ITEM 1A. Risk Factors
Before deciding to purchase, hold or sell our common stock,
you should carefully consider the risks described below in addition to the other information contained in this Quarterly Report
on Form 10-Q and in our other filings with the SEC, including subsequent reports on Forms 10-Q and 8-K. The risks and uncertainties
described below are not the only ones we face. Additional risks and uncertainties not presently known to us or that we currently
deem immaterial may also affect our business. If any of these known or unknown risks or uncertainties actually occurs with material
adverse effects on Polar Power, our business, financial condition, results of operations and/or liquidity could be seriously harmed.
In that event, the market price for our common stock will likely decline, and you may lose all or part of your investment.
Risks Related to Our Business and Industry
We are dependent on a limited number of customers.
Currently, the majority of our revenues
are derived from one customer. Revenues from our largest customer, Verizon Wireless, comprised 92% of our total revenues for the
three months ended March 31, 2017 and 91% and 81% of our total revenues for the years ended December 31, 2016 and 2015, respectively.
We expect this trend to continue until we receive orders from two Tier 1 telecommunications companies that recently granted us
approved supplier status. We expect to obtain orders from these new customers within the next two to four quarters. An unfavorable
change in our business relationship with Verizon Wireless, our inability to obtain purchase orders from our new customers or delays
in customer implementation and deployment of our products, could have a material adverse effect on results of operation and financial
condition.
To date, we have derived substantially
all of our revenue from sales of our DC base power systems to Verizon Wireless within the telecommunications market. Our efforts
to expand our customer base, our product portfolio or markets within which we operate may not succeed, and may reduce our revenue
growth rate.
To date, we have derived substantially all
of our revenue from sales of our DC base power systems to Verizon Wireless within the telecommunications market. Recently, we were
granted approved supplier status from two additional Tier 1 wireless carriers. Any factor adversely affecting sales of these power
systems to Verizon Wireless, our new Tier 1 telecommunications customers, or to other customers within this market, including market
acceptance, product competition, performance and reliability, reputation, price competition and economic and market conditions,
could adversely affect our business and results of operations. Our plan to invest in the development of higher capacity DC hybrid
solar systems to address data centers and other applications within the telecommunications market may not result in an anticipated
growth in sales and may reduce our revenue growth rate.
Many of our DC power systems involve long design and sales
cycles, which could have an adverse impact on our results of operations and financial performance.
The design and sales cycle for
our DC power systems, from initial contact with our potential customer to the shipments of our product, may be lengthy. Customers
generally consider a wide range of factors before making a purchase decision. Prior to purchasing our products, our customers often
require a significant technical review, tests and evaluations over long periods of time, assessments of competitive products and
approval at a number of management levels within their organization. During the time our customers are evaluating our products,
we may incur substantial sales and service, engineering and research and development expenses to customize our products to meet
customer’s application needs. We may also expend significant management efforts, increase manufacturing capacity, order long-lead-time
components or purchase significant amounts of components and other inventory prior to receiving an order. Even after this evaluation
process, a potential customer may not purchase our products.
The product development time
before our customer agrees to purchase our DC power systems can be considerable. Our process for developing an integrated solution
may require use of significant engineering resources, including design, prototyping, modeling, testing and application engineering.
The length of this cycle is influenced by many factors, including the difficulty of the technical specification and complexity
of the design and the customer’s procurement processes. A significant period may elapse between our investment of time and
resources in designing and developing a product for our customer and revenue from sales of that product. The length of this process
combined with unanticipated delays in the development cycle could materially affect results of operations and financial conditions.
We do not have long-term commitments for significant revenues
with most of our customers and may be unable to retain existing customers, attract new customers or replace departing customers
with new customers that can provide comparable revenues and profits.
Because we generally do not obtain firm,
long-term volume purchase commitments from our customers, most of our sales are derived from individual purchase orders. Although
we are an approved supplier to our telecommunications company customers, each company operates within multiple regions with each
region having independent purchasing decision making. Each region has the ability to decide whether or not to purchase from Polar
Power. Thus, we remain dependent upon securing new purchase orders from these customers in the future in order to sustain and grow
our revenues. As a result, there is no assurance that our revenues and business will grow in the future. Our failure to maintain
and expand our customer relationships could materially and adversely affect our business and results of operations.
The high concentration of our sales within the
telecommunications market could result in a significant reduction in sales and negatively affect our profitability if demand for
our DC power systems declines within this market.
We expect to be predominately focused on
the manufacturing, marketing and sales of DC power systems to telecommunications companies for the foreseeable future. We may be
unable to shift our business focus away from these activities. Accordingly, the emergence of new competing DC power products or
lower-cost alternative technologies, including AC power systems, may reduce the demand for our products. A downturn in the demand
for our DC power systems within the telecommunications market would likely materially and adversely affect our sales and profitability.
Any failure by management to properly manage
our expected growth could have a material adverse effect on our business, operating results and financial condition.
We expect that we will continue to grow
in the near future. The growth of our business will require significant investments of capital and management’s close attention.
Our strategy envisions a period of growth that may impose a significant burden on our administrative, financial, and operational
resources. If we experience difficulties in any of these areas, we may not be able to expand our business successfully or effectively
manage our growth. Our ability to effectively manage our growth will require us to substantially expand the capabilities of our
administrative and operational resources and to attract, train, manage and retain qualified management, engineers, and other personnel.
We may be unable to do so. Further, our failure to properly manage our expected growth could have a material adverse effect on
our ability to retain key personnel. In addition, our failure to successfully manage our growth could result in our sales not increasing
commensurately with our capital investments. Any failure by management to manage growth and to respond to changes in our business
could have a material adverse effect on our business, financial condition and results of operations.
The markets within which we compete are highly competitive.
Many of our competitors have greater financial and other resources than we do and one or more of these competitors could use their
greater financial and other resources to gain market share at our expense.
