NOTE 1 – GENERAL

Description of Business

Transcat, Inc. (“Transcat” or the “Company”) is a leading provider of accredited calibration and laboratory instrument services and a value-added distributor of professional grade handheld test, measurement and control instrumentation. The Company is focused on providing services and products to highly regulated industries, particularly life science, which includes companies in the pharmaceutical, medical device and biotechnology industries. Additional industries served include industrial manufacturing, energy and utilities, chemical manufacturing and other industries that require accuracy in their processes and confirmation of the capabilities of their equipment.

Principles of Consolidation

The Consolidated Financial Statements of Transcat include the accounts of Transcat. and the Company's wholly-owned subsidiaries, Transcat Canada Inc., United Scale & Engineering Corporation, WTT Real Estate Acquisition, LLC and Anacor Acquisition, LLC. All intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of Transcat's Consolidated Financial Statements in accordance with accounting principles generally accepted in the United States (“GAAP”) requires that the Company make estimates and assumptions that affect the reported amounts of assets and liabilities, and the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Significant estimates and assumptions are used for, but not limited to, allowance for doubtful accounts and returns, inventory reserves, estimated levels of achievement for performance-based restricted stock units, fair value of stock options, depreciable lives of fixed assets, estimated lives of major catalogs and intangible assets, and the valuation of assets acquired and liabilities assumed in business acquisitions. Future events and their effects cannot be predicted with certainty; accordingly, accounting estimates require the exercise of judgment. The accounting estimates used in the preparation of the Consolidated Financial Statements will change as new events occur, as more experience is acquired, as additional information is obtained, and as the operating environment changes. Actual results could differ from those estimates. Such changes and refinements in estimation methodologies are reflected in reported results of operations in the period in which the changes are made and, if material, their effects are disclosed in the Notes to the Consolidated Financial Statements.

Fiscal Year

Transcat operates on a 52/53 week fiscal year, ending the last Saturday in March. In a 52-week fiscal year, each of the four quarters is a 13-week period. In a 53-week fiscal year, the last quarter is a 14-week period. The fiscal years ended March 26, 2016 (“fiscal year 2016”) and March 28, 2015 (“fiscal year 2015”) consisted of 52 weeks.

Accounts Receivable

Accounts receivable represent amounts due from customers in the ordinary course of business. These amounts are recorded net of the allowance for doubtful accounts and returns in the Consolidated Balance Sheets. The allowance for doubtful accounts is based upon the expected collectability of accounts receivable. Transcat applies a specific formula to its accounts receivable aging, which may be adjusted on a specific account basis where the formula may not appropriately reserve for loss exposure. After all attempts to collect a receivable have failed, the receivable is written-off against the allowance for doubtful accounts. The returns reserve is calculated based upon the historical rate of returns applied to revenues over a specific timeframe. The returns reserve will increase or decrease as a result of changes in the level of revenue and/or the historical rate of returns.

Inventory

Inventory consists of products purchased for resale and is valued at the lower of cost or market. Costs are determined using the average cost method of inventory valuation. Inventory is reduced by a reserve for items not saleable at or above cost by applying a specific loss factor, based on historical experience, to specific categories of inventory. The Company evaluates the adequacy of the reserve on a quarterly basis. At March 26, 2016 and March 28, 2015, the Company had reserves for inventory losses totaling $0.5 million and $0.4 million, respectively.

Property and Equipment, Depreciation and Amortization

Property and equipment are stated at cost. Depreciation and amortization are computed primarily under the straight-line method over the following estimated useful lives:

	Years
Machinery, Equipment and Software	2 – 20
Rental Equipment	8 – 15
Furniture and Fixtures	3 – 10
Leasehold Improvements	2 – 10
Buildings	39

Property and equipment determined to have no value are written off at their then remaining net book value. Transcat capitalizes certain costs incurred in the procurement and development of computer software used for internal purposes. Leasehold improvements are amortized under the straight-line method over the estimated useful life or the lease term, whichever is shorter. Maintenance and repairs are expensed as incurred. See Note 2 for further information on property and equipment.

