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PART
I
ITEM
1. BUSINESS.
Overview
We
are a specialty coffee company and, we believe, a leading co-packer of single serve pour over coffee in the United States, as well as
a preeminent co-packer of coffee brew bags, which is also referred to as tea-bag style coffee. In addition to our single serve pour over
and coffee brew bag coffee products, we have recently expanded our product portfolio to offer a third type of single serve coffee format,
DRIPKIT pour over products, as a result of our acquisition of substantially all of the assets of Dripkit, Inc. (“Dripkit”).
Our DRIPKIT pour over format features a large-size single serve pour over pack that sits on top of the cup and delivers in our view a
barista-quality coffee experience to coffee drinkers in the United States, Canada, and Mexico. Our mission is to leverage our position
as a co-packer at the forefront of the North American single serve coffee market to revolutionize the way single serve coffee is enjoyed
in the United States. While the United States is our core market, we also have manufacturing and sales operations in Korea and a joint
venture in Latin America.
We
believe we are the only commercial-scale producer within the North American market that has the dual capacity to pack both single serve
pour over coffee and coffee brew bag coffee. We intend to leverage our position to become the commercial coffee manufacturer of choice
and aim to become the preeminent leader for coffee companies seeking to enter into and grow within the single serve coffee market in
North America. We are paid per-package based on the number of single serve coffee products produced by us. Accordingly, we consider our
business model to be a form of tolling arrangement, as we receive a fee for almost every single serve coffee product our co-packing customers
sell in the North American and Korean markets. While we financially benefit from the success of our co-packing customers through the
sales of their respective single serve coffee products, we believe we are also able to avoid the risks associated with owning and managing
the product and its related inventory.
We
have also developed and sell NuZee branded single serve coffee products, including our flagship Coffee Blenders line of both single serve
pour over coffee and coffee brew bags, which we believe offers consumers some of the best coffee available in a single serve application
in the world.
We
may also consider co-packaging other products that are complementary to our current product offerings and provide us with a deeper access
to our customers. In addition, we are continually exploring potential strategic partnerships, co-ventures, and mergers, acquisitions,
or other transactions with existing and future business partners to generate additional business, drive growth, reduce manufacturing
costs, expand our product portfolio, enter into new markets, and further penetrate the markets in which we currently operate.
Single
serve coffee products
Single
serve pour over coffee
Single
serve pour over coffee, or hand drip coffee, is a traditional and time-honored technique that pours hot water onto ground coffee with
a prepacked coffee filter. Proponents of pour over coffee believe this method makes better coffee. Single serve pour over coffee uses
the same brewing technique without a machine, with the coffee flowing straight into a cup using only hot water and the prepacked coffee
filter.
Coffee
brew bag coffee
We
introduced our coffee brew bag, or tea-bag style coffee, in 2019. The brewing method is similar to brewing tea; put the coffee brew bag
in a cup, add hot water and let it sit for approximately five minutes. This coffee brewing method is relatively new to North America
and we believe has gained attention from roasters and end consumers who desire eco-friendlier alternatives to coffee pods and other types
of single serve coffee. Our coffee brew bags are intended to be industrially compostable, allowing consumers to deposit the used coffee
brew bag in the curbside compostable bins where available.
Revolutionizing
the single serve coffee market in North America
We
believe the typical coffee consumer is increasingly focused on the environmental impact of the product, as well as the taste and quality
of the ingredients. We anticipate that pod-based, single serve coffee will face increasing pressure given their heavy reliance on the
use of plastics. In our view, consumer preferences in North America have evolved over the last decade to substantially mirror those of
Japanese consumers, who have traditionally focused on the taste, eco-footprint and quality of ingredients.
We
believe that the saturation of coffee pods in the North American market, coupled with changing tastes, provides our single serve coffee
products with a substantial market opportunity in North America. Accordingly, we believe there are opportunities for growth in the North
American market for our single serve pour over and coffee brew bag coffee products. Our single serve coffee products also have a number
of advantages over other single serve coffee alternatives:
|
● |
Our
single serve coffee solutions are portable and do not require a machine for brewing. Therefore, the consumer investment required
to enjoy our product is very minimal (as opposed to machine-based solutions). Single serve coffee products can easily travel and
have a number of consume-later applications not available to machine-based solutions (camping, travel, office, etc.). |
|
|
|
|
● |
We
believe our product offerings are more hygienic than other, machine-based single serve alternatives. For example, the use of a machine
requires cleaning and maintenance. If not periodically cleaned or if spent pods are not removed timely, this can lead to poor taste
and bacterial growth. |
|
|
|
|
● |
Our
single serve coffee products allow consumers to brew only what they need, therefore allowing mindful, responsible consumption that
can reduce food and water waste and leads to better coffee sustainability. |
We
seek to establish ourselves as the premier manufacturer of single serve coffee products for the North American market and to produce
innovative coffee products that we believe will promote sustainability. We also seek to further expand our own brands of single serve
coffee products for sale directly to end consumers in order to generate increased revenues and to help accelerate consumer adoption of
these brewing formats. We believe that top tier brands that want to compete in the North American single serve coffee market will demand
the highest levels of quality from their manufacturing partners. We further believe that we remain a commercial-scale leader in the single
serve coffee market in North America as a result of our history of working with sophisticated packing equipment manufacturers, SQF Certification
from the Safe Quality Food Institute, organic certification, our commitment to sustainability, operational knowledge and the co-packing
arrangements we are continuing to develop with companies. As a result of our ongoing efforts, we feel we are well positioned to be a
“go-to” coffee manufacturer for companies offering single serve coffee products in the North American market.
We
understand that as single serve pour over and coffee brew bag coffee products gain momentum in the North American market we will face
increasing competition. However, (i) we have, and continue to develop, manufacturing expertise on increasingly complex and larger orders,
(ii) we have experience dealing with companies of all sizes and their specific requirements (from small roasters to international companies)
and (iii) we have SQF, organic and Kosher certification. We received SQF Certification from the Safe Quality Food Institute, which is
a customary requirement to produce for large multi-national and international companies.
Our
primary focus is the development of single serve coffee products in the North American market targeting the individual consumer for use
at home and office or other settings that would benefit from single serve product offerings and positioning ourselves as the leading
commercial-scale co-packer of single serve pour over and coffee brew bag coffee products. We may also consider co-packaging other products
that are complementary to our current single serve coffee product offerings and provide us with a deeper access to our customers.
Since
2016, we have been primarily focused on single serve pour over coffee production. Over this time, we have developed expertise in the
operation of our sophisticated packing equipment and the related production of our single serve pour over coffee products at our manufacturing
facilities. We have also expanded our co-packing expertise and product offerings to coffee brew bag coffee products, which we believe
are gaining traction in the United States, as well as our DRIPKIT pour over products. Our goal is to continue to expand our product portfolio
to raise our visibility, consumer awareness and brand profile.
Our
sources of revenue
Co-packing
We
operate as a third-party contract packager for the finished goods of other major companies operating in the coffee beverage industry.
Under these arrangements, our co-packing customers typically supply us with roasted, whole bean coffee that we package into single serve
pour over and coffee brew bag coffee products according to their formulations and specifications. In addition, under our private label
coffee development program, our team works directly with our co-packing customers in developing private labels of signature coffees.
Under this program, our team of coffee experts works extensively with our co-packing customers to develop a coffee taste profile to their
unique needs and then we source, roast (utilizing our third-party roasting or manufacturing partners), blend, pack (in either our traditional
single serve pour over, DRIPKIT pour over or coffee brew bag coffee products), and package single serve coffee products to their exact
specifications.
We
currently focus on fostering co-packing arrangements with larger companies developing pour over and coffee brew bag coffee products,
in addition to smaller scale, innovative companies that we believe are rapidly growing, as further described below. We believe that as
our potential co-packing customers continue to realize that we have the experience co-packing for a variety of customer sizes, we will
become the co-packer of choice. The standards required to co-pack for large international companies almost always meet or exceed the
standards required to co-pack for any other customer. We also believe that as our co-packing customers’ competitors realize they
have single serve pour over and coffee brew bag coffee solutions, they will be more motivated to develop their own such solutions and
that will lead to increased co-packing opportunities for us.
In
addition to larger companies, we package for smaller companies that we believe have significant growth potential. For example, we started
packaging for a particular smaller company in 2017 and continue to do so today. This company started with smaller batch, single product
offerings but over the years has meaningfully increased order sizes as well as the number of product offerings. We are continually looking
for new and innovative companies with whom we may work and grow.
NuZee
and DRIPKIT branded products
Although
our primary focus is on the manufacture of single serve coffee products pursuant to co-packing arrangements with our co-packing clients,
we have also developed high-quality NuZee branded single serve coffee products that, in addition to our DRIPKIT branded products, are
sold directly to consumers. In addition to being available for direct sale to consumers, our NuZee and DRIPKIT branded products serve
as samples that are provided to potential new co-packing customers to showcase our co-packing capabilities and production expertise.
Our
NuZee branded products are from our perspective a ‘stepping-stone’ product for our co-packing customers that market high
quality packaging and coffee. Sales of our NuZee branded products, including through Amazon, also help promote consumer adoption into
the format and to educate coffee drinkers in the United States about this coffee format that is new to North America but widely known
in East Asia. Our NuZee branded products are further described below.
|
● |
Coffee
Blenders. Our Coffee Blenders line of products, including both single serve pour over coffee products and coffee brew bag coffee,
is a high-end product line that, in addition to showcasing our production expertise, also includes what we believe to be some of
the best coffee available in a single serve application in the world. In addition, we have recently expanded our Coffee Blenders
offerings to include a new Coldpresso latte product line that is available to purchase in Korea online. We sell Coffee Blenders products
mainly online. We also have a number of potential co-packing opportunities in which our customers would contract for us to replicate
one or more of our Coffee Blenders products with their film and packing, providing further evidence of the high-quality nature of
this line and coffee. |
|
● |
Twin
Peaks. We currently sell our Twin Peaks single serve pour over coffee exclusively via Amazon. This program commenced in 2019
and we expect that as Amazon and its customers become more familiar with single serve pour over coffee, we will increase our revenue
for this product. |
In
addition to our NuZee branded products, our premium DRIPKIT pour over format features a large-size single serve pour over pack that sits
on top of the cup and delivers in our view a barista-quality coffee experience. We offer DRIPKIT pour over packs direct to consumers
through our website, wholesale business-to-business to hospitality customers, and co-pack for coffee roasters.
Our
business strategy
We
intend to achieve our mission and further grow our business by pursuing the following strategies:
|
● |
Continually
grow our base of large national or international co-packing customers. In furtherance of our goal to become the “go-to”
commercial coffee manufacturer and preeminent partner for coffee companies seeking to enter into and grow within the single serve
coffee market in North America, we focus on entering into co-packing agreements with large international companies, including co-packing
arrangements pursuant to our private label coffee development program. We also intend to continue to educate and advocate for the
development of pour over coffee products within the broader single serve category. We believe that, as the U.S. market continues
to gain awareness of our traditional single serve pour over, DRIPKIT pour over and coffee brew bag coffee products, we will continue
to grow our base of large domestic or international co-packing customers. |
|
|
|
|
● |
Co-pack
for smaller scale, innovative coffee customers that we believe are rapidly growing and capture their growth over time. In addition
to co-packing for large domestic or international customers, we believe that select smaller scale, rapidly growing, innovative co-packing
customers provide us with different opportunities versus larger customers. Large national roasters often look to these smaller scale
customers for inspiration. We believe capturing these influential roasters would help us provide format visibility to the bigger
roasters as well as influential consumers. |
|
|
|
|
● |
Efficiently
grow our manufacturing footprint and capacity, including by leveraging new and current partnerships, in response to anticipated demand
for co-packing. We intend to leverage our partnership announced in 2022 pursuant to which a manufacturing partner in Knoxville,
Tennessee will provide us with additional manufacturing, coffee roasting and co-packing capabilities, and facilitate distribution
efforts to the Eastern United States. With this partnership, we expect to offer a holistic coffee supply and manufacturing program
to our existing and new customers, including coffee roasting and non-single serve coffee product co-packing in addition to our other
single serve coffee formats. |
|
|
|
|
● |
Strategically
grow and expand our international operations that align with our vision. We plan to strategically grow our current international
operations as well as potentially expand internationally if this growth or expansion is strategic to our vision. We believe the Korean
market, albeit competitive, still has significant growth potential as well as strong market acceptance for coffee and single serve
pour overs. We have also formed a joint venture in Latin America. As we look at other potential international manufacturing locations,
we look for characteristics similar to the Korean, Latin American and U.S. markets. We plan to further leverage our international
operations to support our customers’ expansion into the markets in which we operate. This includes assisting our U.S. customers
launching their products in Korea and Mexico. |
Dripkit
Transaction
On
February 25, 2022 (the “Closing Date”), we acquired substantially all of the assets and certain specified liabilities of
Dripkit (the “Acquisition”) pursuant to the Asset Purchase Agreement, dated as of February 21, 2022 (the “Asset Purchase
Agreement”), by and among the Company, Dripkit, and Dripkit’s existing investors (the “Stock Recipients”) who
executed joinders to the Asset Purchase Agreement as of the Closing Date. Pursuant to the terms of the Asset Purchase Agreement, the
aggregate purchase price paid by us for the Acquisition was $860,000, consisting of cash paid by
the Company to Dripkit and the Company’s issuance to the Stock Recipients of an aggregate of 178,681 shares of the Company’s
common stock, plus the assumption of certain assumed liabilities, subject to certain adjustments and holdbacks as provided in
the Asset Purchase Agreement.
On
May 2, 2022, pursuant to the terms of the Asset Purchase Agreement, the bulk sales holdback amount was used to satisfy sales and use
taxes owed by Dripkit to the State of New York as of the Closing Date. Pursuant to the terms of the Asset Purchase Agreement, the amounts
remaining after offsetting the cost of these sales and use taxes were distributed as follows: (i) $39,237 was distributed to Dripkit
on May 9, 2022, in connection with the cash bulk sales holdback amount, and (ii) 18,475 shares of our common stock were issued to the
Stock Recipients on April 25, 2022, in connection with the stock bulk sales holdback amount.
For
additional information regarding the Acquisition and the Asset Purchase Agreement, see “Note 6—Business Combinations”
to the Consolidated Financial Statements.
Dripkit
operates as a new Dripkit Coffee business division that is wholly owned by NuZee, Inc.
Customers
and Sales
Our
co-packing customers primarily include large and small size coffee roasters and food service companies. We intend to continue to pursue
such co-packing arrangements in the future. We believe this customer interest is primarily due to (i) the saturation of machine based
single serve coffee alternatives, (ii) increase in consumer requirements for eco-friendly packaging and (iii) our superior taste quality
compared to other single serve coffee alternatives.
