Item 1. Financial Statements
MONSTER DIGITAL, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except par value)
|
|
March 31,
2017
|
|
|
December 31,
2016
|
|
|
|
(unaudited)
|
|
|
(Note 1)
|
|
ASSETS
|
|
|
|
|
|
|
|
|
Current assets
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
150
|
|
|
$
|
1,453
|
|
Accounts receivable, net of allowances of $273 and $253, respectively
|
|
|
817
|
|
|
|
856
|
|
Inventories
|
|
|
638
|
|
|
|
1,105
|
|
Prepaid expenses and other
|
|
|
421
|
|
|
|
619
|
|
Total current assets
|
|
|
2,026
|
|
|
|
4,033
|
|
Trademark, net of amortization of $218 and $185, respectively
|
|
|
2,384
|
|
|
|
2,417
|
|
Deposits and other assets
|
|
|
14
|
|
|
|
14
|
|
Total assets
|
|
$
|
4,424
|
|
|
$
|
6,464
|
|
LIABILITIES AND SHAREHOLDERS’ EQUITY
|
|
|
|
|
|
|
|
|
Current liabilities
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
667
|
|
|
$
|
268
|
|
Accrued expenses
|
|
|
1,473
|
|
|
|
1,786
|
|
Customer refund
|
|
|
1,225
|
|
|
|
1,840
|
|
Due to related party
|
|
|
34
|
|
|
|
44
|
|
Notes payable
|
|
|
38
|
|
|
|
38
|
|
Total current liabilities
|
|
|
3,437
|
|
|
|
3,976
|
|
Commitments and contingencies
|
|
|
|
|
|
|
|
|
Shareholders’ equity
|
|
|
|
|
|
|
|
|
Preferred stock; 10,000,000 shares authorized; no shares issued and outstanding
|
|
|
—
|
|
|
|
—
|
|
Common stock; $.0001 par value; 100,000,000 shares authorized; 8,278,489 and 7,785,011 shares issued and outstanding, respectively
|
|
|
1
|
|
|
|
1
|
|
Additional paid-in capital
|
|
|
35,315
|
|
|
|
34,575
|
|
Accumulated deficit
|
|
|
(34,329
|
)
|
|
|
(32,088
|
)
|
Total shareholders’ equity
|
|
|
987
|
|
|
|
2,488
|
|
Total liabilities and shareholders’ equity
|
|
$
|
4,424
|
|
|
$
|
6,464
|
|
The accompanying
Notes to Consolidated Financial Statements are an integral part of these statements.
MONSTER DIGITAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in Thousands, except per share)
(unaudited)
|
|
For the Three Months Ended
|
|
|
|
March 31,
|
|
|
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
|
|
|
Net sales
|
|
$
|
951
|
|
|
$
|
538
|
|
Cost of goods sold
|
|
|
998
|
|
|
|
491
|
|
Gross profit (loss)
|
|
|
(47
|
)
|
|
|
47
|
|
|
|
|
|
|
|
|
|
|
Operating expenses
|
|
|
|
|
|
|
|
|
Research and development
|
|
|
70
|
|
|
|
49
|
|
Selling and marketing
|
|
|
700
|
|
|
|
635
|
|
General and administrative
|
|
|
1,491
|
|
|
|
992
|
|
Total operating expenses
|
|
|
2,261
|
|
|
|
1,676
|
|
Operating loss
|
|
|
(2,308
|
)
|
|
|
(1,629
|
)
|
Other (income) expense, net
|
|
|
|
|
|
|
|
|
Interest and finance expense
|
|
|
1
|
|
|
|
252
|
|
Gain on settlement of customer refund
|
|
|
(68
|
)
|
|
|
—
|
|
Total other (income) expense
|
|
|
(67
|
)
|
|
|
252
|
|
Loss before income taxes
|
|
|
(2,241
|
)
|
|
|
(1,881
|
)
|
Provision for income taxes
|
|
|
—
|
|
|
|
—
|
|
Net Loss
|
|
$
|
(2,241
|
)
|
|
$
|
(1,881
|
)
|
|
|
|
|
|
|
|
|
|
Loss Per Share
|
|
|
|
|
|
|
|
|
Basic and Diluted
|
|
$
|
(0.28
|
)
|
|
$
|
(0.50
|
)
|
Number of Shares used in computation
|
|
|
|
|
|
|
|
|
Basic and Diluted
|
|
|
7,992
|
|
|
|
3,748
|
|
The accompanying
Notes to Consolidated Financial Statements are an integral part of these statements.
MONSTER DIGITAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
(Dollars in thousands)
(unaudited)
|
|
Common Stock
|
|
|
Preferred Stock
|
|
|
Additional
Paid-in
|
|
|
Accumulated
|
|
|
Shareholders’
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Deficit
|
|
|
Equity
|
|
Balance December 31, 2016
|
|
|
7,785,011
|
|
|
$
|
1
|
|
|
|
—
|
|
|
$
|
—
|
|
|
$
|
34,575
|
|
|
$
|
(32,088
|
)
|
|
$
|
2,488
|
|
Issuance of common stock, net of issuance costs
|
|
|
273,478
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
307
|
|
|
|
—
|
|
|
|
307
|
|
Issuance of common stock pursuant to stock option plan
|
|
|
220,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Amortization of non-cash stock-based compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
433
|
|
|
|
—
|
|
|
|
433
|
|
Net loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(2,241
|
)
|
|
|
(2,241
|
)
|
Balance March 31, 2017
|
|
|
8,278,489
|
|
|
$
|
1
|
|
|
|
—
|
|
|
$
|
—
|
|
|
$
|
35,315
|
|
|
$
|
(34,329
|
)
|
|
$
|
987
|
|
The accompanying
Notes to Consolidated Financial Statements are an integral part of these statements.
MONSTER DIGITAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
(unaudited)
|
|
Three Months Ended March 31,
|
|
|
|
2017
|
|
|
2016
|
|
Cash flows from operating activities
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(2,241
|
)
|
|
$
|
(1,881
|
)
|
Adjustments to reconcile net loss to net cash used in operating activities:
|
|
|
|
|
|
|
|
|
Amortization of stock-based compensation
|
|
|
433
|
|
|
|
94
|
|
Amortization of deferred debt issuance costs and debt discount
|
|
|
—
|
|
|
|
196
|
|
Amortization of trademark
|
|
|
33
|
|
|
|
33
|
|
Gain on settlement of customer refund
|
|
|
(68
|
)
|
|
|
—
|
|
Provision for doubtful accounts
|
|
|
20
|
|
|
|
17
|
|
Changes in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
19
|
|
|
|
279
|
|
Inventories
|
|
|
467
|
|
|
|
142
|
|
Prepaid expenses and other
|
|
|
198
|
|
|
|
83
|
|
Accounts payable
|
|
|
399
|
|
|
|
536
|
|
Accrued expenses
|
|
|
(313
|
)
|
|
|
(270
|
)
|
Customer refund
|
|
|
(547
|
)
|
|
|
—
|
|
Due to related parties
|
|
|
(10
|
)
|
|
|
24
|
|
Net cash used in operating activities
|
|
|
(1,610
|
)
|
|
|
(747
|
)
|
Cash flows from financing activities
|
|
|
|
|
|
|
|
|
Proceeds from issuance of preferred stock, net
|
|
|
—
|
|
|
|
464
|
|
Issuance of common stock net of issuance cost
|
|
|
307
|
|
|
|
—
|
|
Proceeds from issuance of bridge financing
|
|
|
—
|
|
|
|
406
|
|
Proceeds from credit facility
|
|
|
—
|
|
|
|
392
|
|
Payments on credit facility
|
|
|
—
|
|
|
|
(460
|
)
|
Deferred financing costs
|
|
|
—
|
|
|
|
(132
|
)
|
Net cash provided by financing activities
|
|
|
307
|
|
|
|
670
|
|
Net decrease in cash
|
|
|
(1,303
|
)
|
|
|
(77
|
)
|
Cash, beginning of the period
|
|
|
1,453
|
|
|
|
119
|
|
Cash, end of the period
|
|
$
|
150
|
|
|
$
|
42
|
|
Supplemental disclosure of cash flow information
|
|
|
|
|
|
|
|
|
Cash paid during the period for:
|
|
|
|
|
|
|
|
|
Interest
|
|
$
|
1
|
|
|
$
|
15
|
|
Non-cash investing and financing activities:
|
|
|
|
|
|
|
|
|
Deferred IPO costs
|
|
$
|
—
|
|
|
$
|
59
|
|
The accompanying
Notes to Consolidated Financial Statements are an integral part of these statements.
