 United States federal tax statutory rate$ 735 $ 225 State taxes, net of federal benefit (237) (52)Valuation allowances against deferred tax assets (4,798) (58)Research and development tax credits 22 (252)Foreign provision different than U.S. tax rate (11) 22 Stock option expense 6 14 Adjustment of prior year tax credits and refunds 1,231 174 Change in deferred tax rate from 35% to 21% 3,146 — Other (9) (98)Total$ 85 $(25) A summary of the deferred tax assets and liabilities is as follows (in thousands): Years ended December 31, 2017 2016 Deferred tax assets: Accrued compensation and benefits$ 49 $ 28 Inventory reserves 1 26 Allowance for doubtful accounts 4 5 Warranty reserves 165 367 Intangible and other assets 994 2,512 Net operating loss carryforwards 3,897 6,949 Non-qualified stock option expense — — Property, equipment and other 44 156 Research and development credit 2,230 2,059 Total deferred tax asset: 7,384 12,102 Less: valuation allowance (7,319) (11,994)Net deferred tax assets: 65 108 Deferred tax liabilities: Prepaid expenses and other (27) (50)Total deferred tax liability: (27) (50) Total net deferred tax asset$ 38 $ 58 As of December 31, 2017, the Company had sustained a significant accumulated tax loss. The net operating loss (“NOL”) carry forward in theUnited States, the United Kingdom, Hong Kong, Canada and China as of December 31, 2017 was $16 million, $515,000, $1.5 million, $129,000 and$79,000, respectively. The Company’s management believes that it is not more likely than not the net operating losses will be utilized.Accordingly, as of December 31, 2017, a full valuation allowance is provided, except for the Canadian NOL.In accordance with Accounting Standards Codification (“ASC”) 740‑30, we have not recognized a deferred tax liability for the undistributedearnings of certain of our foreign operations because those subsidiaries have invested or will invest the undistributed earnings indefinitely. It isimpractical for us to determine the amount of unrecognized deferred tax liabilities on these indefinitely reinvested earnings. Deferred taxes arerecorded for earnings of foreign operations when we determine that such earnings are no longer indefinitely reinvested.The Company has recognized no material uncertain tax positions as of December 31, 2017. The Company files income tax returns in the U.Sfederal jurisdiction and various state and foreign jurisdictions. With few exceptions, the Company is no longer subject to U.S federal or stateand local income tax examinations by tax authorities for years before 2013. It is difficult to predict the final timing and resolution of anyparticular uncertain tax position. Based on the Company's assessment of many factors, including past experience and complex judgments aboutfuture events, the Company does not currently anticipate significant changes in its uncertain tax positions over the next 12 months.37 New Tax LegislationOn December 22, 2017, the President of the United States signed into law the Tax Cuts and Jobs Act tax reform legislation (the "Tax Act"). TheTax Act makes significant changes in U.S. tax law, including a reduction in the U.S. federal corporate income tax rate, changes to net operatingloss carryforwards and carrybacks, and a repeal of the corporate alternative minimum tax. The Tax Act reduced the U.S. corporate tax rate from35% to 21%. As a result of the enacted law, the Company was required to revalue deferred tax assets and liabilities at the enacted rate. Thisrevaluation did not have any income tax expense impact on the Company due to the full valuation allowance. The other provisions of the TaxAct did not have a material impact on the Company's 2017 consolidated financial statements.With the enactment of the Tax Act, U.S. domestic taxpayers treated as U.S. shareholders of foreign subsidiaries are required to recognize in their2017 taxation period an inclusion of accumulated earnings of such foreign subsidiaries not previously subject to U.S. taxation. The accumulatedearnings with respect to U.S. shareholders pursuant to this provision under Section 965 of the Internal Revenue Code of 1986, as amended, aremeasured at the greater of two measurement dates, November 2, 2017 or December 31, 2017. Section 965 permits the allocation of accumulateddeficits of certain foreign subsidiaries attributable to a U.S. shareholder to offset accumulated earnings of other subsidiaries attributable to suchU.S. shareholder. In applying of this provision, the Company's attributable foreign subsidiary losses, most of which have been incurred inrecent years, far exceed accumulated earnings within its foreign subsidiaries. Consequently, the Company does not anticipate recognition ofadditional gross income pursuant to Section 965 in 2017.9. LICENSINGWe have licensed the exclusive right to manufacture and market the Autoscope video technology in the United States, Mexico, Canada and theCaribbean to Econolite, and we receive royalties from Econolite on sales of systems in those territories as well as in non‑exclusive territories asallowed from time to time. We may terminate our agreement with Econolite if a minimum annual sales level is not met or if Econolite fails to makeroyalty payments as required by the agreement. The agreement’s term runs to 2031, unless terminated by either party upon three years’ notice.We recognized royalty income from this agreement of $8.6 million and $7.7 million in 2017 and 2016, respectively.10. SIGNIFICANT CUSTOMERS AND CONCENTRATION OF CREDIT RISKRoyalty income from Econolite comprised 59% and 55% of revenue in the years ended December 31, 2017 and 2016, respectively. Accountsreceivable from Econolite were $2.5 million and $1.7 million at December 31, 2017 and 2016, respectively. Major disruptions in the manufacturingand distribution of our products by Econolite or the inability of Econolite to make payments on its accounts receivable with us could have amaterial adverse effect on our business, financial condition and results of operations. At December 31, 2017, Econolite comprised more than10% of accounts receivable.11. RETIREMENT SAVINGS PLANSSubstantially all of our employees in the United States are eligible to participate in a qualified defined contribution 401(k) plan. Participants mayelect to have a specified portion of their salary contributed to the plan, and we may make discretionary contributions to the plan. ISS HK andISS UK are obligated to contribute to certain employee pension plans. We made contributions totaling $81,000 and $92,000 to the plans for 2017and 2016, respectively. 