Sales
to relatively few co-packing customers account for a significant percentage of our net sales, and our success depends in part on our
ability to maintain good relationships with these key co-packing customers and other key retail and grocery customers. One major customer
accounted for approximately 28% and 32% of our total revenue in the years ended September 30, 2022 and 2021, respectively, as further
described in “Note 2—Basis of Presentation And Summary of Significant Accounting Policies—Major Customers”
to our Consolidated Financial Statements.
Generally,
under our co-packing arrangements as well as our fulfillment of purchase orders for the distribution of NuZee branded products
through nationally recognized retailers, customers must issue purchase orders for our products and co-packing services. Although
these purchase orders stipulate key terms including order quantity, product specifications, price, payment terms, packaging method
and delivery instructions, our co-packing arrangements and our arrangements with nationally recognized retailers are typically not
governed by any written agreement and have no ongoing minimum purchase requirements; however, we do impose minimum quantity
requirements when an order is placed.
We
also sell our NuZee and DRIPKIT branded products directly to consumers. Currently, Amazon and our Coffee Blenders website are our only
established domestic retail channels for direct sales to consumers of NuZee branded products, and our DRIPKIT products are sold through
our Dripkit website and third-party online retailers.
Manufacturing
and Operational Capacity
We
currently lease manufacturing facilities in Vista, California and Seoul, Korea to produce our single serve pour over or coffee brew bag
coffee products. In November 2021, we entered into a new lease in Seoul, Korea for a larger office and manufacturing space. In 2022,
we expanded our office and manufacturing space in Vista, California by approximately 2,000 square feet and also extended our current
lease through March 2025 and our sub-leased property through January 2023.
As
a result of our capital investments since 2015, including our acquisition of packing equipment from manufacturers whom we believe are
the global leaders for supplying such machines, we presently have the annual capacity to produce up to 150 million single serve coffee
products (pour over or coffee brew bags) at our two manufacturing facilities, which we believe is sufficient to meet our current and
anticipated manufacturing requirements. In addition, in May 2022, we announced a new partnership pursuant to which a manufacturing partner
in Knoxville, Tennessee has agreed to provide us with additional manufacturing, coffee roasting and co-packing capabilities, and facilitate
distribution efforts to the Eastern United States. In connection with the foregoing operational developments, and following our strategic
analysis of our current and anticipated facility requirements, we have determined to transition our manufacturing operations away from
the facility we previously operated in Plano, Texas. Our executive office and administrative operations are now located in Richardson,
Texas.
We
own high-quality and sophisticated packing equipment developed by premier East Asian suppliers for pour over and coffee brew bag coffee
production. We believe these manufacturers are the world leaders for supplying such machines. Nitrogen and air compression machinery
is capable of handling expansion, which helps to minimize any ongoing related capital expenditures for such machinery as we expand.
Raw
Materials
Under
our co-packing arrangements, our co-packing customers typically supply us with roasted, whole bean coffee that we then produce and package
into single serve pour over and coffee brew bag coffee products according to their formulations and specifications. In addition, in connection
with the production of our NuZee and DRIPKIT branded products and specialty coffees that we have developed for co-packing customers under
our private label coffee development program, we source and purchase green coffee from multiple green coffee suppliers, and from multiple
regions around the world. After being sourced by us, the green coffee is then shipped to our roasting or manufacturing partners where
the coffee is roasted and then shipped to us for grinding, blending, packing, and packaging. Maintaining a steady supply of roasted coffee
beans from our co-packing customers is essential to our co-packing arrangements, and securing an adequate supply of green coffee is essential
to our ability to manufacture NuZee and DRIPKIT branded products and to support the development of private labels for our co-packing
customers under our private label development program. We have arrangements based on purchase orders in place with suppliers and partners
for all components required to provide our co-packing services and deliver our NuZee and DRIPKIT branded products.
Our
principal packaging materials include filters, foils, cartons, and craft master cases. We conduct business with multiple vendors of packaging
materials on a purchase order basis.
Distribution
For
distribution of our single serve coffee products to our co-packing customers, we typically rely on the distribution networks of our co-packing
customers, including freight companies and common carriers arranged by them. At the request of our co-packing customers, we may also
utilize a freight broker for the distribution and delivery of our products according to our co-packing customers’ instructions.
Our NuZee and DRIPKIT branded products are typically delivered by common carriers directly to each customer. Our manufacturing partner
in Knoxville, Tennessee facilitates distribution of certain of our products to the Eastern United States.
Intellectual
Property
Trademarks
We
currently own the following United States trademarks: “NuZee”, “NuZee Coffee (Stylized)”, “NuZee Coffee
and Design”, “Coffee Blenders”, “Twin Peaks”, “Active Cup”, “Relax Cup”, “Think
Cup”, “Nude Cup”, “Pine Ranch Coffee”, and “Dripkit”. We are also in the process of obtaining
rights to the “It’s Coffee Reimagined” and “Dripkit and Design” trademarks. We intend to continue growing
our trademark portfolio in the United States with other related slogans and brands as new products are launched.
We
further intend to expand our brand protections outside of the United States in line with our prospective international growth. As of
the date of this Report, we had registered trademarks “Coffee Blenders” and “Twin Peaks” in Japan and registered
trademarks “Twin Peaks” in Korea. We have also filed for “NuZee”, “NuZee Coffee (Stylized)”, “NuZee
Coffee and Design”, in Canada, Japan, Korea, and Mexico; “Dripkit (Words only)” and Design in Japan, Mexico, and Korea;
and “Dripkit and Design” in Canada, Japan, and Korea.
Patents
We
currently own the following patents relating to our DRIPKIT pour over product: (1) a U.S. design patent that protects the visual ornamental
characteristics associated with the DRIPKIT pour over coffee apparatus design, which expires in November 2035; (2) a U.S. utility patent
that covers utility patent features of the DRIPKIT portable drip apparatus, which expires in July 2038; and (3) one pending utility patent
application that is a continuation patent application for pursuing broader/different utility patent features for the DRIPKIT portable
drip apparatus, which is currently pending and awaiting examination. Patent rights (1) and (2) stem from the Acquisition of Dripkit in
2022.
We
intend to aggressively protect, police and assert our intellectual property rights, including product designs, proprietary product research
and concepts as well as our trademark portfolio. Although asserting our rights may result in a substantial cost to the Company, our management
strongly believes that the protection of our intellectual property rights is a key component of our operating strategy.
International
operations
Korea
We
established our Korean subsidiary in 2018. We are one of many producers of single serve pour over coffee products in Korea and do not
have any exclusive rights for this region. Our strategy is to leverage our local relationships to secure large co-packing agreements
for the markets in Korea, China and other Asian countries. Our Korean subsidiary increased its customer base in our 2022 fiscal year,
and we believe that it will be able to continue to secure meaningful co-packing customers in our 2023 fiscal year.
Latin
America
In
January 2020, we entered into a Joint Venture Agreement (the “JV Agreement”) with Industrias Marino, S.A. de C.V., a company
incorporated under the laws of Mexico (“El Marino”), to form a joint venture in Mexico between us and El Marino in Mexico
(“NuZee Latin America”). NuZee Latin America is organized under the laws of Mexico. To date, the only activities in NuZee
Latin America were the contribution of two machines, and start up and initial marketing and sales activities. Its primary business operations
are intended to consist of the manufacture of single serve coffee products for sale in Mexico, Central and South America.
Competition
Prior
to the success of coffee pods within the last two decades, coffee was primarily consumed at home and via traditional pot-based drip brewers
and, to a lesser extent, instant coffee. Pot-based brewers are typically known for good quality coffee that produces multiple cups but
are not well-suited for single serve alternatives. In recent years with the advent of coffee pods and increased coffee consumption outside
the home, the North American market has been focused on speed and convenience. Coffee pods addressed the need for a single serve coffee
solution that was viewed as superior to instant coffee. As coffee consumption has also moved outside the home in recent years, consumer
preferences have also changed, leading to greater demand for higher quality coffee alternatives.
The
beverage industry in general, and the coffee sector, is extremely competitive. The principal areas of competition include product, quality,
convenience, price, packaging, development of new products and flavors, and marketing campaigns. Our Coffee Blenders, DRIPKIT and other
NuZee branded products are competing directly with Green Mountain brands and other licensed brands, as well as third-parties in the single
serve coffee category who have similar formats to our products. Green Mountain brands have enjoyed broad, well-established national distribution
through well-funded advertising, and product awareness. Our Coffee Blenders, DRIPKIT and other NuZee branded products also compete generally
with all hot liquid refreshments, including specialty coffees and teas. Companies and brands manufacturing these products generally have
far greater financial, marketing, and distribution resources than we do.
Important
factors that will affect our ability to compete successfully include functional delivery of our products and co-packing services, trade
and consumer promotions, the development of new, unique functions in new and various packaging formats, attractive and unique promotions,
branded product advertising, pricing, and the success of the distribution networks on which we rely.
We
also compete to secure distributors who will agree to market our product over those of our competitors, provide stable and reliable distribution,
and secure adequate shelf space in retail outlets and search placement in online stores.
Employees
As
of September 30, 2022, we had a total of 22 employees in the United States and 13 employees in Korea, all of whom are full-time. None
of our employees are represented by a labor organization or under any collective bargaining arrangements. We believe our relationships
with our employees are good.
Our
operations are overseen directly by management that engages our employees to carry on our business. Our management oversees all responsibilities
in the areas of corporate administration, product development, marketing, and research. We may expand our current management to retain
other skilled directors, officers, and employees with experience relevant to our business focus. Our management’s relationships
will provide the foundation through which we expect to grow our business in the future. We believe that the skill sets of our core management
team will be a primary asset in the development of our brands and trademarks.
Governmental
Regulation
Our
Coffee Blenders, DRIPKIT and other NuZee branded products are marketed and sold as conventional food or beverages for regulatory purposes.
Such products are regulated by the FDA. Ingredients in such products must be approved food additives or “Generally Regarded as
Safe”. We intend to work with ingredient suppliers, manufacturers, and other trade partners that are compliant with the laws and
regulation enforced by the FDA. We have not received, nor are we aware of, any inquiries or other regulatory action from the FDA or any
other governmental agency regarding our products and we believe we are in full compliance with all FDA regulations.
The
advertising, distribution, labeling, production, safety, sale, and transportation in the United States of our products are subject to
the Federal Food, Drug, and Cosmetic Act, the Federal Trade Commission Act, the Lanham Act, state consumer protection laws, competition
laws, federal, state and local workplace health and safety laws, various federal, state and local environmental protection laws, and
various other federal, state and local statutes and regulations.
Corporate
Information
We
were incorporated in 2011 in Nevada as Havana Furnishings, Inc. NuZee Co. Ltd., a California corporation, was incorporated under California
law in 2011. NuZee Co. Ltd. (California) merged into Havana Furnishings, Inc. in 2013, at which time we changed our name to NuZee, Inc.
On
December 9, 2022, at a Special Meeting of Stockholders, our stockholders approved a proposal granting the board of directors of the Company
(the “Board”) discretionary authority to file an amendment (the “Certificate of Amendment”) to the Company’s
Articles of Incorporation, as amended (the “Articles”), which amends the Articles to add a Section 1A to effect a reverse
stock split of the Company’s common stock, at any ratio from 1-for-10 to 1-for-50 at the Board’s discretion (the “2022
Reverse Stock Split”). The Board intends to effect the 2022 Reverse Stock Split as soon as practicable.
In
June 2020, our common stock commenced trading on the Nasdaq Capital Market under the symbol “NUZE.” Prior to that, our common
stock was quoted on the OTCQB Marketplace under the same symbol.
We
have two international subsidiaries in NuZee KOREA Ltd. (“NuZee KR”), and NuZee Investment Co., Ltd. (“NuZee INV”).
NuZee KR and NuZee INV are wholly owned subsidiaries of the Company. We also have a joint venture in Mexico, as further discussed above.
Our
principal executive offices are located at 1350 East Arapaho Road, Suite #230, Richardson, Texas 75081, and our telephone number is (760)
295-2408. We also maintain an office in Vista, California.
Available
Information
Our
annual and quarterly reports, along with all other reports and amendments filed with or furnished to the SEC, are publicly available
free of charge on the Investor Relations section of our website at www.mynuzee.com as soon as reasonably practicable after these materials
are filed with or furnished to the SEC. Our website and the information contained on, or that can be accessed through, the website will
not be deemed to be incorporated by reference in, and are not considered part of, this Report. Our corporate governance policies, ethics
code and board of directors’ committee charters are posted under the Investor Relations section of the website. The SEC also maintains
an Internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically
with the SEC. The address of that site is www.sec.gov.
ITEM
1A. RISK FACTORS
Risk
Factor Summary
The
risk factors summarized below could materially harm our business, operating results and/or financial condition, impair our future prospects
and/or cause the price of our common stock to decline. These risks are discussed more fully in the section titled “Risk Factors.”
Material risks that may affect our business, operating results and financial condition include, but are not necessarily limited to, the
following:
|
1. |
We
have a history of net losses. We expect to continue to incur net losses in the future and we may never generate sufficient revenue
from the commercialization of our single serve coffee products or co-packing services to achieve or sustain profitability. |
|
2. |
Our
independent auditor’s report for the fiscal year ended September 30, 2022 includes an explanatory paragraph regarding substantial
doubt about our ability to continue as a going concern, and absent additional financing we may be unable to remain a going concern. |
|
3. |
We
expect to need to obtain additional capital to fund our existing operations and, if we are unable to obtain such financing, we may
be unable to continue to operate as a going concern. |
|
4. |
We
have limited operating history, which may make it difficult to evaluate our current business and to forecast our future performance. |
|
5. |
Our
ability to use our net operating loss carryforwards to offset future taxable income may be subject to certain limitations. |
|
6. |
A substantial portion of our sales are completed on a purchase order basis.
