NOTE 2 — MANAGEMENT’S LIQUIDITY
PLANS
As of September 30, 2018, the Company had
cash of $6,090,665 and a working capital of $3,669,749. In addition, the Company used actual net cash in operations of $1,251,559
during the nine months ended September 30, 2018.
In August 2018, the Company sold 1,000,000
shares of its common stock at $6.25 per share for net proceeds of $5,609,215, after costs and expenses of $640,785. In connection
with the October 9, 2015 Note and Warrant Purchase Agreement, the Company has received proceeds from issuance of convertible notes
payable of $100,000 in September 2018 and $124,975 in October 2018 (see Note 7). It is anticipated that the Company has cash sufficient
to fund operations for the next twelve months (See Note 10).
NOTE 3 — PROPERTY AND EQUIPMENT
Property and equipment as of September 30, 2018 and December
31, 2017 is summarized as follows:
|
|
September 30,
2018
|
|
|
December 31,
2017
|
|
Computer equipment
|
|
$
|
62,170
|
|
|
$
|
63,517
|
|
Equipment under capital lease
|
|
|
77,864
|
|
|
|
-
|
|
Furniture and fixtures
|
|
|
4,968
|
|
|
|
3,128
|
|
Total
|
|
|
145,002
|
|
|
|
66,645
|
|
Less accumulated depreciation
|
|
|
(42,851
|
)
|
|
|
(31,651
|
)
|
Property and equipment, net
|
|
$
|
102,151
|
|
|
$
|
34,994
|
|
Property and equipment are stated at cost
and depreciated using the straight-line method over their estimated useful life of 3 years. When retired or otherwise disposed,
the related carrying value and accumulated depreciation are removed from the respective accounts and the net difference less any
amount realized from disposition, is reflected in earnings.
Included
in net property are assets under capital leases of $77,864, less accumulated depreciation of $8,648 as of September 30, 2018 and
$0, less accumulated depreciation of $0 as of December 31, 2017, respectively.
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
The Company spent $10,893 in purchases
and leased $77,864 of equipment during the nine months ended September 30, 2018 and $22,904 in purchases of equipment during the
nine months ended September 30, 2017. Depreciation expense was $9,851 and $21,600 for the three and nine months ended September
30, 2018; and $1,718 and $2,979 for the three and nine months ended September 30, 2017.
NOTE 4 — INTANGIBLE ASSETS
For the nine months ended September 30,
2018 and 2017, the Company invested in software development costs in the amounts of $308,933 and $234,841 respectively.
Patents, technology and other intangibles
with contractual terms are generally amortized over their estimated useful lives of ten years. When certain events or changes in
operating conditions occur, an impairment assessment is performed and lives of intangible assets with determinable lives may be
adjusted.
Software development costs are amortized over their estimated
useful life of three years.
Prior to any impairment adjustment, intangible assets consisted
of the following:
|
|
September 30,
2018
|
|
|
December 31,
2017
|
|
Patents
|
|
$
|
3,697,709
|
|
|
$
|
3,697,709
|
|
Capitalized software development
|
|
|
1,314,302
|
|
|
|
1,005,369
|
|
Accumulated amortization
|
|
|
(2,911,253
|
)
|
|
|
(2,538,615
|
)
|
Intangible assets, net
|
|
$
|
2,100,758
|
|
|
$
|
2,164,463
|
|
Amortization expense for patents totaled
$93,657 and $274,341 for the three and nine months ended September 30, 2018, respectively; and $93,648 and $278,878 for the three
and nine months ended September 30, 2017, respectively. Amortization expense for software development totaled $25,653 and $98,297
for the three and nine months ended September 30, 2018, respectively; and $48,295 and $155,213 for the three and nine months ended
September 30, 2017, respectively.
Total amortization expense totaled $372,638
and $434,091 for the nine months ended September 30, 2018 and 2017, respectively.
NOTE 5 — DEFERRED COSTS
Effective January 1, 2018, the Company capitalizes
initial and renewal sales commission payments in the period a customer contract is obtained and payment is received; and is amortized
consistent with the transfer of the goods or services to the customer over the expected period of benefit, which we have deemed
to be the contract term.
Such commissions are amortized over the
greater of contract term or technological obsolescence period when the underlying contracted products are technology-based, such
as for the SaaS-based platforms, or the expected customer relationship period when the underlying contracted products are not technology-based,
such as for patient experience survey products.
During the nine months ended September
30, 2018, the Company deferred an aggregate $201,142 commissions paid and reclassified from equity $80,153 previously paid and
expensed commissions. Amortization of deferred costs for the three and nine months ended September 30, 2018 was $34,214 and $59,705,
respectively.
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
NOTE 6 — CAPITAL LEASES
|
|
September 30,
2018
|
|
|
December 31,
2017
|
|
Capital equipment lease dated April 5, 2018
|
|
$
|
13,921
|
|
|
$
|
-
|
|
Capital equipment lease dated May 8, 2018
|
|
|
15,965
|
|
|
|
-
|
|
Capital equipment lease dated June 27, 2018
|
|
|
23,697
|
|
|
|
-
|
|
Capital equipment lease dated September 18, 2018
|
|
|
16,686
|
|
|
|
-
|
|
Total capital leases payable
|
|
|
70,269
|
|
|
|
-
|
|
Less current portion
|
|
|
(24,773
|
)
|
|
|
-
|
|
Long term portion
|
|
$
|
45,496
|
|
|
$
|
-
|
|
During the nine months ended September
30, 2018, the Company entered into four capital leases for computer equipment for a three year term. The Company recognized
these arrangements as a capital leases based on the determination the leases exceeded 75% of the economic life of the underlying
assets. The Company initially recorded the equipment and the capitalized lease liability at the estimated present value of
the minimum lease payments of $77,864.
The leases include base monthly payments
in aggregate of $2,360, due on the contract monthly anniversary of each calendar month. At the expiration of the lease, the
Company is required to return all leased equipment to the lessor with right of repurchase at fair value. The Company has made payments
in the amount of $7,595 during the nine months ended September 30, 2018.