MONSTER DIGITAL, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 — BUSINESS
ACTIVITY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization
: Monster Digital, Inc. (“MDI”),
a Delaware corporation (formed in November 2010), and its subsidiary, SDJ Technologies, Inc. (“SDJ”) (collectively
referred to as the “Company”), is an importer of high-end memory storage products, flash memory and action sports cameras
marketed and sold under the Monster Digital brand name acquired under a long-term licensing agreement with Monster, Inc. The Company
sources its products from China, Taiwan and Hong Kong.
Public Offering
: The Company closed its initial public
offering (the “Offering”) on July 13, 2016 and its common stock and warrants are now listed on the Nasdaq Capital Market
under the symbols “MSDI” and “MSDIW”, respectively. The Offering generated gross proceeds of $9,132,750
on the sale of 2,025,000 common shares at $4.50 per share and 2,025,000 warrants at $0.01 per warrant.
Basis of Presentation
: The accompanying unaudited
consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United
States (“U.S. GAAP”) for interim financial information and with the SEC’s instructions for interim financial
information. They do not include all information and footnotes necessary for a fair presentation of financial position, operating
results and cash flows in conformity with U.S. GAAP for complete financial statements. These consolidated financial statements
should be read in conjunction with the consolidated financial statements and related notes for the year ended December 31, 2016
which are included in Form 10-K filed by the Company that on March 31, 2017. In the opinion of management, all adjustments (consisting
of normal recurring adjustments and accruals) considered necessary for a fair presentation of the operating results for the periods
presented have been included in the interim periods. Operating results for the three months ended March 31, 2017 are not necessarily
indicative of the results that may be expected for other interim periods or the year ending December 31, 2017. For interim financial
reporting purposes, income taxes are recorded based upon estimated annual effective income tax rates taking into consideration
discrete items occurring in a quarter. The consolidated balance sheet as of December 31, 2016 is derived from the 2016 audited
financial statements.
Principles of Consolidation
: The consolidated
financial statements include the accounts of MDI and SDJ. All significant intercompany transactions have been eliminated in consolidation.
Use of Estimates
: The preparation of financial
statements in conformity with accounting principles generally accepted in the United States of America requires management to make
certain estimates and assumptions that affect the reported amounts of assets and liabilities (including sales returns, price protection
allowances, bad debts, inventory reserves, warranty reserves, and asset impairments), 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. Actual results
could differ significantly from those estimates
Concentration of Cash
: The Company maintains
its cash in bank accounts which, at times, may exceed federally insured limits. The Company has not experienced any losses in such
accounts. Management believes the Company is not exposed to any significant credit risk on its cash balances.
Accounts Receivable
: Accounts receivable are
carried at original invoice amount less allowance for doubtful accounts. Management determines the allowance for doubtful accounts
by identifying troubled accounts and by using historical experience applied to an aging of accounts. Accounts receivable are written
off when deemed uncollectible. Recoveries of receivables previously written off are recorded when received. Accounts receivable
are considered to be past due if any portion of the receivable balance is outstanding for more than 90 days past the customer’s
granted terms. The Company does not charge interest on past due balances or require collateral on its accounts receivable. As of
March 31, 2017 and December 31, 2016, the allowance for doubtful accounts was approximately $273,000 and $253,000, respectively.
Inventories
: Inventories are stated at the
lower of cost or market, with cost being determined on the weighted average cost method of accounting. The Company purchases finished
goods and materials to assemble kits in quantities that it anticipates will be fully used in the near term. Changes in operating
strategy, customer demand, and fluctuations in market values can limit the Company’s ability to effectively utilize all products
purchased and can result in finished goods with above-market carrying costs which may cause losses on sales to customers. The Company’s
policy is to closely monitor inventory levels, obsolescence and lower market values compared to costs and, when necessary, reduce
the carrying amount of its inventory to its market value. As of March 31, 2017 and December 31, 2016, inventory on hand was comprised
primarily of finished goods ready for sale and packaging and supplies.
Fair Value of Financial Instruments
: Fair
value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants at the measurement date. As such, fair value is a market-based measurement that should
be determined based on the assumptions that market participants would use in pricing an asset or liability. Fair value is based
on a hierarchy of valuation techniques, which is determined on whether the inputs to those valuation techniques are observable
or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the
Company’s own market assumptions. These two types of inputs create a three-tier fair value hierarchy, which prioritizes the
inputs used in measuring fair value as follows:
Level 1:
|
Quoted prices for identical instruments in active markets.
|
Level 2:
|
Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.
|
Level 3:
|
Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
|
The carrying amount for other financial instruments, which include
cash, accounts receivable, accounts payable, and line of credit, approximate fair value based upon their short term nature and
maturity.
Revenue Recognition
: Revenue is realized or
realizable and earned when all of the following criteria are met: (1) persuasive evidence of an arrangement exists, (2) the sales
price is fixed or determinable, (3) collectability is reasonably assured, and (4) products have been shipped and the customer has
taken ownership and assumed the risk of loss. Distributors and retailers take full ownership of their product upon delivery and
sales are fully recognized at that time.
Revenue is reduced by reserves for price protection, sales returns,
allowances and rebates. Our reserve estimates are based upon historical data as well as projections of sales, customer inventories,
market conditions and current contractual sales terms. If the Company reduces the list price of its products, certain customers
may receive a credit from the Company (i.e., price protection). The Company estimates the impact of such pricing changes on a regular
basis and adjusts its allowances accordingly. Amounts charged to operations for price protection are calculated based on actual
price changes on individual products and customer inventory levels. The reserve is then reduced by actual credits given to these
customers at the time the credits are issued. We calculate the allowance for doubtful accounts and provision for sales returns
and rebates based on management’s estimate of the amount expected to be uncollectible or returned on specific accounts. We
provide for future returns, price protection and rebates at the time the products are sold. We calculate an estimate of future
returns of product by analyzing units shipped, units returned and point of sale data to ascertain consumer purchases and inventory
remaining with retail to establish anticipated returns. Price protection is calculated on a product by product basis. The objective
of price protection is to mitigate returns by providing retailers with credits to ensure maximum consumer sales. Price protection
is granted to retailers after they have presented the Company an affidavit of existing inventory.
The Company also offers market development credits (“MDF
credits”) to certain of its customers. These credits are also charged against revenue.
Shipping and Handling Costs
: Historically,
the Company has not charged its customers for shipping and handling costs, which is a component of marketing and selling expenses.
These costs totaled approximately $31,000 and $17,000 in the three months ended March 31, 2017 and 2016, respectively.
Income Taxes
: Deferred tax assets and liabilities
are determined based on the temporary differences between the financial reporting and tax basis of assets and liabilities and net
operating loss carryforwards, applying enacted statutory tax rates in effect for the year in which the differences are expected
to reverse. A valuation allowance is recorded when it is more likely than not that some or all of the deferred tax assets will
not be realized.
The Company uses a two-step approach to recognizing and measuring
uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available
evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related
appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more likely
than not to be realized upon settlement. As of March 31, 2017 and December 31, 2016, there are no known uncertain tax positions.