Customers may issue fewer or smaller purchase orders than we expect under our co-packing or retail fulfillment arrangements or decide
to delay or cancel orders, which could negatively impact our revenues. |
|
7. |
The
COVID-19 pandemic and the appearance of new variants continues to affect our business operations and financial condition, and our
liquidity could also be negatively impacted. |
|
8. |
Sales
to a limited number of customers represent a significant portion of our net sales. The loss of a key customer and efforts by our
customers to improve their profitability could reduce sales of NuZee branded products and revenues generated from our co-packing
services and adversely affect our financial performance. |
|
9. |
Continued
innovation and the successful development and timely launch of new products and co-packing services are critical to our financial
results and achievement of our growth strategy. |
|
10. |
Our
future financial results are difficult to predict, and failure to meet market expectations for our financial performance or any publicly
announced guidance may cause the price of our stock to decline. |
|
11. |
Increased
competition, including as a result of industry consolidation, could hurt our businesses, and changes in the coffee, tea and beverage
environment and retail landscape could impact our financial results. |
|
12. |
Our
business, growth and profitability depend on the performance of third-parties and our relationship with them, including third-party
coffee roasters and manufacturing partners. |
|
13. |
Interruption
or increased costs of our supply chain and sales network, including a disruption in operations at any of our facilities, could affect
our ability to manufacture or distribute products and could adversely affect our business and sales. |
|
14. |
The
loss of any member of our senior management team or our inability to attract and retain highly skilled personnel could have a material
adverse effect on our business. |
|
15. |
Because
our management structure is not centralized, the management of our business operations may be more expensive and more difficult. |
|
16. |
Increases
in the cost or decreases in the availability of high-quality coffee beans or other commodities could have an adverse impact on our
business and financial results. Additionally, price increases may not be sufficient to offset cost increases and maintain profitability
or may result in sales volume declines. |
|
17. |
We
may be unable to manage our future growth effectively, which could make it difficult to execute our business strategy. |
|
18. |
Any
failure by us to accurately forecast customer demand for our products and co-packing services, or to quickly adjust to forecast changes,
could adversely affect our business and financial results. |
|
19. |
We
may not be able to adequately protect our intellectual property rights, and our competitors may be able to offer similar products
and co-packing services, which would harm our competitive position. Additionally, we may be subject to intellectual property infringement
claims, which may be expensive to defend and may disrupt our business and operations. |
|
20. |
Failure
to comply with applicable transfer pricing and similar regulations could harm our business and financial results. |
|
21. |
Our
business operations could be disrupted due to miscommunications or translation errors. Additionally, our international sales and
operations subject us to additional legal, regulatory, financial and other risks. |
|
22. |
Significant
additional labeling or warning requirements or limitations on the availability of our products may inhibit sales of affected products. |
|
23. |
The
market price of our stock may be volatile, and you could lose all or part of your investment. |
|
24. |
If
we fail to regain compliance with the requirements for continued listing on the Nasdaq Capital Market, our common stock could be
delisted from trading, which would adversely affect the liquidity of our common stock and our ability to raise additional capital. |
|
25. |
Even
if we regain compliance with the Bid Price Rule (as defined below), the Nasdaq Capital Market may subsequently delist our common
stock if we fail to comply with ongoing listing standards going forward. |
|
26. |
The
Board intends to effect the 2022 Reverse Stock Split as soon as practicable in order to regain compliance with Nasdaq Capital Market
listing rules. We cannot predict the effect that the 2022 Reverse Stock Split will have on the market price for shares of our common
stock. |
|
27. |
Our
stockholders will experience dilution if we issue additional equity securities in future financing transactions. |
|
28. |
A
significant portion of our total outstanding shares of common stock are eligible to be sold into the market in the near future, which
could cause the market price of our common stock to drop significantly. |
|
29. |
Our
principal stockholder and management, including our Chief Executive Officer in particular, own a significant percentage of our stock
and will be able to exert significant control over matters subject to stockholder approval. |
|
30. |
We
incur significant costs as a result of operating as a public company, and our management must devote substantial time to compliance
initiatives as a result of the listing of our common stock on the Nasdaq Capital Market. |
|
31. |
We
expect to incur significant costs and devote substantial management time to maintaining our disclosure controls and procedures and
internal control over financial reporting, and regardless we may be unable to prevent or detect all errors or acts of fraud or to
accurately and timely report our financial results or file our periodic reports in a timely manner. If we are unable to maintain
an effective system of internal control over financial reporting, we may not be able to accurately report our financial results,
timely file our periodic reports, maintain our reporting status or prevent fraud. |
|
32. |
Anti-takeover
provisions in our third amended and restated bylaws and Nevada law might discourage, delay or prevent a change of control of our
company or changes in our management and, therefore, depress the trading price of our securities. |
|
33. |
We
have never paid dividends on our capital stock and we do not anticipate paying any dividends in the foreseeable future. Consequently,
any profits from an investment in our common stock will depend on whether the price of our common stock increases. |
|
34. |
Claims
for indemnification by our directors and officers may reduce our available funds to satisfy successful third-party claims against
us and may reduce the amount of money available to us. |
|
35. |
Product
safety and quality concerns could negatively affect our business. |
|
36. |
If
we are unable to protect our information systems against service interruption or failure, misappropriation of data or breaches of
security, our operations could be disrupted, we could be subject to costly government enforcement actions and private litigation
and our reputation may be damaged. |
|
37. |
Currently
pending, threatened or future litigation or governmental proceedings or inquiries could result in material adverse consequences,
including judgments or settlements. |
|
38. |
Future
acquisitions of and investments in new businesses could impact our business and financial condition. |
In
addition to the other information set forth in this Report and other filings we have made and make in the future with the SEC, you should
carefully consider the following risk factors and uncertainties, which could materially affect our business, financial condition or results
of operations in future periods. Additional risks not currently known to us or that we currently deem to be immaterial also may materially
adversely affect our business, financial condition or results of operations in future periods.
Risks
Related to Our Financial Condition and Capital Requirements
We
have a history of net losses. We expect to continue to incur net losses in the future and we may never generate sufficient revenue from
the commercialization of our single serve coffee products or co-packing services to achieve or sustain profitability.
We
have incurred net losses since our inception in 2013, including net losses of $11.8 million and $18.6 million for the years ended September
30, 2022, and 2021, respectively. As of September 30, 2022, our accumulated deficit was approximately $64.6 million. We expect to incur
significant sales and marketing expenses, as well as costs associated with operating as an exchange-listed public company, prior to recording
sufficient revenue from our operations to offset these expenses.
These
losses have had, and will continue to have, an adverse effect on our working capital, total assets and stockholders’ equity. Our
ability to become and remain profitable will depend on our ability to generate significantly higher revenues from the sales of our single
serve coffee products and co-packing services, which depends upon a number of factors, including but not limited to successful sales,
manufacturing, marketing and distribution of our products and services.
Because
of the numerous risks and uncertainties associated with our commercialization efforts, we are unable to predict when we will become profitable,
and we may never become profitable. Even if we do achieve profitability, we may not be able to sustain or increase profitability on a
quarterly or annual basis. Our inability to achieve and then sustain profitability would have a material adverse effect on our business
and financial condition.
Our
independent auditor’s report for the fiscal year ended September 30, 2022 includes an explanatory paragraph regarding substantial
doubt about our ability to continue as a going concern, and absent additional financing we may be unable to remain a going concern.
If
we are unsuccessful in our efforts to raise additional capital, based on our current and expected levels of operating expenses, our current
capital is not expected to be sufficient to fund our operations for the next twelve months. These conditions raise substantial doubt
about our ability to continue as a going concern. The Report of Independent Registered Public Accounting Firm at the beginning of the
Consolidated Financial Statements included in Part II, Item 8, “Financial Statements and Supplementary Data” of this Report
includes an explanatory paragraph about our ability to continue as a going concern.
Our
Consolidated Financial Statements for the year ended September 30, 2022 were prepared on the basis of a going concern, which contemplates
that we will be able to realize our assets and discharge liabilities in the normal course of business. Our ability to meet our liabilities
and to continue as a going concern is dependent upon the availability of future funding. The financial statements do not include any
adjustments that might be necessary if we are unable to continue as a going concern. If we are
unable to continue as a going concern, we might have to liquidate our assets and the values we receive for our assets in liquidation
or dissolution could be significantly lower than the values reflected in our financial statements.
In
addition, our current financial situation, and the presence of the explanatory paragraph about our ability to continue as a going concern,
could also make it more difficult to raise the capital necessary to address our current needs and may
materially adversely affect the price of our common stock.
We
expect to need to obtain additional capital to fund our existing operations and, if we are unable to obtain such financing, we may be
unable to continue to operate as a going concern.
Considering
our current cash resources and our current and expected levels of operating expenses for the next twelve months, we expect to need additional
capital to fund our planned operations for at least twelve months. This evaluation is based on relevant conditions and events that are
currently known or reasonably foreseeable. A reduction in consumer demand for, or revenues from the sale of, our single serve coffee
products and co-packing services could further constrain our cash resources.
We
intend to seek to raise additional capital through public or private equity offerings. However, we may not be able raise such additional
capital on favorable terms or at all. If we are unsuccessful in efforts to raise additional capital,
based on our current levels of operating expenses, our current capital is not expected to be sufficient to fund our operations for the
next twelve months. These conditions raise substantial doubt about our ability to continue as a going concern.
We
may also consider raising additional capital in the future to expand our business, to pursue strategic investments or acquisitions, to
take advantage of financing opportunities or for other reasons, including to:
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fund
development of our products and co-packing services; |
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acquire,
license or invest in technologies or intellectual property relating to our existing products; |
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acquire
or invest in complementary businesses or assets; and |
|
● |
finance
capital expenditures and general and administrative expenses. |
Our
present and future funding requirements will depend on many factors, including:
|
● |
success
of our current marketing efforts; |
|
● |
our
revenue growth rate and ability to generate cash flows from sales of our products and co-packing services; |
|
● |
effects
of competing technological and market developments; and |
|
● |
changes
in regulatory oversight applicable to our products. |
The
various alternatives for raising additional capital include short-term or long-term debt financings, equity offerings, collaborations
or licensing arrangements and each one carries potential risks. If we raise funds by issuing equity securities, our stockholders will
be further diluted. If we raise funds by issuing debt securities, those debt securities would have rights, preferences and privileges
senior to those of holders of our common stock. The terms of debt securities issued or borrowings pursuant to a credit agreement could
impose significant restrictions on our operations or our ability to issue additional equity securities or issue additional indebtedness.
We may also be required under additional debt financing to grant security interests on our assets, including our intellectual property.
If we raise funds through collaborations and licensing arrangements, we might be required to relinquish significant rights to our intellectual
property, or grant licenses on terms that are not favorable to us which could lower the economic value of those items to us.
The
credit markets and the financial services industry have in the past experienced turmoil and upheaval characterized by the bankruptcy,
failure, collapse, or sale of various financial institutions and intervention from the U.S. federal government. Furthermore, the capital
markets and the financial services industry are currently and expected to continue to be unpredictable and volatile. These events typically
make equity and debt financing more difficult to obtain. Accordingly, additional equity or debt financing might not be available on reasonable
terms, if at all. If we cannot secure additional funding when needed, including due to changes in our business plan, a lower demand for
our products or co-packing services or other risks described in this Report, we may have to delay, reduce the scope of or eliminate one
or more sales and marketing initiatives and development programs, which would have a materially adverse effect on our business.
We
have limited operating history, which may make it difficult to evaluate our current business and to forecast our future performance.
We
have little operating history and are addressing an emerging market. As a result, our current and future business prospects are difficult
to evaluate. All potential investors must consider our business prospects in light of the risks and difficulties we have encountered
and will continue to encounter as a company operating in a rapidly evolving market. Some of these risks relate to our potential inability
to:
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effectively
manage our business and proprietary information; |
|
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recruit
and retain sales and marketing, technical and managerial personnel; |
|
● |
recruit
and retain appropriate distributor relationships; |
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● |
successfully
develop and protect our intellectual property portfolio; |
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● |
successfully
provide high quality products and co-packing services as our business expands; and |
|
● |
successfully
address other risks, as described in this Report or otherwise. |
If
we do not address these risks successfully, it could have a material adverse effect on our business and financial condition.
Our
ability to use our net operating loss carryforwards to offset future taxable income may be subject to certain limitations.
The
Tax Cuts and Jobs Act (the “TCJA”), enacted in 2017, limited the use of net operating loss carryforwards arising in periods
beginning after 2017 to eighty-percent of taxable income in the period to which the losses are carried. The TCJA also extended the expiration
period for net operating losses arising in periods after 2017 from 20 years to an unlimited period.
However,
the taxable income limitation on the use of net operating loss carryforwards was eliminated by the Coronavirus Aid, Relief and Economic
Security Act (the “CARES” Act) for tax years beginning before January 1, 2021. We may not be able to utilize our existing
net operating losses or any portion thereof in the current tax year or any available carryforward period.
In
addition, Section 382 may limit the utilization of net operating loss carryforwards. In general, under Section 382 of the Internal Revenue
Code of 1986, as amended (the “Code”), a corporation that undergoes an “ownership change” is subject to annual
limitations on its ability to use its pre-change net operating loss carryforwards, or NOLs, and certain other tax attributes to offset
future taxable income or reduce taxes. Our past issuances of stock and other changes in our stock ownership may have resulted in one
or more ownership changes within the meaning of Section 382 of the Code; accordingly, our pre-change NOLs may be subject to limitation
under Section 382. State NOL carryforwards may be similarly limited. Furthermore, transactions in our stock that have occurred in the
past and could occur in the future may trigger another ownership change pursuant to Section 382. Because of the cost and complexity involved
in the analysis of a Section 382 ownership change and the fact that we do not have any taxable income to offset, we have not undertaken
a study to assess whether an “ownership change” has occurred or whether there have been multiple ownership changes since
we became a “loss corporation” as defined in Section 382. Future changes in our stock ownership could result in ownership
changes under Section 382 of the Code further limiting our ability to utilize our NOLs. Finally, our ability to use NOLs of companies
that we may acquire in the future may be subject to limitations. For these reasons, even if we attain profitability, we may not be able
to use a material portion of our NOLs, and this could reduce our earnings and potentially affect the valuation of our stock.
Risks
Related to Our Business
A substantial portion
of our sales are completed on a purchase order basis without any written agreements, including sales under our co-packing arrangements
as well as purchase orders for NuZee branded products from nationally recognized retailers. Such co-packing customers or retailers may
issue fewer or smaller purchase orders than we expect under our co-packing arrangements, which could negatively impact our revenues. In
addition, although these purchase orders are generally not cancelable, such customers may decide to delay or cancel orders, which could
also negatively impact our revenues.
Generally, under our co-packing arrangements as well as our fulfillment
of purchase orders for the distribution of NuZee branded products through nationally recognized retailers, customers must issue purchase
orders for our products and co-packing services. Although these purchase orders stipulate key terms including order quantity, product
specifications, price, payment terms, packaging method and delivery instructions, our co-packing arrangements and our arrangements with
nationally recognized retailers are typically not governed by any written agreement and have no ongoing minimum purchase requirements.