The Company determined that the capital
leases exceeded 75% of the estimated economic life of the equipment and therefore classified as a capitalized leases. The effective
interest rate of the capitalized lease is estimated at 6.00% based on the Company estimated incremental borrowing rate.
The following summarizes the assets under
capital leases:
|
|
September 30,
2018
|
|
|
December 31,
2017
|
|
Classes of property
|
|
|
|
|
|
|
|
|
Computer equipment
|
|
|
77,864
|
|
|
|
-
|
|
Less: accumulated depreciation
|
|
|
(8,648
|
)
|
|
|
-
|
|
|
|
$
|
69,216
|
|
|
$
|
-
|
|
The following summarizes total future minimum
lease payments at September 30, 2018:
Period ending December 31,
|
|
|
|
Three months ended December 31, 2018
|
|
$
|
5,240
|
|
2019
|
|
|
28,316
|
|
2020
|
|
|
28,316
|
|
2021
|
|
|
13,641
|
|
Total minimum lease payments
|
|
|
75,513
|
|
Amount representing interest
|
|
|
5,244
|
|
Present value of minimum lease payments
|
|
|
70,269
|
|
Current portion of capital lease obligations
|
|
|
24,773
|
|
Capital lease obligation, less current portion
|
|
$
|
45,496
|
|
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
NOTE 7 — CONVERTIBLE NOTES PAYABLE
In connection with the October 9, 2015
Note and Warrant Purchase Agreement, in September 2018, the Company issued convertible promissory notes in aggregate principal
amount of $100,000 (the “Notes”) and warrants (the “Warrants”) to purchase 40,000 shares of common stock
of the Company. $50,000 of the principal was in connection with an entity that a member of the Company’s board of directors
is deemed a beneficial owner (see Note 8). Subject to the agreement, any investor in the October 9, 2015 Purchase Agreement within
the three-year period immediately following the initial closing date, may purchase an additional note in the principal amount
equal to 50% of the principal amount of the initial note purchased by such investor at previous closings and an additional warrant
equal to the principal amount of such additional note divided by the exercise price of the additional warrant.
The Notes bore interest at 10% and matured
on the earlier of October 9, 2018 or after the occurrence of an event of default (as defined in the Note). In the event of any
conversion, all interest was converted into equity and shall not be payable in cash.
Under the terms of the October 9, 2015 Note and Warrant Purchase Agreement, if the Company sells equity
securities in a single transaction or series of related transactions for cash of at least $1,000,000 (excluding the conversion
of the Notes and excluding the shares of common stock to be issued upon exercise of the warrants) on or before the maturity date,
all of the unpaid principal on the Note plus accrued interest shall be automatically converted at the closing of the equity financing
into a number of shares of the same class or series of equity securities as are issued and sold by the Company in such equity
financing (or a class or series of equity securities identical in all respects to and ranking pari passu with the class or series
of equity securities issued and sold in such equity financing) as is determined by dividing (i) the principal and accrued and
unpaid interest amount of the Notes by (ii) 60% of the price per share at which such equity securities are issued and sold in
such equity financing.
On October 2, 2018, the Company’s
board of directors approved to convert the debt, upon maturity, at $3.75 per share, which is 60% of the price per share at which
equity was sold in August 2018 and will be treated as debt extinguishment at conversion.
The Warrants are exercisable at $2.50 per
share and expire 5 years following the date of issuance. The Warrants are subject to anti-dilution protection, subject to certain
customary exceptions. Effective January 1, 2018, the Company adopted ASU No. 2017-11, Earnings Per Share (Topic 260), Distinguishing
Liabilities from Equity (Topic 480)-see Note 1).
In accordance with Accounting Standards
Codification subtopic 470-20, the Company estimated relative fair value of the issued warrants, determined to be $77,978 and recognized
a debt discount of $100,000 as a credit to additional paid in capital. The Company amortized $32,430 of the debt discount to current
period operations as interest expense for the three and nine months ended September 30, 2018.
NOTE 8 — RELATED PARTY TRANSACTIONS
Dr. Carr Bettis, Executive Chairman
and Chairman of Board of Directors
As of September 30, 2018 and December 31,
2017, the Company owed Dr. Bettis $5,992 in accrued salary. In addition, AudioEye sub-leases office space in Scottsdale,
Arizona for certain Company employees, including Todd Bankofier, CEO, from Verus Analytics, Inc, a company in which Dr. Bettis
has a controlling interest. As the Company has taken on more employees and space, the sub-lease amount increased from $500 per
month to $3,502 per month in 2017 totaling $11,320 and $32,333 for the three and nine months ended September 30, 2018; and $3,252
and $8,004 for the three and nine months ended September 30, 2017, respectively. The amount of $0 was due as of September 30,
2018 and December 31, 2017. At September 30, 2018 and December 31, 2017, an estimated $8,475 and $14,000 was due and accrued to
Dr. Bettis for unreimbursed travel related expenses, respectively.
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
Sean Bradley, President, Chief Technology
Officer, and Secretary
As of September 30, 2018 and December 31,
2017, the Company owed Sean Bradley $0 and $3,543 in accrued salary, respectively.
Issuance of convertible notes payable
On September 26, 2018, the Company issued
a convertible note payable to an entity that Alexandre Zyngier, a member of the Company’s board of directors is deemed a
beneficial owner (Note 7).
NOTE 9 — STOCKHOLDERS’ EQUITY
On August 1, 2018, the Company amended
its Articles of Incorporation to implement a reverse stock split in the ratio of 1 share for every 25 shares of common stock and
to reduce the number of authorized common stock from 250,000,000 to 50,000,000. No fractional shares were issued from such aggregation
of common stock, upon the reverse split; any fractional share was rounded up and converted to the nearest whole share of common
stock. As a result, 186,994,384 shares of the Company’s common stock were exchanged for 7,479,775 shares of the Company's
common stock resulting in the transfer of $1,795 from common stock to additional paid in capital. These amendments were approved
and filed of record by the Delaware Secretary of State on August 1, 2018 and effective on August 1, 2018. FINRA declared
the Company’s 1-for-25 reverse stock split market effective as of August 8, 2018. These financial statements have been retroactively
restated to reflect the reverse stock split.
