The accompanying notes are an integral
part of these condensed consolidated financial statements.
The accompanying notes
are an integral part of these condensed consolidated financial statements.
The accompanying notes are an integral part
of these condensed consolidated financial statements.
The accompanying notes are an integral part
of these condensed consolidated financial statements.
NOTES TO THE CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
Description of Business
The overarching strategy of xG
Technology, Inc. (“xG”, or the “Company”) is to design, develop and deliver advanced wireless
communications solutions that provide customers in our target markets with enhanced levels of reliability, mobility,
performance and efficiency in their business operations and missions. xG’s business lines include the brands of
Integrated Microwave Technologies LLC (“IMT”), Vislink Communication Systems (“Vislink”,
or “VCS”), and xMax. There is considerable brand interaction, owing to complementary market focus, compatible
product and technology development roadmaps, and solution integration opportunities. In addition to these brands, xG has a
dedicated Federal Sector Group focused on providing next-generation spectrum sharing solutions to national defense,
scientific research and other federal organizations.
IMT:
On January 29, 2016, xG completed the acquisition
of the net assets that constituted the business of IMT, pursuant to an Asset Purchase Agreement by and between xG and Skyview Capital,
LLC. The IMT business develops, manufactures and sells microwave communications equipment utilizing COFDM (Coded Orthogonal Frequency
Division Multiplexing) technology. COFDM is a transmission technique that combines encoding technology with OFDM (Orthogonal Frequency
Division Multiplexing) modulation to provide the low latency and high image clarity required for real-time live broadcasting video
transmissions. IMT has extensive experience in ultra-compact COFDM wireless technology, and this has allowed IMT to develop integrated
solutions over the past 20 years that deliver reliable video footage captured from both aerial and ground-based sources to fixed
and mobile receiver locations.
Vislink:
On February 2, 2017, the Company completed
the acquisition of certain assets and liabilities related to the hardware segment of Vislink International Limited, an England
and Wales registered limited company (the ‘‘UK Seller’’), and Vislink Inc., a Delaware corporation (the
‘‘US Seller’’, and together with the UK Seller, the ‘‘Sellers’’), pursuant to a
Business Purchase Agreement, dated December 16, 2016, as amended on January 16, 2017, by and among the Company, the Sellers and
Vislink PLC, an England and Wales registered limited company, as guarantor. The Company refers to the hardware segment acquired
as Vislink Communications Systems (‘‘VCS’’). VCS specializes in the wireless capture, delivery and management
of secure, high-quality, live video from the field to the point of usage. VCS designs and manufactures products encompassing microwave
radio components, satellite communication, cellular and wireless camera systems, and associated amplifier items. VCS serves two
core markets: broadcast and media and public safety and surveillance. In the broadcast and media market, VCS provides broadcast
communication links for the collection of live news, sports and entertainment events. VCS’ customers in the broadcast and
media market include national broadcasters, multi-channel broadcasters, network owners and station groups, sports and live broadcasters
and hosted service providers. In the public safety and surveillance market, VCS provides secure video communications and mission-critical
solutions for law enforcement, defense and homeland security applications. VCS’ customers in the public safety and surveillance
market include metropolitan, regional and national law enforcement agencies as well as domestic and international defense agencies
and organizations.
Basis of Presentation
The accompanying unaudited
condensed consolidated financial statements were prepared using generally accepted accounting principles for interim
financial information and the instructions to Form 10-Q and Regulation S-X. Accordingly, these financial statements do not
include all information or notes required by generally accepted accounting principles for annual financial statements and
should be read in conjunction with the consolidated financial statements as filed on the Company's Annual Report on Form 10-K
for the year ended December 31, 2016, as amended. In the opinion of management, the unaudited condensed consolidated financial
statements included herein contain all adjustments necessary to present fairly the Company's financial position as of March
31, 2017, the results of its operations for the three months ended March 31, 2017 and 2016, the results of its cash flows for
the three months ended March 31, 2017 and 2016. Such adjustments are of a normal recurring nature. The results of operations
for the three months ended March 31, 2017 may not be indicative of results for the year ended December 31, 2017.
Principles of Consolidation
The condensed consolidated financial
statements which have been prepared in accordance with accounting principles generally accepted in the United States of
America (“GAAP”) include the accounts of xG and its wholly-owned subsidiaries, IMT; and Vislink, since the date
the acquisition of IMT and Vislink were completed. All intercompany transactions and balances have been eliminated in the
consolidation.
NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES (continued)
Segment Reporting
Operating segments are identified as
components of an enterprise about which separate discrete financial information is available for evaluation by the operating
decision makers, or decision-making group, in making decisions on how to allocate resources and assess performance. The
Company’s decision-making group is the senior executive management team. The Company and the decision-making group view
the Company’s operations and manage its business as one operating segment. All long-lived assets of the Company reside
in the U.S. and U.K.
Stock Options
The Company accounts for stock-based compensation
in accordance with ASC 718, Compensation—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. Compensation expense based on the grant date fair value is generally amortized over the requisite service period of the
award on a straight-line basis. The fair value of options is calculated using the Black-Scholes option pricing model to determine
the fair value of stock options on the date of grant based on key assumptions such as stock price, expected volatility and expected
term. The Company’s estimates of these assumptions are primarily based on historical data, peer company data and judgment
regarding future trends and factors.