The Company’s policy is to classify the liability for
unrecognized tax benefits as current to the extent that it is more likely than not to be realized upon settlement and to the extent
that the Company anticipates payment (or receipt) of cash within one year. The Company recognizes interest and penalties, if any,
related to unrecognized tax benefits in the tax provision.
Product Warranty
: The Company’s memory
products are sold under various limited warranty arrangements ranging from three years to five years on solid state drives and
a limited lifetime warranty on all other products. Company policy is to establish reserves for estimated product warranty costs
in the period when the related revenue is recognized. The Company has the right to return defective products to the manufacturer.
As of March 31, 2017 and December 31, 2016, the Company has established a warranty reserve of $104,000 and $118,000, respectively.
The warranty reserve is included in accrued expenses in the accompanying consolidated balance sheets.
Research and Development
: The Company incurs
costs to improve the appeal and functionality of its products. Research and development costs are charged to expense when incurred.
Earnings (Loss) per Share
: Basic earnings
(loss) per share is calculated by dividing net earnings (loss) attributable to common stockholders by the weighted-average number
of shares of common stock outstanding during the period. Diluted earnings (loss) per share is calculated similarly but includes
potential dilution from the exercise of common stock warrants and options and conversion of debt to equity, except when the effect
would be anti-dilutive. Earnings (loss) per share are computed using the “treasury stock method.” At March 31, 2017,
outstanding warrants to acquire 4,296,649 shares of common stock (2,025,000 issued further to the Offering, 1,405,007 issued in
connection with the conversion of preferred stock and bridge loans upon closing of the Offering and 866,642 other warrants), 65,077
stock options, and $38,000 in convertible notes payable have been excluded from the computation of diluted loss per share because
their effect was anti-dilutive. At March 31, 2016, warrants outstanding for 325,093 shares of common stock, and 71,040 stock options,
536,900 preferred shares and $38,000 in convertible notes payable have been excluded from the computation of diluted loss per share
because their effect was anti-dilutive.
Recently Issued Accounting Pronouncements
— In
May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
No. 2014-09,
Revenue from Contracts with Customers (Topic 606).
ASU 2014-09 is based on the principle that revenue is recognized
to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects
to be entitled in exchange for those goods or services. ASU 2014-09 also requires additional disclosure about the nature, amount,
timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in
judgments and assets recognized from costs incurred to obtain or fulfill a contract. ASU 2014-09 is effective in the first quarter
of 2018 and requires either a retrospective or a modified retrospective approach to adoption. We have not yet selected a transition
method and are currently evaluating the effect that the updated standard will have on our consolidated financial statements and
related disclosures.
In July 2015, the FASB issued ASU 2015-11,
Inventory (Topic
330): Simplifying the Measurement of Inventory
. The standard requires entities to measure most inventory “at the lower
of cost and net realizable value,” thereby simplifying the current guidance under which an entity must measure inventory
at the lower of cost or market (market in this context is defined as one of three different measures, one of which is net realizable
value). The standard is effective for the Company prospectively beginning January 1, 2017. The adoption of this standard has not
had a material impact to the Company.
In November 2015, the FASB issued ASU No. 2015-17
, Income
Taxes (Topic 740), Balance Sheet Classification of Deferred Taxes
, which includes amendments that require deferred tax liabilities
and assets be classified as non-current in a classified statement of financial position. The amendments in this ASU are effective
for financial statements issued for annual periods beginning after December 15, 2017, and interim periods within annual periods
beginning after December 15, 2018. Earlier application is permitted as of the beginning of an interim or annual reporting
period. The amendments may be applied either prospectively to all deferred tax liabilities and assets or retrospectively
to all periods presented. The adoption of this ASU is not expected to have a material impact on the Company’s
consolidated financial statements and related disclosures.
In February 2016, the FASB issued ASU No. 2016-02,
Leases
(Topic 842)
, which requires lessees to recognize assets and liabilities for the rights and obligations created by most leases
on their balance sheet. The guidance is effective for fiscal years beginning after December 15, 2018, including interim periods
within those fiscal years. Early application is permitted. ASU 2016-02 requires modified retrospective adoption for all leases
existing at, or entered into after, the date of initial application, with an option to use certain transition relief. The Company
is currently evaluating the impact the standard may have on its consolidated financial statements and related disclosures.
In March 2016, the FASB issued ASU No. 2016-09,
Improvements
to Employee Share-Based Payment Accounting (Topic 718),
which provides for simplification of certain aspects of employee
share-based payment accounting including income taxes, classification of awards as either equity or liabilities, accounting for
forfeitures and classification on the statement of cash flows. ASU 2016-09 will be effective for the Company in the first quarter
of 2017 and will be applied either prospectively, retrospectively or using a modified retrospective transition approach depending
on the area covered in this update. The adoption of this ASU did not have a material impact on the Company’s consolidated
financial statements and related disclosures.
In January 2017, the FASB issued ASU No. 2017-01,
Business
Combinations
– Clarifying the Definition of a Business,
which clarifies the definition of a business to assist entities with
evaluating whether transactions should be accounted for as acquisitions or disposals of assets or businesses. The standard introduces
a screen for determining when assets acquired are not a business and clarifies that a business must include, at a minimum, an input
and a substantive process that contribute to an output to be considered a business. This standard is effective for fiscal years
beginning after December 15, 2017, including interim periods within that reporting period. The Company does not expect this new
guidance to have a material impact on its consolidated financial statements.
Other pronouncements issued by the FASB or other authoritative
accounting standards groups with future effective dates are either not applicable or not significant to the consolidated financial
statements of the Company.
NOTE 2 — GOING
CONCERN
As of March 31, 2017, the Company has incurred cumulative net
losses from its inception of approximately $34 million and has incurred a year to date loss of approximately $2.2 million and used
cash in operations of approximately $1.6 million. These circumstances raise substantial doubt as to the Company’s ability
to continue as a going concern. In response to this uncertainty, Management has taken certain measures in 2016 and to date in 2017
and has plans for the remainder of 2017 and beyond, with the objective of alleviating this concern. They include the following:
|
•
|
In the three months ended March 31, 2017, the Company
raised approximately $287,000, net of offering costs, upon the issuance of common stock and has raised an additional approximate
$112,000, net of offering costs, subsequent to March 31, 2017. The Company continues to seek funding in order to support
its operations.
|
|
•
|
In order to meet customers’ needs for consumer
products, the Company is continuing to develop new products to complement existing products and expand overall product offerings,
with the objective of increasing revenue and gross profit percentages. The Company introduced two new action sports camera in
the third quarter of 2016 and will be introducing additional new action sports cameras in 2017.
|
While the Company believes it will be successful in obtaining
the necessary financing to fund its operations, there are no assurances that such additional funding will be achieved and that
it will succeed in its future operations. The financial statements do not include any adjustments relating to the recoverability
and classification of recorded asset amounts or amounts of liabilities that might be necessary should the Company be unable to
continue in existence.
NOTE 3 — DEBT
AND EQUITY FINANCING
Credit Facility
In June 2015, the Company secured an accounts receivable financing
facility with Bay View Funding. The contract provides for maximum funding of $4 million and a factoring fee of 1.35% for the first
30 days and .45% for each 10-day period thereafter that the financed receivable remains outstanding. Upon the execution of this
contract, the balance owed under a prior credit facility was repaid and that contract was terminated. There was no amount outstanding
under this facility as of March 31, 2017 and December 31, 2016. There are no financial or similar covenants associated with this
facility.
Notes Payable
As of March 31, 2017 and December 31, 2016,
a total of $38,000 in principal of convertible Notes payable remain outstanding. These Notes matured in the second quarter of 2015
and remain outstanding as of March 31, 2017.
Promissory notes
From October 2015 through March 7, 2016, the Company issued
promissory notes; the notes were due and payable at the earlier of one year from the date of issuance or the closing date of the
Company’s initial public offering, bore interest rate of 15% that was accrued upon issuance, irrespective of whether the
promissory note was outstanding for part or full term until maturity, and had a loan origination fee of $.225 for each dollar loaned.