If our business continues to develop as
expected, we anticipate that we will continue to grow in the near future. Although we believe we have sufficient cash and cash
equivalents to grow our business over the next twelve to twenty-four months, if, due to capital constraints or otherwise, we are
unable to procure and timely fulfill our anticipated growing demand or future backlog, our customers and potential customers may
decide to purchase from our competitors. Also, some of our larger competitors may be willing to reduce prices and accept lower
margins in order to compete with us. In addition, we could face new competition from large international or domestic companies
with established industrial brands and distribution networks that enter our end markets. Demand for our products may also be affected
by our ability to respond to changes in design and functionality, to respond to downward pricing pressure as was the case during
the first quarter of 2017 during which we reduced prices on our DC power systems, and to provide shorter lead times for our products
than our competitors. If we are unable to respond successfully to these competitive pressures, we could lose market share, which
could have an adverse impact on our results. We cannot assure that we will be able to compete successfully in our markets, or compete
effectively against current and new competitors as our industry continues to evolve.
Rapid technological changes may prevent us from remaining
current with our technological resources and maintaining competitive product and service offerings.
The markets in which we and our customers
operate are characterized by rapid technological change, especially within the telecommunications market. Significant technological
changes could render our existing and potential new products, services and technology obsolete. Our future success will depend,
in large part, upon our ability to:
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effectively identify and develop leading energy efficient technologies;
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continue to develop our technical expertise;
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enhance our current products and services with new, improved and competitive technology; and
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respond to technological changes in a cost-effective and timely manner.
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If we are unable to successfully respond
to technological change or if we do not respond to it in a cost-effective and timely manner, then our business will be materially
and adversely affected. We cannot assure you that we will be successful in responding to changing technology. In addition, technologies
developed by others may render our products, services and technology uncompetitive or obsolete. Even if we do successfully respond
to technological advances, the integration of new technology may require substantial time and expense, and we cannot assure you
that we will succeed in adapting our products, services and technology in a timely and cost-effective manner.
If we are unable to continue to develop new
and enhanced products and services that achieve market acceptance in a timely manner, our competitive position and operating results
could be harmed.
Our future success will depend on our ability
to continue to develop new and enhanced DC power systems and related products and services that achieve market acceptance in a
timely and cost-effective manner. The markets in which we and our customers operate are characterized by frequent introductions
of new and enhanced products and services, evolving industry standards and regulatory requirements, government incentives and changes
in customer needs. The successful development and market acceptance of our products and services depends on a number of factors,
including:
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the changing requirements and preferences of the potential customers in our markets;
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the accurate prediction of market requirements, including regulatory issues;
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the timely completion and introduction of new products and services to avoid obsolescence;
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the quality, price and performance of new products and services;
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the availability, quality, price and performance of competing products and services;
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our customer service and support capabilities and responsiveness;
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the successful development of our relationships with existing and potential customers; and
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changes in industry standards.
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We may experience financial or technical
difficulties or limitations that could prevent us from introducing new or enhanced products or services. Furthermore, any of these
new or enhanced products and services could contain problems that are discovered after they are introduced. We may need to significantly
modify the design of these products and services to correct problems. Rapidly changing industry standards and customer preferences
and requirements may impede market acceptance of our products and services.
Development and enhancement of our products
and services will require significant additional investment and could strain our management, financial and operational resources.
The lack of market acceptance of our products or services or our inability to generate sufficient revenues from this development
or enhancements to offset their development costs could have a material adverse effect on our business. In addition, we may experience
delays or other problems in releasing new products and services and enhancements, and any such delays or problems may cause customers
to forego purchases of our products and services and to purchase those of our competitors.
We cannot provide assurance that products
and services that we have recently developed or that we develop in the future will achieve market acceptance. If our new products
and services fail to achieve market acceptance, or if we fail to develop new or enhanced products and services s that achieve market
acceptance, our growth prospects, operating results and competitive position could be adversely affected.
We are dependent on relationships
with our key material suppliers, and the partial or complete loss of one of these key suppliers, or the failure to find replacement
suppliers or manufacturers in a timely manner, could adversely affect our business.
We have established relationships
with third party engine suppliers and other key suppliers from which we source components for our power systems. We purchase standard
configurations of engines for our DC power systems and are substantially dependent on timely supply from our two key engine suppliers,
Yanmar Engines Company and Kubota Corporation. Purchases from Yanmar and Kubota represented approximately 13% and 8% of our total
cost of sales for the three months ended March 31, 2017, respectively, and approximately 13% and 9% of our total cost of sales
for the three months ended March 31, 2016, respectively. We do not have any long-term contracts or commitments with any of these
suppliers. If any of these engine suppliers were to fail to provide emissions certified engines in a timely manner or fail to supply
engines that meet our quality, quantity or cost requirements, or were to discontinue manufacturing any engines we source from them
or discontinue providing any of these engines to us, and we were unable to obtain substitute sources in a timely manner or on terms
acceptable to us, our ability to manufacture our products could be materially adversely affected.
Price increases in some of the key components in our DC
power systems could materially and adversely affect our operating results and cash flows.
The prices of some of the key
components of our DC power systems are subject to fluctuation due to market forces beyond our control, including changes in the
costs of raw materials incorporated into these components. Such price increases occur from time to time due to spot shortages of
commodities, increases in labor costs or longer-term shortages due to market forces. In particular, the prices of engines can fluctuate
frequently and often significantly. We do not have any long term contracts or commitments with our two key engine suppliers. Substantial
increases in the prices of raw materials used in components which we source from our suppliers may result in increased prices charged
by our suppliers. If we incur price increases from our suppliers for key components in our DC power systems, our production costs
will increase. Given competitive market conditions, we may not be able to pass all or any of those cost increases on to our OEM
customers in the form of higher sales prices. To the extent our competitors do not suffer comparable component cost increases,
we may have even greater difficulty passing along price increases and our competitive position may be harmed. As a result, increases
in costs of key components may adversely affect our margins and otherwise adversely affect our operating results and cash flows.
A portion of our key components are sourced in foreign
countries, exposing us to additional risks that may not exist in the U.S.
A portion of our key components,
such as engines, magnets and cooling systems, are purchased from suppliers located overseas, primarily in Asia. Our international
sourcing subjects us to a number of potential risks in addition to the risks associated with third-party sourcing generally. These
risks include:
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inflation or changes in political and economic conditions;
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unstable regulatory environments;
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changes in import and export duties;
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currency rate fluctuations;
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logistical and communications challenges; and
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other restraints and burdensome taxes.