Use of Estimates
Management makes estimates and
assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent liabilities at the date
of the condensed consolidated financial statements, and the reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates. Significant estimates and assumptions include reserves and
write-downs related to receivables and inventories, the recoverability of long-lived assets, the valuation allowance relating
to the Company’s deferred tax assets, valuation of equity and derivative instruments, and debt discounts and the
valuation of the assets and liabilities acquired in the acquisitions of IMT and Vislink.
Revenue Recognition
The Company recognizes revenues when persuasive
evidence of an arrangement exists, services have been rendered, the price is fixed and determinable, and collectability is reasonably
assured. Revenues from management and consulting, time-and-materials service contracts, maintenance agreements and other services
are recognized as the services are provided or at the time the goods are shipped and title has passed.
Earnings (Loss) Per Share
The Company reports earnings
per share in accordance with ASC Topic 260, “Earnings Per Share,” which establishes standards for computing
and presenting earnings per share. Basic earnings per share is computed by dividing net income available to common
shareholders by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is
computed by dividing net income available to common shareholders by the weighted-average number of common shares and dilutive
common share equivalents then outstanding. Potential common share equivalents consist of 8,182,497 common stock warrants
issuable upon their exercise and 3,555,500 common stock options. Under the treasury stock method,
unexercised “in-the-money” stock options and warrants are assumed to be exercised at the beginning of the period
or at issuance, if later. The assumed proceeds are then used to purchase common shares at the average market price during
the period and the excess number of options over the number of shares assumed to be repurchased is included in the total
dilutive shares outstanding. There were 3,555,500 “in-the-money” stock options outstanding during the
three-month period ended March 31, 2017 resulting in the inclusion of an additional 339,957 shares of common stock in the
dilutive weighted average shares outstanding. The common stock warrants were excluded as they were out of the money and
had an antidilutive effect. There were no such participating securities outstanding during the three-month periods ended
March 31, 2016.
Basic weighted average shares outstanding
were 9,585,000 and 207,000 for the three months ended March 31, 2017 and 2016, respectively. Diluted weighted average shares outstanding
were 9,925,000 and 207,000 for the three months ended March 31, 2017 and 2016, respectively. Anti-dilutive warrants excluded from
the computations were 8,182,497 for the three months ended March 31, 2017.
Fair Value of Financial Instruments
GAAP requires disclosing the fair value of
financial instruments to the extent practicable for financial instruments which are recognized or unrecognized in the balance sheet.
The fair value of the financial instruments disclosed herein is not necessarily representative of the amount that could be realized
or settled, nor does the fair value amount consider the tax consequences of realization or settlement.
NOTE 1
— ORGANIZATION AND SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (continued)
In assessing the fair value of financial instruments,
the Company uses a variety of methods and assumptions, which are based on estimates of market conditions and risks existing at
the time. For certain instruments, including, accounts receivable, accounts payable, and accrued expenses, the Company estimated
that the carrying amount approximated fair value because of the short maturities of these instruments. All debt is based on current
rates at which the Company could borrow funds with similar remaining maturities and approximates fair value.
GAAP establishes a hierarchy for inputs used
in measuring fair value that maximizes the use of observable inputs and minimizes the use on unobservable inputs by requiring that
the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the
asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs
that reflect the Company’s assumptions about the assumptions market participants would use in pricing the asset or liability
developed based on the best information available in the circumstances. The hierarchy is described below:
Level 1 –
|
Quoted prices in active markets for identical assets or liabilities.
|
|
|
Level 2 –
|
Observable prices that are based on inputs not quoted on active markets, but corroborated by market data.
|
|
|
Level 3 –
|
Unobservable inputs are used when little or no market data is available. The fair value hierarchy gives the lowest priority to Level 3 inputs.
|
Foreign Currency and Other Comprehensive
Income (Loss)
The functional currency of our foreign subsidiaries
is typically the applicable local currency. The translation from the respective foreign currencies to United States Dollars (U.S.
Dollar) is performed for balance sheet accounts using current exchange rates in effect at the balance sheet date and for income
statement accounts using a weighted average exchange rate during the period. Gains or losses resulting from such translation are
included as a separate component of accumulated other comprehensive income. Gains or losses resulting from foreign currency transactions
are included in foreign currency income or loss except for the effect of exchange rates on long-term inter-company transactions
considered to be a long-term investment, which are accumulated and credited or charged to other comprehensive income.
Transaction gains and losses
are recognized in our results of operations based on the difference between the foreign exchange rates on the transaction
date and on the reporting date. We recognized net foreign exchange loss of approximately $80,000 for three months ended March
31, 2017. The foreign currency exchange gains and losses are included as a component general and administrative expenses, in
the accompanying Unaudited Condensed Consolidated Statements of Operations and Other Comprehensive Loss. For the three months
ended March 31, 2017 the increase in accumulated comprehensive loss was approximately $17,000.