Preferred stock
As of September 30, 2018 and December 31,
2017, the Company had 105,000 and 110,000 shares of Series A Convertible Preferred Stock, respectively, issued at $10 per share,
paying a 5% cumulative annual dividend and convertible for common stock at a price of $4.385 per share, as adjusted for the Company’s
reverse stock split. For the nine months ended September 30, 2018, preferred shareholders earned, but were not paid $40,507 in
annual dividends, or equivalent to 9,238 common shares based on a conversion price of $4.385 per share. As of September 30, 2018
and December 31, 2017, cumulative and unpaid dividends were $179,507 and $146,918, or equivalent to 40,937 and 33,505 common shares
based on a conversion price of $4.385 per share, respectively.
Common stock
As of September 30, 2018 and December 31,
2017 on a post-split basis, the Company had 7,488,281 and 6,467,066 shares of common stock issued and outstanding, respectively.
In April 2018, the Company issued 5,842
shares of its common stock upon the cashless exercise of outstanding warrants to purchase 127,525 shares of common stock.
In June 2018, the Company issued 2,169
shares of its common stock upon the cashless exercise of outstanding options to purchase 8,667 shares of common stock.
In June 2018, the Company issued 13,204
shares of its common stock upon conversion of 5000 shares of Series A Convertible Preferred Stock and accrued dividends.
In August 2018, the Company issued 1,000,000
shares of its common stock in exchange for net cash, after expenses, of $5,609,215.
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
Options
As of September 30, 2018 and December 31, 2017, the Company had outstanding options to purchase 1,025,247
and 1,003,836 shares of common stock, respectively.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Intrinsic
|
|
|
|
|
|
|
|
|
|
Wtd Avg.
|
|
|
|
|
|
Value
|
|
|
|
Number of
|
|
|
Wtd Avg.
|
|
|
Remaining
|
|
|
|
|
|
of
|
|
|
|
Options
|
|
|
Exercise Price
|
|
|
Term
|
|
|
Exercisable
|
|
|
Options
|
|
Outstanding at December 31, 2017
|
|
|
1,003,836
|
|
|
$
|
4.69
|
|
|
|
2.64
|
|
|
|
891,087
|
|
|
$
|
1,356,188
|
|
Granted
|
|
|
73,440
|
|
|
|
6.32
|
|
|
|
5.00
|
|
|
|
|
|
|
|
-
|
|
Exercised
|
|
|
(8,667
|
)
|
|
|
3.88
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited/Expired
|
|
|
(43,362
|
)
|
|
|
9.69
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at September 30, 2018
|
|
|
1,025,247
|
|
|
$
|
4.60
|
|
|
|
2.35
|
|
|
|
933,304
|
|
|
$
|
5,257,173
|
|
On March 9, 2018, the Company granted an
aggregate of 60,390 options to employees as compensation for services rendered. The options are exercisable at $6.45 per share
for five years with (i) 37,890 options vesting 50% over the first year on the first day of each month beginning January 1, 2018
through December 1, 2018, 25% vesting over the year on the first day of each month from January 1, 2019 through December 1, 2019
and 25% vesting over the year on the first day of each month beginning January 1, 2020 through December 1, 2020; (ii) 12,500 options
vesting 50% on January 1, 2018, 50% vesting over the year on each month beginning on January 1, 2019 for 24 months; and (iii) 10,000
options fully vesting on January 1, 2018. The exercise price was determined using the 10-day average closing price beginning with
the closing price on January 9, 2018. The value on the grant date of the options was $298,914.
On April 12, 2018, the Company granted
6,000 options to purchase the Company’s common stock for services rendered at an exercise price of $6.20 per share for five
years with 2,000 options vesting immediately and 1,000 options vesting every 90 days thereafter. The exercise price was determined
using the 10-day average closing price beginning with the closing price on March 12, 2018. The value on the grant date of the options
was $29,694.
On May 31, 2018, the Company granted an
aggregate of 7,050 options to employees as compensation for services rendered. The options are exercisable at $5.30 per share for
five years with 50% of options vesting upon one year employee anniversary and 50% vesting at a rate of 1/24 per month thereafter.
The exercise price was determined using the 10-day average closing price beginning with the closing price on May 16, 2018. The
value on the grant date of the options was $33,130.
Option grants during the nine months ended
September 30, 2018 were valued using the Black-Scholes pricing model. Significant assumptions used in the valuation include expected
term of 2.50 to 3.50 years, expected volatility of 160.87% to 163.85%, risk free interest rate of 2.45% to 2.65%, and expected
dividend yield of 0%.
For the three and nine months ended September 30,
2018 and 2017, total stock compensation expense related to the options totaled $60,020 and $283,218 and $78,746 and $503,779, respectively.
The outstanding unamortized stock compensation
expense related to options was $170,192 (which will be recognized through December 2020) as of September 30, 2018.
