Notes to Consolidated Financial
Statements
(Unaudited)
Note 1. Description of Business
Description of Business
MusclePharm
Corporation was incorporated in Nevada in 2006. Except as otherwise
indicated herein or the context requires otherwise, the terms
“MusclePharm,” the “Company,”
“we,” “our” and “us” refer to
MusclePharm Corporation and its subsidiaries. The Company is a
scientifically-driven, performance lifestyle company
that develops, manufactures, markets and distributes
branded sports nutrition products and nutritional
supplements. Our portfolio of
recognized brands, including MusclePharm®
and FitMiss®,
is marketed and sold in more than 100 countries
globally. The Company is headquartered in Burbank,
California and, as of March 31, 2019, had the following
wholly-owned operating subsidiaries: MusclePharm Canada Enterprises
Corp., MusclePharm Ireland Limited and MusclePharm Australia Pty
Limited.
The Company has incurred significant losses and experienced
negative cash flows since inception. As of March 31, 2019,
the Company had cash of $0.6 million, a decline of $1.7 million from the December 31, 2018 balance of
$2.3 million. As of March 31, 2019, we had a working capital
deficit of $34.4 million, a stockholders’ deficit of $32.4
million and an accumulated deficit of $181.4 million resulting from
recurring losses from operations. As a result of our history of
losses and financial condition, there is substantial doubt about
our ability to continue as a going concern. For financial
information concerning more recent periods, see our reports for
such periods filed with the Securities and Exchange
Commission.
The ability to continue as a going concern is dependent upon us
generating profits in the future and/or obtaining the necessary
financing to meet our obligations and repay our liabilities arising
from normal business operations when they come due. Management is
evaluating different strategies to obtain financing to fund our
expenses and achieve a level of revenue adequate to support our
current cost structure. Financing strategies may include, but are
not limited to, private placements of capital stock, debt
borrowings, partnerships and/or collaborations.
In response to the Company’s continued losses, in 2018,
management implemented the following plans to improve the
Company’s operating costs:
1)
reduced
our workforce;
2)
renegotiated
or terminated a number of contracts with endorsers in a strategic
shift away from such arrangements and toward more cost-effective
marketing and advertising efforts; and
3)
discontinued
a number of stock keeping units (“SKUs”) and wrote down
inventory to net realizable value, or to zero in cases where the
product was discontinued.
Despite these measures, during 2019, the Company continued to incur
substantial losses.
In order to improve the Company’s operating results,
management has continued to focus on its 2018 initiatives. In
addition, during the fourth quarter of 2019, management implemented
the following measures to improve gross margin:
1)
reduced
or eliminated sales to low or negative margin
customers;
2)
reduced
product discounts and promotional activity;
3)
implemented
a more aggressive SKU reduction; and
4)
formed
a pricing committee to review all orders to better align gross
margin expectations with product availability.
As a result of these measures, as well as a reduction in protein
prices, the Company realized increased gross margins in the fourth
quarter of 2019, a trend which continued through the first and second
quarters of 2020. Beginning in
April 2020, the Company began to experience a slowdown, which has
continued to date, in sales from its retail customers, including
its largest customer. This decline has been partially offset by a
growth in sales to our largest online customer, although there can
be no assurances that such growth will continue, or that the
Company will have the financial resources to produce the additional
quantities required by this customer. Management believes reductions in operating costs,
and continued focus on gross margin, primarily pricing controls and
a reduction in product discounts and promotional activity with the
Company’s customers, will allow us to ultimately achieve
profitability, however, the Company can give no assurances that
this will occur. To manage cash flow, the Company has entered into
multiple financing arrangements. See additional information in
“Note 8. Debt.”
Our results of operations are affected by economic conditions,
including macroeconomic conditions and levels of business
confidence. There continues to be significant volatility and
economic uncertainty in many markets and the ongoing COVID-19
pandemic has increased that level of volatility and uncertainty and
has created economic disruption. We are actively managing our
business to respond to the impact.
Note 2. Summary of Significant Accounting Policies
Basis of Presentation and Principles of Consolidation
The
accompanying Consolidated Financial Statements have been prepared
using the accrual method of accounting in accordance with generally
accepted accounting principles in the United States
(“GAAP”) and have been
prepared on a going concern basis, which contemplates the
realization of assets and the settlement of liabilities in the
normal course of business. The Consolidated Financial
Statements include the accounts of MusclePharm Corporation and its
wholly-owned subsidiaries. All significant intercompany balances
and transactions have been eliminated in
consolidation.
Unaudited Interim Financial Information
The
accompanying unaudited interim Consolidated Financial Statements
have been prepared in accordance with GAAP and with the
instructions to Form 10-Q and Article 10 of Regulation S-X for
interim financial information. Accordingly, these statements do not
include all of the information and notes required by GAAP for
complete financial statements. The Company’s management
believes the unaudited interim Consolidated Financial Statements
include all adjustments of a normal recurring nature necessary for
the fair presentation of the Company’s financial position as
of March 31, 2019, results of operations for the three
months ended March 31, 2019 and 2018, and cash flows for the three
months ended March 31, 2019 and 2018. The results of operations for
the three months ended March 31, 2019 are not necessarily
indicative of the results to be expected for the year
ended December 31, 2019.
These
unaudited interim Consolidated Financial Statements should be read
in conjunction with the consolidated financial statements and
related notes included in the Company’s Annual Report on Form
10-K for the year ended December 31, 2019, filed with the SEC
on August 24, 2020.
Use of Estimates
The
preparation of consolidated financial statements in conformity with
GAAP requires management to make estimates and assumptions that
affect the amounts reported and disclosed in the consolidated
financial statements and accompanying notes. Such estimates
include, but are not limited to, allowance for doubtful accounts,
revenue discounts and allowances, the valuation of inventory and
deferred tax assets, the assessment of useful lives, recoverability
and valuation of long-lived assets, likelihood and range of
possible losses on contingencies, restructuring liabilities,
valuations of equity securities and intangible assets, fair value
of derivatives, warrants and options, present value of lease liabilities, among
others. Actual results could differ from those
estimates.
Revenue Recognition
The
Company adopted ASC 606, “Revenue from Contracts with
Customers,” effective January 1, 2018. With the
adoption of the new standard, revenue is recognized when control of
the promised goods or services is transferred to the
Company’s customers in an amount that reflects the
consideration the Company expects to be entitled to in exchange for
those goods or services.
a.
Nature of Goods and Services
The
Company sells a variety of protein products through a broad
distribution platform that includes supermarkets, mass
merchandisers, wholesale clubs, drugstores, convenience stores,
home stores, specialty stores and websites and other e-commerce
channels, all of which sell our products to consumers.
b.
When Performance Obligations are Satisfied
For
performance obligations related to the shipping and invoicing of
products, control transfers at the point in time upon which
finished goods are delivered to the Company’s customers or
when finished goods are picked up by a customer or a
customer’s carrier, depending on shipping terms. Once a
product has been delivered or picked up by the customer, the
customer is able to direct the use of, and obtain substantially all
of the remaining benefits from, the asset. The Company considers
control to have transferred upon delivery or customer receipt
because the Company has an enforceable right to payment at
that time, the customer has legal title to the asset,
the Company has transferred physical possession of the asset,
and the customer has significant risk and rewards of ownership of
the asset.
c.
Variable Consideration
The
Company conducts extensive promotional activities, primarily
through the use of off-list discounts, slotting, coupons,
cooperative advertising, periodic price reduction arrangements, and
end-aisle and other in-store displays. The costs of such
activities are netted against sales and are recorded when the
related sale takes place. The reserves for sales returns
and consumer and trade promotion liabilities are established based
on the Company’s best estimate of the amounts necessary to
settle future and existing obligations for products sold as of the
balance sheet date. To determine the
appropriate timing of recognition of consideration payable to a
customer, all consideration payable to our customers is reflected
in the transaction price at inception and reassessed
routinely.
The
Company expenses incremental direct costs of obtaining a contract
(broker commissions) when the related sale takes place, since the
amortization period of the commissions paid for the sale of
products is less than a year. These costs are recorded in
“Selling, general and
administrative” expenses in the accompanying
consolidated statements of operations.
The Company accounts for shipping and handling costs as fulfillment
activities which are therefore recognized upon shipment of the
goods. Shipping and handling costs related to inbound purchases of
raw material and finished goods are included in cost of
revenues in our consolidated statements of operations. For
the three months ended March 31, 2019 and 2018, the Company
incurred $0.3 million and $0.4 million, respectively, of inbound
shipping and handling costs. Shipping and handling costs related to
shipments to our customers is included in “Selling, general
and administrative” expense in our consolidated statements of
operations. For both the three months ended March 31, 2019 and
2018, the Company incurred $1.0 million, of shipping and handling
costs related to shipments to our customers.
The
Company excludes from its revenue any amounts collected from
customers for sales (and similar) taxes. During the three months
ended March 31, 2019 and 2018, the Company recorded discounts, and
to a lesser degree, sales returns, totaling $7.6 million and $7.9
million, respectively, which accounted for 29% and 25% of gross
revenue in each period, respectively.
The Company adopted ASC 606 using the modified retrospective method
and the cumulative effect of this change in accounting method for
the expected value of customer credits related to certain contracts
in place, as defined by ASC 606, is presented below:
|
|
Balance
at
December
31, 2017
|
|
Balance at
January 1, 2018
|
|
Accounts
receivable, net
|
$11,105
|
$(1,053)
|
$10,052
|
|
Accumulated
deficit
|
$(165,069)
|
$(1,053)
|
$(166,122)
|
Concentrations
Financial
instruments that potentially subject the Company to concentrations
of credit risk consist primarily of cash and accounts receivable.
The Company minimizes its credit risk associated with cash by
periodically evaluating the credit quality of its primary financial
institution. The cash balance at times may exceed federally insured
limits. Management believes the financial risk associated with
these balances is minimal and has not experienced any losses to
date.
Significant
customers are those that represent more than 10% of the
Company’s net revenue or accounts receivable for each period
presented. For each significant customer, percentage of net revenue
and accounts receivable are as follows:
|
|
Percentage of Net
Revenue for the
Three Months Ended
March 31,
|
Percentage of Net
Accounts Receivable
as
of
|
|
|
|
|
|
|
|
Customers
|
|
|
|
|
|
Costco
|
26%
|
38%
|
10%
|
16%
|
|
Amazon
|
12%
|
*
|
19%
|
22%
|
|
iHerb
|
14%
|
*
|
*
|
*
|
*
Represents less than 10% of net revenue or net accounts
receivable.
The
Company uses a limited number of non-affiliated suppliers for
contract manufacturing of its products.