The loan origination fee associated with the notes at maturity was $756,000 and was recorded as accrued interest and debt discount
to the notes payable and was being amortized over the life of the notes. All principal, fees and interest were payable on the due
date. In July 2016, the Company completed the Offering whereby 90% of the outstanding promissory notes totaling $3,024,000 were
converted to 672,000 shares of common stock and 672,000 warrants at the offering price of $4.50 per share. The 15% accrued interest
and the 22.5% origination fee were waived as part of the conversion. The remaining, unconverted $336,000 of promissory notes were
paid out of the proceeds of the Offering along with the accrued interest and origination fee attributable to those notes. No balance
is due as of March 31, 2017 and December 31, 2016.
Due to Monster, Inc
.
In addition to the issuance of shares of common stock and common
stock purchase warrants (see Note 5), the Company has agreed to pay Monster, Inc. $500,000 as consideration for use of the name
Monster Digital, Inc. pursuant to Amendment No. 3 to the Trademark License Agreement between the Company and Monster, Inc. Of this
total balance, the Company agreed to pay $125,000 in December 2015 and the balance from the proceeds of the planned IPO. The Company
paid $50,000 of the $125,000 in December 2015 and the balance in January 2016. The remaining $375,000 was paid in September 2016.
Notes payable consists of the following (in thousands):
|
|
March 31,
2017
|
|
|
December 31,
2016
|
|
Note payable, convertible debt
|
|
$
|
38
|
|
|
$
|
38
|
|
Total
|
|
$
|
38
|
|
|
$
|
38
|
|
NOTE 4 — ACCRUED
EXPENSES
Accrued expenses consist of the following (in thousands):
|
|
March 31,
2017
|
|
|
December 31,
2016
|
|
Royalties
|
|
$
|
125
|
|
|
$
|
125
|
|
Market development credits
|
|
|
92
|
|
|
|
109
|
|
Price protection
|
|
|
28
|
|
|
|
107
|
|
Return reserves
|
|
|
127
|
|
|
|
118
|
|
Accrued purchase orders
|
|
|
98
|
|
|
|
158
|
|
Due to customer for promotional credits
|
|
|
125
|
|
|
|
445
|
|
Others
|
|
|
878
|
|
|
|
724
|
|
Total
|
|
$
|
1,473
|
|
|
$
|
1,786
|
|
NOTE 5 — STOCKHOLDERS’
EQUITY
Common Stock Purchase Warrants
: In 2016,
the Company issued warrants to acquire 3,755,100 shares of common stock, 2,025,000 issued further to the Offering and 1,405,007
issued in connection with the conversion of preferred stock and bridge loans upon closing of the Offering. As of March 31, 2017
and December 31, 2016, warrants to purchase 4,159,909 and 4,159,909 shares of common stock, respectively, are outstanding. Unexercised
warrants will expire from 2017 to 2021.
Restricted Shares
: In August 2015, the Company
issued 84,170 shares of restricted common stock to the Company’s Chairman of the Board pursuant to a consulting agreement.
The consulting agreement was effective in May 2015.
In August 2015, the Company issued 382,575 shares of restricted
common stock in connection to the Trademark License Agreement with Monster, Inc. The fair value of the 382,575 shares approximating
$2,103,000 were recorded as part of the Trademark in August 2015. In regards to the valuation of the Company’s common stock,
the Board of Directors engaged an independent third party valuation of the Company. Factors included in the valuation included
the Company’s present value of future cash flows, its capital structure, valuation of comparable companies, its existing
licensing agreements and the growth prospects for its product line. These factors were incorporated into an income approach and
a market approach in order to derive an overall valuation of the Company’s common stock of $5.49 per share at August 2015.
In August 2016, the Company authorized the issuance of 40,000
shares of restricted common stock pursuant to a services agreement with an investment relations firm and recognized $7,000 of compensation
expense related to restricted shares in the three months ended March 31, 2017. In addition, the Company authorized the issuance
of 125,000 shares of restricted common stock to Jawahar Tandon pursuant to a consulting agreement and recognized the full $563,000
of compensation expense related to the restricted shares during the year ended December 31, 2016.
In November 2016, the Company entered into a securities purchase
agreement with the selling stockholder providing for the issuance and sale to such investor of 333,333 shares of our common stock.
The shares issued in the Private Placement were sold at a purchase price per share of $1.50, for aggregate gross proceeds to us
of approximately $500,000 and aggregate net proceeds to us, after deducting for placement agent fees and expenses, of approximately
$446,000. In addition, under the same Private Placement Memorandum, the Company issued 151,515 shares of restricted common stock
to its Chairman of the Board at a purchase price of $1.65 per share for gross proceeds of $250,000 and net proceeds of approximately
$226,000.
In March 2017, the Company issued 70,000 shares at $1.50 per
share and 203,478 shares at $1.15 per share pursuant to a Private Placement Memorandum for aggregate gross proceeds of $339,000
and net proceeds, after deducting for commission and placement agent fees and expenses, of approximately $307,000. Subsequent to
March 31, 2017, the Company issued an additional 116,000 shares at $1.15 for aggregate gross proceeds of $133,400 and net proceeds,
after deducting for commission, of approximately $112,000.
Preferred Stock
: In March 2016, the Company issued a
confidential Private Placement Memorandum (“PPM”) for a maximum of 3,000,000 shares of Series A Convertible Preferred
Stock, with a purchase price of $1.00 per share and convertible into one share of the Company’s common stock and having an
8%, noncumulative dividend. Pursuant to the PPM, as of June 30, 2016, 2,802,430 shares of Series A Preferred Stock were subscribed
for net proceeds of approximately $2.4 million. In July 2016, the Company completed the Offering in which all shares of Series
A Preferred Stock was converted into 622,762 shares of common stock and 622,762 warrants at the public offering price of $4.50
per share and the issuance of 134,044 shares of common stock further to the conversion.
NOTE 6 — STOCK
OPTIONS
In 2012, the Company’s Board of Directors approved the
2012 Omnibus Incentive Plan (the “Plan”) which allows for the granting of stock options, stock appreciation rights,
awards of restricted stock and restricted stock Units, stock bonuses and other cash and stock-based performance awards. A total
of 970,350 shares of common stock have been approved and reserved for issuance under the Plan, which includes a 600,000 share increase
approved by the Company’s stockholders in May 2016. During the three months ended March 31, 2017 and 2016, no options were
granted under the Plan. There were 234,949 and 778,949 shares of common stock available to grant as options or restricted stock
at March 31, 2017 and December 31, 2016, respectively.
Concurrent
to the Offering, 10,000 shares of restricted stock were granted to each of the Company’s four outside directors. In January
2017, an additional 5,000 shares were granted to three of the directors. Also in January 2017, 175,000 shares of restricted stock
were issued to the Company’s CEO fully vested and the Company recognized $266,000 of stock-based compensation during the
three months ended March 31, 2017. Also in January 2017, an additional 435,000 shares of restricted stock were granted to officers
and other employees of the Company. Of these grants, 50,000 shares vest over three years from date of grant, 375,000 shares fully
vest after one year from date of grant and 10,000 shares were immediately vested.
Also granted on the effective date of the Offering were previously
approved options to acquire 16,834 and 33,668 common shares at an exercise price per share of $4.50 to David Olert and Neal Bobrick,
respectively. Options to purchase 18,000 common shares at an exercise price per share of $4.50 were granted each to Vivek Tandon
and Marc Matejka. Mr. Bobrick forfeiting said options upon is resignation. Mr. Tandon departed from the Company in January 2017
and Mr. Matejka parted from the Company in March 2017 and their options were forfeited
.