Accordingly, we cannot predict or make any guarantee of the amount of any future orders from co-packing customers or national retailers.
In addition, although orders covered by firm purchase orders are generally not cancelable, customers may decide to delay or cancel orders,
and we may have difficulty enforcing the provisions of the purchase order. In the event that customers with whom we have co-packing or
retail fulfillment arrangements issue fewer or smaller purchase orders than we expect, or we experience any delays or cancellations in
orders (due to current distress in the global economy caused by COVID-19, or otherwise), our revenues could decline substantially. Any
such decline could result in us incurring net losses, increasing our accumulated deficit and needing to raise additional capital to fund
our operations.
COVID-19
continues to affect our business operations and financial condition, and our liquidity could also be negatively impacted, particularly
if the United States and East Asian economies remain unstable for a significant amount of time.
In
December 2019, the novel coronavirus (“COVID-19”) originated in Wuhan, China. Since its discovery, COVID-19 has spread worldwide
and caused significant disruption in the international and United States economies and financial markets. Federal, state and local government
responses to COVID-19 and our responses to the outbreak have all disrupted and will continue to disrupt our business. In the United States,
individuals are being required to practice social distancing, in many places have been restricted from gathering in large groups, and
in some cases have been placed on complete restriction from non-essential movements outside of their homes. Even as efforts to contain
the pandemic have made progress and some restrictions have relaxed, new variants of the virus have arisen globally. The impact of the
Delta and Omicron variants, or other variants that may emerge, cannot be predicted at this time, and could depend on numerous factors,
including vaccination rates and the availability of vaccines in different parts of the world, the effectiveness of COVID-19 vaccines
and therapeutics against variants, and the response by governmental bodies to reinstate restrictive measures.
The
spread of COVID-19 and its variants and resulting business closings, layoffs, travel restrictions and shelter-in-place or similar orders
have resulted, and may result in the future, in substantial and widespread reduction in business activity and financial transactions,
an increase in unemployment, reduced consumer spending, supply chain interruptions and overall economic and financial market instability,
which may affect our ability to produce our products and provide our co-packing services, demand for our products and co-packing services,
our revenues and our ability to collect outstanding receivables, as well as the ability of our customers to pay for goods delivered.
Such federal or state laws, regulations, orders, or other governmental or regulatory actions addressing COVID-19 could ultimately have
an adverse effect on our business, financial condition, results of operations and cash flows.
In
the fiscal years ended September 30, 2022 and September 30, 2021, as a result of COVID-19 and its variants, certain of our customers
slowed or delayed purchases of our co-packing services or single serve coffee products, and we also believe that potential sales of our
single serve coffee products to new or potential customers in the hospitality industry were adversely impacted. We have also experienced
delays in the submission and approval of custom artwork and packaging as well as the shipment to us of coffee for co-packing. In addition,
we incurred lost production time due to employee absences. We do not believe, however, that these delays and disruptions had a significant
effect on our business or results of operations to date, and in some cases, we have been able to mitigate these adverse effects in part
by sourcing coffee and other supplies from alternative suppliers in the United States. As COVID-19 and its variants are complex and constantly
changing, the full extent and duration of the impact of COVID-19 on our business and financial results is currently unknown and depends
on future developments that are uncertain and unpredictable, including its impact on supply chains and overall economic and financial
markets. If general economic conditions deteriorate or remain uncertain for an extended period of time, our liquidity may be harmed and
the trading price of our common stock could decline significantly. COVID-19 may adversely affect the ability of our customers to pay
for goods delivered on a timely basis, or at all. Any increase in the amount or deterioration in the collectability of accounts receivable
will adversely affect our cash flows and results of operations, requiring an increased level of working capital.
We
have a manufacturing and sales office in Korea, and we source our manufacturing equipment and filters from East Asian companies. The
continued spread of COVID-19 and the appearance of new variants and implementation of restrictive measures may adversely affect our operations
in North America and Asia and our business generally, depending on the extent of its spread of the virus, the effect on international
trade and commerce and on foreign and domestic travel generally of any measures taken to combat the virus, any action taken by government
entities to combat the negative macroeconomic effects of these measures, and other factors. If such circumstances continue to deteriorate,
our production capabilities and demand for our products and co-packing services may decline, which would have an adverse effect on our
results of operations and financial condition.
Sales
to a limited number of customers represent a significant portion of our net sales. The loss of a key customer, including by consolidation
in the retail channel, and efforts by our customers to improve their profitability could reduce sales of NuZee branded products and adversely
affect our financial performance.
Sales
to relatively few co-packing customers account for a significant percentage of our net sales, and our success depends in part on our
ability to maintain good relationships with these and other key retail and grocery customers. Currently, Amazon and our Coffee Blenders
website are our only established domestic retail channels for direct sales to consumers of NuZee branded products. However, we can provide
no assurance that any of these customers or any of our other customers will continue to utilize our products or our co-packing services
at current levels, or at all. We have arrangements with our co-packing customers primarily based on purchase orders which stipulate key
terms including order quantity, product specifications, price, payment terms, packaging method and delivery instructions.
As
a result, many of our key customers may cease purchasing our products or utilizing our co-packing services at any time without penalty
and are free to purchase products from our competitors. There can be no assurance that our customers will continue to purchase our products
or utilize our co-packing services in the same mix or quantities or on the same terms as they have in the past. The loss of one or more
of our key customers, or cancellation of or reduction in the amount of purchase by our key customers, could have an adverse effect on
our results of operations and financial condition.
In
addition, because of the competitive environment facing retailers, many of our customers have increasingly sought to improve their profitability
through increased promotional programs, pricing concessions, more favorable trade terms and increased emphasis on private label products.
To the extent we provide concessions or trade terms that are favorable to customers, our margins would be reduced. Further, if we are
unable to continue to offer terms that are acceptable to our significant customers or our customers determine that they need fewer inventories
to service consumers, these customers could reduce purchases of our products or may increase purchases of products from our competitors,
which would harm our sales and profitability.
Our
industry is also being affected by the trend toward consolidation in the retail channel. Retailers have and will likely continue to seek
lower prices from us and demand increased marketing or promotional expenditures. Large retailers also may be more likely to use their
distribution networks to introduce and develop private label brands. Strategic partners may also choose to vertically integrate their
brands’ manufacturing and distribution. Any of the foregoing could negatively affect sales of our products and co-packing services
and our profitability.
Continued
innovation and the successful development and timely launch of new products and co-packing services are critical to our financial results
and achievement of our growth strategy.
Our
primary focus is the development of single serve coffee products in the North American market targeting the individual consumer for use
at home and office or other settings. Under our private label coffee development program, we intend to continue working with current
and new customers in developing private labels of signature coffees and, in this regard, use our expertise to source, roast (utilizing
our third-party roasting or manufacturing partners), blend, and package coffee to their exact specifications. We have also developed
and sell NuZee and DRIPKIT branded products. Our growth strategy includes, among other things, further developing our NuZee and DRIPKIT
branded product lines and growing our private label coffee development program to reach new co-packing customers, as well as increasing
sales of our coffee brew bag coffee products. In the future, as part of our growth strategy, we may also consider co-packaging other
products that are complementary to our current single serve coffee product offerings and provide us with a deeper access to our customers.
Our
future success depends, largely, on our ability to implement these and our other growth strategies effectively. However, achievement
of our growth strategy is dependent, among other things, on our ability to extend the product offerings of our existing brands and introduce
innovative new products and co-packing services. Although we devote significant focus to the development of new products, including NuZee
and DRIPKIT branded products, we may not be successful in developing innovative new products or our new products may not be commercially
successful. We also may be unsuccessful in expanding our co-packaging services to other products that are complementary to our current
single serve coffee product offerings. Additionally, our new product introductions are often time sensitive, and thus failure to deliver
innovations on schedule could be detrimental to our ability to successfully launch such new products and retain partners, in addition
to potentially harming our reputation and customer loyalty. If we fail to implement our growth strategies or if we invest resources in
growth strategies that ultimately prove unsuccessful, our sales and profitability may be negatively affected, which would materially
and adversely affect our business, financial condition and results of operations. Our financial results and our ability to maintain or
improve our competitive position will depend on our ability to effectively gauge the direction of our key marketplaces and successfully
identify, develop, manufacture, market and sell new or improved products and co-packing services in these changing marketplaces.
Our
future financial results are difficult to predict, and failure to meet market expectations for our financial performance or any publicly
announced guidance may cause the price of our stock to decline.
As
we and our industry evolve, we expect to face new challenges with respect to our introduction of innovative products and the changing
competitive landscape within the single serve category and the beverage industry. These challenges can occur at various stages, including
design, supply chain and sales cycle. Any public forecasts regarding the expected performance of our business and future operating results
are forward-looking statements subject to risks and uncertainties, including the risks and uncertainties described in our filings with
the SEC and in our other public statements, and necessarily reflect current assumptions and judgments that may prove incorrect. As a
result, there can be no assurance that our performance will be consistent with any public forecasts or that any variation from such forecasts
will not be material and adverse. Failure to meet expectations, particularly with respect to operating margins, earnings per share, operating
cash flows and net revenues may result in a decline and/or increased volatility in the price of our stock. In addition, broad price and
volume fluctuations in the stock market as a whole, as well as general economic, business and political conditions, may adversely affect
the price of our stock in ways that may be unrelated to our financial performance.
Our
international sales and operations subject us to various additional legal, regulatory, financial and other risks.
We
have a manufacturing and sales office in Seoul, Korea. We operate globally and are attempting to develop products and provide co-packing
services in multiple countries. Consequently, we face complex legal and regulatory requirements in multiple jurisdictions, which may
expose us to certain financial and other risks. International operations are subject to a variety of risks, including:
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foreign
currency exchange rate fluctuations; |
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greater
difficulty in overseeing foreign operations; |
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logistical
and communications challenges; |
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potential
adverse changes in laws and regulatory practices, including export license requirements, trade barriers, tariffs and tax laws; |
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burdens
and costs of compliance with a variety of foreign laws; |
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political
and economic instability; |
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foreign
tax laws and potential increased costs associated with overlapping tax structures; |
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greater
difficulty in protecting intellectual property; |
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the
risk of third-party disputes over ownership of intellectual property and infringement of third-party intellectual property by our
products; and |
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general
social, economic and political conditions in these foreign markets. |
Increased
competition, including as a result of industry consolidation, could hurt our businesses.
The
beverage industry is intensely competitive and we compete with respect to product, quality, convenience, technology, innovation, and
price. We face significant competition in each of our channels and marketplaces. We compete with major international beverage companies
that operate in multiple geographic areas, many of which have greater financial and other resources than we do, as well as numerous companies
that are primarily local in operation. Our NuZee and DRIPKIT branded products also compete against local or regional brands as well as
against private label brands developed by retailers. Our ability to gain or maintain share of sales in the global marketplace or in various
local marketplaces or maintain or enhance our relationships with our partners and customers may be limited as a result of actions by
competitors, including as a result of increased consolidation in the food and beverage industry.
Changes
in the coffee, tea and beverage environment and retail landscape could impact our financial results.
The
coffee, tea and beverage environment is rapidly evolving as a result of, among other things, changes in consumer preferences; shifting
consumer tastes and needs; changes in consumer lifestyles; and competitive product and pricing pressures. In addition, the beverage retail
landscape is dynamic and constantly evolving, not only in emerging and developing marketplaces, where modern trade is growing at a faster
pace than traditional trade outlets, but also in developed marketplaces, where discounters and value stores, as well as the volume of
transactions through e-commerce, are growing at a rapid pace. If we are unable to successfully adapt to the rapidly changing environment
and retail landscape, our share of sales, volume growth and overall financial results could be negatively affected.
Our
business, growth and profitability depend on the performance of third-parties and our relationship with them.
In
connection with the manufacture of NuZee and DRIPKIT branded products and private labels for our co-packing customers under our private
label development program, we rely on third-party roasters and manufacturing partners to roast green whole bean coffee according to our
specifications before shipping to us for grinding, blending, packing and packaging. We also rely on our manufacturing partner in Knoxville,
Tennessee to provide us with additional manufacturing, coffee roasting and co-packing capabilities, and facilitate distribution efforts
to the Eastern United States. Our reliance on third-party roasters and manufacturing partners subjects us to additional risks, including
the possible termination of the arrangement by a third-party roaster or manufacturing partner at a time that is costly or inconvenient
for us. Our third-party roasters and manufacturing partners are independent entities subject to their own unique operational and financial
risks that are out of our control. If any of these third-party roasters or manufacturing partners fail to perform as required, this could
cause delays in our receipt of roasted whole-bean coffee that is necessary to manufacture our products and provide our co-packing services
or otherwise adversely affect our business.
In
addition, a significant portion of our distribution network, and correspondingly our success in distributing our single serve coffee
products, depends on the performance of third-parties. Any non-performance or deficient performance by such parties may undermine our
operations and profitability. For distribution of our single serve coffee products to our co-packing customers, we typically rely on
the distribution networks of our co-packing customers, including freight companies and common carriers arranged by them. At the request
of our co-packing customers, we may also utilize a freight broker for the distribution and delivery of our products according to our
co-packing customers’ instructions. The success of these distribution networks depends on the performance of brokers, distributors,
common carriers and retailers, as well as our third-party manufacturing partner as it relates to distribution of certain of our products
to the Eastern United States. There is a risk that a broker, distributor, common carrier or retailer may refuse to or cease to market
or carry our product, or that any such entity or our third-party manufacturing partner may not adequately perform its functions within
the network by, without limitation, failing to distribute our products.
Furthermore,
such third-parties’ financial position or market share may deteriorate, which could adversely affect our distribution, marketing
and sale activities. We must also maintain good commercial relationships with third-party brokers, distributors and retailers so that
they will promote and carry our product. Any adverse consequences resulting from the performance of third-parties or our relationship
with them could undermine our operations and profitability.
Interruption
or increased costs of our supply chain and sales network, including a disruption in operations at any of our facilities, could affect
our ability to manufacture or distribute products and could adversely affect our business and sales.
A
disruption in operations at any of our facilities or any other disruption in our supply chain or increase in prices relating to service
by our retailers, distributors, common carriers that ship goods within our distribution channels, or otherwise, whether as a result of
shipping costs and delays, trade restrictions, casualty, natural disaster, weather, power loss, telecommunications failure, terrorism,
labor shortages, contractual disputes, interruptions in port operations or highway arteries, pandemic, strikes, work stoppages, the financial
or operational instability of key suppliers, distributors and transportation providers, or other causes, could significantly impair our
ability to operate our business, adversely affect our relationship with our customers, and impact our financial condition or results
of operations. In the fiscal years ended September 30, 2022 and September 30, 2021, as a result of responses to COVID-19 and its variants,
we have experienced delays in the shipment to us of coffee and packaging materials for co-packing. To date, in some cases we have been
able to mitigate these adverse effects in part by sourcing coffee and other supplies from alternative suppliers in the United States,
but any such mitigation efforts may not be successful in the future.