The
Company had the following concentration of purchases with contract
manufacturers:
|
|
For the three
months
Ended March 31,
|
|
Vendor
|
|
|
|
Nutra
Blend
|
20%
|
25%
|
|
S.K.
Laboratories
|
40%
|
22%
|
|
4Excelsior
|
*
|
18%
|
|
Bakery
Barn
|
*
|
14%
|
|
Prinova
|
10%
|
17%
|
*
Represents less than 10% of purchases.
Share-Based Payments and Stock-Based Compensation
Share-based
compensation awards, including stock options and restricted stock
awards, are recorded at estimated fair value on the applicable
awards’ grant date, based on the estimated number of awards
that are expected to vest. The grant date fair value is amortized
on a straight-line basis over the time in which the awards are
expected to vest, or immediately if no vesting is required.
Share-based compensation awards issued to non-employees for
services are recorded at fair value on the grant date. The fair
value of restricted stock awards is based on the fair value of the
stock underlying the awards on the grant date as there is no
exercise price.
The
fair value of stock options is estimated using the Black-Scholes
option-pricing model. The determination of the fair value of each
stock award using this option-pricing model is affected by the
Company’s assumptions regarding a number of complex and
subjective variables. These variables include, but are not limited
to, the expected stock price volatility over the term of the awards
and the expected term of the awards based on an analysis of the
actual and projected employee stock option exercise behaviors and
the contractual term of the awards. Due to the Company’s
limited experience with the expected term of options, the
simplified method was utilized in determining the expected option
term as prescribed in Staff Accounting Bulletin No.
110.
The
Company recognizes stock-based compensation expense over the
requisite service period, which is generally consistent with the
vesting of the awards, based on the estimated fair value of all
stock-based payments issued to employees and directors that are
expected to vest.
Recent Accounting Pronouncements
In
February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which supersedes
Topic 840, Leases
(“ASU 2016-02”). The guidance in this new standard
requires lessees to put most leases on their balance sheets but
recognize expenses on their income statements in a manner similar
to the current accounting. The new lease standards also provide
practical expedients for an entity's ongoing accounting. In July
2018, the FASB issued ASU No. 2018-11, Leases (842), Targeted Improvements
(“ASU 2018-11”), which provides an additional
transition election to not restate comparative periods for the
effects of applying the new standard. This transition election
permits entities to apply ASU 2016-02 on the adoption date and
recognize a cumulative-effect adjustment to the opening balance of
accumulated deficit. These ASU's are effective for fiscal years,
and interim periods within those years, beginning after December
15, 2018.
The
Company adopted the ASUs, as of January 1, 2019, using the modified
retrospective transition method prescribed by ASU 2018-11. Under
this transition method, financial results reported in periods prior
to the first quarter of 2019 are unchanged. As a result of the
adoption of the ASUs, the Company recorded a right-of-use
(“ROU”) asset and liability of $2.1 million. Also as a
result of the adoption, the Company reclassified $0.2 million of
liabilities on its consolidated balance sheets as of January 1,
2019 against the operating lease ROU asset. The adoption of these
ASUs did not result in a cumulative-effect adjustment to the
opening balance of accumulated deficit. In addition, the Company
elected the package of practical expedients permitted by the
transition guidance. The adoption of these ASU’s did not have
an impact on the Company’s consolidated statements of
operations or cash flows.
In July 2016, the FASB issued ASU No.
2016-13, Financial Instruments –
Credit Losses (Topic 326): Measurement of Credit Losses on
Financial Instruments (“ASU 2016-13”), which among other
things, these amendments require the measurement of all expected
credit losses of financial assets held at the reporting date based
on historical experience, current conditions, and reasonable and
supportable forecasts. Financial institutions and other
organizations will now use forward-looking information to better
inform their credit loss estimates. In addition, the ASU amends the
accounting for credit losses on available-for-sale debt securities
and purchased financial assets with credit deterioration. ASU
2016-13 is effective for periods beginning after December 15, 2019,
and interim periods within those fiscal years. The Company is in
the process of evaluating the impact of the
pronouncement.
On September 20, 2018, FASB issued Accounting Standards Update No.
2018-07, “Compensation - Stock Compensation” (Topic
718): Improvements to Nonemployee Share-Based Payment Accounting
(“ASU 2018-07”). ASU 2018-07 is intended to
reduce cost and complexity and to improve financial reporting for
share-based payments issued to non-employees. This ASU expands the
scope of ASC Topic 718, “Compensation - Stock
Compensation”, which currently only includes share-based
payments issued to employees, to also include share-based payments
issued to non-employees for goods and services. Consequently, the
accounting for share-based payments to non-employees and employees
will be substantially aligned. ASU 2018-07 supersedes ASC
Subtopic 505-50, “Equity - Equity-Based Payments to
Non-Employees”. The amendments in this ASU are effective for
public companies for fiscal years beginning after December 15,
2018, including interim periods within that fiscal year. The new
standard has been adopted by the Company. The Company has evaluated
the impact of ASU 2018-07 on its consolidated financial
statements and it did not have a material impact.
In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic
740): Simplifying the
Accounting for Income Taxes, expected to reduce cost and complexity
related to the accounting for income taxes. The ASU
removes specific exceptions to the general principles in Topic 740
in GAAP. It eliminates the need for an organization to analyze
whether the following apply in a given period: exception to the
incremental approach for intra-period tax allocation; exceptions to
accounting for basis differences when there are ownership changes
in foreign investments; and exception in interim period income tax
accounting for year-to-date losses that exceed anticipated
losses. The ASU also improves financial statement
preparers’ application of income tax-related guidance and
simplifies GAAP for: franchise taxes that are partially based on
income; transactions with a government that result in a step up in
the tax basis of goodwill; separate financial statements of legal
entities that are not subject to tax; and enacted changes in tax
laws in interim periods. The Company is evaluating the
impact of the pronouncement.
Note 3. Fair Value of Financial Instruments
Management
believes the fair values of the Company’s debt obligations
approximate carrying value because the debts carry market rates of
interest available to the Company. As of March 31, 2019, and
December 31, 2018, the Company held no assets or liabilities that
required re-measurement at fair value on a recurring
basis.
Purchase Commitment
Upon
the completion of the sale of a former subsidiary, BioZone
Laboratories Inc. (“Biozone”), on May 9, 2016, the
Company entered into a manufacturing and supply agreement whereby
the Company agreed to minimum purchase
requirements of products from BioZone over a three-year period. The
Company fell below the requirements, and as a result, the
Company reserved a total amount of $0.7 million to cover the
estimated purchase commitment shortfall during the year ended
December 31, 2018, which remained unchanged during the three months
ended March 31, 2019.
In July
2019, the Company settled this matter
through the payment of $0.6 million and the issuance of 150,000
shares of the Company’s common stock, which was valued at
$60,000 on the settlement date.
Note 4. Restructuring
As part
of an effort to better focus and align the Company’s
resources toward profitable growth, on August 24, 2015, the
Board authorized the Company to undertake steps to commence a
restructuring of the business and operations, which concluded
during the third quarter of 2016.
As of
December 31, 2018, the Company had a balance of $0.4 million,
representing contract termination costs, and $0.1 million
representing abandoned lease facilities. As of March 31, 2019, the
Company made payments to settle $0.2 million of the outstanding
contract termination costs, while the remaining balance of $0.2
million was paid in the second quarter of 2019. As a result of the
adoption of the new lease standards, the restructuring liability
for the company’s abandoned lease facilities was used to
reduce the ROU asset, in accordance with the new standards. See
additional information in “Note 6.
Leases.”
Note 5. Balance Sheet Components
Inventory
Inventory
consisted solely of finished goods and raw materials, used to
manufacture our products at one of our co-manufacturers as of March
31, 2019 and December 31, 2018.
The
Company records charges for obsolete and slow-moving inventory
based on the age of the product as determined by the expiration
date or otherwise determined to be obsolete. Products within one
year of their expiration dates are considered for write-off
purposes. Historically, the Company has had minimal returns with
established customers. Other than write-off of inventory during
restructuring activities, the Company incurred insignificant
inventory write-offs during each of the three months ended March
31, 2019 and 2018.
Inventory
write-downs, once established, are not reversed as they establish a
new cost basis for the inventory.
Property and Equipment
Property
and equipment consisted of the following as of March 31, 2019 and
December 31, 2018 (in thousands):
|
|
|
|
|
Furniture,
fixtures, and equipment
|
$2,585
|
$3,511
|
|
Leasehold
improvements
|
236
|
236
|
|
Vehicles
|
39
|
39
|
|
Displays
|
453
|
453
|
|
Website
|
497
|
497
|
|
Property and
equipment, gross
|
3,810
|
4,736
|
|
Less: accumulated
depreciation and amortization
|
(3,377)
|
(4,223)
|
|
Property and
equipment, net
|
$433
|
$513
|
Depreciation
and amortization expense related to property and equipment was $0.1
million and $0.2 million for the three months ended March 31, 2019
and 2018, respectively, which is included in “Selling,
general, and administrative” expense in the accompanying
consolidated statements of operations.
Intangible Assets
Intangible
assets consisted of the following (in thousands):
|
|
|
|
|
|
|
|
Remaining
Weighted-Average Useful Lives (years)
|
|
Amortized
Intangible Assets
|
|
|
|
|
|
Brand (apparel
rights)
|
$2,244
|
$(1,327)
|
$917
|
2.9
|
|
Total intangible
assets
|
$2,244
|
$(1,327)
|
$917
|
|
|
|
|
|
|
|
|
|
Remaining
Weighted-Average Useful Lives (years)
|
|
Amortized
Intangible Assets
|
|
|
|
|
|
Brand (apparel
rights)
|
$2,244
|
$(1,247)
|
$997
|
3.1
|
|
Total intangible
assets
|
$2,244
|
$(1,247)
|
$997
|
|
Intangible
assets amortization expense was $0.1 million for each of the three
months ended March 31, 2019 and 2018, respectively, which is
included in “Selling, general, and administrative”
expense in the accompanying consolidated statements of operations.
As of March 31, 2019, the estimated future amortization expense of
intangible assets is as follows (in thousands):
|
For the Year Ending December 31,
|
|
|
Remainder
of 2019
|
$240
|
|
2020
|
320
|
|
2021
|
320
|
|
2022
|
37
|
|
Total
amortization expense
|
$917
|
Note 6. Leases
The Company has operating leases for warehouse facilities and
office spaces across the U.S. The remaining lease terms for these
leases range from 1 to 4 years. The Company also leases
manufacturing and warehouse equipment under finance lease
arrangements, which expire at various dates through July 2020. The
Company does not intend to extend the lease terms expiring in
2020.