The exchange rate adopted for the foreign exchange
transactions are the rates of exchange as quoted on an OANDA, a Canadian-based foreign exchange company providing currency conversion,
online retail foreign exchange trading, online foreign currency transfers, forex information and website. Translation
of amount from British Pounds into United States dollars was made at the following exchange rates for the respective periods:
|
·
|
As of March 31, 2017 – British Pounds $1.24866 to
US $1.00, and
|
|
·
|
For the three months ended March 31, 2017 – British
Pounds $1.23697 to US $1.00
|
Subsequent Events
Management has evaluated subsequent events or transactions occurring
through the date the condensed financial statements were issued and determined that no events or transactions are required to be
disclosed herein, except as disclosed.
Recently Issued Accounting Principles
The Company has considered additional new relevant
accounting pronouncements that are in effect through the date of these financial statements. These pronouncements did not
have any material impact on the financial statements unless otherwise disclosed, and the Company does not believe that
there are any other new accounting pronouncements that have been issued that might have a material impact on our financial position
or results of operations.
NOTE 2 — GOING CONCERN
The Company’s condensed
consolidated financial statements have been prepared assuming it will continue as a going concern, which contemplates
continuity of operations, realization of assets, and the settling of liabilities in the normal course of business. As
reflected in the condensed consolidated financial statements, the Company had an accumulated deficit at March 31, 2017 of
$201 million and a loss from operations of approximately $5.7 million for the three months ended March 31, 2017. As of March
31, 2017, the Company has been funding its business principally through debt and equity financings and advances from related
parties. The Company expects cash flows from operating activities to be positively affected as a result of the acquisition of
Vislink in February 2017, although no assurance can be provided of this (See Note 3).
The ability to recognize revenue and
ultimately cash receipts is contingent upon, but not limited to, acceptable performance of the delivered equipment of
services. If the Company is unable to raise additional capital and/or close on some of its revenue producing opportunities in
the near term, the carrying value its assets may be materially impacted. The condensed consolidated financial statements do
not include any adjustments related to the recovery and classification of asset carrying amounts or the amount and
classification of liabilities that might result should the Company be unable to continue as a going concern.
NOTE 3 — ACQUISITION OF VISLINK
Acquisition of Vislink International Limited
On February 2, 2017, the Company
completed the acquisition of certain assets and liabilities related to the hardware segment of Vislink International Limited,
an England and Wales registered limited company (the ‘‘UK Seller’’), and Vislink Inc., a Delaware
corporation (the ‘‘US Seller’’, and together with the UK Seller, the
‘‘Sellers’’), pursuant to a Business Purchase Agreement, dated December 16, 2016, as amended on
January 16, 2017, by and among the Company, the Sellers and Vislink PLC, an England and Wales registered limited company, as
guarantor. The purchase price paid for the transaction was an aggregate of $16 million consisting of (i) $6.5 million in cash
consideration and (ii) promissory notes in the aggregate principal amount of $9.5 million (the
‘‘Notes’’). In connection with the Notes, the Company entered into a Security Agreement, dated
February 2, 2017, with each of the Sellers (the ‘‘Security Agreements’’). The Notes were originally
due to mature on March 20, 2017 (the ‘‘Maturity Date’’). Interest on the Notes shall be payable in
cash on the Maturity Date at a rate per annum equal to LIBOR plus 1.9%. Pursuant to the Security Agreements, as
collateral security for the Company’s obligations under the Notes, the Company granted the Sellers a security interest
in certain assets purchased from the Sellers in connection with the transaction.
The preliminary fair value of
the purchase consideration issued to the sellers of Vislink was allocated to the net tangible assets acquired. The
Company accounted for the Vislink acquisition as the purchase of a business under GAAP under the acquisition method of
accounting, the assets and liabilities acquired were recorded as of the acquisition date, at their respective fair values
and consolidated with those of xG. The fair value of the net assets acquired was approximately $27.8 million. The excess of
the aggregate fair value of the net tangible assets has been treated as a gain on bargain purchase in accordance with ASC
805. The purchase price allocation was based, in part, on management’s knowledge of Vislink’s business. and is
preliminary. Once the Company completes its analysis to finalize the purchase price allocation, which includes the obtaining
of a valuation report from a third-party appraiser it is reasonably possible that, there could be significant changes to the
preliminary values below.
Purchase Consideration
|
|
|
|
|
|
|
|
|
|
Amount of consideration:
|
|
$
|
16,000,000
|
|
|
|
|
|
|
Assets acquired and liabilities assumed at preliminary fair value
|
|
|
|
|
Accounts receivable
|
|
$
|
7,129,000
|
|
Inventories
|
|
|
14,761,000
|
|
Property and equipment
|
|
|
1,301,000
|
|
Prepaid expenses
|
|
|
1,209,000
|
|
Accounts payable
|
|
|
(2,079,000
|
)
|
Accrued expenses
|
|
|
(451,000
|
)
|
Net tangible assets acquired
|
|
$
|
21,870,000
|
|
|
|
|
|
|
Identifiable intangible assets
|
|
|
|
|
Intangible assets
|
|
$
|
5,969,000
|
|
Total Identifiable Intangible Assets
|
|
$
|
5,969,000
|
|
|
|
|
|
|
Total net assets acquired
|
|
$
|
27,839,000
|
|
Consideration paid
|
|
|
16,000,000
|
|
Preliminary gain on bargain purchase
|
|
$
|
11,839,000
|
|
The following presents the unaudited pro-forma
combined results of operations of xG with Vislink and IMT as if the entities were combined on January 1, 2016.