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
Warrants
Below is a table summarizing the Company’s
outstanding warrants as of September 30, 2018 and December 31, 2017:
|
|
|
|
|
|
|
|
|
|
|
Intrinsic
|
|
|
|
|
|
|
|
|
|
Wtd Avg.
|
|
|
Value
|
|
|
|
Number of
|
|
|
Wtd Avg.
|
|
|
Remaining
|
|
|
of
|
|
|
|
Warrants
|
|
|
Exercise Price
|
|
|
Term
|
|
|
Warrants
|
|
Outstanding at December 31, 2017
|
|
|
1,919,906
|
|
|
$
|
4.98
|
|
|
|
2.61
|
|
|
$
|
1,656,083
|
|
Granted
|
|
|
253,244
|
|
|
$
|
5.66
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
(127,525
|
)
|
|
$
|
6.25
|
|
|
|
|
|
|
|
|
|
Forfeited/Expired
|
|
|
(164,584
|
)
|
|
|
7.13
|
|
|
|
|
|
|
|
|
|
Outstanding at September 30, 2018
|
|
|
1,881,041
|
|
|
$
|
4.66
|
|
|
|
2.23
|
|
|
$
|
9,391,094
|
|
On April 17, 2018, the Company granted
127,525 warrants for services rendered. The warrants are exercisable at $6.25 per share through May 16, 2018. The fair value of
the warrants of $109,207 was charged to current operations.
On August 23, 2018, the Company granted
85,719 warrants in connection with the 2017 sale of the Company’s common stock. The warrants are exercisable at $6.25 through
September 29, 2022.
In September 2018, the Company issued 40,000
warrants in connection with the issuance of convertible notes payable. The warrants are exercisable at $2.50 through five years
from the date of issuance. The aggregate fair value of the warrants (up to the net note proceeds) was charged as a debt discount
against the convertible notes.
Warrants issued during the nine months
ended September 30, 2018 were valued using the Black-Scholes pricing model. Significant assumptions used in the valuation include
expected term of 0.08 to 5.0 years, expected volatility of 159.81% to 162.35%, risk free interest rate of 1.68% to 2.96%, and expected
dividend yield of 0%.
For the three and nine months ended September
30, 2018 and 2017, the Company has incurred warrant-based expense of $0 and $110,600 and $12,762 and $71,545, respectively. There
was no outstanding unamortized stock compensation expense related to warrants as of September 30, 2018.
Restricted stock units (“RSU”)
The following table summarizes the restricted
stock unit activity for the nine months ended September 30, 2018:
Restricted stock units issued as of January 1, 2018
|
|
|
156,340
|
|
Granted
|
|
|
38,334
|
|
Total Restricted stock units issued at September 30, 2018
|
|
|
194,674
|
|
Vested at September 30, 2018
|
|
|
156,408
|
|
Unvested restricted stock units as of September 30, 2018
|
|
|
38,266
|
|
On March 27, 2018, the Company granted
38,334 RSUs, on a post-split basis, for services provided. 20,000 of such RSUs began vesting May 1, 2018, and will vest each calendar
month at a rate of 1,667 RSUs per month, whereby the RSUs would vest provided that services are not terminated by the Company or
the grantee. 18,333 RSU’s vested immediately. The settlement date for such RSUs is (i) April 1, 2025 or (ii) the date on
which the Company undergoes a change of control during the seven-year term of the award. As of September 30,2018, no RSUs have
been settled. The fair value of the RSU’s at grant date was $247,250.
For the three and nine months ended September 30,
2018 and 2017, the Company has incurred RSU-based expense of $32,398 and $336,625 and $213,281 and $315,364, respectively. The
outstanding unamortized stock compensation expense related to RSUs was $63,803 (which will be recognized through April 2019) as
of September 30, 2018.
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
NOTE 10 — COMMITMENTS AND CONTINGENCIES
Litigation
On January 23, 2017, the court granted
preliminary approval of the settlement pursuant to the terms set forth in the Stipulation of Settlement, provisionally certified
a settlement class of shareholders, and directed plaintiffs' counsel to provide notice to that class. The Court held a Settlement
Hearing May 8, 2017 to consider any objections to the Settlement that might be raised by settlement class members, to consider
plaintiffs’ counsel's application for an award of fees and costs, and to determine whether the Order and Final Judgment as
provided under the Stipulation of Settlement should be entered, dismissing the case with prejudice. On May 8, 2017, this Court
granted final approval to the settlement of the securities class action brought by Lead Plaintiffs, individually and on behalf
of all others similarly situated. On February 9, 2018, the Court authorized distribution of the Net Settlement Fund and approved
the proposed modified plan of allocation.
On May 16, 2016, a shareholder derivative complaint entitled LiPoChing, Derivatively and on Behalf of
AudioEye, Inc., v. Bradley, et al., was filed in the United States District Court for the District of Arizona. As a derivative
complaint, the plaintiff-shareholder purported to act on behalf of the Company against the Named Individuals. The Company was named
as a nominal defendant. The complaint asserted causes of action including breach of fiduciary duty and others, arising from the
Company’s restatement of its financial results for the first three quarters of 2014. The complaint sought, among other relief,
compensatory damages, restitution and attorneys’ fees. In October 2016, the Company and Named Defendants filed a motion to
dismiss. In response, the Plaintiff voluntarily dismissed the complaint without prejudice. Plaintiff’s counsel subsequently
submitted a demand to the Company’s Board of Directors, to investigate the circumstances surrounding restatement of its financial
results for the first three quarters of 2014. On June 22, 2018, the matter was resolved to the parties’ satisfaction. The
resolution of the matter did not have a material adverse effect on our financial position or results of operations.
On July 26, 2016, a shareholder derivative
complaint entitled Denese M. Hebert, derivatively on Behalf of Nominal Defendant AudioEye, Inc., v. Bradley, et al., was filed
in the State of Arizona Superior Court for Pima County. The complaint generally asserted causes of action related to the Company’s
restatement of its financial statements for the first three fiscal quarters of 2014. As a derivative complaint, the plaintiff-shareholder
purported to act on behalf of the Company against the Named Individuals. The Company was named as a nominal defendant. The defendants
filed a motion to dismiss, which the Court granted on May 8, 2017, while also denying Plaintiff’s request for leave to amend
the complaint. As in the above matter, after this matter was dismissed Plaintiff’s counsel subsequently submitted a demand
to the Company’s Board of Directors, to investigate the circumstances surrounding restatement of its financial results for
the first three quarters of 2014. On June 22, 2018, the matter was resolved to the parties’ satisfaction. The resolution
of the matter did not have a material adverse effect on our financial position or results of operations.