The
loss of any member of our senior management team or our inability to attract and retain highly skilled personnel could have a material
adverse effect on our business.
Our
success depends on the skills, experience and performance of key members of our senior management team. The individual and collective
efforts of our senior management team will be important as we continue to expand our commercial activities and develop additional products.
The loss or incapacity of existing members of our senior management team could have a material adverse effect on our business and financial
condition if we experience difficulties in hiring qualified successors. Our employment agreements with our executive officers are “at
will”, and the retention of our executive officers for any period of time cannot be guaranteed. We do not maintain “key person”
insurance on any of our employees.
Due
to the specialized nature of the business and our small size, we are highly dependent upon our ability to attract and retain qualified
sales and marketing, technical and managerial personnel. The loss of the services of existing personnel, as well as the failure to recruit
key sales, marketing, technical and managerial personnel in a timely manner would be detrimental to our development and could have a
material adverse effect on our business and financial condition. Our anticipated growth and expansion into areas and activities requiring
additional expertise, such as sales and marketing, may require the addition of new management personnel, both domestic and international.
All of our employees may terminate their employment at any time with short or no advance notice. We may have difficulties locating, recruiting
or retaining qualified sales people. Recruiting and retention difficulties will limit our ability to support our development and sales
programs and to build a commercially viable business.
The
competition for talent is currently extremely high. In this competitive environment, our business could be adversely impacted by increases
in labor costs, including wages and benefits, including those increases triggered by regulatory actions regarding wages, scheduling and
benefits; increased health care and workers’ compensation insurance costs; increased wages and costs of other benefits necessary
to attract and retain high quality employees with the right skill sets, and increased wages, and benefits and costs related to COVID-19.
In addition, our wages and benefits programs, combined with the challenging conditions due to COVID-19, may be insufficient to attract
and retain talent.
Because
our management structure is not centralized, the management of our business operations may be more expensive and more difficult.
As
part of our strategy to attract the most qualified individuals, we do not require the members of our management team to relocate to a
particular geographic area. Accordingly, the members of our management team are geographically dispersed. This decentralized structure
might cause additional expenses in the conduct of our business, and may also delay communication between members of our management team,
lower the quality of our management decisions or decrease our ability to take action quickly.
Increases
in the cost of high-quality coffee beans or other commodities or decreases in the availability of high quality coffee beans or other
commodities could have an adverse impact on our business and financial results.
Under
our co-packing arrangements, our co-packing customers typically supply us with roasted, whole bean coffee that we then produce and package
into single serve pour over, DRIPKIT pour over and coffee brew bag coffee products according to their formulations and specifications.
We also purchase green whole bean coffee from multiple green coffee suppliers to support the manufacture of our NuZee and DRIPKIT branded
coffee products and the development of private labels under our private label development program, in which we work with co-packing customers
in developing private labels of signature coffees by sourcing, blending, and packaging coffee to their exact specifications. After being
sourced by us, the green whole bean coffee is then shipped to our roasting partners where the coffee is roasted and then shipped to us
for grinding, blending and packaging.
The
price of coffee is subject to significant volatility, and may increase due to the factors described below. The high-quality coffee beans
we and our co-packing customers seek tend to trade on a negotiated basis at a premium above the commodity trading price of coffee as
quoted on the Intercontinental Exchange, also known as the “C” price of coffee. This premium depends upon the supply and
demand at the time of purchase and the amount of the premium can vary significantly. Increases in the “C” coffee commodity
price do increase the price of high-quality coffee and also impact our ability to enter into fixed-price purchase commitments. The supply
and price of coffee we and our co-packing customers purchase can also be affected by multiple factors in the producing countries, including
weather, natural disasters, crop disease (such as coffee rust) and pests, general increase in farm inputs and costs of production, armed
conflict, labor actions, government actions and trade barriers or tariffs, inventory levels and political and economic conditions, as
well as real or perceived supply shortages, an increase in green coffee purchased and sold on a negotiated basis rather than directly
on commodity markets in response to higher production costs relative to “C” market prices, pandemics or other disease outbreaks
(including COVID-19), and the actions of certain organizations and associations that have historically attempted to influence prices
of coffee through agreements establishing export quotas or by restricting coffee supplies. Recently, there has been increased volatility
in the “C” market price, with prices at times increasing to five-year highs. The uncertainty over several factors, including
the impact of weather patterns in coffee producing regions, and global supply chain constraints and shipping shortages, caused greater
uncertainty in the markets. Specifically, severe frosts and drought in Brazil currently threaten to negatively impact crop yields for
multiple harvests, which could reduce supply and increase cost. In addition, the political situation in many of the Arabica coffee growing
regions, including Africa, Indonesia, and Central and South America, can be unstable, and such instability could also reduce supply and
increase cost. Speculative trading in coffee commodities can also influence coffee prices. Because of the significance of coffee beans
to our operations, combined with our ability to only partially mitigate future price risk through purchasing practices and hedging activities,
increases in the cost of high-quality coffee beans could have an adverse impact on our profitability, financial condition or results
of operations.
Maintaining
a steady supply of roasted coffee beans from our co-packing customers is essential to our co-packing arrangements, and securing an adequate
supply of green whole bean coffee is essential to our ability to manufacture NuZee and DRIPKIT branded products and to support the development
of private labels for our co-packing customers. We and certain of our co-packing customers rely upon relationships with key suppliers
to source coffee. If any of these supply relationships deteriorate or we or our co-packing customers are unable to renegotiate contracts
with suppliers (with similar or more favorable terms) or find alternative sources for supply, we or our co-packing customers may be unable
to procure a sufficient quantity of high-quality coffee beans at acceptable prices or at all. If we or our co-packing customers are not
able to purchase sufficient quantities of coffee due to any of the above factors or a worldwide or regional shortage, we may not be able
to fulfill the demand for our products or may suffer reduced demand for our co-packing services, which could have an adverse impact on
our business and financial results.
We
expect to continue to experience inflationary pressure on our cost structure, and price increases may not be sufficient to offset cost
increases or may result in sales volume declines.
Although
inflation in the United States had been relatively low for many years, there was a significant increase in inflation beginning in the
second half of 2021, which has continued into 2022. We expect for the foreseeable future to experience inflationary pressure on our cost
structure. We may be able to pass some or all raw materials, energy and other input cost increases to customers by increasing the selling
prices of our products or decreasing the size of our products; however, higher product prices or decreased product sizes may also result
in a reduction in sales volume and/or consumption. If we are not able to mitigate these inflationary pressures, such as by increasing
our selling prices or reducing product sizes sufficiently to offset increased raw material, energy or other input costs, including but
not limited to packaging, direct labor, overhead and employee benefits, or if our sales volume decreases significantly, there could be
a negative impact on our results of operations and financial condition.
We
may be unable to manage our future growth effectively, which could make it difficult to execute our business strategy.
While
we are currently a small company and, therefore, limited in our product development, marketing and sales activities, we anticipate continued
growth in our business operations commensurate with the expansion of our sales and support operations and distribution network and the
commercialization of our single serve coffee products. Any future growth could impose significant added responsibilities on members of
our existing management and create strain on our organizational, administrative, and operational infrastructure, including sales and
marketing, quality control, and customer service. Our ability to manage our growth properly will require us to continue to improve our
operational, financial and management controls, as well as our reporting systems and procedures, which in the past have been determined
to be inadequate. Our status as an exchange-listed public company will require us to increase our investment in financial accounting
and reporting. If our current infrastructure is unable to handle our growth, we may need to expand our infrastructure, to identify and
recruit new staff and to implement new reporting systems. The time and resources required to implement such expansion and systems could
adversely affect our operations. Our future financial performance and our ability to expand and market our single serve coffee products
and to compete effectively will depend, in part, on our ability to manage this potential future growth effectively, without compromising
quality.
Any
failure by us to accurately forecast customer demand for our products, or to quickly adjust to forecast changes, could adversely affect
our business and financial results.
There
is inherent risk in forecasting demand due to the uncertainties involved in assessing the current level of maturity of the single serve
component of our business. We set target levels for the manufacture of our single serve coffee products and for the purchase of coffee
in advance of customer orders based upon our forecasts of customer demand and those of our business partners. If our forecasts exceed
demand, we could experience excess inventory in the short-term, excess manufacturing capacity in the short and long-term, and/or price
decreases, all of which could impact our financial performance. Alternatively, if demand exceeds our forecasts significantly beyond our
current manufacturing capacity, we may not be able to satisfy customer demand, which could result in a loss of share if our competitors
are able to meet customer demands. A failure to accurately predict the level of demand for our products could adversely affect our net
revenues and net income.
We
may not be able to adequately protect our intellectual property rights, and our competitors may be able to offer similar products and
services, which would harm our competitive position.
Our
success depends in part upon our intellectual property rights. We rely primarily on trademark, trade secret laws, confidentiality procedures,
license agreements and contractual provisions to establish and protect our proprietary rights over our products, procedures and services.
Other persons could copy or otherwise obtain and use our intellectual properties without authorization or create intellectual properties
similar to ours independently. We may also pursue the registration of our domain names, trademarks and service marks in other jurisdictions,
including the United States. However, we cannot assure you that we will be able to protect our proprietary rights. Further, our competitors
may be able to independently develop similar intellectual property, duplicate our products and services or design around any intellectual
property rights we hold. Further, our intellectual property rights may be subject to termination or expirations. The loss of intellectual
property protections or the inability to timely regain intellectual property protections could harm our business and ability to compete.
We
may be subject to intellectual property infringement claims, which may be expensive to defend and may disrupt our business and operations.
We
cannot be certain that our operations or any aspects of our business do not or will not infringe upon or otherwise violate trademarks,
patents, copyrights, know-how or other intellectual property rights held by third parties. We may be from time to time subject to legal
proceedings and claims relating to the intellectual property rights of others.
There
may be third-party intellectual property that is infringed by our products, services or other aspects of our business. There could also
be existing patents or other intellectual property rights of which we are not aware that our products may inadvertently infringe. We
cannot assure you that holders of the relevant intellectual property rights purportedly relating to some aspect of our technology platform
or business, if any such holders exist, would not seek to enforce such intellectual property rights against us in the United States or
any other jurisdiction. We also cannot be certain that our efforts will be effective in completely preventing the infringement of trademarks,
patents, copyrights, know-how or other intellectual property rights held by third parties. If we are found to have violated the intellectual
property rights of others, we may be subject to liability for our infringement activities or may be prohibited from using such intellectual
property, and we may incur licensing fees or be forced to develop alternatives of our own. In addition, we may incur significant expenses,
and may be forced to divert management’s time and other resources from our business and operations to defend against these third-party
infringement claims, regardless of their merits. Successful infringement or licensing claims made against us may result in significant
monetary liabilities and may materially disrupt our business and operations by restricting or prohibiting our use of the intellectual
property in question.
Failure
to comply with applicable transfer pricing and similar regulations could harm our business and financial results.
In
many countries, including the United States, we are subject to transfer pricing and other tax regulations designed to ensure that appropriate
levels of income are reported as earned and are taxed accordingly. Although we believe that we are in substantial compliance with all
applicable regulations and restrictions, we are subject to the risk that governmental authorities could audit our transfer pricing and
related practices and assert that additional taxes are owed. In the event that the audits or assessments are concluded adversely to us,
we may or may not be able to offset or mitigate the consolidated effect of foreign income tax assessments through the use of U.S. foreign
tax credits. Because the laws and regulations governing U.S. foreign tax credits are complex and subject to periodic legislative amendment,
we cannot be sure that we would in fact be able to take advantage of any foreign tax credits in the future.
Our
business operations are conducted in multiple languages and could be disrupted due to miscommunications or translation errors.
The
success of our business depends in part on our marketing efforts in the United States and various countries in East Asia and Latin America,
each of which is conducted in the local language. Additionally, our operations often require that complex contracts, communications and
technical information be accurately translated into foreign languages. Miscommunications or inaccurate foreign language translations
could have a material adverse effect on our business operations and financial condition.
Significant
additional labeling or warning requirements or limitations on the availability of our products may inhibit sales of affected products.
Various
jurisdictions may seek to adopt significant additional product labeling (such as requiring labeling of products that contain genetically
modified organisms) or warning requirements or limitations on the availability of our products relating to the content or perceived adverse
health consequences of certain of our products. If these types of requirements become applicable to one or more of our major products
under current or future environmental or health laws or regulations, they may inhibit sales of such products. One such law, which is
in effect in California and is known as Proposition 65, requires that a warning appear on any product sold in California that contains
a substance that, in the view of the state, causes cancer or birth defects. The state maintains lists of these substances and periodically
adds other substances to these lists. Proposition 65 exposes all food and beverage producers to the possibility of having to provide
warnings on their products in California because it does not provide for any generally applicable quantitative threshold below which
the presence of a listed substance is exempt from the warning requirement. Consequently, the detection of even a trace amount of a listed
substance can subject an affected product to the requirement of a warning label. However, Proposition 65 does not require a warning if
the manufacturer of a product can demonstrate that the use of the product in question exposes consumers to a daily quantity of a listed
substance that is below a “safe harbor” threshold that may be established, is naturally occurring, is the result of necessary
cooking, or is subject to another applicable exception. While currently substances created by and inherent in the processes of roasting
coffee beans or brewing coffee have been determined by the State of California not to pose a significant risk, such chemicals could be
added to the Proposition 65 lists in the future. With respect to substances that have not yet been listed under Proposition 65, the Company
takes the position that listing is not scientifically justified. The State of California or other parties, however, may take a contrary
position. If we were required to add Proposition 65 warnings on the labels of one or more of our beverage products produced for sale
in California, the resulting consumer reaction to the warnings and possible adverse publicity could negatively affect our sales both
in California and in other marketplaces.
Risks
Related to Ownership of our Common Stock
The
market price of our stock may be volatile, and you could lose all or part of your investment.