3812. STOCK-BASED COMPENSATIONWe compensate officers, directors, key employees and consultants with stock-based compensation under our stock option and incentive plans(the "Plans") approved by our shareholders and administered under the supervision of our Board of Directors. Stock option awards are grantedat exercise prices equal to the closing price of our stock on the day before the date of grant. Generally, options vest proportionally over periodsof three to five years from the dates of grant, beginning one year from the date of grant, and have a contractual term of nine to ten years.Performance stock options are time based; however, the final number of awards earned and the related compensation expense are adjusted up ordown to the extent the performance target is met. The actual number of shares that will ultimately vest ranges from 90% to 100% of the targetedamount if the minimum performance target is achieved. We evaluate the likelihood of meeting the performance target at each reporting periodand adjust compensation expense, on a cumulative basis, based on the expected achievement of each performance target.Compensation expense, net of estimated forfeitures, is recognized ratably over the vesting period. Stock-based compensation expense includedin general and administrative expense for the years ended December 31, 2017 and 2016 was $301,000 and $247,000, respectively. At December 31,2017, 190,913 shares were available for grant under the Company's stock option and incentive plan.Stock OptionsThe following table summarizes stock option activity for 2017 and 2016: 2017 2016 Shares WAEP* Shares WAEP*Options outstanding at beginning of year 132,500 $ 6.15 307,750 $ 5.96Granted— $ — — $ —Exercised — $ — — $ —Expired(22,000) $ 8.26 (23,000) $ 11.65Forfeited(24,750) $ 5.55 (152,250) $ 4.93 Options outstanding at end of year 85,750 $5.78 132,500 $ 6.15Options eligible for exercise at year-end 79,875 $ 5.90 112,500 $ 6.41 *Weighted Average Exercise Price 39Options outstanding at December 31, 2017 had a weighted average remaining contractual term of 4.0 years and had no aggregate intrinsic value.Options eligible for exercise at December 31, 2017 had a weighted average remaining contractual term of 3.9 years and had no aggregate intrinsicvalue.There were no stock options exercised during the fiscal years ended December 31, 2017 and 2016.At December 31, 2017, there was approximately $4,000 of total unrecognized stock option expense related to non-vested awards, which isexpected to be recognized over a weighted average period of approximately 0.36 of a year.The fair value of stock options granted under stock‑based compensation programs has been estimated as of the date of each grant using themultiple option form of the Black‑Scholes valuation model, based on the grant price and assumptions regarding the expected grant life, stockprice volatility, dividends, and risk‑free interest rates. Each vesting period of an option award is valued separately, with this value beingrecognized evenly over the vesting period. No options were granted for the years ended December 31, 2017 and 2016. Restricted Stock and Stock Awards Restricted stock awards are granted under the Plan at the discretion of the Compensation Committee of our Board of Directors. We issuerestricted stock awards to executive officers and key consultants. These awards may contain certain performance conditions or time-basedvesting criteria. The restricted stock awards granted to executive officers vest if the various performance or time-based metrics are met. Stock-based compensation is recognized for the number of awards expected to vest at the end of the period and is expensed beginning on the grantdate through the end of the vesting period. At the time of vesting, the recipients of common stock may request to receive a net of the number ofshares required for employee withholding taxes, which can be withheld up to the relevant jurisdiction's maximum statutory rate. Stock awardsgranted to consultants are recognized over the performance period based on the stock price on the date when the consultant's performance iscomplete. We also issue stock awards as a portion of the annual retainer for each director on a quarterly basis. The stock awards are fully vested at thetime of issuance. Compensation expense related to stock awards is determined on the grant date based on the publicly-quoted fair market valueof our common stock and is charged to earnings on the grant date.The following table summarizes restricted stock award activity for 2017: 2017 Number of Shares Weighted Average GrantDate Fair ValueAwards outstanding December 31, 2016— $—Granted115,975 $3.08Vested(83,975) $3.13Forfeited — $— Awards outstanding at December 31, 201732,000 $2.95As of December 31, 2017, the total stock-based compensation expense related to non-vested awards not yet recognized was $55,000, which isexpected to be recognized over a weighted average period of 2.2 years. The weighted average grant date fair value of restricted stock unitsgranted during 2017 was $3.08. We granted restricted stock awards of 115,975 shares during 2017. During the years ended December 31, 2017and 2016, we recognized $283,000 and $225,000, respectively, of stock-based compensation expense related to restricted stock awards. 4013. INCOME PER COMMON SHARENet income per share is computed by dividing net income by the daily weighted average number of common shares outstanding during theapplicable periods. Diluted net income per share includes the potentially dilutive effect of common shares subject to outstanding stock optionsusing the treasury stock method. Under the treasury stock method, shares subject to certain outstanding stock options have been excludedfrom the diluted weighted average shares outstanding calculation because the exercise of those options would lead to a net reduction incommon shares outstanding. As a result, stock options to acquire 103,681 and 212,232 weighted common shares have been excluded from thediluted weighted shares outstanding for the years ended December 31, 2017 and December 31, 2016, respectively.A reconciliation of net income per share is as follows (in thousands, except per share data): Years ended December 31,2017 2016Numerator: Net income$2,078 $687Denominator: Weighted average common shares outstanding5,128 5,050Dilutive potential common shares8 5Shares used in diluted net income per common share calculations5,136 5,055Basic net income per common share$0.41 $0.14Diluted net income per common share $0.40 $0.1414. RESTRUCTURING AND EXIT ACTIVITIESIn the first quarter of 2016, the Company implemented restructuring plans in Canada. Because of these actions, restructuring charges ofapproximately $126,000 were recorded in 2016 related to employee terminations. The following table shows the restructuring activity for 2016 (in thousands): Facility Costs Termination and Contract Benefits Termination TotalBalance at January 1, 2016$— $— $— Charges 126 — 126 Settlements (126) — (126)Balance at December 31, 2016$— $— $— No restructuring charges were recorded in 2017. In the third quarter of 2016, in order to streamline our operating and cost structure, we initiated the closure of our wholly-owned subsidiaries,Image Sensing Systems HK Limited (ISS HK) located in Hong Kong; Image Sensing Systems (Shenzhen) Limited (ISS WOFE) located in China;Image Sensing Systems Europe Limited (ISS Europe) located in the United Kingdom; Image Sensing Systems Europe Limited SP.Z.O.O (ISSPoland) located in Poland; and Image Sensing Systems Germany, GmbH (ISS Germany) located in Germany. We incurred $31,000 and $35,000 oflegal entity closure costs during 2017 and 2016, respectively. 