|
|
For the Three Months Ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
|
|
|
Revenues, net
|
|
$
|
10,576
|
|
|
$
|
13,929
|
|
Net (loss) allocable to common shareholders
|
|
$
|
(7,525
|
)
|
|
$
|
(6,143
|
)
|
Net (loss) per share
|
|
$
|
(0.79
|
)
|
|
$
|
(29.68
|
)
|
Weighted average number of shares outstanding
|
|
|
9,585
|
|
|
|
207
|
|
The unaudited pro-forma results of operations
are presented for information purposes only. The unaudited pro-forma results of operations are not intended to present actual results
that would have been attained had the acquisitions been completed as of January 1, 2016 or to project potential operating results
as of any future date or for any future periods.
Since the closing of the transaction, the Company
assumed $4.6 million of additional Vislink liabilities, thus reducing the principal amount due to $4.9 million. On March 17, 2017,
the Company came to an agreement with the Seller where by the Company paid $2 million in cash and the Seller extinguished the remaining
$2.9 million principal owed.
The estimated useful life remaining on the
property and equipment acquired is 1 to 10 years and on the intangible assets is 3 years.
NOTE 4 — CONVERTIBLE NOTES PAYABLE
Treco
On October 6, 2011, the Company
entered into a convertible promissory note (the “$2 Million Convertible Note”) in favor of Treco International,
S.A. (“Treco”), as part of the settlement compensation to Treco for terminating an infrastructure agreement. The
$2 Million Convertible Note is payable on its maturity date, October 6, 2018 and is convertible, at Treco’s option,
into shares of the Company’s common stock at a price of $35.00 per share. Interest at the rate of 9% per year is
payable semi-annually in cash or shares of the Company’s common stock, at the Company’s option. The accrued
interest at March 31, 2017 was $87,000. On January 10, 2017, the Company issued 24,397 shares of common
stock as the semi-annual payment of interest of $90,000. Interest expense was $45,000 for the three months ending March 31,
2017 and 2016.
NOTE 5 — DEBT ASSIGNMENT
On January 13, 2017, the Asset Purchase
Modification Agreement dated April 16, 2016 (the “Modification Agreement”), with a total obligation $1,038,000
was assigned to New Holders of the debt and in full settlement of that agreement the previous note holder was paid in full.
Simultaneously, the New Holders executed a new agreement on the same terms and conditions available to the previous note
holder plus $312,000 in issuance costs and $122,000 in guaranteed interest at 9% for a total obligation of $1,472,000. We
recorded the $1,472,000 as a current liability on the condensed consolidated balance sheet, recognized the
guaranteed interest of $122,000 in the condensed consolidated statement of operations, recorded the $312,000 as a contra
liability account and amortized $312,000 as interest expense for the three months ended March 31, 2017.
In determining the appropriate accounting for
the foregoing debt exchange, the Company considered many elements of the transaction, including whether or not the exchange
resulted in a debt modification or extinguishment; the resulting accounting for transaction costs; the derecognition of the extinguished
debt and finally, the appropriate recording of the newly issued debt instrument. The Company referred to the guidance in the Financial
Standard Accounting Board’s Accounting Standards Codification (“ASC”) 470-50-40-10 which indicates that from
the debtor's perspective, an exchange of debt instruments between or a modification of a debt instrument by a debtor and a creditor
in a non-troubled debt situation is deemed to have been accomplished with debt instruments that are substantially different if
the present value of the cash flows under the terms of the new debt instrument is at least ten percent different from the present
value of the remaining cash flows under the terms of the original instrument. It is also noted in the literature that transactions
between or among creditors do not result in a modification or exchange of the original debt instrument between the debtor and creditor.
Accordingly, those transactions do not affect the accounting by the debtor, the carrying amount of the new note is not adjusted
and the effects of the changes are to be reflected in future periods.
Series D Convertible Preferred Stock Leak-Out Agreement
On February 2, 2017, the New Holders
agreed that any sales of common stock underlying the Series D Convertible Preferred Stock (the “Series D Preferred
Stock”) would not, in the aggregate, exceed 2.75% of that day’s dollar volume of our common stock traded, provided that
the New Holders shall be entitled to sell no less than an aggregate of $27,500 each trading day.
During the three months ending March 31,
2017, the Company issued 5,000,000 shares of Series D Preferred stock to the New Holders, which were simultaneously converted
into 416,667 shares of common stock valued at approximately $648,000. The value of the common stock issued was based on the
fair value of the stock upon execution of the new holders selling their respective shares. The balance due to the New Holders
as of March 31, 2017 was $824,000 and is included in accrued expenses on the condensed consolidated balance sheet. Interest
expense for the three months ending March 31, 2017 and 2016 was $434,000 and $0, respectively.
For further information on Series D Convertible Preferred Stock
see Note 7.