In August 2016, pursuant to a services agreement, the Company
granted options to acquire 38,143 shares of common stock to an investor relations firm and recognized $7,000 of non-cash stock-based
compensation related to the issuance during the three months ended March 31, 2017.
The Company follows the provision of ASC Topic 718,
Compensations
– Stock Compensation
which requires the measurement and recognition of compensation expense for all stock-based payment
awards made to employees and non-employee directors, including employee stock options. Stock compensation expense based on the
grant date fair value estimated in accordance with the provisions of ASC 718 is generally recognized as an expense over the requisite
service period.
In 2016, the following stock option grants were made:
Option Date
|
|
Options
Granted
|
|
|
Exercise
Price
|
|
|
Estimated
Fair
Value of
Underlying
Stock
|
|
|
Intrinsic
Value
|
|
August 2016
|
|
|
6,004
|
|
|
$
|
5.00
|
|
|
$
|
3.00
|
|
|
|
None
|
|
August 2016
|
|
|
7,230
|
|
|
$
|
7.00
|
|
|
$
|
3.00
|
|
|
|
None
|
|
August 2016
|
|
|
9,986
|
|
|
$
|
9.00
|
|
|
$
|
3.00
|
|
|
|
None
|
|
August 2016
|
|
|
14,923
|
|
|
$
|
11.00
|
|
|
$
|
3.00
|
|
|
|
None
|
|
No stock options were granted during the three months ended
March 31, 2017.
The Company utilizes the Black-Scholes valuation method to value
stock options and recognizes compensation expense over the vesting period. The expected life represents the period that the Company’s
stock-based compensation awards are expected to be outstanding. The Company uses a simplified method provided in Securities and
Exchange Commission release Staff Accounting Bulletin No. 110 which averages an awards weighted average vesting period and contractual
term for “plain vanilla” share options. The expected volatility was estimated by analyzing the historic volatility
of similar public companies. No dividend payouts were assumed as the Company has not historically paid, and is not anticipating
to pay, dividends in the foreseeable future. The risk-free rate of return reflects the weighted average interest rate offered for
U.S. Treasury rates over the expected life of the options.
A summary of significant assumptions used to estimate the fair
value of the stock options granted in 2016 are as follows:
Weighted average fair value of options granted
|
|
$1.70
|
Expected term (years)
|
|
6.0 to 10.0
|
Risk-free interest rate
|
|
1.21% to 1.51%
|
Volatility
|
|
45.4%
|
Dividend yield
|
|
None
|
The Company recorded non-cash stock-based compensation related
to stock options of $11,000 and $3,000 during the three months ended March 31, 2017 and 2016, respectively. An additional $82,000
of stock-based compensation related to stock options remains to be amortized over 39 months.
A summary of option activity for the Plan as of March 31, 2017
and changes for the three months then ended are represented as follows:
|
|
Number of
Options
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Weighted
Average
Remaining
Contract
Term (Years)
|
|
|
Aggregate
Intrinsic
Value
|
|
Options outstanding January 1, 2017
|
|
|
101,077
|
|
|
$
|
8.63
|
|
|
|
9.50
|
|
|
$
|
—
|
|
Granted
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Forfeited
|
|
|
(36,000
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Outstanding at March 31, 2017
|
|
|
65,077
|
|
|
$
|
10.92
|
|
|
|
9.25
|
|
|
$
|
—
|
|
The following table summarizes restricted share activity for
the three months ended March 31, 2017:
|
|
Number of
Shares
|
|
|
Weighted
Average
Grant Date Fair Value
|
|
Outstanding January 1, 2017
|
|
|
128,467
|
|
|
$
|
3.87
|
|
Granted
|
|
|
630,000
|
|
|
|
1.52
|
|
Vested
|
|
|
(243,467
|
)
|
|
|
2.09
|
|
Forfeited
|
|
|
(50,000
|
)
|
|
|
3.68
|
|
Outstanding at March 31, 2017
|
|
|
465,000
|
|
|
$
|
1.64
|
|
As of March 31, 2017, the total compensation expense related
to unvested options and restricted stock not yet recognized totaled approximately $564,000. The weighted average vesting period
over which the total compensation expense will be recorded related to unvested options and restricted stock not yet recognized
at March 31, 2017 was approximately 14 months.
NOTE 7 — RELATED
PARTY TRANSACTIONS
Borrowings
: In September 2015, David Clarke,
the Company’s Chairman of the Board and a significant stockholder of the Company, loaned the Company $100,000 further to
a promissory note bearing interest at 5% per annum, principal and unpaid interest payable on demand. In addition, Mr. Clarke incurred
expenses on behalf of the Company totaling approximately $50,000. Concurrent with the closing of the Offering, the loan and liability
related to the expenses were converted into 33,333 shares of common stock and 33,333 warrants at the public offering price of $4.50.
Restricted Shares
: In November 2016, the Company
issued 151,515 shares of restricted common stock to its Chairman of the Board at a purchase price of $1.65 per share pursuant to
a Private Placement Memorandum. In March 2017, the Company issued 70,000 shares of restricted stock to its Chairman of the Board
at a purchase price of $1.50 per share pursuant to a Private Placement Memorandum.
Due to related party at March 31, 2017 and December 31, 2016
consists of a payable to SDJ Partners, LLC, a partnership owned by the Tandon family, for rent due on a facility shared prior to
2015. Jawahar Tandon is a former director and Chief Executive Officer and Devinder Tandon is a former director.
NOTE 8 — INCOME
TAXES
For the three months ended March 31, 2017 and 2016 there was
no income tax provision recorded. The Company’s income tax provision generally consists of state income taxes currently paid
or payable.
The ultimate realization of the deferred tax asset is dependent
upon the generation of future taxable income during the periods in which temporary differences become deductible. Due to the uncertainty
surrounding the realization of these deferred tax assets, the Company has recorded a 100% valuation allowance. Net operating loss
carryforwards expire between the years 2029 and 2036. Tax years ended December 31, 2016, 2015, 2014 and 2013 are open and subject
to audit.
The effective income tax provision as a percentage of pre-tax
loss differs from expected combined federal and state income tax of 40% as a result of the full valuation allowance.
Management is not aware of any uncertain tax positions and does
not expect the total amount of recognized tax benefits to change significantly in the next twelve months.
NOTE 9 — CUSTOMER
AND VENDOR CONCENTRATIONS
Customers
:
Approximately 22%, 19%, 19% and 13% of the Company’s gross
sales were made to four customers with each exceeding 10% of total gross sales for the three months ended March 31, 2017. At March
31, 2017, the amount included in outstanding accounts receivable related to these customers was approximately $696,000. Approximately
35%, 14%, 12% and 11% of the Company’s gross sales were made to four customers with each exceeding 10% of total gross sales
for the three months ended March 31, 2016.
Vendors
:
Approximately 99% of the Company’s purchases were provided
by three vendors for the three months ended March 31, 2017. At March 31, 2017, the amount in accounts payable related to these
vendors was approximately $18,000. Approximately 87% of the Company’s purchases were provided by two vendors for the three
months ended March 31, 2016.
NOTE 10 — COMMITMENTS
AND CONTINGENCIES
Royalty
The Company entered into the initial trademark license agreement
with Monster, Inc. (formerly Monster Cable Products, Inc.) effective July 7, 2010. In 2012, the agreement was amended giving the
Company exclusive rights to utilize the name “Monster Digital” on memory products for a period of 25 years (expires
July 7, 2035) under the following payment schedule of royalties to Monster, Inc. This license agreement contains various termination
clauses that include (i) change in control, (ii) breach of contract and (iii) insolvency, among others. The Company is required
to remit royalty payments to Monster, Inc. on or before the 30
th
day following the end of each calendar quarter. At
any time during the term of the agreement, a permanent license may be negotiated.