4115. SEGMENT INFORMATIONThe Company's Chief Executive Officer and management regularly review financial information for the Company's discrete operating segments.Based on similarities in the economic characteristics, nature of products and services, production processes, type or class of customer served,method of distribution and regulatory environments, the operating segments have been aggregated for financial statement purposes andcategorized into two reportable segments: Intersection and Highway. Autoscope video is our machine-vision product line, and revenue consists of royalties (all of which are received from Econolite), as well as aportion of international product sales. Video products are normally sold in the Intersection segment. RTMS is our radar product line, andrevenue consists of international and North American product sales. Radar products are normally sold in the Highway segment. All segmentrevenues are derived from external customers. Operating expenses and total assets are not allocated to the segments for internal reporting purposes. Due to the changes in how we manageour business, we may reevaluate our segment definitions in the future. The following tables set forth selected financial information for each of our reportable segments (in thousands): For the year ended December 31, 2017 Intersection Highway Total Revenue$ 10,109$4,415$ 14,524Gross profit 9,048 2,551 11,599Amortization of intangible assets362—362Intangible assets2,477 1,008 3,485 For the year ended December 31, 2016 Intersection Highway Total Revenue $8,829 $5,313 $14,142Gross profit 8,099 1,945 10,044Amortization of intangible assets 90 — 90Intangible assets 2,795 — 2,795 We derived the following percentages of our net revenues from the following geographic regions: For the year ended December 31, 2017 2016Asia Pacific1% 1%Europe16% 17%North America83% 82% No countries other than the United States had revenue in excess of 10% of our total revenue during any periods presented. The aggregate netbook value of long‑lived assets held outside of the United States, not including intangible assets, was $98,000 and $82,000 at December 31, 2017and 2016, respectively.4216. COMMITMENTS AND CONTINGENCIESOperating LeasesWe rent office space and equipment under operating lease agreements expiring at various dates through November 2022. Rent expense foroffice facilities was $574,000 in 2017 and $490,000 in 2016. Minimum annual rental commitments under noncancelable operating leases are asfollows (in thousands): Future Lease Payments2018$ 2322019 2282020 1372021 102022 9 LitigationWe are involved from time to time in various legal proceedings arising in the ordinary course of our business, including primarily commercial,product liability, employment and intellectual property claims. In accordance with generally accepted accounting principles in the United States,we record a liability in our Consolidated Financial Statements with respect to any of these matters when it is both probable that a liability hasbeen incurred and the amount of the liability can be reasonably estimated. With respect to currently pending legal proceedings, we have notestablished an estimated range of reasonably possible additional losses either because we believe that we have valid defenses to claimsasserted against us or the proceeding has not advanced to a stage of discovery that would enable us to establish an estimate. We currently donot expect the outcome of these matters to have a material effect on our consolidated results of operations, financial position or cash flows.Litigation, however, is inherently unpredictable, and it is possible that the ultimate outcome of one or more claims asserted against us couldadversely impact our results of operations, financial position or cash flows. We expense legal costs as incurred.On May 5, 2016, Econolite, our exclusive North American manufacturer and distributor, served a complaint on us for a lawsuit filed by Econolitein the Superior Court of the State of California for the County of Orange. The complaint asserted claims against us under the Manufacturing,Distributing and Technology License Agreement, as amended, with Econolite (the “Econolite Agreement”) for breach of contract and breach ofimplied covenant of good faith and fair dealing and sought specific performance related to the transition of North American RTMS sales andmarketing activities from Econolite to us in July 2014. In the complaint, Econolite requested damages from us in an amount to be proven at trialand sought certain other remedies. On May 27, 2016, we removed the case to the Federal District Court, District of Central California. OnNovember 15, 2016, Econolite and the Company entered into an Arbitration Agreement. On November 16, 2016, Econolite voluntarily dismissedall of its claims against the Company in the U.S. District Court but filed a demand for arbitration with JAMS (which is an alternative disputeresolution provider), asserting the same claims against the Company that it had asserted in the lawsuit. Arbitration commenced on November16, 2016. On January 23, 2018, the Company received the arbitrator's final decision concerning this matter. As a result of the arbitrator'sdecision, the Company is to pay to Econolite $262,000 for unused RTMS inventory and $246,000 for RTMS royalties. The Company wasawarded $205,000 for RTMS royalties already paid to Econolite. As a result, the Company recorded $303,000 of expense in its financialstatements as of and for the quarter ended December 31, 2017.43REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors andShareholders of Image Sensing Systems, Inc.Opinion on the Consolidated Financial StatementsWe have audited the accompanying consolidated balance sheets of Image Sensing Systems, Inc. and subsidiaries (the “Company”) as ofDecember 31, 2017 and 2016, and the related consolidated statements of operations, comprehensive income, shareholders’ equity, and cashflows for each of the years in the two-year period ended December 31, 2017, and the related notes (collectively referred to as the consolidatedfinancial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of theCompany as of December 31, 2017 and 2016, and the results of its operations and its cash flows for each of the years in the two-year periodended December 31, 2017, in conformity with accounting principles generally accepted in the United States of America.Basis for OpinionThese consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on theCompany’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public CompanyAccounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with theU.