The
trading price of our common stock is likely to be highly volatile and subject to wide fluctuations in response to various factors, some
of which we cannot control. In addition to the factors discussed in this “Risk Factors” section and elsewhere in this Report,
these factors include but are not limited to:
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the
success of, or developments in, competitive products, services or technologies; |
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regulatory
actions with respect to our products and our competitors; |
|
● |
the
level of success of our marketing strategy; |
|
● |
our
ability to obtain top-grade packing equipment for single serve coffee production; |
|
● |
announcements
by us or our competitors of significant acquisitions, strategic collaborations, joint ventures or capital commitments; |
|
● |
regulatory
or legal developments in the United States and other countries; |
|
● |
recruitment
or departure of key personnel; |
|
● |
expenses
related to any of our development programs and our business in general; |
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● |
actual
or anticipated changes in financial estimates, development timelines or recommendations by securities analysts; |
|
● |
failure
to meet or exceed financial estimates and projections of the investment community or that we provide to the public; |
|
● |
variations
in our financial results or those of companies that are perceived to be similar to us; |
|
● |
fluctuations
in the valuation of companies perceived by investors to be comparable to us; |
|
● |
share
price and volume fluctuations attributable to inconsistent trading volume levels of our shares; |
|
● |
our
ability or failure to raise additional capital in equity or debt transactions; |
|
● |
costs
associated with our sales and marketing initiatives; |
|
● |
costs
and timing of obtaining and maintaining FDA and other regulatory clearances and approvals for our products; |
|
● |
sales
of our common stock by us, our insiders or our other stockholders; and |
|
● |
general
economic, business, industry, market and political conditions, including prevailing interest rates and the rate of inflation. |
In
addition, the stock market in general has in the past experienced extreme price and volume fluctuations that have often been unrelated
or disproportionate to the operating performance of the relevant companies. Broad market and industry factors may negatively affect the
market price of our common stock, regardless of our actual operating performance. The realization of any of the above risks or any of
a broad range of other risks, including those described in this “Risk Factors” section, could have a dramatic and material
adverse impact on the market price of our common stock.
Despite
our listing on the Nasdaq Capital Market, there can be no assurance that an active trading market for our common stock will be sustained.
In
June 2020, our common stock commenced trading on the Nasdaq Capital Market under the symbol “NUZE.” Although our common stock
is listed on the Nasdaq Capital Market, an active trading market for our shares may never be sustained. You may not be able to sell your
shares quickly or at the market price if trading in shares of our securities is not active. Further, an inactive market may also impair
our ability to raise capital by selling shares of our securities and may impair our ability to enter into strategic partnerships or acquire
companies or products by using shares of our securities as consideration, which could have a material adverse effect on our business,
financial condition, and results of operations.
If
we fail to regain compliance with the requirements for continued listing on the Nasdaq Capital Market, our common stock could be delisted
from trading, which would adversely affect the liquidity of our common stock and our ability to raise additional capital.
On
September 20, 2022, Nasdaq notified us that, for 30 consecutive business days, the bid price for our common stock had closed below the
minimum $1.00 per share requirement for continued inclusion on the Nasdaq Capital Market pursuant to Nasdaq Listing Rule 5550(a)(2) (the
“Bid Price Rule”). In accordance with Nasdaq Listing Rule 5810(c)(3)(A), we were provided an initial period of 180 calendar
days, or until March 20, 2023, to regain compliance with the Bid Price Rule. If we do not regain compliance by March 20, 2023, then Nasdaq
may grant us a second 180 calendar day period to regain compliance, provided we meet the other initial listing standards for the Nasdaq
Capital Market, with the exception of the Bid Price Rule, and provide written notice of our intention to cure the deficiency during the
second compliance period. In order to regain compliance, the bid price of our common stock must close at a price of at least $1.00 per
share for a minimum of 10 consecutive trading days. If we do not comply with the Bid Price Rule within the allotted compliance periods,
including any extensions granted by the Nasdaq Capital Market, then Nasdaq will provide notice to us that our common stock will be delisted.
We would then be entitled to appeal that determination to a Nasdaq hearings panel. There can be no assurance that we will regain compliance
with the Bid Price Rule during the initial 180-day compliance period or, if necessary, secure a second period of 180 days to regain compliance
with the Nasdaq Capital Market listing requirements.
As
of the date of this Report, we have not yet regained compliance with the Bid Price Rule. However, on December 9, 2022, at a Special Meeting
of Stockholders, our stockholders approved a proposal granting the Board discretionary authority to file the Certificate of Amendment
to effect the 2022 Reverse Stock Split. The 2022 Reverse Stock Split would decrease the total number of shares of our common stock outstanding
and should, absent other factors, proportionately increase the market price of our common stock, which would be above $1.00 per share.
Therefore, the Board believes that the 2022 Reverse Stock Split is an effective means for us to regain compliance with the Bid Price
Rule. The Board intends to effect the 2022 Reverse Stock Split as soon as practicable.
Delisting
from the Nasdaq Capital Market as a result of our failure to regain compliance with the Bid Price Rule or otherwise could adversely affect
our ability to raise additional financing through the public or private sale of equity securities, and would significantly affect the
ability of investors to trade our securities and negatively affect the value and liquidity of our common stock. Delisting could also
have other negative results, including the potential loss of confidence by employees and the loss of institutional investor interest.
Even
if we regain compliance with the Bid Price Rule, the Nasdaq Capital Market may subsequently delist our common stock if we fail to comply
with ongoing listing standards going forward.
The
Nasdaq Capital Market’s rules for listed companies requires us to meet certain financial, public float, bid price and liquidity
standards on an ongoing basis in order to continue the listing of our common stock. In addition to specific listing and maintenance standards,
the Nasdaq Capital Market has broad discretionary authority over the continued listing of securities, which it could exercise with respect
to the listing of our common stock.
As
a listed company, we are required to meet the continued listing requirements applicable to all Nasdaq Capital Market companies. In addition
to the Bid Price Rule previously described, Nasdaq Capital Market listing rules require us to maintain
a minimum stockholders’ equity of $2.5 million under Nasdaq Listing Rule 5550(b)(1), a minimum market value of listed securities
of $35 million under Nasdaq Listing Rule 5550(b)(2), or a minimum net income of $500,000 under Nasdaq Listing Rule 5550(b)(3).
If we fail to meet one of those standards or any other Nasdaq Capital Market continued listing requirement, our common stock may be subject
to delisting, as applied by Nasdaq in its discretion. We intend to take all commercially reasonable actions to maintain our Nasdaq Capital
Market listing. If our common stock is delisted in the future, it is not likely that we will be able to list our common stock on another
national securities exchange on a timely basis or at all and, as a result, we expect our securities would be quoted on an over-the-counter
market; however, if this were to occur, our stockholders could face significant material adverse consequences, including limited availability
of market quotations for our common stock and reduced liquidity for the trading of our securities. In addition, in the event of such
delisting, we could experience a decreased ability to issue additional securities and obtain additional financing in the future.
The
Board intends to effect the 2022 Reverse Stock Split as soon as practicable in order to regain compliance with Nasdaq Capital Market
listing rules. We cannot predict the effect that the 2022 Reverse Stock Split will have on the market price for shares of our common
stock.
The
Board intends to effect the 2022 Reverse Stock Split as soon as practicable in order to regain compliance with Nasdaq Capital Market
listing rules, but there can be no assurance that the 2022 Reverse Stock Split will be effected in a timely manner or at all. Even if
we regain compliance with the Bid Price Rule by effecting the 2022 Reverse Stock Split, we may in the future be required to complete
one or more additional reverse stock splits in order to regain compliance with Nasdaq listing requirements. We cannot predict the effect
that the 2022 Reverse Stock Split or any future reverse stock split will have on the market price for shares of our common stock, and
the history of similar reverse stock splits for companies in like circumstances has varied. Some investors may have a negative view of
a reverse stock split. Even if the 2022 Reverse Stock Split or any future reverse stock split has a positive effect on the market price
for shares of our common stock, performance of our business and financial results, general economic conditions and the market perception
of our business, and other adverse factors which may not be in our control could lead to a decrease in the price of our common stock
following such reverse stock split.
Furthermore,
even if the 2022 Reverse Stock Split or any future reverse stock split does result in an increased market price per share of our common
stock, the market price per share following such reverse stock split may not increase in proportion to the reduction of the number of
shares of our common stock outstanding before the implementation of such reverse stock split. Accordingly, even with an increased market
price per share, the total market capitalization of shares of our common stock after such reverse stock split could be lower than the
total market capitalization before such reverse stock split. Also, even if there is an initial increase in the market price per share
of our common stock after such reverse stock split, the market price may not remain at that level.
If
the market price of shares of our common stock declines following the 2022 Reverse Stock Split or any other reverse stock split, the
percentage decline as an absolute number and as a percentage of our overall market capitalization may be greater than would occur in
the absence of such reverse stock split due to decreased liquidity in the market for our common stock. Accordingly, the total market
capitalization of our common stock following such reverse stock split could be lower than the total market capitalization before such
reverse stock split.
Our
stockholders will experience dilution if we issue additional equity securities in future financing transactions.
If
we issue additional common stock, or securities convertible into or exchangeable or exercisable for common stock, our stockholders may
experience additional dilution, and any such issuances may result in downward pressure on the price of our common stock. Further, investors
purchasing shares or other securities in the future could have rights superior to existing stockholders.
A
significant portion of our total outstanding shares of common stock are eligible to be sold into the market in the near future, including
pursuant to Rule 144, which could cause the market price of our common stock to drop significantly, even if our business is doing well.
Sales
of a substantial number of shares of our common stock in the public market could occur at any time. These sales, or the perception in
the market that the holders of a large number of shares intend to sell shares, could reduce the market price of our common stock. We
have also registered all shares of common stock that are reserved for issuance under the NuZee, Inc. 2019 Stock Incentive Plan and all
shares of common stock currently reserved for issuance under the NuZee, Inc. 2013 Stock Incentive Plan. As a result, these shares can
be freely sold in the public market upon issuance, subject to volume limitations applicable to affiliates and the lock-up agreements
described in our filings with the SEC. A sale under Rule 144 or under any other exemption from the Securities Act, if available, or pursuant
to subsequent registrations of our shares of common stock, may have a depressive effect upon the price of our shares of common stock
in any active market that may develop. We believe that a significant portion of our total outstanding shares of common stock may be sold
in the public market without restriction by non-affiliates pursuant to Rule 144.
Our
principal stockholder and management, including our Chief Executive Officer in particular, own a significant percentage of our stock
and will be able to exert significant control over matters subject to stockholder approval.
As
of December 23, 2022, our executive officers and directors beneficially owned approximately 28% of our voting stock. Our Chief Executive
Officer, President and Chairman of the Board individually beneficially owns approximately 22% of our voting stock. This concentration
of control creates a number of risks. Our executive officers and directors, along with other holders of 5% or more of our capital stock
and their respective affiliates, have the ability to exert significant influence over us through this ownership position. These stockholders
may be able to exert significant influence over all matters requiring stockholder approval, including with respect to elections of directors,
amendments of our organizational documents, or approval of any merger, sale of assets or other major corporate transaction, and our stockholders
may find it difficult to replace members of management should our stockholders disagree with the manner in which the Company is operated.
Furthermore, this concentration of ownership may prevent or discourage unsolicited acquisition proposals or offers for our common stock
that you may feel are in your best interest as one of our stockholders. The interests of this group of stockholders may not always coincide
with your interests or the interests of other stockholders and they may act in a manner that advances their best interests and not necessarily
those of other stockholders.
We
incur significant costs as a result of operating as a public company, and our management must devote substantial time to compliance initiatives
as a result of the listing of our common stock on the Nasdaq Capital Market.
As
a listed company, we are required to meet the continued listing requirements applicable to all NASDAQ Capital Market companies. We expect
our ongoing compliance with such rules and regulations to substantially increase our legal and financial compliance costs and to make
some activities more time-consuming and costly. These requirements may divert the attention of our management and personnel from other
business concerns, and they could have a material adverse effect on our business, financial condition, and results of operations. The
increased costs will decrease our net income or increase our net loss, and may require us to reduce costs in other areas of our business
or increase the prices of our products or services. For example, these rules and regulations may make it more difficult and more expensive
for us to obtain director and officer liability insurance and we may be required to incur substantial costs to maintain the same or similar
coverage. We cannot accurately predict or estimate the amount or timing of additional costs we may incur to respond to these requirements.
The impact of these requirements could also make it more difficult for us to attract and retain qualified persons to serve on our Board,
our Board committees or as executive officers.
We
expect to incur significant costs and devote substantial management time to maintaining our disclosure controls and procedures and internal
control over financial reporting, and regardless we may be unable to prevent or detect all errors or acts of fraud or to accurately and
timely report our financial results or file our periodic reports in a timely manner.
As
a publicly traded company, our management is required to report annually on the effectiveness of our internal control over financial
reporting pursuant to Section 404 of the Sarbanes-Oxley Act, or Section 404. The rules governing the standards that must be met for our
management to assess our internal control over financial reporting are complex and require significant documentation, testing and possible
remediation.
We
designed our disclosure controls and procedures to reasonably assure that information we must disclose in reports we file or submit under
the Exchange Act is accumulated and communicated to management, and recorded, processed, summarized and reported within the time periods
specified in the rules and forms of the SEC. We believe that any disclosure controls and procedures or internal controls and procedures,
no matter how well-conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system
are met.
These
inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of
simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more
people or by an unauthorized override of the controls.
Because
of the inherent limitations in our control system, misstatements due to error or fraud may occur and not be detected. We cannot assure
you that the measures we have taken will be effective in mitigating or preventing significant deficiencies or material weaknesses in
our internal control over financial reporting in the future.
If
we fail to maintain effective internal control over financial reporting to meet the demands that are placed upon us as a public company,
including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results, or to report them
within the timeframes required by law or exchange regulations.
Additionally,
we have engaged only a very limited number of accounting and finance personnel and we rely in part on outside consultants. We may need
to incur additional expenses to hire additional personnel with public company financial reporting expertise to build our financial management
and reporting infrastructure, and further develop and document our accounting policies and financial reporting procedures. In the event
we need to hire additional personnel with public company financial reporting expertise but we are unable to do so, we may not be able
to accurately report our financial results or file our periodic reports in a timely manner, which may cause investors to lose confidence
in our reported financial information and may lead to a decline in our stock price.
If
we are unable to maintain an effective system of internal control over financial reporting, we may not be able to accurately report our
financial results, timely file our periodic reports, maintain our reporting status or prevent fraud.
Under
standards established by the Public Company Accounting Oversight Board, a material weakness is a deficiency, or combination of deficiencies,
in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our annual or
interim financial statements will not be prevented, detected or corrected on a timely basis.
If
material weaknesses or significant deficiencies in our internal control over financial reporting are discovered or occur in the future,
then there exists a risk that our consolidated financial statements may contain material misstatements that are unknown to us at that
time, and such misstatements could require us to restate our financial results. The existence of a material weakness in our internal
control over financial reporting may result in current and potential stockholders losing confidence in our financial reporting, which
could negatively impact the market price of our common stock.