In
adopting the new lease standards (“ASC 842”), the
Company has elected the “package of practical
expedients,” which permit it not to reassess under the new
standard its prior conclusions about lease identification, lease
classification and initial direct costs. The Company did not elect
the use-of-hindsight or the practical expedient pertaining to land
easements, as the latter is not applicable to the Company. In
addition, the Company elected not to apply ASC 842 to arrangements
with lease terms of 12 month or less.
The
Company determines if a contract contains a lease when the contract
conveys the right to control the use of identified property, plant,
or equipment for a period of time in exchange for consideration.
Upon identification and commencement of a lease, we establish a ROU
asset and a lease liability. ROU assets and lease liabilities are
measured and recognized based on the present value of the future
minimum lease payments over the lease term at the commencement
date. At adoption, the Company reduced the ROU asset through a
derecognition of the restructuring liability for its abandoned
lease facilities. Subsequent to adoption, the Company no longer
recognized lease expense on a straight-line basis, as the impact of
the derecognition resulted in a front-loading of the lease
expenses.
Supplemental
balance sheet information related to leases was as follows (in
thousands):
|
|
Balance Sheet
Classification
|
|
|
Assets
|
|
|
|
Operating
|
ROU assets,
net
|
$1,742
|
|
Finance
|
Property and
equipment, net
|
148
|
|
Total
Assets
|
|
1,890
|
|
|
|
|
Liabilities
|
|
|
|
Current
liabilities:
|
|
|
|
Operating
|
Operating lease
liability - current
|
$765
|
|
Finance
|
Current accrued
liability
|
122
|
|
Total current
liabilities
|
|
887
|
|
|
|
|
Non-current
liabilities:
|
|
|
|
Operating
|
Operating lease
liability - long term
|
1,150
|
|
Finance
|
Other long term
liabilities
|
26
|
|
Total non-current
liabilities
|
|
1,176
|
|
|
|
|
The
Company has elected the practical expedient to combine lease and
non-lease components into a single component for all of its leases.
Fixed lease costs represent the explicitly quantified lease
payments prescribed by the lease agreement and are included in the
measurement of the ROU asset and corresponding lease liability.
Some leasing arrangements require variable payments that are
dependent on usage, output, or may vary for other reasons, such as
insurance and tax payments. The variable lease payments are not
presented as part of the initial ROU asset or lease liability. The
Company's lease agreements do not contain any material restrictive
covenants.
The
components of lease cost for operating and finance leases for the
three months ended March 31, 2019 were as follows (in
thousands):
|
|
Income Statement
Classification
|
Three months
ended March 31, 2019
|
|
|
|
|
|
Operating lease
cost
|
Selling, general
and administrative
|
$249
|
|
|
|
|
Finance lease
cost:
|
|
|
|
Amortization of ROU
asset
|
Selling, general
and administrative
|
27
|
|
Interest on lease
liabilities
|
Selling, general
and administrative
|
2
|
|
Total finance lease
cost
|
|
29
|
|
|
|
|
Variable lease
payments
|
Selling, general
and administrative
|
64
|
|
Sublease
income
|
Other
income
|
(99)
|
|
|
|
|
Total lease
cost
|
|
$243
|
The
Company had no short-term leases as of March 31, 2019. The
Company’s leases do not provide an implicit rate; therefore,
the Company uses its incremental borrowing rate based on the
information available at the effective date in determining the
present value of future payments for those leases.
Supplemental
cash flow information related to leases was as
follows:
|
|
Three
months ended
March 31, 2019
|
|
Cash paid for
amounts included in the measurement of lease liabilities (in
thousands):
|
|
|
Operating cash flows
from operating leases
|
$202
|
|
Operating cash
flows from finance leases
|
2
|
|
Financing cash
flows from finance leases
|
26
|
|
|
|
|
The weighted
average remaining lease term was as follows:
|
|
|
Operating leases
(in years)
|
2.7
|
|
Finance leases (in
years)
|
1.2
|
|
The weighted
average discount rate was as follows:
|
|
|
Operating
leases
|
18%
|
|
Finance
leases
|
5%
|
The
maturities of lease liabilities at March 31, 2019 were as follows
(in thousands):
|
|
|
|
|
|
|
|
|
Remaining nine
months of the year ending 2019
|
$793
|
$98
|
|
2020
|
808
|
55
|
|
2021
|
481
|
—
|
|
2022
|
369
|
—
|
|
Thereafter
|
—
|
—
|
|
Total future
undiscounted lease payments
|
2,451
|
153
|
|
Less amounts
representing interest
|
(536)
|
(5)
|
|
Present value of
lease liabilities
|
$1,915
|
$148
|
Note 7. Interest and other expense, net
For the
three months ended March 31, 2019 and 2018, “Interest and
other expense, net” consisted of the following (in
thousands):
|
|
For the Three
Months
Ended March
31,
|
|
|
|
|
|
|
|
|
|
Interest expense,
related party
|
$(532)
|
$(541)
|
|
Interest expense,
related party debt discount
|
(15)
|
(15)
|
|
Interest expense,
other
|
(293)
|
(67)
|
|
Interest expense,
secured borrowing arrangement
|
(225)
|
(346)
|
|
Foreign currency
transaction loss
|
(200)
|
(113)
|
|
Other
|
100
|
5
|
|
Total interest and
other expense, net
|
$(1,165)
|
$(1,077)
|
“Other”
for 2019 includes sublease income and interest income.
Note 8. Debt
As of
March 31, 2019 and December 31, 2018, the Company’s debt
consisted of the following (in thousands):
|
|
|
|
|
Refinanced
convertible note, related party
|
$18,000
|
$18,000
|
|
Obligations under
secured borrowing arrangement
|
3,443
|
1,285
|
|
Line of credit
– inventory financing
|
2,500
|
1,500
|
|
Unamortized debt
discount, related party
|
(45)
|
(60)
|
|
Total
debt
|
23,898
|
20,725
|
|
Less: current
portion
|
(23,898)
|
(20,725)
|
|
Long term
debt
|
$—
|
$—
|
Related-Party Refinanced Convertible Note
On November 3, 2017, the Company entered into the refinancing with
Mr. Ryan Drexler, the Company’s Chairman of the Board of
Directors, Chief Executive Officer and President (the
“Refinancing”). As part of
the Refinancing, the Company issued to Mr. Drexler an amended and
restated convertible secured promissory note (the “Refinanced
Convertible Note”) in the original principal amount of
$18,000,000, which amended and restated (i) a convertible secured
promissory note dated as of December 7, 2015, amended as of January
14, 2017, in the original principal amount of $6,000,000 with an
interest rate of 8% prior to the amendment and 10% following the
amendment (the “2015 Convertible Note”), (ii) a
convertible secured promissory note dated as of November 8, 2016,
in the original principal amount of $11,000,000 with an interest
rate of 10% (the “2016 Convertible Note”) , and (iii) a
secured demand promissory note dated as of July 27, 2017, in the
original principal amount of $1,000,000 with an interest rate of
15% (the “2017 Note”, and together with the 2015
Convertible Note and the 2016 Convertible Note, collectively, the
“Prior Notes”). The due date of the 2015 Convertible
Note and the 2016 Convertible Note was November 8, 2017. The 2017
Note was due on demand.
The $18.0 million Refinanced Convertible Note bears interest at the
rate of 12% per annum. Interest payments are due on the last day of
each quarter. At the Company’s option (as determined by its
independent directors), the Company may repay up to one-sixth of
any interest payment by either adding such amount to the principal
amount of the note or by converting such interest amount into an
equivalent amount of the Company’s common stock. Any interest
not paid when due shall be capitalized and added to the principal
amount of the Refinanced Convertible Note and bear interest on the
applicable interest payment date along with all other unpaid
principal, capitalized interest, and other capitalized obligations.
Both the principal and the interest under the Refinanced
Convertible Note are due on December 31, 2019, unless converted
earlier. Mr. Drexler may convert the outstanding principal and
accrued interest into shares of the Company’s common stock at
a conversion price of $1.11 per share at any time. The Company may
prepay the Refinanced Convertible Note by giving Mr. Drexler
between 15 and 60 days’ notice depending upon the specific
circumstances, subject to Mr. Drexler’s conversion
right.
The Refinanced Convertible Note contains customary events of
default, including, among others, the failure by the Company to
make a payment of principal or interest when due. Following an
event of default, interest will accrue at the rate of 14% per
annum. In addition, following an event of default, any conversion,
redemption, payment or prepayment of the Refinanced Convertible
Note will be at a premium of 105%. The Refinanced Convertible Note
also contains customary restrictions on the ability of the Company
to, among other things, grant liens or incur indebtedness other
than certain obligations incurred in the ordinary course of
business. The restrictions are also subject to certain additional
qualifications and carveouts, as set forth in the Refinanced
Convertible Note. The Refinanced Convertible Note is subordinated
to certain other indebtedness of the Company.
As part of the Refinancing, the Company and Mr. Drexler entered
into a restructuring agreement (the “Restructuring
Agreement”) pursuant to which the parties agreed to amend and
restate the security agreement resulting in a Third Amended and
Restated Security Agreement (the “Amended Security
Agreement”) in which the Prior Notes were secured by all of
the assets and properties of the Company and its subsidiaries
whether tangible or intangible. Pursuant to the Restructuring
Agreement, the Company agreed to pay, on the effective date of the
Refinancing, all outstanding interest on the Prior Notes through
November 8, 2017 and certain fees and expenses incurred by Mr.
Drexler in connection with the Restructuring.
On September 16, 2019, Mr. Ryan Drexler, the Chief Executive
Officer, President and Chairman of the Board of Directors of
MusclePharm Corporation, a Nevada corporation (the
“Company”), delivered a notice to the Company and its
independent directors of his election to convert, effective as of
September 16, 2019 (the “Notice Date”), $18,000,000 of
the amount outstanding under that certain Amended and Restated
Convertible Secured Promissory Note, dated as of November 8, 2017
(the “Note”), issued by the Company to Mr. Drexler,
into shares of the Company’s common stock, par value $0.001
per share (the “Common Stock”), at a conversion price
of $1.11 per share, pursuant to the terms and conditions of the
Note (the “Partial Conversion”). As of the Notice Date,
the total amount outstanding under the Note (including principal
and accrued and unpaid interest) was equal to $19,262,910. Pursuant
to the terms of the Note, the Company instructed the transfer agent
for its shares to issue to Mr. Drexler 16,216,216 shares (the
“Shares”) of its Common Stock in respect of the Partial
Conversion.