Business Acquisitions

The Company applies the acquisition method of accounting for business acquisitions. Under the acquisition method, the purchase price of an acquisition is allocated to the underlying tangible and intangible assets acquired and liabilities assumed based on their respective fair values at the date of acquisition. The Company uses a valuation hierarchy, as further described under Fair Value of Financial Instruments below, and typically utilizes independent third-party valuation specialists to determine the fair values used in this allocation. Purchase price allocations are subject to revision within the measurement period, not to exceed one year from the date of acquisition. Administration costs to acquire a business may include, but are not limited to, fees for accounting, legal and valuation services, and are recorded as incurred in the Consolidated Statement of Income.

Goodwill and Intangible Assets

Goodwill represents the excess of the purchase price over the values assigned to the underlying net assets of an acquired business. Other intangible assets, namely customer base and covenants not to compete, represent an allocation of purchase price to identifiable intangible assets of an acquired business. The Company estimates the fair value of its reporting units using the fair market value measurement requirement.

The Company tests goodwill for impairment on an annual basis, or immediately if conditions indicate that such impairment could exist. Other intangible assets are evaluated for impairment when events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable. The Company determined that no impairment was indicated as of March 26, 2016 and March 28, 2015. A summary of changes in the Company's goodwill and intangible assets is as follows:

	Goodwill								Intangible Assets
	Distribution		Service			Total			Distribution			Service			Total
Net Book Value as of March 29, 2014	$	8,031	$	9,353		$	17,384		$	318		$	2,333		$	2,651
Additions (see Note 9)		—		4,392			4,392			—			2,293			2,293
Amortization		—		—			—			(115	)		(877	)		(992	)
Currency Translation Adjustment		—		(853	)		(853	)		—			(398	)		(398	)
Net Book Value as of March 28, 2015		8,031		12,892			20,923			203			3,351			3,554
Additions (see Note 9)		—		8,421			8,421			—			6,126			6,126
Amortization		—		—			—			(79	)		(1,255	)		(1,334	)
Currency Translation Adjustment		—		(232	)		(232	)		—			(137	)		(137	)
Net Book Value as of March 26, 2016	$	8,031	$	21,081		$	29,112		$	124		$	8,087		$	8,211

The intangible assets are being amortized on an accelerated basis over their estimated useful life of up to 10 years. Amortization expense relating to intangible assets is expected to be $2.0 million in fiscal year 2017, $1.6 million in fiscal year 2018, $1.3 million in fiscal year 2019, $1.0 million in fiscal year 2020 and $0.8 million in fiscal year 2021.

Catalog Costs

Transcat capitalizes the cost of each Master Catalog mailed and amortizes the cost over the respective catalog's estimated productive life. The Company reviews response results from catalog mailings on a continuous basis, and if warranted, modifies the period over which costs are recognized. The Company amortizes the cost of each Master Catalog over an eighteen- month period and amortizes the cost of each catalog supplement over a three-month period. Total unamortized catalog costs, included as a component of prepaid expenses and other current assets on the Consolidated Balance Sheets, were $0.1 million and $0.2 million as of March 26, 2016 and March 28, 2015, respectively.

Deferred Taxes

Transcat accounts for certain income and expense items differently for financial reporting purposes than for income tax reporting purposes. Deferred taxes are provided in recognition of these temporary differences. If necessary, a valuation allowance on net deferred tax assets is provided for items for which it is more likely than not that the benefit of such items will not be realized based on an assessment of both positive and negative evidence. See Note 4 for further discussion on income taxes.

Fair Value of Financial Instruments

Transcat has determined the fair value of debt and other financial instruments using a valuation hierarchy. The hierarchy, which prioritizes the inputs used in measuring fair value, consists of three levels. Level 1 uses observable inputs such as quoted prices in active markets; Level 2 uses inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, which is defined as unobservable inputs in which little or no market data exists, requires the Company to develop its own assumptions. The carrying amount of debt on the Consolidated Balance Sheets approximates fair value due to variable interest rate pricing, and the carrying amounts for cash, accounts receivable and accounts payable approximate fair value due to their short-term nature. Investment assets, which fund the Company's non-qualified deferred compensation plan, consist of mutual funds and are valued based on Level 1 inputs. At March 26, 2016 and March 28, 2015, investment assets totaled $0.7 million and $0.9 million, respectively, and are included as a component of other assets (non-current) on the Consolidated Balance Sheets.