In
addition, the existence of any material weaknesses in our internal control over financial reporting may affect our ability to timely
file periodic reports under the Exchange Act and may consequently result in the SEC revoking the registration of our common stock, or
the delisting of our common stock. Any of these events, if they were to occur, could have a material adverse effect on the market price
of our common stock or on our business, financial condition and results of operations.
Anti-takeover
provisions in our third amended and restated bylaws and Nevada law might discourage, delay or prevent a change of control of our company
or changes in our management and, therefore, depress the trading price of our securities.
Our
third amended and restated bylaws contain provisions that could have the effect of rendering more difficult or discouraging an acquisition
deemed undesirable by our Board. Our third amended and restated bylaws include provisions:
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limiting
the liability of, and providing indemnification to, our directors, including provisions that require the Company to advance payment
for defending pending or threatened claims; |
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controlling
the procedures for the conduct and scheduling of board and stockholder meetings; and |
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limiting
the number of directors on our board and the filling of vacancies or newly created seats on the board to our Board then in office. |
In
addition, we are subject to anti-takeover laws for Nevada corporations. These anti-takeover laws prevent Nevada corporations from engaging
in a business combination with any shareholder, including all affiliates and associates of the shareholder, who is the beneficial owner
of 10% or more of the corporation’s outstanding voting stock, for two years following the date that the shareholder first became
the beneficial owner of 10% or more of the corporation’s voting stock, unless specified conditions are met. If those conditions
are not met, then after the expiration of the two-year period the corporation may not engage in a business combination with such shareholder
unless certain other conditions are met.
These
provisions, alone or together, could delay hostile takeovers and changes in control or changes in our management. The existence of the
foregoing provisions could limit the price that investors might be willing to pay in the future for shares of our common stock. They
could also deter potential acquirers of our company, thereby reducing the likelihood that our stockholders could receive a premium for
their common stock in an acquisition.
We
have never paid dividends on our capital stock and we do not anticipate paying any dividends in the foreseeable future. Consequently,
any profits from an investment in our common stock will depend on whether the price of our common stock increases.
We
have not paid dividends on any of our classes of capital stock to date and we currently intend to retain our future earnings, if any,
to fund the development and growth of our business. As a result, capital appreciation, if any, of our common stock will be our stockholders’
sole source of gain for the foreseeable future.
Claims
for indemnification by our directors and officers may reduce our available funds to satisfy successful third-party claims against us
and may reduce the amount of money available to us.
Our
third amended and restated bylaws provide that we will indemnify our directors and officers, in each case to the fullest extent permitted
by Nevada law. In addition, our third amended and restated bylaws and our indemnification agreements that we have entered into with our
directors and officers provide for the following:
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We
will indemnify our directors and officers for serving us in those capacities or for serving other business enterprises at our request,
to the fullest extent permitted by Nevada law. Nevada law provides that a corporation may indemnify such person if such person acted
in good faith and in a manner such person reasonably believed to be in or not opposed to the best interests of the registrant and,
with respect to any criminal proceeding, had no reasonable cause to believe such person’s conduct was unlawful. |
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We
will also indemnify employees and agents in those circumstances where indemnification is permitted by applicable law. |
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We
are required to advance expenses, as incurred, to any indemnitee in connection with defending a proceeding, except that such indemnitee
shall undertake to repay such advances if it is ultimately determined that such person is not entitled to indemnification. |
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The
rights conferred in our third amended and restated bylaws are not exclusive, and we are authorized to enter into indemnification
agreements with our directors, officers, employees and agents and to obtain insurance to indemnify such persons. |
General
Risk Factors
Product
safety and quality concerns could negatively affect our business.
Our
success depends in part on our ability to maintain consumer confidence in the safety and quality of all of our products. While we are
committed to the safety and quality of our products, we may not achieve our product safety and quality standards. Product safety or quality
issues, or mislabeling, actual or perceived, or allegations of product contamination or quality or safety issues, even when false or
unfounded, could subject us to product liability and consumer claims, negative publicity, a loss of consumer confidence and trust, may
require us from time to time to conduct costly recalls from some or all of the channels in which the affected product was distributed,
could damage the goodwill associated with our brands, and may cause consumers to choose other products. Such issues could result in the
destruction of product inventory and lost sales due to the unavailability of product for a period of time, which could cause our business
to suffer and affect our results of operations.
If
equity research analysts do not publish research or reports about our business or if they issue unfavorable commentary or downgrade our
common stock, the price of our common stock could decline.
The
trading market for our common stock will rely in part on the research and reports that equity research analysts publish about us and
our business. We do not control these analysts. The price of our common stock could decline if one or more equity analysts downgrade
our common stock or if analysts issue other unfavorable commentary or cease publishing reports about us or our business.
We
may be subject to securities litigation, which is expensive and could divert management attention.
The
market price of our common stock has been, and may in the future be, volatile. In the past, companies that have experienced volatility
in the market price of their stock have been subject to securities litigation, including but not limited to securities class action litigation.
We may be the target of this type of litigation in the future. Securities litigation against us could result in substantial costs and
divert our management’s attention from other business concerns, which could have a material adverse effect on our business and
financial condition.
If
we are unable to protect our information systems against service interruption or failure, misappropriation of data or breaches of security,
our operations could be disrupted, we could be subject to costly government enforcement actions and private litigation and our reputation
may be damaged.
Our
businesses involve the collection, storage and transmission of personal, financial or other information that is entrusted to us by our
customers and employees. Our information systems also contain the Company’s proprietary and other confidential information related
to our businesses. Despite the implementation of network security measures, our systems and those of third parties on which we rely may
also be susceptible to damage, disruptions or shutdowns due to failures during the process of upgrading or replacing software, databases
or components; power outages; telecommunications or system failures; server or cloud provider breaches; computer viruses; physical or
electronic break-ins; cyber-attacks; catastrophic events; or breaches due to employee error or malfeasance or other attempts to harm
our systems. Cybersecurity threats and incidents can range from uncoordinated individual attempts to gain unauthorized access to information
technology networks and systems to more sophisticated and targeted measures, known as advanced persistent threats, directed at the Company,
its products, its customers and/or its third-party service providers. Because the techniques used to obtain unauthorized access, disable
or degrade service, or sabotage systems change frequently and often are not recognized until launched against a target, we may be unable
to anticipate these techniques or to implement adequate preventative measures in time. We could also experience a loss of critical data
and delays or interruptions in our ability to manage inventories or process transactions. Some of our commercial partners, such as those
that help us deliver our website, may receive or store information provided by us or our users through our websites. If these third parties
fail to adopt or adhere to adequate information security practices, or fail to comply with our online policies, or in the event of a
breach of their networks, our users’ data may be improperly accessed, used or disclosed.
If
our systems are harmed or fail to function properly, we may need to expend significant financial resources to repair or replace systems
or to otherwise protect against security breaches or to address problems caused by breaches. If we experience a significant security
breach or fail to detect and appropriately respond to a significant security breach, we could be exposed to costly legal or regulatory
actions against us in connection with such incidents, which could result in orders or consent decrees forcing us to modify our business
practices. Any incidents involving unauthorized access to or improper use of user information, or incidents that are a violation of our
online privacy policy, could harm our brand reputation and diminish our competitive position. Any of these events could have a material
and adverse effect on our business, reputation or financial results. Our insurance policies carry coverage limits, which may not be adequate
to reimburse us for losses caused by security breaches.
Changes
in regulatory standards could adversely affect our business.
Our
business is subject to extensive domestic and international regulatory requirements regarding distribution, production, labeling and
marketing. Changes to regulation of the beverage industry could include increased limitations on advertising and promotional activities
or other non-tariff measures that could adversely impact our business. In addition, we face government regulations pertaining to the
health and safety of our employees and our consumers as well as regulations addressing the impact of our business on the environment,
domestically as well as internationally. Compliance with these health, safety and environmental regulations may require us to alter our
manufacturing processes and our sourcing. Such actions could adversely impact our results of operations, cash flows and financial condition,
and our inability to effectively and timely comply with such regulations could adversely impact our competitive position.
Employment
litigation and unfavorable publicity could negatively affect our future business.
Employees
may, from time to time, bring lawsuits against us regarding injury, creation of a hostile work place, discrimination, wage and hour,
sexual harassment and other employment issues. In recent years there has been an increase in the number of discrimination and harassment
claims generally. Coupled with the expansion of social media platforms and similar devices that allow individuals access to a broad audience,
these claims have had a significant negative impact on some businesses. Companies that have faced employment or harassment related lawsuits
have had to terminate management or other key personnel and have suffered reputational harm that has negatively impacted their sales.
If we were to face any employment related claims, our business could be negatively affected.
Future
changes in financial accounting standards or practices may cause adverse unexpected financial reporting fluctuations and affect reported
results of operations.
A
change in accounting standards or practices can have a significant effect on our reported results and may even affect our reporting of
transactions completed before the change is effective. New accounting pronouncements and varying interpretations of accounting pronouncements
have occurred and may occur in the future. Changes to existing rules or the questioning of current practices may adversely affect our
reported financial results or the way we conduct business.
Currently
pending, threatened or future litigation or governmental or regulatory proceedings or inquiries could result in material adverse consequences,
including judgments or settlements.
We
are, or may from time to time become, involved in lawsuits and other legal, governmental or regulatory proceedings or inquiries. See
“Item 3. Legal Proceedings” included in this Annual Report for information regarding currently pending litigation that could
have a material impact on the Company. Many of these matters raise complicated factual and legal issues and are subject to uncertainties
and complexities, all of which make the matters costly to address. The timing of the final resolutions to any such lawsuits, inquiries,
and other legal proceedings is uncertain.
Additionally,
the possible outcomes or resolutions to these matters could include adverse judgments or settlements, either of which could require substantial
payments, adversely affecting our consolidated financial condition, results of operations and cash flows. Any judgment against us, the
entry into any settlement agreement, or the imposition of any fine could have a material adverse effect on our consolidated financial
condition, results of operations and cash flows.
Future
acquisitions of and investments in new businesses could impact our business and financial condition.
From
time to time, we may acquire or invest in businesses or partnerships that we believe could complement our business. The pursuit of such
acquisitions or investments may divert the attention of management and cause us to incur various expenses, regardless of whether the
acquisition or investment is ultimately completed. In addition, acquisitions and investments may not perform as expected and we may be
unable to realize the expected benefits, synergies, or developments that we may initially anticipate. Further, if we are able to successfully
identify and acquire additional businesses, we may not be able to successfully integrate the acquired personnel or operations, or effectively
manage the combined business following the acquisition, any of which could harm our business and financial condition.
In
addition, to the extent we finance any acquisition or investment in cash, it would reduce our cash reserves, and to the extent the purchase
price is paid with shares of our common stock, it could be dilutive to our current stockholders.
ITEM
1B. UNRESOLVED STAFF COMMENTS
Not
applicable.
ITEM
2. PROPERTIES
Our
principal executive office is located at 1350 East Arapaho Road, Suite #230, Richardson, Texas 75081. We lease the Richardson office
on an annual basis, at a cost of $1,510 per month, through November 30, 2023.
We
currently lease manufacturing facilities in Vista, California and Seoul, Korea to produce our single serve pour over or coffee brew bag
coffee products. Our manufacturing and sales office in Vista, California has a total monthly lease expense of approximately $11,000,
plus common area expenses, and expires on March 31, 2025. We also sublease property in Vista, California, through January 31, 2023 with
a monthly lease expense of $2,111. Our manufacturing and sales office in Seoul, Korea has a monthly lease expense of $7,040, and expires
on November 15, 2023.
We
presently have the annual capacity to produce up to 150 million single serve coffee products (pour over or coffee brew bags) at our two
manufacturing facilities, which we believe is sufficient to meet our current and anticipated manufacturing requirements. We have analyzed
our current facilities considering our anticipated requirements, and we expect to continue to optimize our manufacturing facilities to
meet our future needs.
ITEM
3. LEGAL PROCEEDINGS
As
previously disclosed, on November 23, 2021, Next Vision, Inc. (the “Consultant”) filed a complaint against the Company in
the Superior Court of California, County of San Diego Central Division (Case No. 37-2021-00049557-CU-BC-CTL). The Complaint alleges that
the Company’s delay in issuing shares of the Company’s common stock (the “Shares”) to the Consultant after receiving
due notice from the Consultant of its intent to exercise vested stock options to acquire 70,000 Shares, as initially granted in 2018
(or, as adjusted to account for the Company’s reverse stock split effected on November 12, 2019, vested stock options to acquire
23,334 Shares) (the “Options”), which had previously been issued to the Consultant as compensation for consulting services
provided in 2018, breached express and implied contractual obligations to the Consultant and resulted in the Company reporting an overstated
amount of income on the IRS Form 1099-B that was issued to the Consultant for U.S. federal tax purposes. In addition, the Complaint alleges
that the 23,334 Shares issued to the Consultant upon exercise of the Options improperly contained a six-month restriction on resale and
that such restriction prevented the Consultant from selling the Shares at the desired time. The Complaint seeks compensatory damages,
including to recover for alleged lost profits due to the alleged improper six-month restriction on resale for the Shares, as well as
punitive damages, costs of suit, attorney’s fees and interest.
On
January 20, 2022, the Company filed its general denial and answer in which it raised affirmative defenses and disputed the claims contained
in the Complaint. On November 29, 2022, the parties engaged in Court-ordered mediation but did not resolve the matter. The Court has
set a trial date for August 11, 2023.
We
believe the allegations set forth in the Complaint are without merit and intend to defend vigorously against the allegations. However,
the Company is not able to predict the outcome, and there is no assurance that the Company will be successful in its defense.
From
time to time, we may be subject to other legal proceedings and claims in the ordinary course of business. The results of any future litigation
cannot be predicted with certainty, and regardless of the outcome, litigation can have an adverse impact on us because of defense and
settlement costs, diversion of management resources, and other factors.
ITEM
4. MINE SAFETY DISCLOSURES
None.
Notes
to Consolidated Financial Statements
September
30, 2022
1.