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtainreasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. TheCompany is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits,we are required to obtain an understanding of internal control over financial reporting, but not for the purpose of expressing an opinion onthe effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error orfraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding theamounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significantestimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide areasonable basis for our opinion. /s/ Boulay PLLPWe have served as the Company's auditor since 2016.Minneapolis, MinnesotaMarch 14, 2018 44Item 9. Changes in and Disagreements with Accountants on Accounting and Financial DisclosureNone.Item 9A. Controls and ProceduresEvaluation of disclosure controls and proceduresWe maintain disclosure controls and procedures (as defined in Rules 13a‑15(e) and 15d‑15(e) under the Securities Exchange Act of 1934, asamended ("Exchange Act")), that are designed to reasonably ensure that information required to be disclosed by us in the reports we file orsubmit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of theSecurities and Exchange Commission and that such information is accumulated and communicated to our management, including our principalexecutive officer and principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions regardingrequired disclosure. Under the supervision and with the participation of our management, including our Chief Executive Officer and InterimChief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures. Based upon thatevaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this Annual Report onForm 10-K, our disclosure controls and procedures were effective.Management’s report on internal control over financial reportingOur management is responsible for establishing and maintaining adequate internal control over financial reporting. Our internal control overfinancial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation offinancial statements for external purposes in accordance with generally accepted accounting principles in the United States of America. Ourinternal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonabledetail, accurately and fairly reflect our transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions arerecorded as necessary to permit preparation of the financial statements in accordance with generally accepted accounting principles in theUnited States of America and that our receipts and expenditures are being made only in accordance with authorizations of our management anddirectors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of ourassets that could have a material effect on the financial statements.Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherentlimitations. Internal control over financial reporting is a process that involves human diligence and is subject to lapses in judgment orbreakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or impropermanagement override. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basisby internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore,it is possible to design into the process safeguards to reduce, although not eliminate, these risks.Because of its inherent limitations, internal control over financial reporting may not prevent or detect all misstatements. Further, projections ofany evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditionsor that the degree of compliance with the policies or procedures may deteriorate.Management assessed the effectiveness of our internal control over financial reporting as of December 31, 2017. In making this assessment,management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in “Internal Control—Integrated Framework 2013”. Based on this assessment, management has concluded that our internal control over financial reporting waseffective as of December 31, 2017.Changes in internal control over financial reportingDuring the most recent fiscal quarter covered by this Annual Report on Form 10-K, there has been no change in our internal control overfinancial reporting (as defined in Rule 13a‑15(f) and 15d‑15(f) under the Exchange Act) that has materially affected, or is reasonably likely tomaterially affect, our internal control over financial reporting.45Item 9B. Other InformationNone. 46PART IIIItem 10. Directors, Executive Officers and Corporate GovernanceWe have adopted a Code of Ethics which applies to our principal executive, accounting and financial officers. The Code of Ethics is publishedon our website at www.imagesensing.com. Any amendments to the Code of Ethics and waivers of the Code of Ethics for our principal executive,accounting and financial officers will be published on our website.The sections entitled “Proposal 1 ‑ Election of Directors,” “Audit Committee” and “Section 16(a) Beneficial Ownership Reporting Compliance”in our definitive proxy statement for our 2018 annual meeting of shareholders are incorporated into this Annual Report on Form 10‑K byreference.Item 11. Executive CompensationThe sections entitled “Executive Compensation” and “Director Compensation - 2017” in our definitive proxy statement for the 2018 annualmeeting of shareholders are incorporated into this Annual Report on Form 10‑K by reference.Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder MattersEquity Compensation Plan InformationThe following table provides information as of December 31, 2017 about our shares of common stock subject to outstanding awards or availablefor future awards under our equity compensation plans and arrangements. Number of securities remaining Number of securities to Weighted-averageexercise available for future issuance be issued upon exercise price of outstanding under equity compensation plans of outstanding options, options, warrants and (excluding securities reflected inPlan Category warrants and rights rights the first column)(1) Equity compensation plansapproved by shareholders 85,750 $ 5.78 105,163 (1) The 105,163 shares available for grant under the 2014 Stock Option and Incentive Plan may become the subject of future awards inthe form of stock options, stock appreciation rights, restricted stock, performance awards or other stock‑based awards.The section entitled “Security Ownership of Certain Beneficial Owners and Management” in our definitive proxy statement for the 2018 annualmeeting of shareholders is incorporated into this Annual Report on Form 10‑K by reference.Item 13. Certain Relationships and Related Transactions, and Director IndependenceThe section entitled “Certain Relationships and Related Transactions” in our definitive proxy statement for the 2018 annual meeting ofshareholders is incorporated into this Annual Report on Form 10‑K by reference.Item 14. Principal Accountant Fees and ServicesThe sections entitled “Audit Fees,” “Audit‑Related Fees,” “Tax Fees,” “All Other Fees” and “Policy on Audit Committee Pre‑Approval of Auditand Permissible Non‑Audit Services Provided by Our Independent Registered Public Accounting Firm” in our definitive proxy statement for our2018 annual meeting of shareholders are incorporated into this Annual Report on Form 10‑K by reference.47PART IV Item 15. Exhibits and Financial Statement Schedules(a) Documents filed as part of this report:1. Financial statementsThe following Consolidated Financial Statements are included in Part II, Item 8. “Financial Statements andSupplementary Data”:Consolidated Balance Sheets as of December 31, 2017 and 2016Consolidated Statements of Operations for the years ended December 31, 2017 and 2016Consolidated Statements of Comprehensive Loss for the years ended December 31, 2017 and 2016Consolidated Statements of Cash Flow for the years ended December 31, 2017 and 2016Consolidated