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These factors may have an adverse
effect on our ability to source our purchased components overseas. In particular, if the U.S. dollar were to depreciate significantly
against the currencies in which we purchase raw materials from foreign suppliers, our cost of goods sold could increase materially,
which would adversely affect our results of operations.
The unavailability or shortage, or increase
in the cost, of raw materials and components could have an adverse effect on our sales and profitability.
Our operations require raw materials, such
as aluminum, copper and permanent magnets. Commodities such as aluminum and copper are known to have significant price volatility
based on global economic conditions. An increase in global economic outlook may result in significant price increases in the cost
of our raw materials. In addition, we use Neodymium permanent magnets in our alternators, for which there are a limited number
of global suppliers that can meet our standards. Increase in manufacturing of electric vehicles worldwide can have adverse effect
on cost or supply of these magnets. At our current production volumes we are unable to secure large quantities of these commodities
at fixed prices; however we do have multiple sources of supply for our raw materials to meet our near term forecasted needs. Various factors
could reduce the availability of raw materials and components and shortages may occur from time to time in the future. An increase
in lead times for the supply of raw materials due to a global increase in demand for commodities outlined may significantly increase
material costs of our products. If production was interrupted due to unavailability or shortage of raw materials and we were not
able to find alternate third-party suppliers or re-engineer our products to accommodate different components or materials, we could
experience disruptions in manufacturing and operations including product shortages, higher freight costs and re-engineering costs.
If our supply of raw materials or components is disrupted or our lead times extended, our business, results of operations or financial
condition could be materially adversely affected.
We manufacture and assemble a majority of our products
at one facility. Any prolonged disruption in the operations of this facility would result in a decline in our sales and profitability.
We manufacture and assemble our DC power
systems at our facility located in Gardena, California. Any prolonged disruption in the operations of our manufacturing and assembly
facility, whether due to equipment or information technology infrastructure failure, labor difficulties, destruction of or damage
to this facility as a result of an earthquake, fire, flood, other catastrophes, and other operational problems would result in
a decline in our sales and profitability. In the event of a business interruption at our facility, we may be unable to shift manufacturing
and assembly capabilities to alternate locations, accept materials from suppliers or meet customer shipment needs, among other
severe consequences. Such an event could have a material and adverse impact on our financial condition and results of our operations.
Our business operations are subject to substantial government
regulation.
Our business operations are subject to certain
federal, state, local and foreign laws and regulations. For example, our products, services and technologies are subject to regulations
relating to building codes, public safety, electrical connections, security protocols, and local and state licensing requirements.
The regulations to which we are subject may change, additional regulations may be imposed, or existing regulations may be applied
in a manner that creates special requirements for the implementation and operation of our products or services that may significantly
impact or even eliminate some of our revenues or markets. In addition, we may incur material costs or liabilities in complying
with any such regulations. Furthermore, some of our customers must comply with numerous laws and regulations, which may affect
their willingness and ability to purchase our products, services and technologies.
The modification of existing laws and regulations
or interpretations thereof or the adoption of future laws and regulations could adversely affect our business, cause us to modify
or alter our methods of operations and increase our costs and the price of our products, services and technology. In addition,
we cannot provide any assurance that we will be able, for financial or other reasons, to comply with all applicable laws and regulations.
If we fail to comply with these laws and regulations, we could become subject to substantial penalties or restrictions that could
materially and adversely affect our business.
Certain of our products are used in critical communications
networks which may subject us to significant liability claims.
Because certain of our products for customers
in the telecommunications industry are used in critical communications networks, we may be subject to significant liability claims
if our products do not work properly. We warrant to our current customers that our products will operate in accordance with our
product specifications. If our products fail to conform to these specifications, our customers could require us to remedy the failure
or could assert claims for damages. The provisions in our agreements with customers that are intended to limit our exposure to
liability claims may not preclude all potential claims. In addition, any insurance policies we have may not adequately limit our
exposure with respect to such claims. Liability claims could require us to spend significant time and money in litigation or to
pay significant damages. Any such claims, whether or not successful, would be costly and time-consuming to defend, and could divert
management’s attention and seriously damage our reputation and our business.
We could be adversely affected by our failure
to comply with the laws applicable to our foreign activities, including the U.S. Foreign Corrupt Practices Act and other similar
worldwide anti-bribery laws.
The U.S. Foreign Corrupt Practices Act,
or the FCPA, and similar anti-bribery laws in other jurisdictions prohibit U.S.-based companies and their intermediaries from making
improper payments to non-U.S. officials for the purpose of obtaining or retaining business. We may pursue opportunities in certain
parts of the world that experience government corruption, and in certain circumstances, compliance with anti-bribery laws may conflict
with local customs and practices. Our policies mandate compliance with all applicable anti-bribery laws. Further, we require our
partners, subcontractors, agents and others who work for us or on our behalf to comply with the FCPA and other anti-bribery laws.
Although we have policies and procedures, and have conducted training, designed to ensure that we, our employees, our agents and
others who work with us in foreign countries comply with the FCPA and other anti-bribery laws, there is no assurance that such
policies, procedures or training will protect us against liability under the FCPA or other laws for actions taken by our agents,
employees and intermediaries. If we are found to be liable for FCPA violations (either due to our own acts or inadvertence, or
due to the acts or inadvertence of others), we could suffer from severe criminal or civil penalties or other sanctions, which could
have a material adverse effect on our reputation, business, results of operations or cash flows. In addition, detecting, investigating
and resolving actual or alleged FCPA violations is expensive and could consume significant time and attention of our senior management.
We are exposed to risks related to
our international sales, and the failure to manage these risks could harm our business. If we fail to expand our business into
international markets, our revenues and results of operations may be adversely affected.