The royalty schedule became effective in August 2011 and was
further amended in April 2012. As amended, royalties under this contract are as follows:
|
•
|
Years 1 (2010) and 2: Royalties on all sales
excluding sales to Monster, Inc. at a rate of four (4) percent, with no minimum.
|
|
•
|
Years 3 through 6: Minimum royalty payments
of $50,000 per quarter up to a maximum of four (4) percent of all sales excluding sales to Monster, Inc.
|
|
•
|
Years 7 through 10: Minimum royalty payments
of $125,000 per quarter up to a maximum of four (4) percent of all sales excluding sales to Monster, Inc.
|
|
•
|
Years 11 through 15: Minimum royalty payments
of $187,500 per quarter up to a maximum of four (4) percent of all sales excluding sales to Monster, Inc.
|
|
•
|
Years 16 through 25: Minimum royalty payments
of $250,000 per quarter up to a maximum of four (4) percent of all sales excluding sales to Monster, Inc.
|
Effective July 1, 2014, the royalty rate on certain products
was reduced from 4% to 2% for a period of 12 months, based on a mutual understanding between the Company and the licensor.
For the three months ended March 31, 2017 and 2016, royalty
expense amounted to approximately $125,000 and $50,000, respectively and is included as a component of selling and marketing expenses
in the accompanying consolidated statements of operations. At March 31, 2017, $125,000 was due for royalties. The Company is not
in compliance with the royalty payment schedule.
Operating Lease
The Company occupied executive offices in Simi Valley, CA pursuant
to a lease through January 31, 2018. Effective as of March 31, 2017, the Company terminated the lease by mutually accepted and
favorable terms with the lessor. Effective April 1, 2017, the Company entered into a one year lease for warehouse space in Ontario,
CA.
Customer Payment Agreements
In July 2015, the Company entered into an agreement with a customer
under which the Company will pay the customer a total of $835,000 owed to the customer for promotional and other credits related
to sales that occurred in 2014. The credits were accrued as contra-sales in 2014. Under the terms of the agreement, there is no
interest and the Company will make 12 monthly payments of $65,000 beginning in August 2015, and one final payment of $65,000 in
August 2016. The Company is not in compliance with the payment agreement and the balance owed is $125,000 at March 31, 2017.
In January 2017, the Company entered into an agreement with
a customer under which the Company settled an amount due of $1.84 million for $1.5 million, recording a $345,000 deferred gain
and recognizing a current period gain of $68,000. The settlement included an initial payment of $250,000 with the remaining balance
to be paid in monthly installments through December 2018. The Company is not in compliance with the payment agreement and the balance
owed is $1.2 million at March 31, 2017.
Legal Matters
The Company is subject to certain legal proceedings and claims
arising in connection with the normal course of its business.
On February 16, 2016, the Company received a letter from GoPro,
Inc., or GoPro, alleging that the Company infringes on at least five U.S. patents held by GoPro, and requesting that confirm in
writing that the Company will permanently cease the sale and distribution of its Villain camera, along with any camera accessories,
including the waterproof camera case and standard housing. The five patents specifically identified by GoPro in the letter were
U.S. Patent No. D710,921: camera housing design, U.S. Patent No. D702,747: camera housing design, U.S. Patent No. D740,875: camera
housing design, U.S. Patent No. D737,879: camera design and U.S. Patent No. 721,935: camera design. Based upon our preliminary
review of these patents, the Company believes it has some defenses to GoPro’s allegations, although there can be no assurance
that the Company will be successful in defending against these allegations or reaching a business resolution that is satisfactory
to us. In addition, we have begun marketing and selling the camera under the name “Monster Vision” and phasing out
the “Villain” name. We have had no correspondence from GoPro since instituting the name change.
The supplier of the Company’s Villain camera has contractually
represented and warranted that it owns or has paid royalties to any and all intellectual property, designs, software, hardware,
packaging, components, manuals and any other portion, part or element that is or may be subject to the Villain and the parts and
accessories thereof sourced by the supplier. This supplier has contractually agreed to pay any claims, damages, or costs that the
Company suffers as a result of the patent infringement or a violation of international, U.S. or state laws or regulations as detailed
in the prior sentence.
|
ITEM 2.
|
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
|
The following discussion of our financial condition and results
of operations should be read in conjunction with our unaudited interim financial statements and the notes to those financial statements
appearing elsewhere in this Report.
Certain statements in this Report constitute forward-looking
statements. These forward-looking statements include statements, which involve risks and uncertainties, regarding, among other
things, (a) our projected sales, profitability, and cash flows, (b) our growth strategy, (c) anticipated trends in our industry,
(d) our future financing plans, and (e) our anticipated needs for, and use of, working capital. They are generally identifiable
by use of the words “may,” “will,” “should,” “anticipate,” “estimate,”
“plan,” “potential,” “project,” “continuing,” “ongoing,” “expects,”
“management believes,” “we believe,” “we intend,” or the negative of these words or other variations
on these words or comparable terminology. In light of these risks and uncertainties, there can be no assurance that the forward-looking
statements contained in this filing will in fact occur. You should not place undue reliance on these forward-looking statements.
The forward-looking statements speak only as of the date on
which they are made and, except to the extent required by federal securities laws, we undertake no obligation to update any forward-looking
statements to reflect events or circumstances after the date on which the statements are made or to reflect the occurrence of unanticipated
events.
The “Company”, “we,” “us,”
and “our,” refer to Monster Digital, Inc. and its wholly-owned subsidiary SDJ Technologies, Inc.
Overview
General
Our primary business focus is the design, development and marketing
of premium products under the “Monster Digital” brand for use in high-performance computing and consumer and mobile
product applications. We have invested significantly in building a broad distribution channel for the sale of products bearing
the “Monster Digital” brand. Our current focus is to leverage our distribution network through cooperating with Monster,
Inc. to identify and market additional specialty and consumer electronics products.
Currently, our primary product offerings are as follows:
|
•
|
A line of action sports cameras used in adventure sport,
adventure photography and extreme-action videography.
|
|
•
|
A line of ultra-small mobile external memory drive products
for Apple iOS devices.
|
|
•
|
On-The-Go Cloud devices on an exclusive basis which create
a wi-fi hot spot for multiple users while simultaneously allowing data to be viewed, played or transferred among the connected
storage.
|
|
•
|
A broad selection of high-value memory storage products
consisting of high-end, ruggedized Solid State Drives (“SSDs”), removable flash memory CompactFlash cards (“CF
cards”), secured digital cards (“SD cards”) and USB flash drives.
|
Our license with Monster, Inc. allows us to manufacture and
sell certain high-end products, utilizing the Monster premium brand name which is highly recognized by consumers for its high quality
audio-video products. We work with our world-class subcontract manufacturers and suppliers to offer new and enhanced products that
use existing technology and adopt new technologies to satisfy existing and emerging consumer demands and preferences. On the marketing
side, we partner with Monster, Inc. to support the sales and marketing of these products on a global basis.
Historically, memory has been the most significant part of our
business and it is a commodity that tends to be subject to price erosion. Using the Monster branding to quickly introduce new technologies
to the market is designed to bring about the introduction of products that are not subject to the same level of downward pressure
on pricing as is common with memory products. In addition, we intend to expand and continue to invest in our international operations,
which we believe will be an important factor in our continued growth.
As a result of our strategy to increase our investments in sales,
marketing, support, and international expansion, we expect to continue to incur operating losses and negative cash flows from operations
at least in the near future and may require additional capital resources to execute strategic initiatives to grow our business.