We may become involved in various other
routine disputes and allegations incidental to our business operations. While it is not possible to determine the ultimate disposition
of these matters, our management believes that the resolution of any such matters, should they arise, is not likely to have a material
adverse effect on our financial position or results of operations.
AUDIOEYE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018 (Unaudited)
NOTE 11 — SUBSEQUENT EVENTS
Convertible promissory notes
:
In connection with the October 9, 2015
Note and Warrant Purchase Agreement, in October 2018, the Company issued convertible promissory notes in aggregate principal amount
of $124,975 (the “Notes”) and warrants (the “Warrants”) to purchase 49,990 shares of common stock of the
Company. Subject to the agreement, any investor in the October 9, 2015 Purchase Agreement within the three-year period immediately
following the initial closing date, may purchase an additional note in the principal amount equal to 50% of the principal amount
of the initial note purchased by such investor at previous closings and an additional warrant equal to the principal amount of
such additional note divided by the exercise price of the additional warrant.
The Note bears interest at 10% and matures
the earlier of October 9, 2018 or after the occurrence of an event of default (as defined in the Note). In the event of any conversion,
all interest shall be also converted into equity and shall not be payable in cash. All notes and accumulated interest have been
converted by the maturity date.
Under the terms of the 2015 Note and Warrant
Purchase Agreement, if the Company sells equity securities in a single transaction or series of related transactions for cash of
at least $1,000,000 (excluding the conversion of the Notes and excluding the shares of common stock to be issued upon exercise
of the warrants) on or before the maturity date, all of the unpaid principal on the Note plus accrued interest shall be automatically
converted at the closing of the equity financing into a number of shares of the same class or series of equity securities as are
issued and sold by the Company in such equity financing (or a class or series of equity securities identical in all respects to
and ranking pari passu with the class or series of equity securities issued and sold in such equity financing) as is determined
by dividing (i) the principal and accrued and unpaid interest amount of the Notes by (ii) 60% of the price per share at which such
equity securities are issued and sold in such equity financing.
On October 2, 2018, the Company’s
board of directors approved to convert the debt, upon maturity, at $3.75 per share, which is 60% of the price per share at which
equity was sold in August 2018.
On October 29, 2018, the Company issued an aggregate of 60,183 shares of its common stock in settlement
of notes payable and accrued interest of $224,975 and $712, respectively. In connection with the conversion, the Company incurred
a $267,812 loss on settlement of debt.
The Warrants are exercisable at $2.50 per
share and expire 5 years following the date of issuance. The Warrants are subject to anti-dilution protection, subject to certain
customary exceptions.
Capital lease:
In October 2018, the Company entered into
a capital lease for computer equipment for a three year term with payments of $503 per month.
Item 2. Management’s Discussion and Analysis of Financial
Condition and Results of Operations
The following Management’s Discussion
and Analysis of Financial Condition and Results of Operations or MD&A, should be read in conjunction with our consolidated
financial statements and related notes in Part I, Item 1 of this report.
As used in this quarterly report, the
terms “we,” “us,” “our” and similar references refer to AudioEye, Inc. and our wholly-owned
subsidiary, unless otherwise indicated.
Cautionary Note Regarding Forward-Looking Statements
Any statements in this Quarterly Report
on Form 10-Q about our expectations, beliefs, plans, objectives, prospects, financial condition, assumptions or future events
or performance are not historical facts and are “forward-looking statements” as that term is defined under the federal
securities laws. These statements are often, but not always, made through the use of words or phrases such as “believe”,
“anticipate”, “should”, “intend”, “plan”, “will”, “expects”,
“estimates”, “projects”, “positioned”, “strategy”, “outlook” and similar
words. You should read the statements that contain these types of words carefully. Such forward-looking statements are subject
to a number of risks, uncertainties and other factors that could cause actual results to differ materially from what is expressed
or implied in such forward-looking statements. There may be events in the future that we are not able to predict accurately or
over which we have no control. Potential risks and uncertainties include, but are not limited to, those discussed in “Part I, Item
1A. Risk Factors” in our Annual Report filed on Form 10-K for the year ended December 31, 2017. We urge you not
to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We do not undertake
any obligation to release publicly any revisions to such forward-looking statements to reflect events or uncertainties after the
date hereof or to reflect the occurrence of unanticipated events.
Overview
AudioEye is a marketplace leader providing
digital accessibility solutions for our clients’ customers through our
Ally Platform Products
. Our technology advances
accessibility with patented technology solutions that reduce access barriers, expand access for individuals with disabilities,
and enhance the user experience for a broader audience of users
.
When implemented, we believe that our solutions offer businesses
the opportunity to reach more customers, improve brand image, and build additional brand loyalty. In addition, our solutions
help organizations comply with internationally accepted Web Content Accessibility Guidelines (WCAG) as well as US, Canadian, Australian,
and United Kingdom accessibility laws.
We generate revenues through the sale of
subscriptions of our software as a service (SaaS) technology platform, called the AudioEye Ally Platform, to website owners, publishers,
developers, and operators and through the delivery of managed services combined with the implementation of the AudioEye solution.
Our solutions have been adopted by some of the largest and most influential companies in the world. Our customers span disparate
industries and target market verticals, which encompass (but are not limited to) the following categories: human resources, finance,
transportation, media, and education. Government agencies have also integrated our software in their digital platforms. Today,
AudioEye technology has been deployed across thousands of customer web domains and, on a daily basis, removes billions of access
barriers for our clients’ customers.
The AudioEye Solution
AudioEye uses proprietary technology and
mature processes to provide digital accessibility solutions that offer significant savings in time and money relative to traditional
solutions. Our compliance solutions focus on rapid remediation of the most important accessibility issues, followed by in-depth
analysis identifying and addressing a more comprehensive compliance program. Our technology was built to not only provide users
with a cloud-based assistive toolset that gets embedded and made freely available to users within our client websites, but to also
improve the code in a way that optimizes the user experience for users of existing third-party assistive technologies, such as
screen readers.