In addition to our sales to customers within
the U.S., we may become increasingly dependent on sales to customers outside the U.S. as we pursue expanding our business with
customers in, without limitation, Australia, India, Africa and Latin America. International sales in the three month periods ending
March 31, 2017 and March 31, 2016, accounted for 1.0% and 4.4% of total revenue, respectively. During 2016 and 2015, our sales
to international customers accounted for 0% and 2%, respectively, of total revenue. We expect that a significant portion of our
future international sales will be from less developed or developing countries. As a result, the occurrence of any international,
political, economic or geographic event could result in a significant decline in revenue. In addition, compliance with complex
foreign and U.S. laws and regulations that apply to our international operations increases our cost of doing business in international
jurisdictions. These numerous and sometimes conflicting laws and regulations include internal control and disclosure rules, data
privacy and filtering requirements, anti-corruption laws, such as the FCPA, and other local laws prohibiting corrupt payments to
governmental officials, and anti-competition regulations, among others. Violations of these laws and regulations could result in
fines and penalties, criminal sanctions against us, our officers, or our employees, prohibitions on the conduct of our business
and on our ability to offer our products and services in one or more countries, and could also materially affect our brand, our
international expansion efforts, our ability to attract and retain employees, our business, and our operating results. Although
we have implemented policies and procedures designed to ensure compliance with these laws and regulations, there can be no assurance
that our employees, contractors, or agents will not violate our policies.
Some of the risks and challenges of doing
business internationally include:
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requirements or preferences for domestic products or solutions, which could reduce demand for our products;
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unexpected changes in regulatory requirements;
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imposition of tariffs and other barriers and restrictions;
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restrictions on the import or export of critical technology;
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management communication and integration problems resulting from cultural and geographic dispersion;
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the burden of complying with a variety of laws and regulations in various countries;
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difficulties in enforcing contracts;
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the uncertainty of protection for intellectual property rights in some countries;
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application of the income tax laws and regulations of multiple jurisdictions, including relatively low-rate and relatively high-rate jurisdictions, to our sales and other transactions, which results in additional complexity and uncertainty;
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tariffs and trade barriers, export regulations and other regulatory and contractual limitations on our ability to sell products;
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greater risk of a failure of foreign employees to comply with both U.S. and foreign laws, including export and antitrust regulations, the FCPA and any trade regulations ensuring fair trade practices;
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heightened risk of unfair or corrupt business practices in certain geographies and of improper or fraudulent sales arrangements that may impact financial results and result in restatements of, or irregularities in, financial statements;
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potentially adverse tax consequences, including multiple and possibly overlapping tax structures;
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general economic and geopolitical conditions, including war and acts of terrorism;
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lack of the availability of qualified third-party financing; and
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currency exchange controls.
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While these factors and the impacts of these
factors are difficult to predict, any one or more of them could adversely affect our business, financial condition and results
of operations in the future.
Failures or security breaches of our networks or information
technology systems could have an adverse effect on our business.
We rely heavily on information technology,
or IT, both in our products and services for customers and in our IT systems. Further, we collect and store sensitive information
in our data centers and on our networks. Government agencies and security experts have warned about growing risks of hackers, cyber-criminals,
malicious insiders and other actors targeting confidential information and all types of IT systems. These actors may engage in
fraudulent activities, theft of confidential or proprietary information and sabotage.
Our IT systems and our confidential information
may be vulnerable to damage or intrusion from a variety of attacks including computer viruses, worms or other malicious software
programs. These attacks pose a risk to the security of the products, systems and networks of our customers, suppliers and third-party
service providers, as well to the confidentiality of our information and the integrity and availability of our data. While we attempt
to mitigate these risks through controls, due diligence, training, surveillance and other measures, we remain vulnerable to information
security threats.
Despite the precautions we take, an intrusion
or infection of our systems could result in the disruption of our business, loss of proprietary or confidential information, or
injuries to people or property. Similarly, an attack on our IT systems could result in theft or disclosure of trade secrets or
other intellectual property or a breach of confidential customer or employee information. Any such events could have an adverse
impact on sales, harm our reputation and cause us to incur legal liability and increased costs to address such events and related
security concerns. As the threats evolve and become more potent, we may incur additional costs to secure the products that we sell,
as well as our data and infrastructure of networks and devices.
Ongoing adverse economic
conditions, including weak or deteriorating business and market conditions and volatile and uncertain financial and capital markets,
or significant downturns in the markets in which we operate, could materially and adversely affect our business and financial results
in future periods.
The U.S. and world economies continue to
suffer from uncertainty, volatility, disruption and other adverse conditions, and those conditions continue to adversely impact
the business community and the financial markets. There is no assurance when or the extent to which these economic and business
conditions will improve in the future. These adverse economic and financial market conditions may negatively affect our customers
and our markets, and thus negatively impact our business and results of operations. For example, weak market conditions could extend
the length of our sales cycle and cause potential customers to delay, defer or decline to make purchases of our products and services
due to uncertainties surrounding the future performance of their businesses, limitations on their capital expenditures due to internal
budget constraints, the inability to obtain financing in the capital markets, and the adverse effects of the economy on their business
and financial condition. As a result, if economic and financial market conditions continue to be weak or even deteriorate, then
our business, financial condition and results of operations, including our ability to grow and expand our business and operations,
could be materially and adversely affected.
Risks Related to Our Intellectual Property
If we fail to adequately protect our
intellectual property rights, we could lose important proprietary technology, which could materially and adversely affect our business.
Our success and ability to compete depends,
in substantial part, upon our ability to develop and protect our proprietary technology and intellectual property rights to distinguish
our products, services and technology from those of our competitors. The unauthorized use of our intellectual property rights and
proprietary technology by others could materially harm our business.
Historically, we have relied primarily on
a combination of trademark, copyright and trade secret laws, along with non-competition and confidentiality agreements, contractual
provisions, licensing arrangements and proprietary software and manufacturing processes, to establish and protect our intellectual
property rights. Although we hold several unregistered copyrights in our business, we believe that the success of our business
depends more upon our proprietary technology, information, processes and know-how than on patents or trademark registrations. In
addition, much of our proprietary information and technology may not be patentable; if we decided to apply for patents and/or trademarks
in the future, we might not be successful in obtaining any such future patents or in registering any marks.
Despite our efforts to protect our intellectual
property rights, existing laws afford only limited protection, and our actions may be inadequate to protect our rights or to prevent
others from claiming violations of their proprietary rights. Unauthorized third parties may attempt to copy, reverse engineer or
otherwise obtain, use or exploit aspects of our products and services, develop similar technology independently, or otherwise obtain
and use information that we regard as proprietary. We cannot assure you that our competitors will not independently develop technology
similar or superior to our technology or design around our intellectual property. In addition, the laws of some foreign countries
may not protect our proprietary rights as fully or in the same manner as the laws of the U.S.