Net
sales
The principal factors that have affected or could affect our
net sales from period to period are:
|
•
|
The condition of the economy in general and of the memory
storage products industry in particular,
|
|
•
|
Our customers’ adjustments in their order levels,
|
|
•
|
Changes in our pricing policies or the pricing policies
of our competitors or suppliers,
|
|
•
|
The addition or termination of key supplier relationships,
|
|
•
|
The rate of introduction and acceptance by our customers
of new products,
|
|
•
|
Our ability to compete effectively with our current and
future competitors,
|
|
•
|
Our ability to enter into and renew key corporate and
strategic relationships with our customers, vendors and strategic alliances,
|
|
•
|
Changes in foreign currency exchange rates,
|
|
•
|
A major disruption of our information technology infrastructure,
|
|
•
|
Unforeseen catastrophic events, such as armed conflict,
terrorism, fires, typhoons and earthquakes, and
|
|
•
|
Any other disruptions, such as labor shortages, unplanned
maintenance or other manufacturing problems.
|
Cost
of goods sold
Cost of goods sold primarily includes the cost of products that
we purchase from third party manufacturers and sell to our customers. Additional packaging and assembly (labor) costs for certain
product orders is also a component of costs of goods sold. Cost of goods sold is also affected by inventory obsolescence if our
inventory management is not effective or efficient. We mitigate the risk of inventory obsolescence by stocking relatively small
amounts of inventory at any given time, and relying instead on a strategy of manufacturing or acquiring products based on orders
placed by our customers.
General
and administrative expenses
General and administrative expenses relate primarily to compensation
and associated expenses for personnel in general management, information technology, human resources, procurement, planning and
finance, as well as outside legal, investor relations, accounting, consulting and other operating expenses.
Selling
and marketing expenses
Selling and marketing expenses relate primarily to salary and
other compensation and associated expenses for internal sales and customer relations personnel, advertising, outbound shipping
and freight costs, tradeshows, royalties under a brand license, and selling commissions.
Research
and development expenses
Research and development expenses consist of compensation and
associated costs of employees engaged in research and development projects, as well as materials and equipment used for these projects,
and third party compensation for research and development services. We do not engage in any long-term research and development
contracts, and all research and development costs are expensed as incurred.
Other
expenses
Interest and finance expense includes interest paid or payable
to a finance company for outstanding borrowings, bank fees, purchase order finance fees, interest accrued on convertible debt,
amortization of a debt discount that arose as a result of the issuance of warrants with convertible debt, and amortization of debt
issuance costs. Debt conversion expense is a non-cash charge for the effect of an induced conversion of debt to equity
Three Months ended March 31, 2017 Compared
to Three Months ended March 31, 2016
Results of Operations
The following discussion explains in greater detail our consolidated
operating results and financial condition. This discussion should be read in conjunction with the consolidated financial statements
and notes herein.
|
|
Three months ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
(in thousands)
|
|
Net sales
|
|
$
|
951
|
|
|
$
|
538
|
|
Net sales for the three months ended March 31, 2017 increased
approximately 77% to $951,000 from $538,000 for the three months ended March 31, 2016. We are beginning to gain traction with our
action sports camera line even as we significantly reduce sales of memory product. In the three months ended March 31, 2017, sales
in our action sports camera line represented 87% of our total sales. In three months ended March 31, 2016, sales in our action
sports camera line represented 24% of our total sales.
|
|
Three months ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
(in thousands)
|
|
Cost of goods sold
|
|
$
|
998
|
|
|
$
|
491
|
|
Gross profit (loss)
|
|
$
|
(47
|
)
|
|
$
|
47
|
|
Gross profit margin
|
|
|
(4.9
|
)%
|
|
|
8.7
|
%
|
Cost of goods increased approximately 103%, which
was greater than the increase in sales. As a percent of net sales, cost of goods sold was 104.9% in the three months ended
March 31, 2017 as compared to 91.3% for the three months ended March 31, 2016. Gross profit in the three months ended March
31, 2017 decreased to ($47,000) from $47,000 in the three months ended March 31, 2016. Gross profit (loss) as a percentage of
net sales was (4.9%) in the three months ended March 31, 2017, compared to a gross profit of 8.7% in the three months ended
March 31, 2016. In general, gross profit as a percentage of net sales is a result of a combination of factors, including
product mix, customer mix, and specific pricing decisions. These factors can affect a significant change in gross profit as
a percentage of net sales from one period to the next, particularly when sales are relatively low. Certain fixed indirect
costs such a warehouse personnel, for instance, have a more material impact on gross margin at lower levels of sales.
Specific to the current quarter ended March 31, 2017, we have rapidly disengaged from lower margin memory product sales and
have sold certain memory product items for which we no longer have a customer base at a negative gross margin.
|
|
Three months ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
(in thousands)
|
|
Selling and marketing
|
|
$
|
700
|
|
|
$
|
635
|
|
General and administrative
|
|
$
|
1,491
|
|
|
$
|
992
|
|
Sales and marketing for the three months ended March 31, 2017
increased approximately 10%, to $700,000, compared to $635,000 for the three months ended March 31, 2016. The increase in sales
and marketing expense was significantly attributable to the increase in royalty expense as the Monster, Inc. royalty payment rate
increased in the third quarter of 2016.
General and administrative expenses for the three months ended
March 31, 2017 increased by approximately 50% to $1,491,000 compared to $992,000 in the three months ended March 31, 2016. There
was an approximate $339,000 increase in stock-based compensation in the three months ended March 31, 2017 as compared to the three
months ended March 31, 2016. In addition, there was an increase in legal expense since becoming a public company in July 2016.
|
|
Three months ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
(in thousands)
|
|
Research and development (“R&D”)
|
|
$
|
70
|
|
|
$
|
49
|
|
R&D for the three months ended March 31, 2017 increased
approximately 43% to $70,000, compared to $49,000 for the three months ended March 31, 2016. The increase is most significantly
related to having an employee who is working on new product procurement and design during the first quarter of 2017. With respect
to our products, the basic functional technology we use has changed very little over time, therefore, our R&D spending has
primarily related to enhancing existing functionality, introducing new functions within existing products, and designing and engineering
new products largely with existing proven technology. Though we are in the process of product redesign, we do not expect that R&D
costs as a percentage of sales will be significant for the foreseeable future.
|
|
Three months ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
(in thousands)
|
|
Interest and finance expense
|
|
$
|
1
|
|
|
$
|
252
|
|
Gain on settlement of customer refund
|
|
|
(68
|
)
|
|
|
-
|
|
Interest expense for the three months ended March 31, 2016 included
$237,000 of interest expense related to bridge financing that was converted to equity as part of the initial public offering in
July 2016. Also during that period, we incurred interest expense related to accounts receivable factoring that is not being used
during the three months ended March 31, 2017. Gain on settlement of customer refund of $68,000 is the amortization of a $340,000
deferred gain that resulted from a settlement agreement on a customer refund from fiscal 2012.
|
|
|
Three months ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
|
(in thousands)
|
|
Income tax provision
|
|
$
|
-
|
|
|
$
|
-
|
|
Income tax expense generally consists of state income taxes
due or paid in the states in which we operate. We have not recognized a deferred tax benefit for the operating losses generated
during the periods due to the uncertainty that we will generate taxable income in the future that will allow us to utilize the
benefit.
Financial Condition
Liquidity and Capital Resources
Our primary sources of liquidity throughout the three months
ended March 31, 2017 and 2016 have been our initial public offering, cash raised in private placements of common stock and collections
on accounts receivable.
In June 2015, we secured an accounts receivable financing facility
with Bay View Funding. The contract provides for maximum funding of $4.0 million and a factoring fee of 1.35% for the first 30
days and .45% for each 10-day period thereafter that the financed receivable remains outstanding. As of March 31, 2017, there was
no balance owed on this facility. The facility automatically renews annually at year-end unless terminated with 30 days notice.
On July 13, 2016, we closed an initial public offering and received
net proceeds of $8,151,000.
In November 2016, we issued 484,848 shares of common stock in
a Private Placement receiving net proceeds of approximately $672,000.