NOTE 6 — COMMITMENTS AND CONTINGENCIES
Leases
The Company's office rental, deployment sites
and warehouse facility expenses equaled in aggregate approximately $203,000 and $160,000 for the three months ended March 31, 2017
and 2016, respectively. The leases in connection with these facilities will expire on different dates from 2017 through 2023. Total
obligation under minimum future annual rentals, exclusive of real estate taxes and related costs, are approximately as follows:
|
|
Amount
|
|
Balance 2017
|
|
$
|
503,000
|
|
2018
|
|
|
456,000
|
|
2019
|
|
|
336,000
|
|
2020
|
|
|
188,000
|
|
Thereafter
|
|
|
266,000
|
|
|
|
$
|
1,749,000
|
|
In connection with the acquisition of IMT,
the Company assumed the lease obligations relating to IMT’s warehouse and office space in Mt. Olive, NJ. Payments under the
Mt. Olive, NJ lease are $35,000 for the year ending December 31, 2017 as the lease expired in February of 2017. In January 2017,
IMT signed a new lease for warehouse and office space in Hackettstown, NJ which runs through April 29, 2020. Future payments under
such lease will amount to $260,000 of which $50,000 will be for the year ending December 31, 2017.
In connection with the acquisition of Vislink,
the Company assumed the lease obligations relating to Vislink office space in Colchester, U.K. which runs through March 2020. Future
payments under such lease will amount to approximately $257,000 of which $110,000 will be for the year ending December 31, 2017.
The Company signed a new lease for office
space in Hemel, U.K. in May 2017 which runs through April 2023. Future payments under such lease will amount to approximately $685,000
of which $76,000 will be for the year ending December 31, 2017.
Legal
The Company is subject, from time to time,
to claims by third parties under various legal theories. The defense of such claims, or any adverse outcome relating to any such
claims, could have a material adverse effect on the Company’s liquidity, financial condition and cash flows. For the three
months ended March 31, 2017 the Company did not have any material legal actions pending.
NOTE 7 — PREFERRED STOCK
Series D Convertible Preferred Stock
From January 1, 2017 to March 31, 2017,
the Company issued 5,000,000 shares of Series D Convertible Preferred Stock, of which 5,000,000 shares have been converted
into 416,667 shares of common stock. Through the sale of such shares, our obligations remaining under the Modification
Agreement were approximately $824,000. Under the Modification Agreement, the same terms and conditions are available to the
previous note holder plus $312,000 in issuance costs and $122,000 in guaranteed interest at 9%.
Stated Value
The stated value of the Series D Preferred Stock is $1.00 per share.
Ranking
The Series D Preferred Stock shall rank junior
to the Series B Preferred Stock, $0.00001 par value per share, of the Company in respect of the preferences as to dividends, distributions
and payments upon the liquidation, dissolution or winding up of the Company. The Series D Preferred Stock will rank senior to all
of the Company’s common stock and other classes of capital stock with respect to dividend rights and/or rights upon distributions,
liquidation, dissolution or winding up of the Company, other than to the Series B Preferred Stock and any class of parity stock
that the holders of a majority of the outstanding shares of Series D Preferred Stock consent to the creation of.
Liquidation Preference of Preferred Stock
Upon the voluntary or involuntary liquidation,
dissolution or winding up of the Company, before the payment of any amount to the holder of shares of junior stock, but pari passu
with any parity stock, the holders of Series D Preferred Stock are entitled to receive the amount equal to the greater of (i) the stated
value of the Series D Preferred Stock or (ii) the amount the holder of Series D Preferred Stock would receive if such holder converted
the Series D Preferred Stock into common stock immediately prior to the date of the liquidation event, including accrued and unpaid
dividends.
Conversion Rights of Preferred
A holder of Series D Preferred Stock shall
have the right to convert the Series D Preferred Stock, in whole or in part, upon written notice to the Company at a conversion
price equal to $1.20 per share, which is adjusted for any share dividend, share split, share combination, reclassification or similar
transaction that proportionately decreases or increases the common stock.
Voting Rights
Except with respect to certain material changes
in the terms of the Series D Preferred Stock and certain other matters, and except as may be required by Delaware law, holders
of Preferred Stock shall have no voting rights. The approval of a majority of the holders of the Series D Preferred Stock is required
to amend the Certificate of Designations.
NOTE 8 — STOCKHOLDERS’ EQUITY
February 2017 Financing
On February 14, 2017, the Company
completed a public underwritten offering of 1,750,000 shares of its common stock and five year warrants to purchase up to an
aggregate of 1,312,500 shares of its common stock at an exercise price of $2.00 per share. The Company received $3,500,000 in
gross proceeds from the offering, before deducting the associated underwriting discount and estimated offering expenses
payable by the Company. Aegis Capital Corp. acted as sole book-running manager for the offering.
Conversions of Warrants
From January 1, 2017 to March 31, 2017, 794,400
of the December warrants issued in connection with the December 2016 Financing, have been exercised into 794,400 shares of common
stock. The Company received $1,589,000 in gross proceeds from the exercise.