The
outstanding principal and the interest, due on December 31, 2019,
were refinanced under a new agreement on July 1, 2020. See
additional information in “Note 16. Subsequent
Events.”
For the
three months ended March 31, 2019 and 2018, interest expense,
including the amortization of debt
discount, related to the related party convertible secured
promissory notes was $0.5 million and $0.6 million, respectively.
During the three months ended March 31, 2019 and 2018, $0.4 million
and $0.3 million, respectively, in interest was paid in cash to Mr.
Drexler.
Related-Party Revolving Note
On
October 4, 2019, the Company entered into a secured revolving
promissory note (the “Revolving Note”) with Mr.
Drexler. Under the terms of the Revolving Note, the Company can
borrow up to $3.0 million. The Revolving Note bears interest at the
rate of 12% annually. The use of funds will be solely for the
purchase of whey protein to be used in the manufacturing of
MusclePharm products. The Company may prepay the Revolving Note by
giving Mr. Drexler one days’ written notice.
The
Revolving Note contains customary events of default, including,
among others, the failure by the Company to make a payment of
principal or interest when due. Following an event of default, Mr.
Drexler is entitled to accelerate the entire indebtedness under the
Revolving Note. The Revolving Note also contains customary
restrictions on the ability of the Company to, among other things,
grant liens or incur indebtedness other than certain obligations
incurred in the ordinary course of business. The restrictions are
also subject to certain additional qualifications and carveouts.
The Revolving Note is subordinated to certain other indebtedness of
the Company held by Crossroads.
In
connection with the Revolving Note, the Company and Mr. Drexler
entered into a security agreement dated October 4, 2019
pursuant to which the Revolving Note is secured by all of the
assets and properties of the Company and its subsidiaries whether
tangible or intangible. As of December
31, 2019, the outstanding balance on the revolving note was $1.2
million. Both the outstanding principal and all accrued
interest, which became due on March 31, 2020, were refinanced under
a new agreement on July 1, 2020. The revolving note is included in
“Line of credit” in the consolidated balance sheets.
See additional information in “Note 16. Subsequent
Events.”
Related-Party Note Payable
The
Company entered into a collateral
receipt and security agreement with Mr. Drexler, dated December 27,
2019 pursuant to which Mr. Drexler agreed to post bond relating to
the judgment ruled on the ThermoLife case, pending the appeal. The
amount paid by Mr. Drexler on behalf of the Company, including
fees, was $0.25 million. The amount, which was outstanding as of
December 31, 2019, was refinanced under a new agreement on
July 1, 2020. The note payable is included in “Convertible
note with a related party, net of discount” in the
consolidated balance sheets. See additional information in
“Note 16. Subsequent Events.”
Line of Credit - Inventory Financing
On
October 6, 2017, the Company entered into a Loan and Security
Agreement (“Security Agreement”) with Crossroads
Financial Group, LLC (“Crossroads”). Pursuant to the
Security Agreement, the Company may borrow up to 70% of its
Inventory Cost or up to 75% of Net Orderly Liquidation Value (each
as defined in the Security Agreement), up to a maximum amount of
$3.0 million at an interest rate of 1.5% per month, subject to a
minimum monthly fee of $22,500. Subsequent to the end of 2017, the
maximum amount was increased to $4.0 million. The term of the
Security Agreement automatically extends in one-year increments,
unless earlier terminated pursuant to the terms of the Security
Agreement. The Security Agreement contains customary events of
default, including, among others, the failure to make payments on
amounts owed when due, default under any other material agreement
or the departure of Mr. Drexler. The Security Agreement also
contains customary restrictions on the ability of the Company to,
among other things, grant liens, incur debt, and transfer assets.
Under the Security Agreement, the Company agreed to grant
Crossroads a security interest in all of the Company’s
present and future accounts, chattel paper, goods (including
inventory and equipment), instruments, investment property,
documents, general intangibles, intangibles, letter of credit
rights, commercial tort claims, deposit accounts, supporting
obligations, documents, records and the proceeds thereof.
As of March 31, 2019, and December 31,
2018, we owed Crossroads $2.5 million and $1.5 million,
respectively.
On April 1, 2019, the Company and Crossroads amended the terms of
the agreement. The agreement was extended until March 31, 2020, the
rate was modified to 1.33% per month, and increased the amount the
Company can borrow from $3.0 million to $4.0 million.
On February 26, 2020, the Company and Crossroads amended the terms
of the agreement. The agreement was extended until April 1, 2021
and the amount the Company can borrow was decreased from $4.0
million to $3.0 million.
Secured Borrowing Arrangement
In
January 2016, the Company entered into a Purchase and Sale
Agreement (the “Purchase and Sale Agreement”) with
Prestige Capital Corporation (“Prestige”) pursuant to
which the Company agreed to sell and assign and Prestige agreed to
buy and accept, certain accounts receivable owed to the Company
(“Accounts”). Under the terms of the Purchase and Sale
Agreement, upon the receipt and acceptance of each assignment of
Accounts, Prestige will pay the Company 80% of the net face
amount of the assigned Accounts, up to a maximum total borrowing of
$12.5 million subject to sufficient amounts of accounts receivable
to secure the loan. The remaining 20% will be paid to the Company
upon collection of the assigned Accounts, less any chargebacks
(including chargebacks for any customer amounts that remain
outstanding for over 90 days), disputes, or other amounts due to
Prestige. Prestige’s purchase of the assigned Accounts from
the Company will be at a discount fee which varies from 0.7% to 4%,
based on the number of days outstanding from the assignment of
Accounts to collection of the assigned Accounts. In addition, the
Company granted Prestige a continuing security interest in and lien
upon all accounts receivable, inventory, fixed assets, general
intangibles, and other assets. Prestige will have no recourse
against the Company if payments are not made due to the insolvency
of an account debtor within 90 days of invoice date, with the exception of
international and certain domestic customers. The Purchase
and Sale Agreement’s term was extended to April 1, 2020 at
which point the term now renews automatically for successive
one-year periods unless either party receives written notice of
cancellation from the other, at minimum, thirty days prior to the
expiration date. As of March 31, 2019,
and December 31, 2018, the Company had outstanding
borrowings of approximately $3.4 million and $1.3 million,
respectively.
During
the three months ended March 31, 2019 and 2018, the Company
assigned to Prestige, accounts with an aggregate face amount of
approximately $10.6 million and $16.9 million, respectively, for
which Prestige paid to the Company approximately $8.5 million and
$13.5 million, respectively, in cash. During the three months ended
March 31, 2019 and 2018, $6.3 million and $13.3 million,
respectively, was repaid to Prestige, including fees and
interest.
Note 9. Commitments and Contingencies
Leases
The
Company leases office and warehouse facilities under operating
leases, which expire at various dates through 2022. The Company
also leases manufacturing and warehouse equipment under finance
leases, which expire at various dates through July 2020. The
Company does not intend to extend the lease terms expiring in 2020.
See additional information in
“Note 6. Leases.”
Purchase Commitment
Upon
the completion of the sale of a former subsidiary, BioZone, on May
9, 2016, the Company entered into a manufacturing and supply
agreement whereby the Company agreed
to minimum purchase requirements of products from BioZone over a
three-year period. The Company fell below the requirements, and as
a result, the Company reserved a total amount of $0.7
million to cover the estimated purchase commitment shortfall during
the year ended December 31, 2018, which remained unchanged during
the three months ended March 31, 2019.
In July
2019, the Company settled this matter
through the payment of $0.6 million and the issuance of 150,000
shares of the Company’s common stock, which was valued at
$60,000 on the settlement date.
Settlements
Manchester City Football Group
The Company was engaged in a dispute with City Football Group
Limited (“CFG”), the owner of Manchester City Football
Group, concerning amounts allegedly owed by the Company under a
sponsorship agreement with CFG (the “Sponsorship
Agreement”). In August 2016, CFG commenced arbitration in the
United Kingdom against the Company, seeking approximately $8.3
million for the Company’s purported breach of the Sponsorship
Agreement.
On July 28, 2017, the Company approved a Settlement Agreement (the
“CFG Settlement Agreement”) with CFG effective July 7,
2017. The CFG Settlement Agreement represents a full and final
settlement of all litigation between the parties. Under the terms
of the agreement, the Company agreed to pay CFG a sum of $3
million, which was recorded as accrued expenses in 2017. The
settlement consists of a $1 million payment that was advanced by a
related party on July 7, 2017, a $1 million installment paid on
July 7, 2018 and a subsequent $1 million installment payment to be
paid by July 7, 2019. Of this amount, the Company
has remitted $0.3
million.
During the three months ended March 31, 2019 and 2018, the Company
recorded a charge of $29,000 and $61,000, respectively. This
charge, representing imputed interest, is included in
“Interest and other expense, net” in the
Company’s consolidated statements of operations.
Former Executive Lawsuit
The Company was engaged in a dispute with Mr. Richard Estalella
(“Estalella”) concerning amounts allegedly owed by the
Company under an employment agreement with Estalella. Estalella was
seeking certain equitable relief and unspecified damages. On May 7,
2018, the Court vacated the trial in contemplation of the
parties’ settlement of this matter.
On June 19, 2018, the Company approved a settlement agreement (the
“Estalella Settlement Agreement”) with Estalella,
concerning amounts allegedly owed by the Company under an
employment agreement with Estalella (the “Employment
Litigation”). The Estalella Settlement Agreement represents a
full and final settlement of the Employment Litigation. Under the
terms of the agreement, the Company agreed to pay Estalella a sum
of $0.93 million consisting of a $0.33 million initial payment that
was made in July 2018, and subsequent payments of $0.15 million
installments to be paid within 90, 180, 270 and 360 days of the
initial payment, respectively. As of March 31, 2019, the
outstanding payment of $0.15 million was recorded in accrued
expenses, and was subsequently paid in the second quarter of
2019.
Manziel Matter
On July 15, 2014, JMAN2 General LP (“JMAN2”), Jonathan
Manziel and MusclePharm entered into an endorsement agreement,
pursuant to which the Endorser would provide certain endorsements
of MusclePharm’s businesses, products and services in
exchange for payments to JMAN2 by MusclePharm. On April 17, 2018,
JMAN2 commenced an action against MusclePharm in the District
Court, City and County of Denver, Colorado and on July 19, 2018
filed an amended complaint against MusclePharm, in which JMAN2
asserted various claims against MusclePharm concerning their rights
and obligations under the Endorsement Agreement.
On April 10, 2019, a settlement agreement was reached for an amount
of $0.1 million, which had been recorded as an accrued expense as
of December 31, 2018. Of this
amount, $70,000 was paid in 2019, while the balance was paid in the
first quarter of 2020.