Statements of Shareholders’ Equity for the years ended December 31, 2017 and 2016Notes to Consolidated Financial StatementsReports of Independent Registered Public Accounting Firms2. Financial Statement Schedules: All financial statement schedules have been omitted because they are not required.3. The following documents are filed as exhibits to this report:Exhibit No.Description2.1**Share and Asset Sale and Purchase Agreement dated as of July 9, 2015 among Image Sensing Systems,Inc., Image Sensing Systems EMEA Limited and TagMaster AB (“SAPA”). (Pursuant to Item 601(b)(2) ofRegulation S-K under the Securities Act of 1933 and the Securities Exchange Act of 1934, certain schedulesto the SAPA were not filed, and the SAPA briefly identifies the contents of these schedules. Image SensingSystems, Inc. hereby agrees to furnish supplementally a copy of any omitted schedules to the Securitiesand Exchange Commission upon its request), incorporated by reference to Exhibit 2.1 to ISS’ QuarterlyReport on Form 10-Q for the quarter ended June 30, 2015 (File No. 0-26056).3(i).1Restated Articles of Incorporation of ISS, incorporated by reference to Exhibit 3.1 to ISS’ RegistrationStatement on Form SB‑2 (Registration No. 33‑90298C) filed on March 15, 1995, as amended (RegistrationStatement).3(i).2Articles of Amendment to Articles of Incorporation of ISS, incorporated by reference to Exhibit 3.2 to ISS’Quarterly Report on Form 10‑QSB for the quarter ended June 30, 2001 (File No. 0-26056).3(i).3Certificate of Designation amending the Articles of Incorporation of Image Sensing Systems, Inc. as filedwith the Minnesota Secretary of State on June 6, 2013, incorporated by reference to Exhibit 3.1 to theCompany’s Current Report on Form 8-K dated June 6, 2013 (File No. 0-26056).3(ii)Bylaws of ISS, incorporated by reference to Exhibit 3(ii) to ISS’ Quarterly Report on Form 10-Q for thequarter ended September 30, 2011 (File No. 0-26056).4.1Specimen form of ISS’ common stock certificate, incorporated by reference to Exhibit 4.1 to ISS’Registration Statement.4.2Rights Agreement dated as of June 6, 2013, by and between ISS and Continental Stock Transfer & TrustCompany, as rights agent, incorporated by reference to Exhibit 4.1 to the Company’s Current Report onForm 8-K dated June 6, 2013 (File No. 0-26056).4.3First Amendment to Rights Agreement dated as of August 23, 2016, by and between ISS and ContinentalStock Transfer & Trust Company, as rights agent, incorporated by reference to Exhibit 4.1 to theCompany’s Current Report on Form 8-K dated August 23, 2016 (File No. 0-26056). 48 10.1Form of Distributor Agreement, incorporated by reference to Exhibit 10.1 to ISS’ Registration Statement.10.2*Benefit Agreement dated as of July 28, 2014 between ISSand Richard A. Ehrich incorporated by referenceto Exhibit 10.2 to the Company’s Current Report on Form 8-K dated June 24, 2016 (File No. 0-26056).10.3Amendment VII to Office Lease Agreement dated April 26, 2007 by and between ISS and Spruce TreeCentre L.L.P., incorporated by reference to Exhibit 10.11 to ISS’ Annual Report on Form 10‑K for the yearended December 31, 2007 (File No. 0-26056) (2007 Form 10‑K).10.4Modification to Manufacturing, Distributing and Technology License Agreement dated September 1, 2000by and between ISS and Econolite Control Products, Inc. (Econolite), incorporated by reference to Exhibit10.12 to ISS’ 2007 Form 10‑K.10.5*Image Sensing Systems, Inc. 2005 Stock Incentive Plan, incorporated by reference to Appendix A to ISS’proxy statement filed with the SEC on April 19, 2005 (File No. 0-26056).10.6Manufacturing, Distributing and Technology License Agreement dated June 11, 1991 by and between ISSand Econolite Control Products, Inc. (Econolite), incorporated by reference to Exhibit 10.1 to theRegistration Statement.10.7Extension and Second Modification to License Agreement dated July 13, 2001 by and between ISS andEconolite, incorporated by reference to Exhibit 10.12 to ISS’ Annual Report on Form 10‑KSB for the yearended December 31, 2001 (File No. 0-26056) (2001 Form 10-KSB).10.8Office Lease Agreement dated November 24, 1998 by and between ISS and Spruce Tree Centre L.L.P.,incorporated by reference to Exhibit 10.18 to ISS’ Annual Report on Form 10‑KSB for the year endedDecember 31, 1998 (File No. 0-26056).10.9Production Agreement dated February 14, 2002 by and among ISS, Wireless Technology, Inc. andEconolite, incorporated by reference to Exhibit 10.20 to ISS’ 2001 Form 10‑KSB.10.10Extension and Third Modification to Manufacturing Distributing and Technology License Agreementdated July 3, 2008 by and between ISS and Econolite, incorporated by reference to Exhibit 10.1 to ISS’Current Report on Form 8‑K dated July 3, 2008 (File No. 0-26056).10.11Fourth Modification to Manufacturing, Distributing and Technology License Agreement dated as ofDecember 15, 2011 by and between ISS and Econolite, incorporated by reference to Exhibit 10.1 to ISS’Current Report on Form 8-K dated December 15, 2011 (File No. 0-26056).10.12Lease dated February 1, 2010 between Image Sensing Systems UK Limited and Nortrust Nominees Limited,incorporated by reference to Exhibit 10.1 to ISS’ Quarterly Report on Form 10‑Q for the quarter ended June30, 2010 (File No. 0-26056).10.13**Amendment XIII to Office Lease Agreement by and between Spruce Tree Centre L. L. P. and Image SensingSystems dated as of February 18, 2014, incorporated by reference to Exhibit 10.26 to ISS’ Annual Report onForm 10-K for the year ended December 31, 2013 (File No. 0-26056).10.14*Amended and Restated Employment Agreement dated as of April 22, 2014 by and between ISS and Dale E.Parker, incorporated by reference to Exhibit 10.2 to ISS’ Quarterly Report on Form 10-Q for the quarterended March 31, 2014 (File No. 0-26056) (March 31, 2014 Form 10-Q).10.15Commitment Letter effective as of May 12, 2014 by and between ISS and Alliance Bank, incorporated byreference to Exhibit 10.3 to ISS’ March 31, 2014 Form 10-Q.10.16Security Agreement dated as of May 12, 2014 by and between ISS and Alliance Bank, incorporated byreference to Exhibit 10.4 to ISS’ March 31, 2014 Form 10-Q. 49 10.17Promissory Note dated as of May 12, 2014 in the original principal amount of $5,000,000 issued by ISS toAlliance Bank, incorporated by reference to Exhibit 10.5 to ISS’ March 31, 2014 Form 10-Q.10.18Amendment to Commitment Letter dated as of March 16, 2015 by and between ISS and Alliance Bank,incorporated by reference to Exhibit 10.31 to ISS’ Annual Report on Form 10-K for the year endedDecember 31, 2014.10.19Amendment to Promissory Note effective as of March 16, 2015 issued by ISS to Alliance Bank,incorporated by reference to Exhibit 10.32 to ISS’ Annual Report on Form 10-K for the year endedDecember 31, 2014.10.20*Image Sensing Systems, Inc. 2014 Stock Option and Incentive Plan, incorporated by references to Exhibit Ato ISS’ Proxy Statement dated April 17, 2014.10.21*Employment Agreement dated as of June 27, 2016 between ISS and Chad A. Stelzig, incorporated byreference to Exhibit 10.1 to ISS’ Current Report on Form 8-K dated June 24, 2016 (File No. 0-26056).10.22*Employment Agreement dated as of September 2, 2016 by and between ISS and Richard Ehrich,incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K dated September 2, 2016 (FileNo. 