Other Common Stock Issuances
During the three months ended March 31, 2017, the Company issued:
|
·
|
386,272 shares of its common stock for
employees, directors, consultants and other professionals for a total value of $669,000. The value of the common stock issued was
based on the fair value of the stock at the time of issuance.
|
|
·
|
416,667 shares of its common stock valued
at $648,000 upon conversion of 5,000,000 shares of Series D Preferred stock. The value of the common stock issued was based on
the fair value of the stock at the time of issuance.
|
|
·
|
104,218 shares of its common stock for
amounts previously deferred at a total value of $295,000.
|
|
·
|
24,397 shares of its common stock
in
satisfaction of interest accrued on the $2 Million Convertible Note. The value of the common stock issued was
based upon the
stated
interest rate of the convertible promissory note.
|
|
·
|
35,852 shares of its common stock in satisfaction
of related party obligations. The value of the common stock issued was based on the fair value of the stock at the time of issuance.
|
Warrants and Options
During the three months ended March 31, 2017
and 2016, the Company recorded approximately $165,000 and $100,000, respectively as stock compensation expense from the amortization
of stock options issued in prior periods. On February 16, 2017, the Board of Directors approved a motion to cancel all outstanding
stock options as the options were all out of the money in all previous stock option plans, thereby cancelling the 1,844 options
that were outstanding on December 31, 2016.
On March 16, 2017, the Board of
Directors passed a motion to grant options to certain directors, employees and advisors of the Company and we issued
3,550,500 ten (10) years options with an exercise price of $1.55 per share on March 24, 2017. The fair value of the options
granted on March 24, 2017 was estimated on the date of grant using the Black-Scholes option pricing model with the following
assumptions: risk free interest rate of 1.90%, dividend yield of -0-%, volatility factor of 286.51% and the expected life of
options of 6.00 years. As of March 31, 2017, the weighted average remaining contractual life was 9.99 years for options
outstanding and -0- years for options exercisable. The intrinsic value of options exercisable at March 31, 2017 and March 31,
2016 was $0.07 and $0, respectively. As of March 31, 2017, the remaining expense is approximately $5.1 million over the
remaining amortization period which is 2.99 years. The Company estimates forfeiture and volatility using historical
information. The risk-free interest rate is based on the implied yield available on U.S. Treasury zero-coupon issues
over the equivalent lives of the options. The expected life of the options represents the estimated period of time until
exercise giving consideration to the contractual terms. The Company has not paid dividends on common shares and no
assumption of dividend payment is made in the model. The options vest at one third on March 24, 2018, one third on March 24,
2019 and one third on March 24, 2020.
A summary of the warrant and option activity
is as follows:
Warrants
|
|
Number of Warrants
(in Shares)
|
|
|
Weighted Average
Exercise Price
|
|
Outstanding January 1, 2017
|
|
|
7,611,904
|
|
|
$
|
5.98
|
|
Granted
|
|
|
1,365,000
|
|
|
|
2.02
|
|
Exercised
|
|
|
(794,400
|
)
|
|
|
2.00
|
|
Forfeited or Expired
|
|
|
(7
|
)
|
|
|
42,000.00
|
|
Outstanding, March 31, 2017
|
|
|
8,182,497
|
|
|
$
|
5.67
|
|
Exercisable, March 31, 2017
|
|
|
8,032,497
|
|
|
$
|
5.73
|
|
NOTE 8 — STOCKHOLDERS’ EQUITY
(continued)
Options
|
|
Number of Options
(in Shares)
|
|
|
Weighted Average
Exercise Price
|
|
Outstanding January 1, 2017
|
|
|
1,844
|
|
|
$
|
1,544.37
|
|
Granted
|
|
|
3,555,500
|
|
|
|
1.55
|
|
Exercised
|
|
|
—
|
|
|
|
—
|
|
Forfeited or Expired
|
|
|
(1,844
|
)
|
|
|
1,544.37
|
|
Outstanding, March 31, 2017
|
|
|
3,555,500
|
|
|
$
|
1.55
|
|
Exercisable, March 31, 2017
|
|
|
—
|
|
|
$
|
—
|
|
NOTE 9 — DERIVATIVE LIABILITIES
Each of the warrants issued in
connection with our August 2015, May 2016 and July 2016 underwritten offerings and the February 2016 Series B Preferred Stock
Offering have been accounted for as derivative liabilities as each of the warrants contain a net cash settlement provision
whereby, upon certain fundamental events, the holders could put the warrants back to the Company for cash.
The following are the key assumptions used
in connection with the valuation of the warrants exercisable into common stock on the date of issuance and March 31, 2017:
Number of shares underlying the warrants on March 31, 2017
|
|
|
977,751
|
|
Fair market value of stock
|
|
$
|
1.62
|
|
Exercise price
|
|
$
|
2.00 to 2,400.00
|
|
Volatility
|
|
|
169% to 184
|
%
|
Risk-free interest rate
|
|
|
1.27% to 1.93
|
%
|
Expected dividend yield
|
|
|
—
|
|
Warrant life (years)
|
|
|
1.6 to 4.3
|
|
Level 3 liabilities are valued using unobservable
inputs to the valuation methodology that are significant to the measurement of the fair value of the liabilities. For fair value
measurements categorized within Level 3 of the fair value hierarchy, the Company’s accounting and finance department, who
report to the Chief Financial Officer, determine its valuation policies and procedures. The development and determination of the
unobservable inputs for Level 3 fair value measurements and fair value calculations are the responsibility of the Company’s
accounting and finance department and are approved by the Chief Financial Officer.