Intellectual Property
Our technology development was initiated
at the University of Arizona Science & Technology Park in Tucson, Arizona. In 2006, we received technology development
venture funding from the Maryland Technology Development Corporation (TEDCO), which contributed to the development of our platform
strategy. Beginning in 2009, we engaged in a multi-year technology development program with the Eller College of Management’s
Department of Management Information Systems at the University of Arizona. In connection with our proprietary technology,
our company has been issued a number of U.S. patents in two distinct patent families. Today, an experienced team of in-house
engineers, designers, and developers in our Atlanta, GA, and Tucson, AZ, offices develop the Company’s technology &
software and are actively engaged in the expansion of the AudioEye IP Portfolio.
Our patented technology was a 2013 Edison
Gold Award winner for innovation in the category of “Quality of Life.”
Our intellectual property is primarily
comprised of trade secrets, trademarks, issued, published and pending patent applications, copyrights and technological innovation.
We have a patent portfolio comprised of six issued patents in the United States; we have six published/pending patent applications
(5 USPTO, 1 PCT – International).
We have a trademark
portfolio comprised of one allowed trademark application, two published trademark applications, and six trademark registrations.
Our current patented invention relates
to a server-side method and apparatus that enables users to audibly navigate websites and hear high-quality streaming audio narration
and descriptions of websites. This patented invention involves creating an audio-enabled web experience by utilizing voice
talent and automated text-to-speech conversion methods to read and describe web content. It involves the creation of audio files
for each section within a website, and then assigning a hierarchy and navigation system in line with the website design.
To implement the system, a script is installed across the pages of the website and, when loaded, it plays an audible
tone upon a user’s visit indicating that the website is enhanced with our proprietary technology. Upon hearing the
tone, a user presses a key on the keyboard to enter the audible website. Audible narration is played through the user’s
computer, reading text and describing non-text information, such as images. The narration includes menus for navigating the
site which have a hierarchy in line that of the original website. Users navigate the website menus and move from webpage to
webpage by making keystrokes or using a mouse.
Our current portfolio has established a
foundation for building unique technology solutions that contribute to the way in which we differentiate ourselves from other competitors
in the B2B Web Accessibility marketplace. We plan to continue to invest in research and development, and demonstrate expansion
in the portfolio of proprietary intellectual property.
Our Annual Report filed on Form 10-K for the year ended
December 31, 2017 provides additional information about our business and operations.
Results of Operations
Our consolidated financial statements are
stated in United States Dollars and are prepared in accordance with United States Generally Accepted Accounting Principles (“GAAP”).
The discussion of the results of our operations compares the three and nine months ended September 30, 2018 with the three and
nine months ended September 30, 2017 and are not necessarily indicative of the results which may be expected for any subsequent
period. Our prospects should be considered in light of the risks, expenses and difficulties encountered by companies in similar
positions. We may not be successful in addressing these risks and difficulties.
Comparative for the Three Months ended September 30, 2018
and September 30, 2017
Results of Operations
|
|
Three Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
Revenue
|
|
$
|
1,494,313
|
|
|
$
|
744,380
|
|
|
|
|
|
|
|
|
|
|
Cost of sales
|
|
|
672,589
|
|
|
|
262,738
|
|
Gross profit
|
|
|
821,724
|
|
|
|
481,642
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
Selling & marketing
|
|
|
625,789
|
|
|
|
363,951
|
|
Research & development
|
|
|
48,860
|
|
|
|
44,704
|
|
General and administrative expenses
|
|
|
1,316,378
|
|
|
|
822,310
|
|
Amortization & depreciation
|
|
|
129,161
|
|
|
|
143,661
|
|
Total operating expenses
|
|
|
2,120,188
|
|
|
|
1,374,626
|
|
Operating loss
|
|
|
(1,298,464
|
)
|
|
|
(892,984
|
)
|
|
|
|
|
|
|
|
|
|
Unrealized gain on derivative liabilities
|
|
|
-
|
|
|
|
1,086,044
|
|
Unrealized loss on marketable securities
|
|
|
(1,680
|
)
|
|
|
-
|
|
Interest expense
|
|
|
(32,892
|
)
|
|
|
(9,639
|
)
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
|
(1,333,036
|
)
|
|
|
183,421
|
|
Deemed dividend on Series A Convertible preferred stock
|
|
|
(13,233
|
)
|
|
|
(20,000
|
)
|
Net (loss) income attributable to common stockholders
|
|
$
|
(1,346,269
|
)
|
|
$
|
163,421
|
|
Net (loss) income per common share – basic
|
|
|
(0.19
|
)
|
|
|
0.04
|
|
Net (loss) income per common share – diluted
|
|
|
(0.19
|
)
|
|
|
0.03
|
|
Weighted average common shares outstanding – basic
|
|
|
7,084,716
|
|
|
|
4,502,565
|
|
Weighted average common shares outstanding – diluted
|
|
|
7,084,716
|
|
|
|
5,027,691
|
|
Revenue
For the three months ended September 30,
2018 and 2017, revenue was $1,494,313 and $744,380, respectively, consisting primarily of revenues from various levels of subscriptions
and technology development. Revenues increased due to the execution of the Company’s business plan which includes the hiring
of additional sales team members, securing new negotiated channel partnerships thus increasing the volume of reselling of the AudioEye
service, and a continued marketing focus on highly transactional industry verticals.
Cost of Sales
For the three months ended September 30,
2018 and 2017, cost of sales was $672,589 and $262,738, respectively, consisting primarily of sub-contracting to outside sources,
direct labor and direct technology costs.
Gross Profit
An increase in our revenues resulted in
a gross profit of $821,724 for the current period, as compared to a gross profit of $481,642 during the three months ended September
30, 2017. Gross profit increased as a result of increased revenues in 2018 as compared to the same period in 2017.