000-26056).16.1Letter from Grant Thornton LLP dated July 12, 2016 to the Securities and Exchange Commission,incorporated by reference to Exhibit 16.1 to the Company’s Current Report on Form 8-K dated July 10, 2016(File No. 0-26056).21List of Subsidiaries of ISS (filed herewith).23.1Consent of Independent Registered Public Accounting Firm (filed herewith).24Power of Attorney (included on signature page).31.1Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002 (filedherewith).31.2Certification of Interim Chief Financial Officer Pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002(filed herewith).32.1Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002 (filedherewith).32.2Certification of Interim Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(filed herewith).99.1Extension of Modification to Manufacturing, Distributing and Technology License Agreement dated May31, 2002 by and between ISS and Econolite, incorporated by reference to Exhibit 99.2 to ISS’ 2007 Form10‑K.99.2Letter agreement dated June 19, 1997 by and between ISS and Econolite, incorporated by reference toExhibit 99.3 to ISS’ 2007 Form 10‑K.99.3License and Distribution Agreement dated January 2, 2011 by and among ISS, Econolite and EconoliteCanada Inc., incorporated by reference to Exhibit 99.3 to ISS’ Annual Report on Form 10-K for the yearended December 31, 2011 (File No. 0-26056). * Management contract or compensatory plan or arrangement.** Portions of this exhibit are treated as confidential pursuant to a request for confidential treatment filed by ISS with the SEC.50 Copies of all exhibits not attached will be furnished without charge upon written request to the Company at the address set forth onthe inside back cover page of this Annual Report on Form 10-K. Item 16. Form 10-K Summary None. 51SignaturesPursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report tobe signed on its behalf by the undersigned, thereunto duly authorized.Image Sensing Systems, Inc. /s/ Chad A. Stelzig Date: March 14, 2018Chad A. StelzigPresident and Chief Executive Officer(Principal Executive Officer) Each person whose signature to this Annual Report on Form 10‑K appears below hereby constitutes and appoints Chad A. Stelzig andTodd C. Slawson, and each of them, as his true and lawful attorney‑in‑fact and agent, with full power of substitution, to sign on his behalfindividually and in the capacity stated below and to perform any acts necessary to be done in order to file all amendments to this AnnualReport on Form 10‑K, and any and all instruments or documents filed as part of or in connection with this Annual Report on Form 10‑K or anyamendments hereto, and each of the undersigned does hereby ratify and confirm all that said attorney‑in‑fact and agent, or his substitutes, shalldo or cause to be done by virtue hereof.Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons onbehalf of the registrant and in the capacities and on the dates indicated: /s/ Chad A. Stelzig Date: March 14, 2018Chad A. StelzigPresident and Chief Executive Officer(Principal Executive Officer) /s/ Todd C. Slawson Date: March 14, 2018Todd C. SlawsonInterim Chief Financial Officer(Interim Principal Financial Officer and Interim PrincipalAccounting Officer) /s/ Andrew T. Berger Date: March 14, 2018Andrew T. BergerExecutive Chairman of the Board of Directors /s/ Paul F. Lidsky Date: March 14, 2018Paul F. LidskyDirector /s/ James W. Bracke Date: March 14, 2018James W. BrackeDirector /s/ Geoffrey C. Davis Date: March 14, 2018Geoffrey C. DavisDirector 52Exhibit IndexExhibit No.Description2.1**Share and Asset Sale and Purchase Agreement dated as of July 9, 2015 among Image Sensing Systems,Inc., Image Sensing Systems EMEA Limited and TagMaster AB (“SAPA”). (Pursuant to Item 601(b)(2) ofRegulation S-K under the Securities Act of 1933 and the Securities Exchange Act of 1934, certain schedulesto the SAPA were not filed, and the SAPA briefly identifies the contents of these schedules. Image SensingSystems, Inc. hereby agrees to furnish supplementally a copy of any omitted schedules to the Securitiesand Exchange Commission upon its request), incorporated by reference to Exhibit 2.1 to ISS’ QuarterlyReport on Form 10-Q for the quarter ended June 30, 2015 (File No. 0-26056).3(i).1Restated Articles of Incorporation of ISS, incorporated by reference to Exhibit 3.1 to ISS’ RegistrationStatement on Form SB‑2 (Registration No. 33‑90298C) filed on March 15, 1995, as amended (RegistrationStatement).3(i).2Articles of Amendment to Articles of Incorporation of ISS, incorporated by reference to Exhibit 3.2 to ISS’Quarterly Report on Form 10‑QSB for the quarter ended June 30, 2001 (File No. 0-26056).3(i).3Certificate of Designation amending the Articles of Incorporation of Image Sensing Systems, Inc. as filedwith the Minnesota Secretary of State on June 6, 2013, incorporated by reference to Exhibit 3.1 to theCompany’s Current Report on Form 8-K dated June 6, 2013 (File No. 0-26056).3(ii)Bylaws of ISS, incorporated by reference to Exhibit 3(ii) to ISS’ Quarterly Report on Form 10-Q for thequarter ended September 30, 2011 (File No. 0-26056).4.1Specimen form of ISS’ common stock certificate, incorporated by reference to Exhibit 4.1 to ISS’Registration Statement.4.2Rights Agreement dated as of June 6, 2013, by and between ISS and Continental Stock Transfer & TrustCompany, as rights agent, incorporated by reference to Exhibit 4.1 to the Company’s Current Report onForm 8-K dated June 6, 2013 (File No. 0-26056).4.3First Amendment to Rights Agreement dated as of August 23, 2016, by and between ISS and ContinentalStock Transfer & Trust Company, as rights agent, incorporated by reference to Exhibit 4.1 to theCompany’s Current Report on Form 8-K dated August 23, 2016 (File No. 0-26056).10.1Form of Distributor Agreement, incorporated by reference to Exhibit 10.1 to ISS’ Registration Statement.10.2*Benefit Agreement dated as of July 28, 2014 between ISS and Richard A. Ehrich incorporated by referenceto Exhibit 10.2 to the Company’s Current Report on Form 8-K dated June 24, 2016 (File No. 0-26056).10.3Amendment VII to Office Lease Agreement dated April 26, 2007 by and between ISS and Spruce TreeCentre L.L.P., incorporated by reference to Exhibit 10.11 to ISS’ Annual Report on Form 10‑K for the yearended December 31, 2007 (File No. 0-26056) (2007 Form 10‑K).10.4Modification to Manufacturing, Distributing and Technology License Agreement dated September 1, 2000by and between ISS and Econolite Control Products, Inc. (Econolite), incorporated by reference to Exhibit10.12 to ISS’ 2007 Form 10‑K.10.5*Image Sensing Systems, Inc. 2005 Stock Incentive Plan, incorporated by reference to Appendix A to ISS’proxy statement filed with the SEC on April 19, 2005 (File No. 0-26056). 