Level 3 Valuation Techniques:
Level 3 financial liabilities consist of the
derivative liabilities for which there is no current market for these securities such that the determination of fair value requires
significant judgment or estimation. Changes in fair value measurements categorized within Level 3 of the fair value hierarchy are
analyzed each period based on changes in estimates or assumptions and recorded as appropriate. The Company deems financial instruments
which do not have fixed settlement provisions to be derivative instruments. In accordance with ASC Topic 480,
Distinguishing
Liabilities from Equity
, the fair value of these warrants is classified as a liability on the Company’s Condensed Consolidated
Balance Sheets because, according to the terms of the warrants, a fundamental transaction could give rise to an obligation of the
Company to pay cash to its warrant holders. Such instruments do not have fixed settlement provisions and have also been recorded
as derivative liabilities. Corresponding changes in the fair value of the derivative liabilities are recognized in earnings on
the Company’s Condensed Consolidated Statements of Operations in each subsequent period.
The Company’s derivative liabilities
are carried at fair value and are classified as Level 3 in the fair value hierarchy due to the use of significant unobservable
inputs. In order to calculate fair value, the Company uses a binomial model style simulation, as the value of certain features
of the warrant derivative liabilities would not be captured by the standard Black-Scholes model.
NOTE 9 — DERIVATIVE LIABILITIES (continued)
The following table sets forth a summary
of the changes in the fair value of our Level 3 financial liabilities that are measured at fair value on a recurring basis:
|
|
Three Months Ended
|
|
|
|
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
Beginning balance
|
|
$
|
1,183,000
|
|
|
$
|
1,284,000
|
|
Recognition of warrant liability on issuance date
|
|
|
—
|
|
|
|
231,000
|
|
Reclassification to stockholders’ equity upon exercise
|
|
|
—
|
|
|
|
(63,000
|
)
|
Change in fair value of derivative liabilities
|
|
|
217,000
|
|
|
|
(514,000
|
)
|
Ending balance
|
|
$
|
1,400,000
|
|
|
$
|
938,000
|
|
NOTE 10 — RELATED PARTY TRANSACTIONS
MB Technology Holdings, LLC
On April 29, 2014, the Company entered
into a management agreement (the “Management Agreement”) with MB Technology Holdings, LLC (“MBTH”),
pursuant to which MBTH agreed to provide certain management and financial services to the Company for a monthly fee of
$25,000. The Management Agreement was effective January 1, 2014. For the three months ended March 31, 2017 and 2016, the
Company incurred fees related to the Management Agreement of $75,000. In addition, during the quarter ended March 31, 2017,
the Company’s Board of Directors approved an additional $27,000 fee to be paid to MBTH as consideration for additional
efforts provided by MBTH in connection with the Company’s financing and acquisition efforts. The Company recorded these
fees in general and administrative expenses on the accompanying condensed consolidated statement of operations. Roger
Branton, the Company’s Chief Financial Officer, and George Schmitt, the Company’s Chief Executive Officer and
Executive Chairman, are directors of MBTH, and Richard Mooers, a director of the Company, is the Chief Executive Officer and
a director of MBTH.
The Company has agreed to award MBTH a 3% cash
success fee if MBTH arranges financing for the Company, arranges a merger, consolidation or sale by the Company of substantially
all of the assets. The Company accrued an additional approximate $257,000 for equity financings between August 1, 2015 and March
31, 2016.
The balance outstanding to MBTH at March
31, 2017 and December 31, 2016 was $801,000 and $96,000, respectively and has been included in due to related parties on the
Condensed Consolidated Balance Sheet.
On March 3, 2016, our Board of Directors approved
the issuance of up to $300,000 in shares of common stock to MBTH as compensation for financial services in connection with the
IMT acquisition. Such shares of common stock were to be issued to MBTH in an initial tranche in the amount of $150,000 on March
15, 2016, which shares of common stock have not yet been issued and a second tranche to MBTH of up to $150,000 in shares of common
stock if IMT achieves certain performance goals by December 31, 2016. On August 10, 2016, the disinterested members of the Board
of Directors believing it to be in the best interest of the Company, resolved to pay the award in cash instead of shares. The Company
accrued $150,000 in the due to related party balance owed to MBTH and has paid these cash fees during 2016.
On November 29, 2016, the Company and MBTH
entered into an acquisition services agreement (the ‘‘M&A Services Agreement’’) pursuant to which the
Company engaged MBTH to provide services in connection with merger and acquisition searches, negotiating and structuring deal terms
and other related services. The M&A Services Agreement incorporates by reference the terms of the Management Agreement, as
well as the Company’s agreement with MBTH on January 12, 2013 to pay MBTH a 3% success fee (the ‘‘3% Success
Fee’’) on any financing arranged for the Company, merger or consolidation of the Company or sale by the Company of
substantially all of its assets. The M&A Services Agreement has the following additional terms:
(1) The Company will pay MBTH an
acquisition fee equal to the greater of $250,000 or 8% of the total acquisition price (the ‘‘Acquisition Fee’’).