We may need to resort to litigation to enforce
our intellectual property rights, to protect our trade secrets, and to determine the validity and scope of other companies’
proprietary rights in the future. However, litigation could result in significant costs and in the diversion of management and
financial resources. We cannot assure you that any such litigation will be successful or that we will prevail over counterclaims
against us. Our failure to protect any of our important intellectual property rights or any litigation that we resort to in order
to enforce those rights could materially and adversely affect our business.
If we face claims of intellectual
property infringement by third parties, we could encounter expensive litigation, be liable for significant damages or incur restrictions
on our ability to sell our products and services.
Although we are not aware of any present
infringement of our products, services or technology on the intellectual property rights of others, we cannot be certain that our
products, services and technologies do not or in the future will not infringe on the valid intellectual property rights held by
third parties. In addition, we cannot assure you that third parties will not claim that we have infringed their intellectual property
rights.
In recent years, there has been a significant
amount of litigation in the U.S. involving patents and other intellectual property rights. In the future, we may be a party to
litigation as a result of an alleged infringement of others’ intellectual property. Successful infringement claims against
us could result in substantial monetary liability, require us to enter into royalty or licensing arrangements, or otherwise materially
disrupt the conduct of our business. In addition, even if we prevail on these claims, this litigation could be time-consuming and
expensive to defend or settle, and could result in the diversion of our time and attention and of operational resources, which
could materially and adversely affect our business. Any potential intellectual property litigation also could force us to do one
or more of the following:
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stop selling, incorporating or using our products and services that use the infringed intellectual property;
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obtain from the owner of the infringed intellectual property right a license to sell or use the relevant technology, which license may not be available on commercially reasonable terms, or at all; or
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redesign the products and services that use the technology.
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If we are forced to take any
of these actions, our business may be seriously harmed. Although we carry general liability insurance, our insurance may not cover
potential claims of this type or may not be adequate to indemnify us for all liability that may be imposed.
Risks Related to
Our Common Stock
Our operating results can
fluctuate significantly from period to period, which makes our operating results difficult to predict and can cause our operating
results in any particular period to be less than comparable periods and expectations from time to time.
Our operating results have fluctuated significantly
from quarter-to-quarter, period-to-period and year-to-year during our operating history and are likely to continue to fluctuate
in the future due to a variety of factors, many of which are outside of our control. Certain factors that may affect our operating
results include, without limitation, those set forth under “Management’s Discussion and Analysis of Financial Condition
and Results of Operations —Critical Accounting Policies” in this Quarterly Report on Form 10-Q.
Because we have little or no control over
many of these factors, our operating results are difficult to predict. Any adverse change in any of these factors could negatively
affect our business and results of operations.
Our revenues, net income and other operating
results are heavily dependent upon the size and timing of customer orders and projects, and the timing of the completion of those
projects. The timing of our receipt of large individual orders, and of project completion, is difficult for us to predict. Because
our operating expenses are based on anticipated revenues over the mid- and long-term and because a high percentage of our operating
expenses are relatively fixed, a shortfall or delay in recognizing revenues can cause our operating results to vary significantly
from quarter-to-quarter and can result in significant operating losses or declines in profit margins in any particular quarter.
If our revenues fall below our expectations in any particular quarter, we may not be able, or it may not be prudent for us, to
reduce our expenses rapidly in response to the revenue shortfall, which can result in us suffering significant operating losses
or declines in profit margins in that quarter.
Due to these factors and the other risks
discussed in this Quarterly Report on Form 10-Q, you should not rely on quarter-to-quarter, period-to-period or year-to-year comparisons
of our results of operations as an indication of our future performance. Quarterly, period and annual comparisons of our operating
results are not necessarily meaningful or indicative of future performance. As a result, it is likely that, from time to time,
our results of operations or our revenue backlog could fall below historical levels or the expectations of public market analysts
and investors, which could cause the trading price of our common stock to decline significantly.
Our Chairman, President
and Chief Executive Officer owns a majority of our common stock and will exercise significant influence over matters requiring
stockholder approval, regardless of the wishes of other stockholders.
Our Chairman, President, Chief Executive
Officer and Secretary, Arthur D. Sams, beneficially owns approximately 55% of our outstanding shares of common stock. Mr.
Sams therefore has significant influence over management and significant control over matters requiring stockholder approval, including
the annual election of directors and significant corporate transactions, such as a merger or other sale of our company or our assets,
for the foreseeable future. This concentrated control will limit stockholders’ ability to influence corporate matters and,
as a result, we may take actions that our stockholders do not view as beneficial. As a result, the market price of our common stock
could be adversely affected.
We are a “controlled company” within the meaning
of the NASDAQ Listing Rules. Although we do not currently intend to rely on the exemptions from certain corporate governance requirements
afforded to a “controlled company” under NASDAQ Listing Rules, we could potentially seek to rely on such exemptions
in the future.
Our Chairman, President, Chief Executive
Officer and Secretary, Arthur D. Sams, controls a majority of our common stock. As a result, we are a “controlled company”
within the meaning of the NASDAQ Listing Rules. Under these rules, a company of which more than 50% of the voting power for the
election of directors is held by an individual, a group or another company is a “controlled company” and may elect
not to comply with certain NASDAQ corporate governance requirements, including, without limitation (i) the requirement that
a majority of the board of directors consist of independent directors, (ii) the requirement that the compensation of our officers
be determined or recommended to our board of directors by a compensation committee that is comprised solely of independent directors,
and (iii) the requirement that director nominees be selected or recommended to the board of directors by a majority of independent
directors or a nominating committee comprised solely of independent directors. We do not currently intend to rely on those exemptions
afforded to a “controlled company.” Nonetheless, in the future, we could potentially seek to rely on certain of those
exemptions afforded to a “controlled company,” and in such case, you would not have the same protections afforded to
stockholders of companies that are subject to all of the NASDAQ corporate governance requirements.
The price of our shares of common stock is volatile, and
you could lose all or part of your investment.