Stock-Based Compensation

The Company measures the cost of services received in exchange for all equity awards granted, including stock options and restricted stock units, based on the fair market value of the award as of the grant date. The Company records compensation cost related to unvested equity awards by recognizing, on a straight line basis, the unamortized grant date fair value over the remaining service period of each award. Excess tax benefits from the exercise of equity awards are presented in the Consolidated Statements of Cash Flows as a financing activity. Excess tax benefits are realized benefits from tax deductions for exercised awards in excess of the deferred tax asset attributable to stock-based compensation costs for such awards. The Company did not capitalize any stock-based compensation costs as part of an asset. The Company estimates forfeiture rates based on its historical experience. During fiscal years 2016 and 2015, the Company recorded non-cash stock-based compensation cost in the amount of $0.4 million and $0.5 million, respectively, in the Consolidated Statements of Income.

The estimated fair value of options granted in fiscal year 2015 was calculated using the Black-Scholes-Merton pricing model (“Black-Scholes”), which produced a weighted average fair value of $1.41 per share. No options were granted during fiscal year 2016.

The following are the weighted average assumptions used in the Black-Scholes model:

	FY 2015
Expected term		2 years
Annualized volatility rate		29.7	%
Risk-free rate of return		0.4	%
Dividend rate		0.0	%

The Black-Scholes model incorporates assumptions to value stock-based awards. The risk-free rate of return for periods within the contractual life of the award was based on a zero-coupon U.S. government instrument over the contractual term of the equity instrument. Expected volatility was based on historical volatility of the Company's stock. The expected option term represented the period that stock-based awards are expected to be outstanding based on the simplified method, which averages an award's weighted-average vesting period and expected term for "plain vanilla" share options. Options are considered to be "plain vanilla" if they have the following basic characteristics: granted "at-the-money"; exercisability is conditioned upon service through the vesting date; termination of service prior to vesting results in forfeiture; limited exercise period following termination of service; and options are non-transferable and non-hedgeable. The Company will continue to use the simplified method until it has the historical data necessary to provide a reasonable estimate of expected life.

Revenue Recognition

Distribution sales are recorded when an order's title and risk of loss transfers to the customer. The Company recognizes the majority of its Service revenue based upon when the calibration or other activity is performed and then shipped and/or delivered to the customer. Some Service revenue is generated from managing customers' calibration programs in which the Company recognizes revenue in equal amounts at fixed intervals. The Company generally invoices its customers for freight, shipping, and handling charges. Provisions for customer returns are provided for in the period the related revenue is recorded based upon historical data.

Vendor Rebates

Vendor rebates are generally based on specified cumulative level of purchases and/or incremental distribution sales and are recorded as a reduction of cost of distribution sales. Purchase rebates are calculated and recorded quarterly based upon the volume of purchases with specific vendors during the quarter. Point of sale rebate programs that are based on year-over-year sales performance on a calendar year basis are recorded as earned, on a quarterly basis, based upon the expected level of annual achievement. Point of sale rebate programs that are based on year-over-year sales performance on a quarterly basis are recorded as earned in the respective quarter. The Company recorded vendor rebates of $0.9 million and $0.3 million in fiscal years 2016 and 2015, respectively.

Cooperative Advertising Income

Transcat records cash consideration received from a vendor for advertising as a reduction of cost of distribution sales as the related inventory is sold. The Company recorded consideration in the amount of $2.0 million and $2.2 million in fiscal years 2016 and 2015, respectively.

Advertising Costs

Advertising costs, other than catalog costs, are expensed as they are incurred and are included in Selling, Marketing and Warehouse Expenses in the Consolidated Statements of Income. Advertising costs were approximately $1.2 million and $1.6 million in fiscal years 2016 and 2015, respectively.

Shipping and Handling Costs

Freight expense and direct shipping costs are included in the cost of revenue. These costs totaled approximately $1.8 million in each of fiscal years 2016 and 2015. Direct handling costs, the majority of which represent direct compensation of employees who pick, pack, and prepare merchandise for shipment to customers, are reflected in selling, marketing and warehouse expenses. Direct handling costs were $0.9 million in fiscal years 2016 and 2015.