Selling and Marketing Expenses
Selling and marketing expenses were $625,789
and $363,951 for the three months ended September 30, 2018 and 2017, respectively. The increase is attributed to increased
sales personnel and new strategic marketing directives driving higher sales activity in 2018 as compared to 2017.
Research and Development Expenses
Research and development expenses were
$48,860 and $44,704 for three months ended September 30, 2018 and 2017, respectively. Research and development expenses increased
from period to period and reflect the continued importance of the development of our product.
General and Administrative Expenses
General and administrative expenses were
$1,316,378 and $822,310 for the three months ended September 30, 2018 and 2017, respectively. General and administrative expenses
increased $494,068 due primarily to higher service provider costs as compared to 2017. Stock based compensation for the three months
ended September 30, 2018 was $92,418 as compared to $304,789 for the same period last year.
Amortization and Depreciation
Amortization and depreciation expenses
were $129,161 and $143,661 for the three months ended September 30, 2018 and 2017, respectively. The decrease in expense was primarily
related to expiring software development costs in 2017.
Gain on change in Fair Value of Derivative
Liabilities
In October 2015, 2016 and 2017, we issued
warrants with an embedded reset provision requiring us to fair value the derivatives each reporting period and mark to market as
a non-cash adjustment to our current period operations. This resulted in a gain of $1,086,044 on change in fair value of derivative
liabilities for the three months ended September 30, 2017. The primary driver of the change in our derivative liability is our
stock price. Generally, as our stock price decreases, the liability decreases resulting in a larger non-cash loss for the period
to period change.
On January 1, 2018, we adopted ASU 2017-11
by electing the retrospective method to the outstanding financial instruments with a down round feature by means of a cumulative-effect
adjustment to the statement of financial position as of the beginning of the fiscal year. Accordingly, we are no longer required
to treat as derivatives our financial instruments with embedded anti-dilutive (reset) provisions.
Interest Expense, net
Interest expense, net during the three
months ended September 30, 2018 was $32,892 compared to $9,639 for the three months ended September 30, 2017. In 2018, we incurred
interest expenses relating to our capital leases for equipment and non-cash interest relating debt discounts in connection with
our issued convertible notes as compared to non-cash interest expense and debt discounts relating to our convertible note payable
of $8,425in 2017
Comparative for the Nine Months ended September 30, 2018
and September 30, 2017
Results of Operations
|
|
Nine Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
Revenue
|
|
$
|
3,878,552
|
|
|
$
|
1,863,111
|
|
|
|
|
|
|
|
|
|
|
Cost of sales
|
|
|
1,882,698
|
|
|
|
1,043,813
|
|
Gross profit
|
|
|
1,995,854
|
|
|
|
819,298
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
Selling & marketing
|
|
|
1,813,345
|
|
|
|
980,834
|
|
Research & development
|
|
|
147,889
|
|
|
|
138,673
|
|
General and administrative expenses
|
|
|
3,197,766
|
|
|
|
2,175,519
|
|
Amortization & depreciation
|
|
|
394,238
|
|
|
|
437,070
|
|
Total operating expenses
|
|
|
5,553,238
|
|
|
|
3,732,096
|
|
Operating loss
|
|
|
(3,557,384
|
)
|
|
|
(2,912,798
|
)
|
|
|
|
|
|
|
|
|
|
Unrealized gain on derivative liabilities
|
|
|
-
|
|
|
|
131,855
|
|
Unrealized loss on marketable securities
|
|
|
(30
|
)
|
|
|
-
|
|
Interest income (expense), net
|
|
|
(32,760
|
)
|
|
|
(57,759
|
)
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
|
(3,590,174
|
)
|
|
|
(2,838,702
|
)
|
Deemed dividend on Series A Convertible preferred stock
|
|
|
(40,507
|
)
|
|
|
(60,000
|
)
|
Net loss attributable to common stockholders
|
|
$
|
(3,630,681
|
)
|
|
$
|
(2,898,702
|
)
|
Net loss per common share – basic and diluted
|
|
|
(0.54
|
)
|
|
|
(0.65
|
)
|
Weighted average common shares outstanding – basic and diluted
|
|
|
6,676,968
|
|
|
|
4,491,028
|
|
Revenue
For the nine months ended September 30,
2018 and 2017, revenue was $3,878,552 and $1,863,111, respectively, consisting primarily of revenues from various levels of subscriptions
and technology development.
Revenues increased due to the execution
of the Company’s business plan which includes the hiring of additional sales team members, securing new negotiated channel
partnerships thus increasing the volume of reselling of the AudioEye service, and a continued marketing focus on highly transactional
industry verticals.
Cost of Sales
For the nine months ended September 30,
2018 and 2017, cost of sales was $1,882,698 and $1,043,813, respectively, consisting primarily of sub-contracting to outside sources,
direct labor and direct technology costs.
Gross Profit
An increase in our revenues resulted in
a gross profit of $1,995,854 for the current period, as compared to a gross profit of $980,834 during the nine months ended September
30, 2017. Gross profit increased as a result of lower implementation costs as compared to the same period in 2017.
Selling and Marketing Expenses
Selling and marketing expenses were $1,813,345
and $980,834 for the nine months ended September 30, 2018 and 2017, respectively. The increase is attributed to increased
sales personnel and new strategic marketing directives driving higher sales activity in 2018 as compared to 2017.
Research and Development Expenses
Research and development expenses were
$147,889 and $138,673 for nine months ended September 30, 2018 and 2017, respectively. Research and development expenses increased
from period to period and reflect the importance of the continued developments of our product.
General and Administrative Expenses
General and administrative expenses were
$3,197,766 and $2,175,519 for the nine months ended September 30, 2018 and 2017, respectively. General and administrative expenses
increased $1,022,247 due primarily to higher service provider costs as compared to 2017. Stock based compensation for the nine
months ended September 30, 2018 was $730,443 as compared to $901,106 for the same period last year.