The trading price of our shares of common
stock is volatile and could be subject to wide fluctuations in response to various factors, some of which are beyond our control,
including limited trading volume. In addition to the factors discussed in the “Risk Factors” section and elsewhere
in this Quarterly Report on Form 10-Q, these factors include, without limitation:
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competition from existing technologies and products or new technologies and products that may emerge;
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a significant reduction in sales from our largest customers, including Verizon Wireless;
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actual or anticipated variations in our quarterly operating results;
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failure to meet the estimates and projections of the investment community or that we may otherwise provide to the public;
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announcement or expectation of additional financing efforts;
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issuances of debt or equity securities;
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our inability to successfully enter new markets or develop additional products;
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actual or anticipated fluctuations in our competitors’ operating results or changes in their respective growth rates;
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sales of our shares of common stock by us, or our stockholders in the future;
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trading volume of our shares of common stock on The NASDAQ Capital Market;
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market conditions in our industry;
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overall performance of the equity markets and general political and economic conditions;
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introduction of new products or services by us or our competitors;
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additions or departures of key management, scientific or other personnel;
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publication of research reports about us or our industry or positive or negative recommendations or withdrawal of research coverage by securities or industry analysts;
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changes in the market valuation of similar companies;
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disputes or other developments related to intellectual property and other proprietary rights;
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changes in accounting practices;
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significant lawsuits, including stockholder litigation; and
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other events or factors, many of which are beyond our control.
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Furthermore, the public equity
markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity
securities of many companies. These fluctuations often have been unrelated or disproportionate to the operating performance of
those companies. These broad market and industry fluctuations, as well as general economic, political and market conditions such
as recessions, interest rate changes or international currency fluctuations, may negatively impact the market price of our shares
of common stock.
We do not anticipate paying cash dividends, and accordingly,
stockholders must rely on stock appreciation for any return on their investment.
We have never declared or paid cash dividends
on our capital stock. We intend to retain a significant portion of our future earnings, if any, to finance the operations, development
and growth of our business. Any future determination to declare dividends will be made at the discretion of our board of directors,
subject to applicable laws, and will depend on number of factors, including our financial condition, results of operations, capital
requirements, contractual restrictions, general business conditions and other factors that our board of directors may deem relevant.
As a result, only appreciation of the price of our common stock, which may never occur, will provide a return to stockholders.
If securities or industry analysts do not publish research
or reports, or publish inaccurate or unfavorable research or reports about our business, our share price and trading volume could
decline.
The trading market for our shares of common
stock depends, in part, on the research and reports that securities or industry analysts publish about us or our business. We do
not have any control over these analysts. If no securities or industry analysts undertake coverage of our company, the trading
price for our shares of common stock may be negatively impacted. If we obtain securities or industry analyst coverage and if one
or more of the analysts who covers us downgrades our shares of common stock, changes their opinion of our shares or publishes inaccurate
or unfavorable research about our business, our share price would likely decline. If one or more of these analysts ceases coverage
of us or fails to publish reports on us regularly, demand for our shares of common stock could decrease and we could lose visibility
in the financial markets, which could cause our share price and trading volume to decline.
A significant portion of our total outstanding shares
of common stock is restricted from immediate resale but may be sold into the market in the near future. This could cause the market
price of our common stock to drop significantly, even if our business is doing well.
Sales of a substantial number of shares
of our common stock in the public market could occur at any time. These sales, or the perception in the market that the holders
of a large number of shares of common stock intend to sell shares, could reduce the market price of our common stock. As of May
10, 2017, our Chairman, President, Chief Executive Officer and Secretary, Arthur D. Sams, beneficially owned approximately
55% of our outstanding common stock. If Mr. Sams were to sell a substantial portion of the shares he holds, our stock price could
decline as a result of such sale. As of May 10, 2017, approximately 7,383,158 shares of common stock, including the 5,578,176
shares held by Mr. Sams, are subject to a lock-up agreement with our underwriters which expires on July 7, 2017.
We registered, on a Form S-8, 1,754,385 shares of common stock that we may issue under our 2016 Omnibus Incentive
Plan, or the 2016 Plan. These shares of common stock can be freely sold in the public market upon issuance and once vested, subject
to the lock-up period described above.
We are not subject to the provisions of Section
203 of the Delaware General Corporation Law, which could negatively affect your investment.
We elected in our certificate
of incorporation to not be subject to the provisions of Section 203 of the Delaware General Corporation Law, or Section 203. In
general, Section 203 prohibits a publicly held Delaware corporation from engaging in a “business combination” with
an “interested stockholder” for a period of three years after the date of the transaction in which the person became
an interested stockholder, unless the business combination is approved in a prescribed manner. A “business combination”
includes a merger, asset sale or other transaction resulting in a financial benefit to the interested stockholder. An “interested
stockholder” is a person who, together with affiliates and associates, owns (or, in certain cases, within three years prior,
did own) 15% or more of the corporation’s voting stock. Our decision not to be subject to Section 203 will allow, for example,
Arthur D. Sams, our Chairman, President, Chief Executive Officer and Secretary (who beneficially owns approximately 55% of
our common stock) to transfer shares in excess of 15% of our voting stock to a third-party free of the restrictions imposed by
Section 203. This may make us more vulnerable to takeovers that are completed without the approval of our board of directors and/or
without giving us the ability to prohibit or delay such takeovers as effectively.
Some provisions of our charter
documents and Delaware law may have anti-takeover effects that could discourage an acquisition of us by others, even if an acquisition
would be beneficial to our stockholders, and may prevent attempts by our stockholders to replace or remove our current management.
Provisions in our certificate
of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us
or increase the cost of acquiring us, even if doing so would benefit our stockholders. These provisions include:
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a requirement that special meetings of stockholders be called only by the board of directors, the president or the chief executive officer;
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advance notice requirements for stockholder proposals and nominations for election to our board of directors; and
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the authority of the board of directors to issue preferred stock on terms determined by the board of directors without stockholder approval and which preferred stock may include rights superior to the rights of the holders of common stock.