Foreign Currency Translation and Transactions

The accounts of Transcat Canada Inc. are maintained in the local currency and have been translated to U.S. dollars. Accordingly, the amounts representing assets and liabilities have been translated at the period-end rates of exchange, and related revenue and expense accounts have been translated at an average rate of exchange during the period. Gains and losses arising from translation of Transcat Canada Inc.'s financial statements into U.S. dollars are recorded directly to the accumulated other comprehensive income (loss) component of shareholders' equity.

Transcat records foreign currency gains and losses on business transactions denominated in foreign currency. The net foreign currency loss was $0.1 million in fiscal year 2015 and less than $0.1 million in fiscal year 2016. The Company continually utilizes short-term foreign exchange forward contracts to reduce the risk that its earnings would be adversely affected by changes in currency exchange rates. The Company does not apply hedge accounting and therefore the net change in the fair value of the contracts, which totaled a net gain of $0.4 million in fiscal year 2016 and a net gain of $0.9 million in 2015, was recognized as a component of other expense in the Consolidated Statements of Income. The change in the fair value of the contracts is offset by the change in fair value on the underlying accounts receivables denominated in Canadian dollars being hedged. On March 26, 2016, the Company had a foreign exchange contract, which matured in April 2016, outstanding in the notional amount of $5.7 million. This contract was subsequently renewed and remains in place. The Company does not use hedging arrangements for speculative purposes.

Other Comprehensive Income

Comprehensive income is composed of currency translation adjustments, unrecognized prior service costs, net of tax, and unrealized gains or losses on other assets, net of tax. At March 26, 2016, accumulated other comprehensive income consisted of cumulative currency translation losses of $0.3 million, unrecognized prior service costs, net of tax, of $0.1 million and an unrealized gain on other assets, net of tax, of less than $0.1 million. At March 28, 2015, accumulated other comprehensive income consisted of cumulative currency translation losses of less than $0.1 million, unrecognized prior service costs, net of tax, of $0.1 million and an unrealized gain on other assets, net of tax, of less than $0.1 million.

Earnings Per Share

Basic earnings per share of common stock are computed based on the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share of common stock reflect the assumed conversion of stock options and unvested restricted stock units using the treasury stock method in periods in which they have a dilutive effect. In computing the per share effect of assumed conversion, funds which would have been received from the exercise of options and unvested restricted stock units and the related tax benefits are considered to have been used to purchase shares of common stock at the average market prices during the period, and the resulting net additional shares of common stock are included in the calculation of average shares of common stock outstanding.

For each of fiscal years 2016 and 2015, the net additional common stock equivalents had a $.02 per share effect on the calculation of dilutive earnings per share. The average shares outstanding used to compute basic and diluted earnings per share are as follows:

	For the Years Ended
	March 26,	March 28,
	2016	2015
Average Shares Outstanding – Basic	6,887	6,798
Effect of Dilutive Common Stock Equivalents	234	261
Average Shares Outstanding – Diluted	7,121	7,059
Anti-dilutive Common Stock Equivalents	10	10

Shareholders' Equity

During each of fiscal years 2016 and 2015, the Company repurchased and subsequently retired less than 0.1 million shares of its common stock.

Recently Issued Accounting Pronouncements

In March 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-09, Compensation-Stock Compensation (Topic 718) - Improvements to Employee Share-Based Payment Accounting. ASU 2016-09 changes how companies account for certain aspects of share-based payment awards to employees, including the accounting for income taxes, forfeitures and statutory tax withholding requirements, as well as classification in the statement of cash flows. ASU 2016-09 is effective for annual periods beginning after December 15, 2016. Early adoption is permitted in any annual or interim period. If an entity early adopts in an interim period, any adjustments should be reflected as of the beginning of fiscal year that includes that interim period and the entity must adopt all of the amendments from ASU 2016-09 in the same period. The Company expects to adopt this ASU in the first quarter of fiscal year 2017 and does not expect adoption to have a material impact on the Consolidated Financial Statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). This ASU indicates that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which it expects to be entitled in exchange for those goods or services. ASU 2014-09 permits the use of either the retrospective or cumulative effect transition method. In August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with Customers (Topic 606) - Deferral of the Effective Date, which deferred the effective date of ASU 2014-09 to annual reporting periods beginning after December 15, 2017, with earlier application permitted as of annual reporting periods beginning after December 15, 2016. In March 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customers (Topic 606) - Principal versus Agent Considerations, to clarify the implementation guidance on principal versus agent. In April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers (Topic 606) - Identifying Performance Obligations and Licensing, which clarifies the identifying performance obligations and licensing implementation guidance. The Company is currently evaluating the impact of adopting these ASU's and the methods of adoption; however, the Company does not expect adoption of these ASU's to have a material impact on its Consolidated Financial Statements. See Note 1 “Revenue Recognition” for a description of the Company's current revenue recognition policy.