United World Wrestling Arbitration
In
November 2017, United World Wrestling (“UWW”), an
amateur wrestling governing body, initiated arbitration against the
Company before the Court of Arbitration for Sport in Lausanne,
Switzerland (“CAS”), alleging that the Company owed it
$0.6 million, comprised of a $0.4 million sponsorship fee plus
accrued interest, under the terms of a 2015 sponsorship agreement.
In September 2018, the CAS issued an order and decision in
UWW’s favor for $0.4 million, plus interest at 12% per annum,
as well as attorney’s fees in the amount of 5,000 Swiss
Francs. On January 25, 2019, the two parties reached a settlement
agreement for $0.4 million, which had been recorded as an accrued
expense as of December 2018. As of March 31, 2019, $0.2 million was
paid, and the outstanding balance of $0.2 million was paid in the
second quarter of 2019.
Durnford Matter
On July 28, 2015, Plaintiff, Tucker Durnford, filed a First Amended
Class Action Complaint which alleged that the Company’s (now
discontinued) Arnold Iron Mass product violates consumer protection
laws by misleading consumers about the amount and sources of
protein in the product. On February 10, 2016, the court granted our
motion to dismiss the complaint on federal preemption grounds. On
October 12, 2018, the Ninth Circuit reversed the dismissal.
On October 8, 2019, the parties successfully mediated the case to a
settlement of $0.15 million, which had been recorded as an accrued
expense as of December 31, 2018. Of
the settlement amount, $0.1 million was paid during the
fourth quarter of 2019 and the balance was paid during the first
quarter of 2020.
Contingencies
In the normal course of business or otherwise, the Company may
become involved in legal proceedings. The Company will accrue a
liability for such matters when it is probable that a liability has
been incurred and the amount can be reasonably estimated. When only
a range of possible loss can be established, the most probable
amount in the range is accrued. If no amount within this range is a
better estimate than any other amount within the range, the minimum
amount in the range is accrued. The accrual for a litigation loss
contingency might include, for example, estimates of potential
damages, outside legal fees and other directly related costs
expected to be incurred. The Company provides disclosures
for material contingencies when there is a reasonable possibility
that a loss or an additional loss may be incurred. In assessing
whether a loss is a reasonable possibility, the Company may
consider the following factors, among others: the nature of the
litigation, claim or assessment, available information, opinions or
views of legal counsel and other advisors, and the experience
gained from similar cases. As of March
31, 2019, the Company was involved in the following material legal
proceedings described below.
ThermoLife International
In January 2016, ThermoLife International LLC
(“ThermoLife”), a supplier of nitrates to MusclePharm,
filed a complaint against the Company in Arizona state court.
ThermoLife alleged that the Company failed to meet minimum purchase
requirements contained in the parties’ supply agreement. In
March 2016, the Company filed counterclaims alleging that
ThermoLife’s products were defective. Through orders issued
in September and November 2018, the court dismissed
MusclePharm’s counterclaims and found that the Company was
liable to ThermoLife for failing to meet its minimum purchase
requirements.
The court held a bench trial on the issue of damages in
October 2019, and on December 4, 2019, the court entered
judgment in favor of ThermoLife and against the Company in the
amount of $1.6 million, comprised of $0.9 million in damages,
interest in the amount of $0.3 million and attorneys’ fees
and costs in the amount of $0.4 million. The Company recorded $1.6
million in accrued expenses as of December 31, 2018. In the
interim, the Company filed an appeal, which is in the process of
being briefed, and has posted bonds in the total amount of
$0.6 million in order to stay execution on the judgment
pending appeal. Of the $0.6 million,
$0.25 million (including fees) was paid by Mr. Drexler on behalf of
the Company on December 31, 2019. See “Note 8. Debt”
for additional information. Subsequent to December 31, 2019, the
balance of $0.35 million was secured by a personal guaranty from
Mr. Drexler, while the associated fees of $12,500 was paid by the
Company.
The Company intends to continuously vigorously pursuing its
defenses, including on appeal.
White Winston Select Asset Fund Series MP-18, LLC et al., v
MusclePharm Corp., et al., (Nev. Dist. Ct.; Cal. Superior Court;
Colorado Dist. Ct.; Mass. Super. Ct.)
On
August 21, 2018, White Winston Select Asset Fund Series MP-18, LLC
and White Winston Select Asset Fund, LLC (together “White
Winston”) initiated a derivative action against MusclePharm
and its directors (collectively the “director
defendants”). White Winston alleges that the director
defendants breached their fiduciary duties by improperly approving
the refinancing of three promissory notes issued by MusclePharm to
Drexler (the “Amended Note”), in exchange for
$18.0 million in loans. White Winston alleges that this
refinancing improperly diluted their economic and voting power and
constituted an improper distribution in violation of Nevada law. In
its complaint, White Winston sought the appointment of a receiver
over MusclePharm, a permanent injunction against the exercise of
Drexler’s conversion right under the Amended Note, and other
unspecified monetary damages. On September 13, 2018, White Winston
filed an amended complaint, which added a former MusclePharm
executive, as a plaintiff (together with White Winston, the
“White Winston Plaintiffs”). On December 9, 2019, the
White Winston Plaintiffs filed a Second Amended Complaint, in which
they added allegations relating to the resignation of
MusclePharm’s auditor, Plante & Moran PLLC (“Plante
Moran”). MusclePharm has moved to dismiss the Second Amended
Complaint. That motion has not yet been fully briefed.
Along
with its complaint, the White Winston Plaintiffs also filed a
motion for a temporary restraining order (“TRO”) and
preliminary injunction enjoining the exercise of Drexler’s
conversion right under the Amended Note. On August 23, 2018,
the Nevada district court issued an ex parte TRO. On September 14,
2018, the court let the TRO expire and denied the White Winston
Plaintiffs’ request for a preliminary injunction, finding,
among other things, that the White Winston Plaintiffs did not show
a likelihood of success on the merits of the underlying action and
failed to establish irreparable harm. Following the court’s
decision, MusclePharm filed a motion seeking to recoup the legal
fees and costs it incurred in responding to the preliminary
injunction motion. On October 31, 2019, the court awarded
MusclePharm $56,000 in fees and costs. The White Winston Plaintiffs
have appealed that award.
Due to
the uncertainty associated with determining our liability, if any,
and due to our inability to ascertain with any reasonable degree of
likelihood, as of the date of this report, the outcome of the
trial, the Company has not recorded an estimate for its potential
liability.
On June
17, 2019, the White Winston Plaintiffs moved for the appointment of
a temporary receiver over MusclePharm, citing Plante Moran’s
resignation. The court granted the White Winston Plaintiffs’
request to hold an evidentiary hearing on the motion, but the date
for that hearing was not set as of the date hereof. On July 30,
2019, the White Winston Plaintiffs filed an action in the Superior
Court of the State of California in and for the County of Los
Angeles, seeking access to MusclePharm’s books and records.
MusclePharm has answered the petition, asserting as a defense that
the request does not have a proper purpose. A trial on the petition has been set
for February 25, 2021.
The Company intends to vigorously defend these
actions.
IRS Audit
On April 6, 2016, the Internal Revenue Service (“IRS”)
selected our 2014 Federal Income Tax Return for audit. As a result
of the audit, the IRS proposed certain adjustments with respect to
the tax reporting of our former executives’ 2014 restricted
stock grants. Due to the Company’s current and historical
loss position, the proposed adjustments would have no material
impact on the Company’s Federal income tax. On October 5,
2016, the IRS commenced an audit of our employment and withholding
tax liability for 2014. The IRS contends that the Company
inaccurately reported the value of the restricted stock grants and
improperly failed to provide for employment taxes and Federal tax
withholding on these grants. In addition, the IRS is proposing
certain penalties associated with the Company’s filings. On
April 4, 2017, the Company received a “30-day letter”
from the IRS asserting back taxes and penalties of approximately
$5.3 million, of which $4.4 million related to withholding taxes,
specifically, income withholding and Social Security taxes, and
$0.9 million related to penalties. Additionally, the IRS asserts
that the Company owes information reporting penalties of
approximately $2.0 million.
The Company’s counsel has submitted a formal protest to the
IRS disputing on several grounds all of the proposed adjustments
and penalties on the Company’s behalf, and the Company has
been pursuing this matter vigorously through the IRS appeal
process. An Appeals Conference was held with the IRS in Denver,
Colorado on July 31, 2019. At the conference, the Company made
substantial arguments challenging the IRS’s claims for
employment taxes and penalties. On December 16, 2019, a further
Appeals Conference was held with the IRS by telephone. At the
telephone conference, the Appeals Officer confirmed that he agreed
with the Company’s argument that the failure to deposit
penalties should be conceded by the IRS. The failure to deposit
penalties total about $2.0 million. Thus, with this concession, the
IRS’s claims have been reduced from approximately $7.3
million to about $5.3 million.
The remaining issue in dispute in this matter involves the fair
market value of restricted stock units in the Company granted to
certain former officers (the “Former Officers”) of the
Company under Internal Revenue Code § 83. The Company and the
IRS disagree as to the value of the restricted stock on the date of
the grants, i.e., October 1, 2014. The Company and the IRS have
exchanged expert valuation reports on the fair market value of the
stock and have had extensive negotiations on this issue. The
parties, however, have not been able to reach an agreement with
respect to the value of the stock. The IRS has also made parallel
claims regarding the restricted stock units against the Former
Officers of the Company. The IRS has asserted that the Former
Officers received ordinary income from the stock grants, and that
they owe additional personal income taxes based on the fair market
value of the stock. The Former Officers’ cases, unlike the
Company’s case, are pending before the United States Tax
Court. In the Tax Court litigation, the Former Officers are
challenging the IRS’s determinations regarding the fair
market value of the restricted stock grants on October 1, 2014. The
Former Officers have separate counsel from the Company. The same
IRS Appeals Officer and Revenue Agents assigned to the
Company’s case are also involved in the cases for the Former
Officers. Throughout the proceedings, the Company has argued to the
IRS that it is the Former Officers who are directly and principally
liable for the amount of any tax due, and not the
Company.
The Former Officers cases were scheduled for trial in Tax Court on
March 9, 2020. The trial of the cases was continued by the Court on
February 4, 2020. The basis for the continuance was that the IRS
and the Former Officers had made progress toward a settlement of
the valuation issue involving the grants of the restricted stock.
The outcome of these settlement negotiations will be relevant to
the Company’s case. The Company is closely monitoring the
settlement discussions between the IRS and the Former Officers. The
Tax Court has ordered the Former Officers to file status reports
regarding progress of their settlement negotiations with the IRS on
or before October 22, 2020.