Where possible, the Company will pay MBTH 50% of the Acquisition Fee at closing of a transaction, and in any case, not later than
thirty (30) days following such closing, 25% of the Acquisition Fee three (3) months following such closing and 25% of the Acquisition
Fee six (6) months following such closing.
(2) In addition to any other fees,
the Company will pay MBTH a due diligence fee of $250,000 only on successfully closed transactions. This due diligence fee shall
be paid to MBTH as warrants to purchase shares of common stock of the Company in an amount equal to $250,000 divided by the lower
of the market price of the common stock on the day of closing of the transaction or the price of equity offered to finance such
acquisition. The exercise price of such warrants will be $0.01.
(3) The Company and MBTH agreed to
waive the 3% Success Fee in connection with the Company’s proposed acquisition of Vislink. The Company and MBTH also agreed
to waive, on a case by case basis, the 3% Success Fee whenever any future Acquisition Fee is more than $1 million.
(4) In the event the Company engages
an independent, external advisor to value an acquisition and the valuation is higher than the price negotiated by MBTH on behalf
of the Company, then MBTH will receive an additional fee of 5% of such gain.
(5) MBTH has the option to convert
up to 50% of its fees into shares of common stock of the Company, so long as the receivable remains outstanding. The conversion
price will be the lower of 110% of the price of the common stock on the day of closing of a transaction or the price of equity
securities offered in connection with any acquisition financing. If MBTH converts at least 25% of its fees, then the Company agrees
to register all shares of common stock of the Company held by MBTH.
(6) If MBTH’s services assist
the Company in achieving forward sales of at least $50 million via acquisitions, then the Company agrees to offer MBTH a three
(3) year option to acquire up to 25% of the Company’s shares of common stock outstanding after such issuance. The price per
share of common stock will be 125% of the price of the Company’s common stock on the day the option is exercised.
NOTE 10 — RELATED PARTY TRANSACTIONS
(continued)
On February 16, 2017, the Board of Directors
amended the terms of the Block Purchase Option in the M&A Services Agreement to allow MBTH the option to acquire 25% of the
fully diluted outstanding shares and warrants of xG Technology at a price of $2.10 per share and for a five-year term.
The M&A Services Agreement is effective
as of November 1, 2016, and will automatically renew annually, unless earlier terminated by the Company or MBTH upon thirty (30)
days’ written notice.
The Company accrued an additional
$1,480,000 in acquisition fees from January 1, 2017 to March 31, 2017, in connection with the acquisition of Vislink as per
the M&A Services Agreement. The $1,480,000 represents 8% of the acquisition price. The Company recorded these fees in
general and administrative expenses on the accompanying Statement of Operations and included in due to related parties on the
Condensed Consolidated Balance Sheet.
The Company recorded $265,000 as the FMV
of the warrant paid to MBTH in connection with the closing of the Vislink acquisition as per the M&A Services Agreement.
The Company recorded these fees in general and administrative expenses on the accompanying Condensed Consolidated Statement
of Operations.
From January 1, 2017 to March 31, 2017, the
Company issued 35,852 shares of common stock to MBTH in settlement of amounts due of $60,000.
NOTE 11 — CONCENTRATIONS
During the three months ended March 31, 2017,
the Company did not record revenue from individual sales or services rendered in excess of 10% of the Company’s total consolidated
sales.
During the three months ended March 31, 2016,
the Company recorded revenue from individual sales or services rendered of $125,000 (13%), $99,000 (11%) and $97,000 (10%), all
of which are in excess of 10% from three customers of the Company’s total sales.
At March 31, 2017, the Company did not have
accounts receivable of over 10% from any one customer.
At March 31, 2016, approximately 63% of net
accounts receivable was due from four customers, respectively, as follows: $273,000 (23%), $231,000 (19%) due from unrelated parties
and $125,000 (10%), and $138,000 (11%) due from a related party.
During the three months ended March 31,
2017, the Company did not incur inventory purchases over 10% from any one vendor.
During the three months ended March 31, 2016,
approximately 16% of the Company’s inventory purchases were derived from one vendor.
NOTE 12 – GEOGRAPHICAL INFORMATION
The Company has one operating segment and the
decision-making group is the senior executive management team.
|
|
Three Months Ended
|
|
|
|
March 31, 2017
|
|
Revenue:
|
|
|
|
|
America’s
|
|
$
|
2,522,000
|
|
Rest of World
|
|
|
6,813,000
|
|
Total Revenue
|
|
$
|
9,335,000
|
|
NOTE 13 — SUBSEQUENT EVENTS
Debt Assignment
From April 1, 2017 to May 15, 2017, the Company
paid $500,000 to the New Holders which were assigned our remaining obligations to IMT under the Asset Purchase Modification Agreement,
dated April 12, 2016, between us and IMT. The current balance owed as of May 15, 2017 is approximately $324,000.
Other Common Stock Issuances
From
April 1, 2017 to May 15, 2017, the Company issued a total of 296,082
shares
of common stock having a fair value to employees, directors, consultants and general counsel in lieu of paying approximately $447,000
worth of services.
From
April 1, 2017 to May 15, 2017, the Company issued a total of 13,424
shares
of common stock to MBTH is settlement of amounts due of $20,000.