In February 2016, the FASB issued ASU 2016-02 to Topic 842, Leases. This ASU requires companies to recognize all leases as assets and liabilities on the consolidated balance sheet. Under this ASU, there continues to be a differentiation between finance leases and operating leases. As a result, the recognition, measurement, and presentation of expenses and cash flows arising from a lease have not significantly changed from previous GAAP. However, the principal difference from previous guidance is that the lease assets and lease liabilities arising from operating leases should be recognized on the Consolidate Balance Sheet. This ASU is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Earlier adoption is permitted. The Company is currently evaluating the impact that the adoption of this ASU will have on its Consolidated Financial Statements.

In November 2015, the FASB issued 2015-17 to Topic 740, Income Taxes. This ASU requires entities to record all deferred tax liabilities and assets as noncurrent in the Consolidated Balance Sheet. This ASU is effective for financial statements issued for annual periods beginning after December 15, 2016 and may be applied either prospectively to all deferred tax liabilities and assets or retrospectively to all periods presented. Early adoption of this ASU is permitted. The Company adopted this ASU in the fourth quarter of fiscal year 2016 on a prospective basis. This adoption did not have a material impact on the Consolidated Financial Statements.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330) -Simplifying the Measurement of Inventory. ASU 2015-11 requires inventory that is recorded using the first-in, first-out method to be measured at the lower of cost or net realizable value. ASU 2015-11 is effective for annual and interim periods beginning after December 15, 2016, and should be applied prospectively with early adoption permitted at the beginning of an interim or annual reporting period. The Company does not expect adoption of this ASU to have a material impact on its Consolidated Financial Statements.

Reclassification of Amounts

Certain reclassifications of financial information for prior fiscal years have been made to conform to the presentation for the current fiscal year.

Subsequent Events

On March 31, 2016, the Company entered into Amendment 3 to its Credit Agreement (“Amendment 3”), which amends the Credit Agreement to add a $10.0 million term loan, expanding total borrowings available to $40.0 million. Amendment 3 also amends the Credit Agreement to allow borrowings for business acquisitions of up to $20.0 million for fiscal year 2017 and $15.0 million for each fiscal year thereafter. The term loan matures on March 31, 2021 and is considered a LIBOR Loan. Amendment 3 also increased the allowable leverage ratio to 3.0 to 1.0, from 2.75 to 1.0.

Required repayments under the term loan began in April 2016 in the amount of $0.1 million per month plus interest. Annual repayment amounts of $1.4 million are required in fiscal years 2017 through 2021 with a $3.0 million repayment required in fiscal year 2022.

On April 1, 2016, the Company acquired substantially all of the assets of Excalibur, a California based provider of calibration services, new and used test equipment, and product rentals for approximately $7.4 million, of which $6.6 million was paid at closing. The remainder of the purchase price was held back under typical indemnification provisions and is expected to be paid-out in the fourth quarter of fiscal year 2017.

The allocation of the Excalibur purchase price to the fair value of the net assets acquired and pro forma financial results were not yet available at the time this report was filed due to the proximity of the filing date to the date of acquisition. Goodwill equal to the amount of purchase price paid in excess of the fair value of the underlying net assets of Excalibur is expected to be recorded during the first quarter of fiscal year 2017. Acquisition costs related to this acquisition of approximately $0.1 million were incurred and recorded as administrative expenses in the Consolidated Statement of Income in fiscal year 2016. The results of operations of this acquisition will be included with the results of the Company from the date of acquisition.