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These anti-takeover provisions and other
provisions in our certificate of incorporation and bylaws could make it more difficult for stockholders or potential acquirers
to obtain control of our board of directors or initiate actions that are opposed by the then-current board of directors and could
also delay or impede a merger, tender offer or proxy contest involving our Company. These provisions could also discourage proxy
contests and make it more difficult for you and other stockholders to elect directors of your choosing or cause us to take other
corporate actions you desire. Any delay or prevention of a change of control transaction or changes in our board of directors could
cause the market price of our common stock to decline.
Our certificate of incorporation
designates the Court of Chancery of the State of Delaware as the sole and exclusive forum for certain types of actions and proceedings
that may be initiated by our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum
for disputes with us or our directors, officers or other employees.
Our certificate of incorporation provides
that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware shall
be the sole and exclusive forum for (i) any derivative action or proceeding brought on our behalf, (ii) any action asserting a
claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders, (iii)
any action asserting a claim arising pursuant to any provision of the Delaware General Corporation Law, our certificate of incorporation
or our bylaws, or (iv) any action asserting a claim against us governed by the internal affairs doctrine. Any person or entity
purchasing or otherwise acquiring any interest in shares of our capital stock shall be deemed to have notice of and consented to
the provisions of certificate of incorporation described above. This choice of forum provision may limit a stockholder’s
ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees,
which may discourage such lawsuits against us and our directors, officers and other employees. Alternatively, if a court were to
find these provisions of our certificate of incorporation inapplicable to, or unenforceable in respect of, one or more of the specified
types of actions or proceedings, we may incur additional costs associated with resolving such matters in other jurisdictions, which
could adversely affect our business, financial condition or results of operations.
We are an “emerging growth company,” and we
cannot be certain if the reduced reporting requirements applicable to emerging growth companies will make our shares of common
stock less attractive to investors.
We are an “emerging growth company,”
as defined in the JOBS Act. For as long as we continue to be an emerging growth company, we may take advantage of exemptions from
various reporting requirements that are applicable to other public companies that are not emerging growth companies, including
not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002, or the
Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in this report, our periodic reports and proxy
statements and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder
approval of any golden parachute payments not previously approved. We could be an emerging growth company for up to five years,
although circumstances could cause us to lose that status earlier, including if the market value of our shares of common stock
held by non-affiliates exceeds $700 million as of any June 30 before that time or if we have total annual gross revenue of $1.0
billion or more during any fiscal year before that time, in which cases we would no longer be an emerging growth company as of
the following December 31, or if we issue more than $1.0 billion in non-convertible debt during any three-year period before that
time, in which case we would no longer be an emerging growth company immediately. We cannot predict if investors will find our
shares of common stock less attractive because we may rely on these exemptions. If some investors find our shares of common stock
less attractive as a result, there may be a less active trading market for our shares of common stock and our share price may be
more volatile.
Under the JOBS Act, emerging growth companies
also can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We have
irrevocably elected not to avail ourselves of this exemption from new or revised accounting standards and, therefore, will be subject
to the same new or revised accounting standards as other public companies that are not emerging growth companies.
If we fail to maintain an effective
system of internal control over financial reporting, we may not be able to accurately report our financial results or prevent fraud.
As a result, stockholders could lose confidence in our financial and other public reporting, which would harm our business and
the trading price of our common stock.
Effective internal controls over financial
reporting are necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures,
are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their
implementation could cause us to fail to meet our reporting obligations. In addition, any testing by us conducted in connection
with Section 404 of the Sarbanes-Oxley Act, or any subsequent testing by our independent registered public accounting firm,
may reveal deficiencies in our internal controls over financial reporting that are deemed to be material weaknesses or that may
require prospective or retroactive changes to our financial statements or identify other areas for further attention or improvement.
Inferior internal controls could also cause investors to lose confidence in our reported financial information, which could have
a negative effect on the trading price of our common stock.
We are required to disclose changes made
in our internal controls and procedures on a quarterly basis and our management is required to assess the effectiveness of these
controls annually. However, for as long as we are an “emerging growth company” under the JOBS Act, our independent
registered public accounting firm will not be required to attest to the effectiveness of our internal controls over financial reporting
pursuant to Section 404. We could be an “emerging growth company” for up to five years. An independent assessment
of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected
material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense
of remediation.
We incur significant costs
as a result of operating as a public company and our management expects to devote substantial time to public company compliance
programs.
As a public company, we incur
significant legal, accounting and other expenses due to our compliance with regulations and disclosure obligations applicable to
us, including compliance with the Sarbanes-Oxley Act as well as rules implemented by the SEC and NASDAQ. The SEC and other regulators
have continued to adopt new rules and regulations and make additional changes to existing regulations that require our compliance.
In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, was enacted. There are significant
corporate governance and executive compensation related provisions in the Dodd-Frank Act that have required the SEC to adopt additional
rules and regulations in these areas. Stockholder activism, the current political environment, and the current high level of government
intervention and regulatory reform may lead to substantial new regulations and disclosure obligations, which may lead to additional
compliance costs and impact, in ways we cannot currently anticipate, the manner in which we operate our business. Our management
and other personnel devote a substantial amount of time to these compliance programs and monitoring of public company reporting
obligations and, as a result of the new corporate governance and executive compensation related rules, regulations, and guidelines
prompted by the Dodd-Frank Act and further regulations and disclosure obligations expected in the future, we will likely need to
devote additional time and costs to comply with such compliance programs and rules. These rules and regulations cause us to incur
significant legal and financial compliance costs and make some activities more time-consuming and costly.
To comply with the requirements
of being a public company, we may need to undertake various activities, including implementing new internal controls and procedures
and hiring new accounting or internal audit staff. The Sarbanes-Oxley Act requires that we maintain effective disclosure controls
and procedures and internal control over financial reporting. We are continuing to develop and refine our disclosure controls and
other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file with the
SEC is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and that information
required to be disclosed in reports under the Exchange Act, is accumulated and communicated to our principal executive and financial
officers. Our current controls and any new controls that we develop may become inadequate and weaknesses in our internal control
over financial reporting may be discovered in the future.
Any failure to develop or maintain
effective controls could adversely affect the results of periodic management evaluations and annual independent registered public
accounting firm attestation reports regarding the effectiveness of our internal control over financial reporting which we may be
required to include in our periodic reports we will file with the SEC under Section 404 of the Sarbanes-Oxley Act, harm our operating
results, cause us to fail to meet our reporting obligations, or result in a restatement of our prior period financial statements.