53 10.6Manufacturing, Distributing and Technology License Agreement dated June 11, 1991 by and between ISSand Econolite Control Products, Inc. (Econolite), incorporated by reference to Exhibit 10.1 to theRegistration Statement.10.7Extension and Second Modification to License Agreement dated July 13, 2001 by and between ISS andEconolite, incorporated by reference to Exhibit 10.12 to ISS’ Annual Report on Form 10‑KSB for the yearended December 31, 2001 (File No. 0-26056) (2001 Form 10-KSB).10.8Office Lease Agreement dated November 24, 1998 by and between ISS and Spruce Tree Centre L.L.P.,incorporated by reference to Exhibit 10.18 to ISS’ Annual Report on Form 10‑KSB for the year endedDecember 31, 1998 (File No. 0-26056).10.9Production Agreement dated February 14, 2002 by and among ISS, Wireless Technology, Inc. andEconolite, incorporated by reference to Exhibit 10.20 to ISS’ 2001 Form 10‑KSB.10.10Extension and Third Modification to Manufacturing Distributing and Technology License Agreementdated July 3, 2008 by and between ISS and Econolite, incorporated by reference to Exhibit 10.1 to ISS’Current Report on Form 8‑K dated July 3, 2008 (File No. 0-26056).10.11Fourth Modification to Manufacturing, Distributing and Technology License Agreement dated as ofDecember 15, 2011 by and between ISS and Econolite, incorporated by reference to Exhibit 10.1 to ISS’Current Report on Form 8-K dated December 15, 2011 (File No. 0-26056).10.12Lease dated February 1, 2010 between Image Sensing Systems UK Limited and Nortrust Nominees Limited,incorporated by reference to Exhibit 10.1 to ISS’ Quarterly Report on Form 10‑Q for the quarter ended June30, 2010 (File No. 0-26056).10.13**Amendment XIII to Office Lease Agreement by and between Spruce Tree Centre L. L. P. and Image SensingSystems dated as of February 18, 2014, incorporated by reference to Exhibit 10.26 to ISS’ Annual Report onForm 10-K for the year ended December 31, 2013 (File No. 0-26056).10.14*Amended and Restated Employment Agreement dated as of April 22, 2014 by and between ISS and Dale E.Parker, incorporated by reference to Exhibit 10.2 to ISS’ Quarterly Report on Form 10-Q for the quarterended March 31, 2014 (File No. 0-26056) (March 31, 2014 Form 10-Q).10.15Commitment Letter effective as of May 12, 2014 by and between ISS and Alliance Bank, incorporated byreference to Exhibit 10.3 to ISS’ March 31, 2014 Form 10-Q.10.16Security Agreement dated as of May 12, 2014 by and between ISS and Alliance Bank, incorporated byreference to Exhibit 10.4 to ISS’ March 31, 2014 Form 10-Q.10.17Promissory Note dated as of May 12, 2014 in the original principal amount of $5,000,000 issued by ISS toAlliance Bank, incorporated by reference to Exhibit 10.5 to ISS’ March 31, 2014 Form 10-Q.10.18Amendment to Commitment Letter dated as of March 16, 2015 by and between ISS and Alliance Bank,incorporated by reference to Exhibit 10.31 to ISS’ Annual Report on Form 10-K for the year endedDecember 31, 2014.10.19Amendment to Promissory Note effective as of March 16, 2015 issued by ISS to Alliance Bank,incorporated by reference to Exhibit 10.32 to ISS’ Annual Report on Form 10-K for the year endedDecember 31, 2014. 54 10.20*Image Sensing Systems, Inc. 2014 Stock Option and Incentive Plan, incorporated by references to Exhibit Ato ISS’ Proxy Statement dated April 17, 2014.10.21*Employment Agreement dated as of June 27, 2016 between ISS and Chad A. Stelzig, incorporated byreference to Exhibit 10.1 to ISS’ Current Report on Form 8-K dated June 24, 2016 (File No. 0-26056).10.22*Employment Agreement dated as of September 2, 2016 by and between ISS and Richard Ehrich,incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K dated September 2, 2016 (FileNo. 000-26056).16.1Letter from Grant Thornton LLP dated July 12, 2016 to the Securities and Exchange Commission,incorporated by reference to Exhibit 16.1 to the Company’s Current Report on Form 8-K dated July 10, 2016(File No. 0-26056).21List of Subsidiaries of ISS (filed herewith).23.1Consent of Independent Registered Public Accounting Firm (filed herewith).24Power of Attorney (included on signature page).31.1Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002 (filedherewith).31.2Certification of Interim Chief Financial Officer Pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002(filed herewith).32.1Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002 (filedherewith).32.2Certification of Interim Chief Financial Officer Pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002(filed herewith).99.1Extension of Modification to Manufacturing, Distributing and Technology License Agreement dated May31, 2002 by and between ISS and Econolite, incorporated by reference to Exhibit 99.2 to ISS’ 2007 Form10‑K.99.2Letter agreement dated June 19, 1997 by and between ISS and Econolite, incorporated by reference toExhibit 99.3 to ISS’ 2007 Form 10‑K.99.3License and Distribution Agreement dated January 2, 2011 by and among ISS, Econolite and EconoliteCanada Inc., incorporated by reference to Exhibit 99.3 to ISS’ Annual Report on Form 10-K for the yearended December 31, 2011 (File No. 0-26056). * Management contract or compensatory plan or arrangement.** Portions of this exhibit are treated as confidential pursuant to a request for confidential treatment filed by ISS with the SEC. Copies of all exhibits not attached will be furnished without charge upon written request to the Company at the address set forth onthe inside back cover page of this Annual Report on Form 10-K.55Exhibit 21List of Subsidiaries of Image Sensing Systems, Inc.Name of Subsidiaries Jurisdiction of Incorporation or OrganizationImage Sensing Systems HK Limited Hong Kong Special Administrative Region of the People’sRepublic of ChinaImage Sensing Systems (Shenzhen) Limited China (PRC)Image Sensing Systems EMEA Limited United KingdomImage Sensing Systems Europe Limited United KingdomImage Sensing Systems Holdings Limited United KingdomImage Sensing Systems Europe Limited SP.Z.O.O. PolandImage Sensing Systems Germany, GmbH GermanyImage Sensing Systems Spain SLU SpainImage Sensing Systems Canada Ltd. Canada Exhibit 23.1CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We have issued our report dated March 14, 2018, with respect to the consolidated financial statements included in the AnnualReport of Image Sensing Systems, Inc. on the Form 10-K for the years ended December 31, 2017 and 2016. We hereby consent tothe incorporation by reference of said report in the Registration Statements of Image Sensing Systems, Inc. on Forms S-3 (File No.333-162810, effective November 18, 2009 and file no. 333-41706, effective July 19, 2000) and on Forms S-8 (File No. 333-195923,effective May 13, 2014; File No. 333-167496, effective June 14, 2010; File No. 333-165303, effective March 8, 2010; File No. 333-152117, effective July 3, 2008; File No. 333-142449, effective April 30, 2007; File No. 333-82546, effective February 11, 2002; File No.333-861169, effective August 30, 1999 and File No. 333-09289, effective July 31, 1996). /s/ Boulay PLLPMinneapolis, MinnesotaMarch 14, 2018Exhibit 31.1CERTIFICATION PURSUANT TOSECTION 302 OF THE SARBANES‑OXLEY ACT OF 2002I, Chad A. Stelzig, certify that:1. I have reviewed this annual report on Form 10‑K of Image Sensing Systems, Inc.;2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material factnecessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect tothe period covered by this report;3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in allmaterial respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in