In March 2017, the Company issued additional shares pursuant
to a Private Placement Memorandum, issuing 273,478 shares receiving net proceeds of approximately $287,000
Discussion of Cash Flows
|
|
Three months ended March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
Change
|
|
|
|
(in thousands)
|
|
Net cash used in operating activities
|
|
$
|
(1,610
|
)
|
|
$
|
(747
|
)
|
|
$
|
(863
|
)
|
Net cash used in investing activities
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Net cash provided by financing activities
|
|
|
307
|
|
|
|
670
|
|
|
|
(363
|
)
|
Net decrease in cash
|
|
$
|
(1,303
|
)
|
|
$
|
(77
|
)
|
|
$
|
(1,226
|
)
|
Operating Activities
Net cash used in operating activities in the three months ended
March 31, 2017 was approximately $1.6 million, due primarily to the net loss of $2.2 million. The loss as a use of cash was partially
offset by non-cash stock-based compensation of $433,000, by using existing inventory for sales during the quarter and by a $399,000
increase in accounts payable. One other significant use of cash was a $547,000 reduction in an amount due to a customer. In the
three months ended March 31, 2016, the use of cash for operating activities was primarily related to the net loss of $1.9 million
partially offset by the collection of accounts receivable of $279,000, a decrease in inventory of $142,000 and a net increase in
accounts payable and accrued expenses of $266,000.
Investing Activities
Our current operating structure does not depend upon a significant
investment in capital equipment or operating facilities. Substantially all of our manufacturing is conducted offshore by third
party manufacturers. Our office and warehouse facilities are leased under a three-year operating lease. For the three months ended
March 31, 2017 and 2016, we used no cash in investing activities.
Financing Activities
Net cash provided by financing activities for the three months
ended March 31, 2017 was $307,000 and was attributable to issuance of common stock pursuant to a private placement memorandum.
Net cash provided by financing activities in the three months ended March 31, 2016 was $670,000 and was attributable to bridge
loan financing and preferred stock issuances during the first quarter of 2016.
Debt Instruments
As of March 31, 2017, debt instruments include two convertible
notes payable with a total principal amount of $38,000 due in 2015 that remain unpaid.
Operating and Capital Expenditure
Requirements
We have not achieved profitability since our inception and we
expect to continue to incur net losses for the foreseeable future. We expect our cash expenditures to increase in the near term
as we fund our future growth. As a publicly traded company we will incur significant legal, accounting and other expenses that
we were not required to incur as a private company. In addition, the Sarbanes-Oxley Act, as well as rules adopted by the Securities
and Exchange Commission, or SEC, and the Nasdaq Stock Market, requires public companies to implement specified corporate governance
practices that are currently inapplicable to us as a private company. We expect these rules and regulations will increase our legal
and financial compliance costs and will make some activities more time-consuming and costly.
Our current cash balance is not sufficient
to fund the operations for the next twelve months. As such, the Company believes that substantial doubt about the Company’s
ability to continue as a going concern exists. We will need to raise substantial additional financing in the future to fund our
operations. In order to meet these additional cash requirements, we would likely need to sell additional equity or convertible
securities that may result in dilution to our stockholders. If we raise additional funds through the issuance of convertible securities,
these securities could have rights senior to those of our common stock and could contain covenants that restrict our operations.
There can be no assurance that we will be able to obtain additional equity or debt financing on terms acceptable to us, if at all.
If we raise additional funds through collaboration and licensing agreements with third parties, it may be necessary to relinquish
valuable rights to our product candidates, technologies or future revenue streams or to grant licenses on terms that may not be
favorable to us. For additional risks associated with our substantial capital requirement, please see “Risk Factors”
in our annual report on Form 10-K filed with the Securities and Exchange Commission on March 31, 2017.
Off-Balance
Sheet Arrangements
We do not have any off-balance sheet arrangements, as defined
by applicable SEC rules and regulations.
CRITICAL
ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with U.S.
GAAP requires that management make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure
of contingent assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses
during the reporting period. On an on-going basis, we evaluate our estimates, which are based upon historical experiences, market
trends and financial forecasts and projections, and upon various other assumptions that management believes to be reasonable under
the circumstances at that certain point in time. Actual results may differ, significantly at times, from these estimates under
different assumptions or conditions.
We believe the following critical accounting policies and estimates
affect the significant estimates and judgments we use in the preparation of our consolidated financial statements, and may involve
a higher degree of judgment and complexity than others.
Revenue recognition
Net sales (revenue) are recognized when there is persuasive
evidence that an arrangement exists, when delivery has occurred, when the price to the buyer is fixed or determinable and when
collectability of the receivable is reasonably assured. These elements are met when title to the products is passed to the buyers,
which is generally when product is delivered to the customer and the customer has accepted delivery.
Certain customers have limited rights of return and/or are entitled
to price adjustments on products held in their inventory. We reduce net sales in the period of sale for estimates of product returns,
price adjustments and other allowances. Our reserve estimates are based upon historical data as well as projections of sales, customer
inventories, price adjustments, average selling prices and market conditions. Price protection is calculated on a product by product
basis. The objective of price protection is to mitigate returns by providing retailers with credits to ensure maximum consumer
sales. Price protection is granted to retailers after they have presented us an affidavit of existing inventory. Actual returns
and adjustments could be significantly different from our estimates and provisions, resulting in an adjustment to net sales.
Inventories
Inventory is stated at the lower of cost or market, with cost
being determined on the weighted average cost method of accounting. We purchase finished goods and materials to assemble kits in
quantities that we anticipate will be fully used in the near term. Changes in operating strategy, customer demand, and fluctuations
in market values can limit our ability to effectively utilize all products purchased and can result in finished goods with above-market
carrying costs which may cause losses on sales to customers. Our policy is to closely monitor inventory levels, obsolescence and
lower market values compared to costs and, when necessary, reduce the carrying amount of inventory to market value. As of March
31, 2017 and December 31, 2016, inventory on hand was comprised primarily of finished goods ready for sale and packaging materials.
Share-based compensation/Warrants
valuation
We use the Black-Scholes model to determine the fair value of
stock options and stock purchase warrants on the date of grant. The amount of compensation or other expense recognized using the
Black-Scholes model requires us to exercise judgment and make assumptions relating to the factors that determine the fair value
of our share-based grants. The fair value calculated by this model is a function of several factors, including the grant price,
the expected future volatility, the expected term of the option or warrant and the risk-free interest rate correlating to the term
of the option or warrant. The expected term is derived using the simplified method provided in Securities and Exchange Commission
release Staff Accounting Bulletin No. 110 which averages an award’s weighted average vesting period and contractual term
for “plain vanilla” share options. The expected volatility is estimated by analyzing the historic volatility of similar
public companies. The risk-free rate of return reflects the weighted average interest rate offered for US treasury rates over the
expected life of options or warrants. The expected term and expected future volatility requires our judgment. In addition, we are
required to estimate the expected forfeiture rate and only recognize a cost or expense for those stock options or warrants expected
to vest.
Fair value measurements
Fair value is an exit price, representing the amount that would
be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement
date. As such, fair value is a market-based measurement that should be determined based on the assumptions that market participants
would use in pricing an asset or liability. Fair value is based on a hierarchy of valuation techniques, which is determined on
whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained
from independent sources, while unobservable inputs reflect our market assumptions. These two types of inputs create a three-tier
fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:
Level 1:
|
Quoted prices for identical instruments in active markets.
|
|
Level 2:
|
Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.
|
Level 3:
|
Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
|
All stock options are valued under methods
of fair value under the Level 3 tier, as described above.
Factors included in the valuation of common
stock, prior to the initial public offering, underlying stock options and warrants, include the present value of future cash flows,
capital structure, valuation of comparable companies, existing licensing agreements and the growth prospects for our product line.
These factors were incorporated into an income approach and a market approach in order to derive an overall valuation of our common
stock of $5.49. Such a valuation is dependent upon estimates that are highly complex and subjective.
RECENTLY ISSUED ACCOUNTING
PRONOUNCEMENTS
See Note 1 of Notes to Consolidated Financial Statements.