In the event that we are not able to demonstrate compliance with the Sarbanes-Oxley Act, that our internal control over financial
reporting is perceived as inadequate or that we are unable to produce timely or accurate financial statements, investors may lose
confidence in our operating results and the price of our common stock could decline. In addition, if we are unable to continue
to meet these requirements, we may not be able to remain listed on The NASDAQ Capital Market.
We are not currently required
to comply with the SEC rules that implement Section 404 of the Sarbanes-Oxley Act, and are therefore not yet required to make a
formal assessment of the effectiveness of our internal control over financial reporting for that purpose. However, we are required
to comply with certain of these rules, which require management to certify financial and other information in our quarterly and
annual reports and provide an annual management report on the effectiveness of our internal control over financial reporting commencing
with our next annual report. This assessment will need to include the disclosure of any material weaknesses in our internal control
over financial reporting identified by our management or our independent registered public accounting firm. We are just beginning
the costly and challenging process of compiling the system and processing documentation needed to comply with such requirements.
We may not be able to complete our evaluation, testing and any required remediation in a timely fashion. During the evaluation
and testing process, if we identify one or more material weaknesses in our internal control over financial reporting, we will be
unable to assert that our internal control over financial reporting is effective.
Raising additional capital, including through
future sales and issuances of our common stock, the exercise of warrants or the exercise of rights to purchase common stock pursuant
to our equity incentive plan could result in additional dilution of the percentage ownership of our stockholders, could cause our
share price to fall and could restrict our operations.
We expect that significant additional
capital will be needed in the future to continue our planned operations, including any potential acquisitions, purchasing of capital
equipment, hiring new personnel, and continuing activities as an operating public company. To the extent we seek additional capital
through a combination of public and private equity offerings and debt financings, our stockholders may experience substantial dilution.
To the extent that we raise additional capital through the sale of equity or convertible debt securities, the ownership interest
of our existing stockholders may be diluted, and the terms may include liquidation or other preferences that adversely affect the
rights of our stockholders. Debt and receivables financings may be coupled with an equity component, such as warrants to purchase
shares of our common stock, which could also result in dilution of our existing stockholders’ ownership. The incurrence of
indebtedness would result in increased fixed payment obligations and could also result in certain restrictive covenants, such as
limitations on our ability to incur additional debt and other operating restrictions that could adversely impact our ability to
conduct our business. A failure to obtain adequate funds may cause us to curtail certain operational activities, including sales
and marketing, in order to reduce costs and sustain the business, and would have a material adverse effect on our business and
financial condition.
Under our 2016 Plan, we may grant
equity awards covering up to 1,754,385 shares of our common stock. As of March 31, 2017, we had not granted any options to purchase
shares of common stock under the 2016 Plan or otherwise. We have registered 1,754,385 shares of common stock available for issuance
under our 2016 Plan. Sales of shares issued upon exercise of options or granted under our 2016 Plan may result in material dilution
to our existing stockholders, which could cause our share price to fall.
Our issuance of shares of preferred stock could adversely
affect the market value of our common stock, dilute the voting power of common stockholders and delay or prevent a change of control.
Our board of directors has the
authority to cause us to issue, without any further vote or action by the stockholders, up to 5,000,000 shares of preferred stock
in one or more series, to designate the number of shares constituting any series, and to fix the rights, preferences, privileges
and restrictions thereof, including dividend rights, voting rights, rights and terms of redemption, redemption price or prices
and liquidation preferences of such series.
The issuance of shares of preferred
stock with dividend or conversion rights, liquidation preferences or other economic terms favorable to the holders of preferred
stock could adversely affect the market price for our common stock by making an investment in the common stock less attractive.
For example, investors in the common stock may not wish to purchase common stock at a price above the conversion price of a series
of convertible preferred stock because the holders of the preferred stock would effectively be entitled to purchase common stock
at the lower conversion price causing economic dilution to the holders of common stock.
Further, the issuance of shares
of preferred stock with voting rights may adversely affect the voting power of the holders of our other classes of voting stock
either by diluting the voting power of our other classes of voting stock if they vote together as a single class, or by giving
the holders of any such preferred stock the right to block an action on which they have a separate class vote even if the action
were approved by the holders of our other classes of voting stock. The issuance of shares of preferred stock may also have the
effect of delaying, deferring or preventing a change in control of our company without further action by the stockholders, even
where stockholders are offered a premium for their shares.
Claims for indemnification
by our directors and officers may reduce our available funds to satisfy successful third-party claims against us and may reduce
the amount of money available to us.
Our certificate of incorporation
and bylaws provide that we will indemnify our directors and officers, in each case to the fullest extent permitted by Delaware
law. In addition, as permitted by Section 145 of the Delaware General Corporation Law, our bylaws and the indemnification agreements
that we have entered into with our directors and officers provide that:
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We will indemnify our directors and officers for serving us in those capacities or for serving other business enterprises at our request, to the fullest extent permitted by Delaware law. Delaware law provides that a corporation may indemnify such person if such person acted in good faith and in a manner such person reasonably believed to be in or not opposed to the best interests of the registrant and, with respect to any criminal proceeding, had no reasonable cause to believe such person’s conduct was unlawful.
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We may, in our discretion, indemnify employees and agents in those circumstances where indemnification is permitted by applicable law.
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We are required to advance expenses, as incurred, to our directors and officers in connection with defending a proceeding, except that such directors or officers shall undertake to repay such advances if it is ultimately determined that such person is not entitled to indemnification.
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We will not be obligated pursuant to our bylaws to indemnify a person with respect to proceedings initiated by that person against us or our other indemnitees, except with respect to proceedings authorized by our board of directors or brought to enforce a right to indemnification.
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The rights conferred in our bylaws are not exclusive, and we are authorized to enter into indemnification agreements with our directors, officers, employees and agents and to obtain insurance to indemnify such persons.
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We may not retroactively amend our bylaw provisions to reduce our indemnification obligations to directors, officers, employees and agents.
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To the extent that a claim for
indemnification is brought by any of our directors or officers, it would reduce the amount of funds available for use in our business.