Due to the uncertainty associated with determining our liability
for the asserted taxes and penalties, if any, and to our inability
to ascertain with any reasonable degree of likelihood, as of the
date of this report, the outcome of the IRS appeals process, the
Company has not recorded an estimate for its potential liability,
if any, associated with these taxes.
On August 22, 2018, Richard Estalella filed an action against
the Company and two other defendants in the Colorado District Court
for the County of Denver, seeking damages arising out of the
IRS’s assertion of tax liability and penalties relating to
the 2014 restricted stock grants. The Company has answered
Estalella’s complaint, asserted counterclaims against
Estalella for his failure to ensure that all withholding taxes were
paid in connection with the 2014 restricted stock grants, and filed
cross-claims against a valuation firm named in the action for
failing to properly value the 2014 restricted stock grants for tax
purposes. The Company is waiting on the next steps from the court
and will continue to vigorously litigate the matter.
4Excelsior Matter
On March 18, 2019, 4Excelsior, a manufacturer of MusclePharm
products, filed an action against MusclePharm in the Superior Court
of the State of California for the County of Los Angeles, claiming
approximately $6.2 million in damages relating to allegedly
unpaid invoices, as well as approximately $7.8 million in
consequential damages. On January 27, 2020, MusclePharm
filed a counterclaim against 4Excelsior seeking unidentified
damages relating to, among other things, 4Excelsior’s failure
to fulfill a purchase order. MusclePharm also moved to strike
4Excelsior’s consequential damages on the grounds that they
are unrecoverable under the Uniform Commercial Code. The
court denied that motion, and the action has proceeded to
discovery. The Company recognized a liability of $5.0 million (past
due invoices plus interest) as of March 31, 2019. Trial has not yet
been set, although a Trial Setting Conference has been set for
September 21, 2020.
The Company intends to vigorously defend this action.
Nutrablend Matter
On February 27, 2020, Nutrablend, a manufacturer of
MusclePharm products, filed an action against MusclePharm in the
United States District Court for the Eastern District of
California, claiming approximately $3.1 million in allegedly
unpaid invoices. These invoices relate to the third and fourth
quarter of 2019, and a liability has been recorded in the books for
the related periods. Trial has been set for November 17, 2020.
The Company intends to vigorously defend this action.
Note 10. Stockholders’ Deficit
Common Stock
The
fair value of all stock issuances is based upon the quoted closing
trading price on the date of issuance. Common stock outstanding as
of March 31, 2019 and December 31, 2018 includes shares legally
outstanding even if subject to future vesting. For the three months
ended March 31, 2019, the Company had the following transactions
related to its common stock including restricted stock awards (in
thousands, except share and per share data):
|
Transaction
Type
|
|
|
|
|
Stock issued for
advertising services
|
336,113
|
$303
|
$0.90
|
|
Total
|
336,113
|
$303
|
$0.90
|
For the
three months ended March 31, 2018, the Company had the following
transactions related to its common stock including restricted stock
awards (in thousands, except share and per share
data):
|
Transaction
Type
|
|
|
|
|
Stock issued to
related party for interest
|
81,113
|
$53
|
$0.65
|
|
Total
|
81,113
|
$53
|
$0.65
|
Warrants
For the
three months ended March 31, 2019 and 2018, the Company did not
issue any warrants. As of both March 31, 2019 and 2018, the Company
had outstanding warrants of 1,389,378 shares.
Treasury Stock
For the three months ended March 31, 2019 and 2018, the Company did
not repurchase any shares of its common stock and held 875,621
shares in treasury as of both March 31, 2019 and 2018.
Note 11. Stock-Based Compensation
Restricted Stock
The
Company’s stock-based compensation for the three months ended
March 31, 2019 and 2018 consisted primarily of restricted stock
awards. The restricted stock awards granted to employees,
executives and Board members during the three months ended March
31, 2019 was as follows:
|
|
Unvested Restricted
Stock Awards
|
|
|
|
Weighted
Average
Grant Date Fair
Value
|
|
Unvested balance
– December 31, 2018
|
197,500
|
$1.05
|
|
Granted
|
—
|
—
|
|
Vested
|
(62,500)
|
1.00
|
|
Unvested balance
– March 31, 2019
|
135,000
|
1.07
|
There
were no restricted stock awards granted during the three months
ended March 31, 2018 or 2019, respectively. As of March 31, 2019,
the total unrecognized expense for unvested restricted stock
awards, net of expected forfeitures, was $63,000, which is expected
to be amortized over a weighted average period of 0.2
years.
Stock Options
The
Company may grant options to purchase shares of the Company’s
common stock to certain employees and directors pursuant to the
2015 Incentive Compensation Plan (the “2015 Plan”).
Under the 2015 Plan, all stock options are granted with an exercise
price equal to or greater than the fair market value of a share of
the Company’s common stock on the date of grant. Vesting is
generally determined by the plan administrator under the 2015 Plan.
No stock option may be exercisable more than ten years after the
date it is granted.
Stock Options Summary Table
The following table describes the total options outstanding,
granted, exercised, expired and forfeited as of and during the
three months ended March 31, 2019. Shares obtained from the
exercise of our options are subject to various trading
restrictions.
|
|
Options Pursuant to the
2015 Plan
|
Weighted Average Exercise
Price Per Share
|
Weighted Average Fair
Value of Options
|
Weighted Average
Remaining Contractual Life (Years)
|
Aggregate Intrinsic
Value
|
|
Issued
and outstanding as of December 31, 2018
|
171,703
|
$1.89
|
$1.72
|
7.17
|
—
|
|
Granted
|
—
|
—
|
—
|
—
|
—
|
|
Exercised
|
—
|
—
|
—
|
—
|
—
|
|
Forfeited
|
—
|
—
|
—
|
—
|
—
|
|
Issued
and outstanding as of March 31, 2019
|
171,703
|
$1.89
|
$1.72
|
6.92
|
—
|
|
Exercisable
as of March 31, 2019
|
171,703
|
$1.89
|
$1.72
|
6.92
|
—
|
For the
three months ended March 31, 2019, the Company recorded no stock
compensation expense related to options. For the three months ended
March 31, 2018, the Company recorded stock compensation expense of
$16,000 related to options.
Note 12. Net Loss per Share
Basic
net loss per share is computed by dividing net loss for the period
by the weighted average number of shares of common stock
outstanding during each period. There was no dilutive effect for
the outstanding potentially dilutive securities for either the
three months ended March 31, 2019 or 2018, as the Company reported
a net loss for both periods.
The
following table sets forth the computation of the Company’s
basic and diluted net loss per share for the periods presented (in
thousands, except share and per share data):
|
|
For the Three
Months
Ended March
31,
|
|
|
|
|
|
Net
loss
|
$(4,505)
|
$(2,511)
|
|
Weighted average
common shares used in computing net loss per share, basic and
diluted
|
15,183,402
|
14,957,217
|
|
Net loss per share,
basic and diluted
|
$(0.30)
|
$(0.17)
|
Diluted
net loss per share is computed by dividing net loss for the period
by the weighted average number of shares of common stock, common
stock equivalents and potentially dilutive securities outstanding
during each period. The Company uses the treasury stock method to
determine whether there is a dilutive effect of outstanding
potentially dilutive securities, and the if-converted method to
assess the dilutive effect of the convertible notes.
There
was no dilutive effect for the outstanding awards for the three
months ended March 31, 2019 and 2018, as the Company reported a net
loss for both periods. However, if the Company had net income for
the three months ended March 31, 2019, the potentially dilutive
securities included in the earnings per share computation would
have been 17,912,297. If the Company had net income for the three
months ended March 31, 2018, the potentially dilutive securities
included in the earnings per share computation would have been
17,881,141.
Total
outstanding potentially dilutive securities were comprised of the
following:
|
|
|
|
|
|
|
|
Stock
options
|
171,703
|
171,703
|
|
Warrants
|
1,389,378
|
1,389,378
|
|
Unvested restricted
stock
|
135,000
|
103,844
|
|
Convertible
notes
|
16,216,216
|
16,216,216
|
|
Total common stock
equivalents
|
17,912,297
|
17,881,141
|
Note 13. Income Taxes
The
Company recorded a tax provision of $10,000 and $69,000 for the
three months ended March 31, 2019 and 2018,
respectively.
Income
taxes are provided for the tax effects of transactions reported in
the consolidated financial statements and consist of taxes
currently due. Deferred taxes relate to differences between the
basis of assets and liabilities for financial and income tax
reporting which will be either taxable or deductible when the
assets or liabilities are recovered or settled. In assessing the
realizability of deferred tax assets, management considers whether
it is more likely than not that some portion or all of the deferred
income tax assets will not be realized. The ultimate realization of
deferred income tax assets is dependent upon the generation of
future taxable income during the periods in which those temporary
differences become deductible.
Management
considers the scheduled reversal of deferred income tax
liabilities, projected future taxable income, and tax planning
strategies in making this assessment. Based on consideration of
these items, management has established a full valuation allowance
as it is more likely than not that the tax benefits will not be
realized as of March 31, 2019.
Note 14. Segments, Geographical Information
The
Company’s chief operating decision maker reviews financial
information presented on a consolidated basis for purposes of
allocating resources and evaluating financial performance. As such,
the Company currently has a single reporting segment and operating
unit structure. In addition, substantially all long-lived assets
are attributable to operations in the U.S. for both periods
presented.
Revenue,
net by geography is based on the company addresses of the
customers. The following table sets forth revenue, net by
geographic area (in thousands):
|
|
For the Three
Months Ended March 31,
|
|
|
|
|
|
Revenue,
net:
|
|
|
|
United
States
|
$12,987
|
$13,700
|
|
International
|
5,788
|
10,487
|
|
Total revenue,
net
|
$18,775
|
$24,187
|
Note 15. Changes and Correction
of Errors in Previously Reported Consolidated Financial
Statements
Background on the Restatement
In February 2019, the Company was made aware, as part of the
year-end sales cut-off testing procedures performed during the
Company’s 2018 annual audit, by its then independent
auditors, Plante & Moran, PLLC, that sales transactions may
have been recognized as revenue prematurely, which could have a
material impact on revenue recognition for the year ended December
31, 2018. Upon such notification, the Company reviewed its revenue
recognition reporting system, practices and underlying documents
supporting the appropriateness of revenue under the Company’s
previously established accounting policies for each quarterly
period in the year ended December 31, 2018. In addition to the 2018
year-end period, the Company initially concluded that a potential
material misstatement in revenue recognition was isolated to the
previously issued quarterly financial statements for the three and
nine months ended September 30, 2018.