Amortization and Depreciation
Amortization and depreciation expenses
were $394,238 and $437,070 for the nine months ended September 30, 2018 and 2017, respectively. The decrease in expense was primarily
related to expiring software development costs in 2017.
Gain on change in Fair Value of Derivative
Liabilities
In October 2015, 2016 and 2017, we issued
warrants with an embedded reset provision requiring us to fair value the derivatives each reporting period and mark to market as
a non-cash adjustment to our current period operations. This resulted in a gain of $131,855 on change in fair value of derivative
liabilities for the nine months ended September 30, 2017. The primary driver of the change in our derivative liability is our stock
price. Generally, as our stock price increases, the liability increases resulting in a larger non-cash loss for the period to period
change.
On January 1, 2018, we adopted ASU 2017-11
by electing the retrospective method to the outstanding financial instruments with a down round feature by means of a cumulative-effect
adjustment to the statement of financial position as of the beginning of the fiscal year. Accordingly, we are no longer required
to treat as derivatives our financial instruments with embedded anti-dilutive (reset) provisions.
Interest Expense, net
Interest expense, net during the nine months
ended September 30, 2018 was $32,760 compared to $57,759 interest expense for the nine months ended September 30, 2017. In 2018,
interest expense primarily was due incurred non-cash interest expense related to our convertible notes payable as compared to non-cash
interest expense and debt discount amortization related to our convertible note payable of $55,695 in 2017.
Contracts in Process/Revenue Recognition
Under current accounting procedures, the
Company only recognizes revenue on new contracts for the actual services delivered in the period under the following criteria:
(i) the contract has been signed and delivered to the Company; (ii) the services have been performed or delivered; and (iii) the
client has been billed for the services delivered. The Company does not record deferred revenues for new contracts until the first
payment for services has been received. The Company only records accounts receivable for the amount of revenue recognized as service
is rendered, even if the client has been billed for the entire contract value. The table below summarizes the amount of contract
value in excess of the revenue recognized of $6,448,925, our deferred revenue of $2,498,673 and amount recognized in the amount
of $3,878,552 in 2018. Contract and deferred revenues are expected to be recognized in future periods. The Company also receives
contracts for service hours but whose total contract value is uncertain. These “fee for service contracts” are recorded
in the table below only if the services have been delivered and the associated revenue has been recognized.
A summary of our contracts in process is as follows:
|
|
Contracts in Process
|
|
|
|
September 30, 2018
|
|
|
|
|
|
|
Revenue
|
|
|
Revenue
Recognized
|
|
|
Deferred
|
|
|
Contract Amount in
Excess of Deferred
|
|
|
|
Contract
|
|
|
Recognized
|
|
|
9 Months Ended
|
|
|
Revenue
|
|
|
Revenue and
|
|
|
|
Amount
|
|
|
prior to 2018
|
|
|
September 30, 2018
|
|
|
September 30, 2018
|
|
|
Recognized Revenue
|
|
Fixed Contracts
|
|
$
|
15,017,986
|
|
|
$
|
2,191,836
|
|
|
$
|
3,878,552
|
|
|
$
|
2,498,673
|
|
|
$
|
6,448,925
|
|
Liquidity and Capital Resources
Working Capital
|
|
At September 30,
|
|
|
At December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Current Assets
|
|
$
|
6,483,053
|
|
|
$
|
2,134,403
|
|
Current Liabilities
|
|
|
2,813,304
|
|
|
|
4,333,329
|
|
Working Capital (Deficit)
|
|
$
|
3,669,749
|
|
|
$
|
(2,198,926
|
)
|
The working capital (deficit - current
liabilities in excess of current assets) for the periods ended September30, 2018 and December 31, 2017 was $3,669,749 and
$(2,198,926) respectively. The increase in working capital was primarily due to increase in our cash of $4,130,235, accounts receivable
of $125,980, in our deferred costs of $132,884, elimination of liability treatment of our previously issued anti-dilutive warrants
of $2,984,010, net, with an increase in accounts payable and accrued expenses of $155,128, increases in our deferred revenue of
$1,264,919 and short term portion of our capital leases and convertible debt of $57,203. In addition, the Company used actual net
cash in operations of $1,251,559 during the nine months ended September 30, 2018.
In August 2018, the Company sold 1,000,000
shares of its common stock at $6.25 per share for net proceeds of $5,609,215, after costs and expenses of $640,785. In addition,
the Company received proceeds from convertible notes of $100,000 in September 2018 and an additional $124,975 in the subsequent
month of October. It is anticipated that the Company has cash sufficient to fund operations for the next twelve months.
Cash Flows
|
|
For the Nine
months ended
|
|
|
|
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
|
|
Net Cash (Used in) Operating Activities
|
|
$
|
(1,251,559
|
)
|
|
$
|
(1,121,558
|
)
|
Net Cash (Used in) Investing Activities
|
|
|
(319,826
|
)
|
|
|
(257,745
|
)
|
Net Cash Provided by Financing Activities
|
|
|
5,701,620
|
|
|
|
1,532,000
|
|
Increase in Cash
|
|
$
|
4,130,235
|
|
|
$
|
152,697
|
|
We had cash in the amount of $6,090,665
and $1,960,430 as of September 30, 2018 and December 31, 2017, respectively.
Critical Accounting Policies
The discussion and analysis of our financial
condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance
with the accounting principles generally accepted in the United States. Preparing financial statements requires our management
to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. These estimates
and assumptions are affected by our management’s application of accounting policies. We believe that understanding the basis
and nature of the estimates and assumptions involved with the following aspects of our financial statements is critical to an understanding
of our financial statements.
Our critical accounting policies, as described
in our Annual Report on Form 10-K for the fiscal year ended December 31, 2017, relate to capitalized legal patent costs,
income taxes, goodwill, intangible assets, share-based payments, revenue recognition, and research and other accounting descriptions.
There have been no material changes to our critical accounting policies as disclosed in our Annual Report on Form 10-K for
the fiscal year ended December 31, 2017.