thisreport;4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls andprocedures (as defined in Exchange Act Rules 13a‑15(e) and 15d‑15(e)) and internal control over financial reporting (as defined in Exchange ActRules 13a‑15(f) and 15d‑15(f)) for the registrant and have:(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to bedesigned under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, ismade known to us by others within those entities, particularly during the period in which this report is being prepared;(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting tobe designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparationof financial statements for external purposes in accordance with generally accepted accounting principles;(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report ourconclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this reportbased on such evaluation; and(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred duringthe registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materiallyaffected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control overfinancial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing theequivalent functions):(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financialreporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financialinformation; and(b) Any fraud, whether or not material, that involves management or other employees who have a significant role inthe registrant’s internal control over financial reporting.Date: March 14, 2018/s/ Chad A. Stelzig Name: Chad A. StelzigTitle: President and Chief Executive Officer Exhibit 31.2CERTIFICATION PURSUANT TO SECTION 302 OF THE SARBANES‑OXLEY ACT OF 2002I, Todd C. Slawson, certify that:1. I have reviewed this annual report on Form 10‑K of Image Sensing Systems, Inc.;2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material factnecessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect tothe period covered by this report;3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in allmaterial respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in thisreport;4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls andprocedures (as defined in Exchange Act Rules 13a‑15(e) and 15d‑15(e)) and internal control over financial reporting (as defined in Exchange ActRules 13a‑15(f) and 15d‑15(f)) for the registrant and have:(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to bedesigned under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, ismade known to us by others within those entities, particularly during the period in which this report is being prepared;(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting tobe designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparationof financial statements for external purposes in accordance with generally accepted accounting principles;(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report ourconclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this reportbased on such evaluation; and(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred duringthe registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materiallyaffected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control overfinancial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing theequivalent functions):(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financialreporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financialinformation; and(b) Any fraud, whether or not material, that involves management or other employees who have a significant role inthe registrant’s internal control over financial reporting.Date: March 14, 2018/s/ Todd C. Slawson Name: Todd C. SlawsonTitle: Interim Chief Financial Officer Exhibit 32.1CERTIFICATION PURSUANT TO18 U.S.C. §1350,AS ADOPTED PURSUANT TOSECTION 906 OF THE SARBANES‑OXLEY ACT OF 2002In connection with the Annual Report on Form 10‑K of Image Sensing System, Inc. (the “Company”) for the fiscal year endedDecember 31, 2017, as filed with the Securities and Exchange Commission (the “Report”), I, Chad A. Stelzig, President, Chief ExecutiveOfficer of the Company, certify, pursuant to 18 U.S.C. §1350, as adopted pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002,that:1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and2. The information contained in the Report fairly presents, in all material respects, the financial condition and results ofoperations of the Company. /s/ Chad A. Stelzig Chad A. Stelzig President and Chief Executive OfficerMarch 14, 2018Exhibit 32.2CERTIFICATION PURSUANT TO18 U.S.C. §1350,AS ADOPTED PURSUANT TOSECTION 906 OF THE SARBANES‑OXLEY ACT OF 2002In connection with the Annual Report on Form 10‑K of Image Sensing System, Inc. (the “Company”) for the fiscal year endedDecember 31, 2017, as filed with the Securities and Exchange Commission (the “Report”), I, Todd C. Slawson, Interim Chief FinancialOfficer of the Company, certify, pursuant to 18 U.S.C. §1350, as adopted pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002,that:1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and2. The information contained in the Report fairly presents, in all material respects, the financial condition and results ofoperations of the Company. /s/ Todd C. Slawson Todd C. SlawsonInterim Chief Financial OfficerMarch 14, 2018Corporate Information Directors and Officers Andrew T. Berger*†‡ Executive Chairman of the Board James W. Bracke*†‡ Director Geoffrey Davis Director Richard Ehrich Chief Financial Officer Paul F. Lidsky*†‡ Director Chad Stelzig President and Chief Executive Officer * Member of audit committee † Member of compensation and stock option committee ‡ Member of nominating and corporate governance committee Annual Shareholders’ Meeting The annual meeting of the shareholders will be held on May 1, 2018, at 9:00 am CDT at Image Sensing Systems, 1600 University Avenue West, Suite 500, St. Paul, MN 55104. Legal Counsel Winthrop & Weinstine, P.A. Independent Registered Public Accounting Firm Boulay PLLP Stock Transfer Agent Continental Stock Transfer & Trust Company Location Corporate Headquarters 500 Spruce Tree Centre 1600 University Avenue West St. Paul, Minnesota 55104-3825 A copy of the Company’s Form 10-K, filed with the Securities and Exchange Commission, may be obtained without charge upon written request to the Company. A copy of this 2017 Annual Report to Shareholders can be obtained from our Web site: imagesensing.com Price Range for Common Stock The Company’s common stock trades on The Nasdaq Capital Market tier of The Nasdaq Stock Market under the symbol ISNS. The table below presents the price range of the high and low trading prices for the Company’s common stock for each period indicated as reported by Nasdaq. Quarter First Second Third Fourth 2017 2016 High $ 3.90 3.70 3.85 3.55 Low $ 2.80 2.85 2.65 3.85 High $ 3.43 2.90 4.09 3.98 Low $ 2.63 2.15 2.24 3.55 Image Sensing Systems, Inc. 1600 University Avenue West, Suite 500, St. Paul, Minnesota 55104 Phone +1.651.603.7700 Fax +1.651.305.6402 imagesensing.com 

Continue reading text version or see original annual report in PDF format above