Audit Committee Investigation
In March 2019, following management’s presentation of their
initial assessment of the revenue recognition issue, the Audit
Committee of the Board of Directors engaged independent legal
counsel and a forensic accountant to conduct an investigation and
to work with the Company to determine the potential impact on
accounting for revenues. The investigation included the review of
the Company’s initial assessment, interviews with key
personnel, correspondence and document review, among other
procedures. In April 2019, as a result of the findings of the Audit
Committee’s investigation to date, the Company determined
that certain of its employees had engaged in deliberate
inappropriate conduct, which resulted in revenue being
intentionally recorded in periods prior to the criteria for revenue
recognition under GAAP being satisfied. Further, the investigation
discovered that revenue had been prematurely recorded in prior
periods as well as the periods initially identified by
management.
The investigation revealed that certain customer orders had been
invoiced, triggering revenue recognition, prior to the actual
shipment leaving the Company’s control. Such orders from
customers had been marked as fulfilled in the Company’s
enterprise reporting platform (“ERP”), thereby
triggering the generation of an invoice and the recognition of
revenue, in advance of shipments from both the Company’s
distribution center in Tennessee and for orders that were
drop-shipped directly to key customers from certain contract
manufacturers. In addition, it was discovered during the
investigation that certain orders had been moved to third-party
locations at the respective cut-off periods and not actually
shipped to the end customer until after the cut-off period
resulting in the premature issuance of invoices to customers and
recognition of revenue.
As a result of the Audit Committee’s investigation, certain
employees were terminated, and others received written reprimands
related to their conduct as it relates to their behavior. In
connection with the improprieties identified during the
investigation resulting in the restatement of previously reported
financial statements, the Company identified control deficiencies
in its internal control over financial reporting that constitute
material weaknesses.
Other Adjustments Resulting from Reconsidering Previously Issued
Financial Statements
As a result of issues identified during the Audit Committee
investigation, management reconsidered the Company’s
previously issued consolidated financial statements and as a result
additional corrections to the Company’s previously issued
consolidated financial statements for each of the quarterly
reporting periods ended September 30, 2018 and for the year ended
December 31, 2017 were identified. These errors, for each period
presented below, were primarily due to the following:
●
Improper
classification of trade promotions, payable to the Company’s
customers, as operating expenses instead of a reduction in
revenues;
●
Improper
cut-off related to sales transactions recorded prior to transfer of
control to customers in 2018 and risk of loss transferred to the
customer in 2017;
●
Corrections
of estimates of the expected value of customer payments, in the
form of credits, issued to customers;
●
Untimely
recording of the change in the estimated useful life of leasehold
improvements and an asset retirement obligation related to a
modification to the lease of the Company’s former
headquarters;
●
Incorrect
treatment of debt discounts related to the related-party
convertible note; and
●
Other period-end
expense cut off
Other adjustments include, but are not limited to the following;
purchase price variances, accrual for legal fees, payroll tax
adjustment on restricted stock, rebate receivable and recognizing
revenue on a net versus gross basis.
Accumulated deficit has been adjusted to reflect changes to net
loss, for each period restated.
Restatement Adjustments
Several restatement adjustments were made to the Company’s
previously filed consolidated financial statements in order to
reflect revenue recognition in the appropriate periods as discussed
above. Accordingly, for the subject sales transactions, revenue and
accounts receivable balances were reduced by an equivalent amount
in the period that the sale was originally recorded as revenue, and
revenue was increased in the subsequent period in which the
criteria for revenue recognition were met. Further, for the subject
sales transactions, cost of revenue was reduced, and inventory was
increased, in the period that the sale was originally recorded as
revenue, and cost of revenue was increased, and inventory was
reduced, in the period the sale was ultimately recorded as
revenue.
In addition, (i) revenue and operating expenses were reduced by an
equivalent amount relating to the reclassification of customer
payments, which were originally recorded on a gross versus net
basis; (ii) revenue was increased or decreased each period, as
appropriate, relating to revised estimates of the expected value of
credits issued to customers, (iii) untimely recording of the change
in the estimated useful life of leasehold improvements and an asset
retirement obligation related to a modification to the lease of the
Company’s former headquarters and (iv) other adjustments as
referred to above.
March 31, 2018 Restatements (Unaudited)
As of and for the three months ended March 31, 2018, the Company
recorded the following restatement adjustments and charges (in
thousands):
Impact on consolidated statements of operations for the three
months ended March 31, 2018 (in thousands) - increase
(decrease):
Reversal
of December 31, 2017 accrual for credits –
$1,281
Sales
cutoff – $545
Correction
of estimate of expected value of customer credits –
($1,572)
Reclassification
of payments to customers – ($2,584)
Recognizing
revenue on a net versus gross basis– ($30)
Sales
cutoff – $776
Reversal
of December 31, 2017 purchase price variance - $154
Recognizing
revenue on a net versus gross basis– ($30)
Accrual
for rebate receivable – ($170)
Reclassification of
advertising expenses directly related to product sales -
$107
●
Advertising
and promotion:
Reversal
of December 31, 2017 accrual for credits - ($90)
Reclassification
of payments to customers – ($2,582)
Sales
cutoff - $3
Reclassification of
advertising expenses directly related to product sales and
commissions – ($178)
●
Selling,
general and administrative:
Reversal
of December 31, 2017 accrual for credits – ($72)
Depreciation
adjustment for facility relocation – ($56)
Reclassification
of payments to customers – ($2)
Reclassification of
advertising expenses representing commissions - $71
●
Professional fees: reversal of December
2017 legal over accrual – $148
●
Interest and other
expense, net: adjusted debt discount amortization –
($233)
Impact on consolidated balance sheets - increase
(decrease):
●
Accounts
receivable, net of allowance for doubtful accounts:
Sales
cutoff – ($3,556)
Correction
of estimate of expected value of customer credits –
($1,573)
ASC
606 modified retrospective transition – ($1,053)
●
Inventory:
Sales cutoff – ($2,364)
●
Property
and equipment, net:
Depreciation
adjustment for facility relocation – ($856)
●
Prepaid
expenses and other current assets: accrual for rebate receivable
– $170
●
Accounts
payable: Sales cutoff – $320
●
Accrued
liabilities: Payroll tax adjustment on restricted stock –
($230)
●
Convertible
note with a related party, net of discount: debt discount
adjustment net of amortization – $979
●
Additional
paid-in capital: debt discount adjustment –
($1,212)
●
Accumulated
Deficit – $4,361
The unaudited restated consolidated balance sheets as of March 31,
2018 is presented below (in thousands, except per share
data):
|
|
|
|
|
|
|
|
|
ASSETS
|
|
|
|
|
Current
assets:
|
|
|
|
|
Cash
|
$5,114
|
$—
|
$5,114
|
|
Accounts
receivable, net of allowance for doubtful accounts of $1,518 as of
March 31, 2018
|
16,925
|
(6,182)
|
10,743
|
|
Inventory
|
7,738
|
2,364
|
10,102
|
|
Prepaid
giveaways
|
111
|
—
|
111
|
|
Prepaid
expenses and other current assets
|
895
|
170
|
1,065
|
|
Total
current assets
|
30,783
|
(3,648)
|
27,135
|
|
Property
and equipment, net
|
1,632
|
(856)
|
776
|
|
Intangible
assets, net
|
1,237
|
—
|
1,237
|
|
Other
assets
|
239
|
—
|
239
|
|
TOTAL
ASSETS
|
$33,891
|
$(4,504)
|
$29,387
|
|
LIABILITIES AND STOCKHOLDERS’ DEFICIT
|
|
|
|
|
Current
liabilities:
|
|
|
|
|
Obligation
under secured borrowing arrangement
|
$5,547
|
$—
|
$5,547
|
|
Line
of credit
|
2,000
|
—
|
2,000
|
|
Accounts
payable
|
14,897
|
320
|
15,217
|
|
Accrued
liabilities
|
7,441
|
(230)
|
7,211
|
|
Accrued
restructuring charges, current
|
560
|
—
|
560
|
|
Total
current liabilities
|
30,445
|
90
|
30,535
|
|
Convertible
note with a related party, net of discount
|
16,917
|
979
|
17,896
|
|
Accrued
restructuring charges, long-term
|
110
|
—
|
110
|
|
Other
long-term liabilities
|
1,060
|
—
|
1,060
|
|
Total
liabilities
|
48,532
|
1,069
|
49,601
|
|
Commitments
and contingencies (Note 9)
|
|
|
|
|
Stockholders'
deficit:
|
|
|
|
|
Common
stock, par value of $0.001 per share, 100,000,000 shares
authorized; 15,940,288 shares issued as of March 31, 2018;
15,064,667 shares outstanding as of March 31, 2018
|
14
|
—
|
14
|
|
Additional
paid-in capital
|
159,798
|
(1,212)
|
158,586
|
|
Treasury
stock, at cost; 875,621 shares
|
(10,039)
|
—
|
(10,039)
|
|
Accumulated
other comprehensive loss
|
(142)
|
—
|
(142)
|
|
Accumulated
deficit
|
(164,272)
|
(4,361)
|
(168,633)
|
|
TOTAL
STOCKHOLDERS’ DEFICIT
|
(14,641)
|
(5,573)
|
(20,214)
|
|
TOTAL
LIABILITIES AND STOCKHOLDERS’ DEFICIT
|
$33,891
|
$(4,504)
|
$29,387
|
The unaudited restated quarterly consolidated statements of
operations for the three months ended March 31, 2018 is presented
below (in thousands, except per share data):
|
|
Three
Months Ended March 31, 2018
|
|
|
|
|
|
|
Revenue,
net
|
$26,547
|
$(2,360)
|
$24,187
|
|
Cost
of revenue
|
18,328
|
837
|
19,165
|
|
Gross
profit
|
8,219
|
(3,197)
|
5,022
|
|
Operating
expenses:
|
|
|
|
|
Advertising
and promotion
|
3,661
|
(2,847)
|
814
|
|
Salaries
and benefits
|
2,154
|
—
|
2,154
|
|
Selling,
general and administrative
|
2,546
|
(59)
|
2,487
|
|
Research
and development
|
212
|
—
|
212
|
|
Professional
fees
|
572
|
148
|
720
|
|
Total
operating expenses
|
9,145
|
(2,758)
|
6,387
|
|
Loss
from operations
|
(926)
|
(439)
|
(1,365)
|
|
Other
(expense) income:
|
|
|
|
|
Interest
and other expense, net
|
(1,310)
|
233
|
(1,077)
|
|
Loss
before provision for income taxes
|
(2,236)
|
(206)
|
(2,442)
|
|
Provision
for income taxes
|
69
|
—
|
69
|
|
Net
loss
|
$(2,305)
|
$(206)
|
$(2,511)
|
|
|
|
|
|
|
Net
loss per share, basic and diluted
|
$(0.16)
|
$(0.01)
|
$(0.17)
|
|
|
|
|
|
|
Weighted
average shares used to compute net loss per share, basic and
diluted
|
14,615,677
|
341,540
|
14,957,217
|
The unaudited restated consolidated statements of cash flows for
the three months ended March 31, 2018 is presented below (in
thousands):
|
|
Three
Months Ended March 31, 2018
|
|
|
|
|
|
|
CASH
FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
Net
loss
|
$(2,305)
|
$(206)
|
$(2,511)
|
|
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
|
|
|
|
Depreciation
and amortization
|
287
|
(56)
|
231
|
|
Bad
debt expense
|
164
|
—
|
164
|
|
Amortization
of debt discount
|
248
|
(233)
|
15
|
|
Inventory
provision
|
—
|
35
|
35
|
|
Stock-based
compensation
|
137
|
—
|
137
|
|
Changes
in operating assets and liabilities:
|
|
—
|
|
|
Accounts
receivable
|
(443)
|
(434)
|
(877)
|
|
Inventory
|
(1,255)
|
592
|
(663)
|
|
Prepaid
giveaways
|
(23
|
—
|
(23)
|
|
Prepaid
expenses and other current assets
|
100
|
(170)
|
(70)
|
|
Other
assets
|
(14)
|
—
|
(14)
|
|
Accounts
payable and accrued liabilities
|
2,917
|
472
|
3,389
|
|
Accrued
restructuring charges
|
(45)
|
—
|
(45)
|
|
Net
cash used in operating activities
|
(232)
|
—
|
(232)
|
|
CASH
FLOWS FROM INVESTING ACTIVITIES:
|
|
|
|
|
Purchase
of property and equipment
|
(14)
|
—
|
(14)
|
|
Net
cash used in investing activities
|
(14)
|
—
|
(14)
|
|
CASH
FLOWS FROM FINANCING ACTIVITIES:
|
|
|
|
|
Payments
on line of credit
|
(1,000)
|
—
|
(1,000)
|
|
Proceeds
from secured borrowing arrangement, net of reserves
|
13,494
|
—
|
13,494
|
|
Payments
on secured borrowing arrangement, net of fees
|
(13,332)
|
—
|
(13,332)
|
|
Repayment
of capital lease obligations
|
(34)
|
—
|
(34)
|
|
Net
cash used in financing activities
|
(872)
|
—
|
(872)
|
|
Effect
of exchange rate changes on cash
|
4
|
—
|
4
|
|
NET
CHANGE IN CASH
|
(1,114)
|
—
|
(1,114)
|
|
CASH
— BEGINNING OF PERIOD
|
6,228
|
|
6,228
|
|
CASH
— END OF PERIOD
|
$5,114
|
$
|
$5,114
|
|
SUPPLEMENTAL
DISCLOSURE OF CASH FLOW INFORMATION:
|
|
|
|
|
Cash
paid for interest
|
$614
|
$
|
$614
|
|
Cash
paid for taxes
|
$68
|
$
|
$68
|
|
SUPPLEMENTAL
DISCLOSURE OF NON-CASH ACTIVITIES:
|
|
|
|
|
Property
and equipment acquired in conjunction with capital
leases
|
$—
|
$
|
$—
|
|
Purchase
of property and equipment included in current
liabilities
|
$13
|
$
|
$13
|
|
Interest
paid through issuance of shares of common stock
|
$53
|
$
|
$53
|
Note 16. Subsequent Events
GAAP
requires an entity to disclose events that occur after the balance
sheet date but before financial statements are issued or are
available to be issued (“subsequent events”) as well as
the date through which an entity has evaluated subsequent events.
There are two types of subsequent events. The first type consists
of events or transactions that provide additional evidence about
conditions that existed at the date of the balance sheet, including
the estimates inherent in the process of preparing financial
statements, (“recognized subsequent events”). The
second type consists of events that provide evidence about
conditions that did not exist at the date of the balance sheet but
arose subsequent to that date (“non-recognized subsequent
events”).
Recognized Subsequent Events
ThermoLife International
In
January 2016, ThermoLife, a supplier of nitrates to MusclePharm,
filed a complaint against us in Arizona state court. ThermoLife
alleged that we failed to meet minimum purchase requirements
contained in the parties’ supply agreement. In March 2016, we
filed counterclaims alleging that ThermoLife’s products were
defective. Through orders issued in September and
November 2018, the court dismissed MusclePharm’s
counterclaims and found that the Company was liable to ThermoLife
for failing to meet its minimum purchase requirements.
The court held a bench trial on the issue of damages in
October 2019, and on December 4, 2019, the court entered
judgment in favor of ThermoLife and against the Company in the
amount of $1.6 million, comprised of $0.9 million in damages,
interest in the amount of $0.3 million and attorneys’ fees
and costs in the amount of $0.4 million. The Company recorded $1.6
million in accrued expenses as of December 31, 2018. In the
interim, the Company filed an appeal, which is in the process of
being briefed, and has posted bonds in the total amount of
$0.6 million in order to stay execution on the judgment
pending appeal. Of the $0.6 million,
$0.25 million (including fees) was paid by Mr. Drexler on behalf of
the Company on December 31, 2019. See “Note 8. Debt”
for additional information. Subsequent to December 31, 2019, the
balance of $0.35 million was secured by a personal guaranty from
Mr. Drexler, while the associated fees of $12,500 was paid by the
Company.
The
Company intends to continue to vigorously pursue its defenses on
appeal.
Manziel Matter
On July 15, 2014, JMAN2 General LP (“JMAN2”), Jonathan
Manziel (“Endorser”) and MusclePharm entered into an
endorsement agreement, in which the Endorser would provide certain
endorsements of MusclePharm’s businesses, products and
services in exchange for payments to JMAN2 by MusclePharm. On April
17, 2018, JMAN2 commenced an action against MusclePharm in the
District Court, City and County of Denver, Colorado and on July 19,
2018 filed an amended complaint against MusclePharm, in which JMAN2
asserted various claims against MusclePharm concerning their rights
and obligations under the Endorsement Agreement. On April 10, 2019,
a settlement agreement was reached for an amount of $0.1
million, which had been
recorded as an accrued expense as of December 31, 2018. Of this
amount, $70,000 was paid in 2019, while the balance was paid in the
first quarter of 2020.
Durnford Matter
On July 28, 2015, Plaintiff, Tucker Durnford, filed a First Amended
Class Action Complaint which alleged that the Company’s (now
discontinued) Arnold Iron Mass product violates consumer protection
laws by misleading consumers about the amount and sources of
protein in the product. On February 10, 2016, the court granted our
motion to dismiss the complaint on federal preemption grounds. On
October 12, 2018, the Ninth Circuit reversed the dismissal.
On October 8, 2019, the parties successfully mediated the case to a
settlement of $0.15 million, which had been recorded as an accrued
expense as of December 31, 2018. Of
the settlement amount, $0.1 million was paid during the
fourth quarter of 2019 and the balance was paid during the first
quarter of 2020.
Unrecognized Subsequent Events
CARES Act
On
March 27, 2020, President Trump signed into law the Coronavirus
Aid, Relief, and Economic Security Act (“CARES Act”).
Among the changes to the U.S. federal income tax, the CARES Act
restored net operating loss carryback rules that were eliminated by
2017 Tax Cuts and Jobs Act, modified the limit on the deduction for
net interest expense and accelerated the timeframe for refunds of
AMT credits. Based on an analysis of the impact of the CARES Act,
the Company has not identified any overall material effect on the
2018 and 2019 tax liabilities.
HSBF Note
Due to
economic uncertainty as a result of the ongoing pandemic
(COVID-19), on May 14, 2020, the Company received an aggregate
principal amount of $964,910 pursuant to the borrowing arrangement
(“Note”) with Harvest Small Business Finance, LLC
(“HSBF”) and agreed to pay the principal amount plus
interest at a 1% fixed interest rate per year, on the unpaid
principal balance. No payments are due on the Note until November
16, 2020 (the “Deferment Period”). However, interest
will continue to accrue during the Deferment Period. The Note will
mature on May 16, 2022. The Note includes forgiveness provisions in
accordance with the requirements of the Paycheck Protection
Program, Section 1106 of the CARES Act. The Company has not
determined the amount of forgiveness in connection with the loan,
partly due to the ongoing routine changes in the method of
calculating the amount.
Related-Party Refinanced Convertible Note
On July 1, 2020, the Company entered into the refinancing with Mr.
Ryan Drexler, the Company’s Chairman of the Board of
Directors, Chief Executive Officer and President (the
“Refinancing”). As part of
the Refinancing, the Company issued to Mr. Drexler an amended and
restated convertible secured promissory note (the “Refinanced
Convertible Note”) in the original principal amount of
$2,735,199, which amended and restated (i) a convertible secured
promissory note dated as of November 8, 2017, $1,134,483 of which
was outstanding as of July 1, 2020 (ii) a collateral receipt and
security agreement with Mr. Drexler dated as of December 27, 2019,
$252,500 of which was outstanding as of July 1, 2020, and (iii) a
secured revolving promissory note dated as of October 4, 2019,
$1,348,216 of which was outstanding as of July 1,
2020.
The $2.7 million Refinanced Convertible Note bears interest at the
rate of 12% per annum. Unless earlier converted or repaid, all
outstanding principal and any accrued but unpaid interest under the
Refinanced Convertible Note shall be due and payable on November
30, 2020.
Any interest not paid when due shall be capitalized and added to
the principal amount of the Refinanced Convertible Note and bear
interest on the applicable interest payment date along with all
other unpaid principal, capitalized interest, and other capitalized
obligations. Mr. Drexler may convert the outstanding principal and
accrued interest into shares of the Company’s common stock at
a conversion price equal to or greater than (i) the closing price
per share of the common stock on the last business day immediately
preceding November 30, 2020 or (ii) $0.17. The Company may prepay
the Refinanced Convertible Note by giving Mr. Drexler between 15
and 60 days’ notice depending upon the specific
circumstances, subject to Mr. Drexler’s conversion right. The
Refinanced Convertible Note also contains customary restrictions on
the ability of the Company to, among other things, grant liens or
incur indebtedness other than certain obligations incurred in the
ordinary course of business. The restrictions are also subject to
certain additional qualifications and carveouts, as set forth in
the Refinanced Convertible Note. The Refinanced Convertible Note is
subordinated to certain other indebtedness of the
Company.
There
are no other events subsequent to March 31, 2019 that have not been
described in the accompanying footnotes.