ORGANIZATION
NuZee,
Inc. (the “Company”, “we”, “our”, “us’) was incorporated on November 9, 2011, in
Nevada. The Company is a specialty coffee company and is a leading co-packer of single serve pour over coffee in the United States,
as well as a preeminent co-packer of coffee brew bags, which is also referred to as tea-bag style coffee. The Company is a
commercial-scale producer that has the dual capability to pack both single serve pour over coffee and coffee brew bags within the
North American market including a third type of single serve coffee format, DRIPKIT pour over products, as a result of our
acquisition of substantially all of the assets of Dripkit, Inc. (“Dripkit”). While the United States is the
Company’s core market, it also has single serve pour over coffee manufacturing and sales operations in Korea and a joint
venture in Latin America. The Company has also developed and sells NuZee branded single serve coffee products, including its
flagship Coffee Blenders line of both single serve pour over coffee and coffee brew bags.
The
Company has two wholly owned international subsidiaries in NuZee KOREA Ltd. (“NuZee KR”) and NuZee Investment Co., Ltd. (“NuZee
INV”).
2.
BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The
summary of significant accounting policies presented below is designed to assist in understanding the Company’s financial statements.
Such financial statements and accompanying notes are the representations of the Company’s management, who are responsible for their
integrity and objectivity. These accounting policies conform to accounting principles generally accepted in the United States of America
(“GAAP”) in all material respects and have been consistently applied in preparing the accompanying financial statements.
Certain
amounts in the prior period financial statements have been reclassified to conform to the presentation of the current period
financial statements. The Company reclassified a write off of deferred financing costs related to the termination of an ATM sales
agreement, and lease expenses associated with subleased property from Operating expenses to Other expenses totaling, $477,605
and $160,489,
respectively, for the year ended September 30, 2021. The Company also reclassified $18,000
of capitalized software costs included in Property and Equipment, net at September 30, 2021 to Prepaid expenses and other current
assets. These reclassifications had no effect on the previously reported net loss.
Principles
of Consolidation
The
Company prepares its financial statements on the accrual basis of accounting. The accompanying consolidated financial statements include
the accounts of the Company and its wholly owned subsidiaries. All significant intercompany accounts, balances and transactions have
been eliminated upon consolidation.
The
Company consolidates NuZee KR and NuZee INV in accordance with ASC 810, and specifically ASC 810-10-15-8 which states, the usual condition
for a controlling financial interest is ownership of a majority voting interest, and, therefore, as a general rule ownership by one reporting
entity, directly or indirectly, of over 50% of the outstanding voting shares of another entity is a condition pointing toward consolidation.
On
February 25, 2022 (the “Closing Date”), the Company acquired substantially all the assets and certain specified liabilities
(the “Acquisition”) of Dripkit, Inc., a Delaware corporation (“Dripkit”), pursuant to the Asset Purchase Agreement,
dated as of February 21, 2022 (the “Asset Purchase Agreement”), by and among the Company, Dripkit, and Dripkit’s existing
investors (the “Stock Recipients”) who executed joinders to the Asset Purchase Agreement as of the Closing Date. Pursuant
to the terms of the Asset Purchase Agreement, the aggregate purchase price paid by the Company for the Acquisition was $860,000, consisting
of cash paid by the Company to Dripkit and the Company’s issuance to the Stock Recipients of an aggregate of 197,156 shares of
the Company’s common stock (including the 18,475 shares of common stock issued to the Stock Recipients on April 25, 2022, in connection
with the stock bulk sales holdback amount, as further described below), plus the assumption of certain assumed liabilities, subject to
certain adjustments and holdbacks as provided in the Asset Purchase Agreement. Dripkit is engaged in the business of manufacturing and
sales of a single serve pour over coffee format that has a large-size single serve pour over pack that sits on top of the cup. Dripkit
operates as a new Dripkit Coffee business division that is wholly owned by NuZee, Inc. The Company analyzed the Acquisition under ASC
805 and concluded that it should be accounted for as a business combination. The Acquisition has been included in the Company’s
financial statements from the date of the Acquisition.
Earnings
per Share
Basic
earnings per common share is equal to net earnings or loss divided by the weighted average of shares outstanding during the reporting
period. Diluted earnings per share reflects the potential dilution that could occur if stock options, warrants and other commitments
to issue common stock were exercised or equity awards vest resulting in the issuance of common stock that could share in the earnings
of the Company. As of September 30, 2022 and September 30, 2021, the total number of common stock equivalents was 9,307,921 and 9,343,606,
respectively, and composed of stock options and warrants. The Company incurred a net loss for the years ended September 30, 2022 and
2021, respectively and therefore, basic and diluted earnings per share for those periods are the same because all potential common equivalent
shares would be antidilutive.
Going
Concern and Capital Resources
Since
its inception, the Company has devoted substantially all of its efforts to business planning, research and development, recruiting
management and technical staff, acquiring operating assets, raising capital and the commercialization and manufacture of its single serve coffee products. The Company has grown revenues from its principal
operations; however, there is no assurance of future revenue growth similar to historical levels. As of September 30, 2022, the
Company had cash of $8,315,053 and working
capital of $8,556,141. However,
the Company has not attained profitable operations since inception. The accompanying consolidated financial statements have been
prepared in accordance with GAAP, which contemplates
continuation of the Company as a going concern. The Company has had limited revenues, recurring losses and an accumulated deficit.
These items raise substantial doubt as to the Company’s ability to continue as a going concern. The accompanying consolidated
financial statements do not include any adjustments that might result from the outcome of this uncertainty. The Company’s
continued existence is dependent upon management’s ability to develop profitable operations and to raise additional capital for the further development and marketing of the
Company’s products and business.
Use
of Estimates
In
preparing these consolidated financial statements, management is required to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and
the reported amount of revenues and expenses during the reporting periods. Actual results could differ from those estimates.
Fair
Value of Financial Instruments
Fair
value is an estimate of the exit price, representing the amount that would be received to sell an asset or paid to transfer a liability
in an orderly transaction between market participants (i.e., the exit price at the measurement date). Fair value measurements are not
adjusted for transaction cost. Fair value measurement under generally accepted accounting principles provides for use of a fair value
hierarchy that prioritizes inputs to valuation techniques used to measure fair value into three levels:
Level
1: Unadjusted quoted prices in active markets for identical assets or liabilities.
Level
2: Inputs other than quoted market prices that are observable, either directly or indirectly, and reasonably available. Observable inputs
reflect the assumptions market participants would use in pricing the asset or liability and are developed based on market data obtained
from sources independent of the Company.
Level
3: Unobservable inputs reflect the assumptions that the Company develops based on available information about what market participants
would use in valuing the asset or liability.
The
Company does not have any assets or liabilities that are required to be measured and recorded at fair value on a recurring basis.
The
carrying amounts of cash, accounts receivable, accounts payable, accrued liabilities and short-term debt approximate fair value because
of the short-term nature of these instruments. The carrying amount of long-term debt approximates fair value because the debt is based
on current rates at which the Company could borrow funds with similar remaining maturities. Fair value estimates are made at a specific
point in time, based on relevant market information about the financial instruments when available. These estimates are subjective in
nature and involve uncertainties and matters of significant judgment and therefore, cannot be determined with precision. Changes in assumptions
could significantly affect the estimates.
Cash
and Cash Equivalents
The
Company considers all highly liquid investments with original maturities of three months or less when purchased to be cash equivalents.
The Company had no cash equivalents as of September 30, 2022 and 2021.
Concentration
of Credit Risk
Financial
instruments that potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents. The
Company places its cash with high quality banking institutions. From time to time, the Company may or may not maintain cash balances
at certain institutions in excess of the Federal Deposit Insurance Corporation limit.
Accounts
Receivable
Trade
accounts receivable are periodically evaluated for collectability based on past credit history with customers and their current financial
condition. Bad debts expense or write offs of receivables are determined on the basis of loss experience, known and inherent risks in
the receivable portfolio and current economic conditions. The Company had $6,862 of allowance for doubtful accounts as of September 30,
2022 and no allowance for doubtful accounts as of September 30, 2021.
Major
Customers
For
the years ended September 30, 2022 and 2021, the Company’s largest single source of revenue was from one major customer disclosed
below.
SCHEDULE OF REVENUE BY MAJOR CUSTOMERS
For
the year ended September 30, 2022:
Customer Name | |
Sales Amount | | |
% of Total Revenue | | |
Accounts Receivable Amount | | |
% of Total Accounts Receivable | |
Customer WP | |
$ | 882,392 | | |
| 28 | % | |
$ | 95,351 | | |
| 28 | % |
For
the year ended September 30, 2021:
Customer
Name |
|
Sales
Amount |
|
|
%
of Total
Revenue |
|
|
Accounts
Receivable
Amount |
|
|
%
of Total
Accounts
Receivable |
|
Customer
WP |
|
$ |
611,412 |
|
|
|
32 |
% |
|
$ |
172,390 |
|
|
|
31 |
% |
Leases
In
February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), to provide guidance on recognizing lease assets and lease liabilities
on the consolidated balance sheet and disclosing key information about leasing arrangements, specifically differentiating between different
types of leases. The Company implemented ASU No. 2016-02 on October 1, 2019.
The
Company performs a quarterly analysis of leases to determine if there are any operating leases that require recognition under ASC 842.
The Company has a long-term operating lease for office and manufacturing space in Plano, Texas. The leased property in Plano, Texas,
has a remaining lease term through June 2024. The lease has an option to extend beyond the stated termination date, but exercise of this
option is not probable. The Company did not apply the recognition requirements of ASC 842 to operating leases with a remaining lease
term of 12 months or less.
During
the Company’s analysis of leases in the year ended September 30, 2022, the Company determined to renew through March 31, 2025 the
office and manufacturing space in Vista, California which was previously scheduled to expire on January 31, 2023. The lease has a monthly
base rent of $8,451, plus common area expenses. Along with the extension, the Company leased an additional 1,796 square feet that has
a monthly base rent of $2,514 through March 31, 2025. The Company extended its sub-leased property in Vista, California, through January
31, 2023. The lease has a monthly rent of $2,111 and has been calculated as a ROU Asset co-terminus with the direct-leased property.
Additionally, the Company leased a new larger office and manufacturing space in Seoul, Korea beginning November 15, 2021, through November
15, 2023. The lease has a monthly expense of $7,040. Accordingly, we have added ROU assets and lease liabilities related to those leases
as of September 30, 2022.
As
of September 30, 2022, the Company’s operating leases had a weighted average remaining lease term of 1.7 years and a weighted-average
discount rate of 5.0%. Other information related to our operating leases is as follows:
SCHEDULE OF OTHER INFORMATION RELATED TO OPERATING LEASE
| |
| | |
ROU Asset – October 1, 2021 | |
$ | 386,587 | |
ROU Asset added during the period | |
| 558,371 | |
Amortization during the period | |
| (302,334 | ) |
ROU Asset – September 30, 2022 | |
$ | 642,624 | |
| |
| | |
Lease Liability – October 1, 2021 | |
$ | 398,587 | |
Lease Liability added during the period | |
| 558,371 | |
Amortization during the period | |
| (300,847 | ) |
Lease Liability – September 30, 2022 | |
$ | 656,111 | |
| |
| | |
Lease Liability – Short-Term | |
$ | 388,325 | |
Lease Liability – Long-Term | |
| 267,786 | |
Lease Liability – Total | |
$ | 656,111 | |
The
table below reconciles the fixed component of the undiscounted cash flows for each of the first five years and the total remaining years
to the lease liabilities recorded on the Consolidated Balance Sheet as of September 30, 2022.
Amounts
due within 12 months of September 30,
SCHEDULE OF FUTURE MINIMUM RENTAL PAYMENTS FOR OPERATING LEASES
| |
| | |
2023 | |
| 349,890 | |
2024 | |
| 250,523 | |
2025 | |
| 67,310 | |
Total Minimum Lease Payments | |
| 667,723 | |
Less Effect of Discounting | |
| (11,612 | ) |
Present Value of Future Minimum Lease Payments | |
| 656,111 | |
Less Current Portion of Operating Lease Obligations | |
| 388,325 | |
Long-Term Operating Lease Obligations | |
$ | 267,786 | |
On
October 9, 2019, the Company entered into a lease agreement with Alliance Funding Group which provided for a sale lease back on certain
packing equipment. The terms of this agreement require us to pay $2,987 per month through June 2024. As part of this agreement, Alliance
Funding Group provided our equipment supplier with $124,500 for the purchase of this equipment. This transaction was accounted for as
a financing lease. As of September 30, 2022, our financing lease had a remaining lease term of 1.8 years and a discount rate of 12.75%.
The interest expense on finance lease liabilities for the year ended September 30, 2022 was $8,853.
The
table below summarizes future minimum finance lease payments at September 30, 2022 for the 12 months ended September 30:
SCHEDULE OF FUTURE MINIMUM LEASE PAYMENTS FOR FINANCE LEASES
| |
| | |
2023 | |
$ | 33,113 | |
2024 | |
| 27,594 | |
Total Minimum Lease Payments | |
| 60,707 | |
Amount representing interest | |
| (6,567 | ) |
Present Value of Minimum Lease Payments | |
| 54,140 | |
Current Portion of Finance Lease Obligations | |
| 24,518 | |
Finance Lease Obligations, Less Current Portion | |
$ | 29,622 | |
Lease
expense included in Operating expense for the year ended September 30, 2022 and 2021 was $320,813 and $162,096, respectively. Lease expense,
which represents sublease expense, is included in Other expense for the year ended September 30, 2022 and 2021 was $189,223 and $160,489,
respectively. Further details are included in this lease footnote below.
During
the year ended September 30, 2022, we had the following cash and non-cash activities associated with our leases:
SCHEDULE OF CASH AND NON-CASH ACTIVITIES OF LEASES
Operating
cash outflows from operating leases: |
|
$ |
373,968 |
|
Operating
cash outflows from finance leases: |
|
$ |
7,594 |
|
Financing
cash outflows from finance lease: |
|
$ |
24,260 |
|
In
September 2020, we subleased the space at 1700 Capital Avenue in Plano, Texas, effective October 1, 2020 under favorable terms that are
co-terminus with the original lease ending June 30, 2024. During the year ended September 30, 2022, we recognized sublease income of
$185,139 pursuant to the sublease included in Other income on our financial statements. Future minimum lease payments to be received
under that sublease as of September 30, 2022, for each of the fiscal years are as follows:
SCHEDULE OF FUTURE MINIMUM LEASE PAYMENTS OF SUBLEASE
| |
| | |
2023 | |
$ | 126,971 | |
2024 | |
$ | 97,377 | |
Total Minimum Lease Payments to be Received | |
$ | 224,348 | |
Foreign
Currency Translation
The
financial position and results of operations of each of the Company’s foreign subsidiaries are measured using the foreign subsidiary’s
local currency as the functional currency. Revenues and expenses of each such subsidiary have been translated into U.S. dollars at average
exchange rates prevailing during the period. Assets and liabilities have been translated at the rates of exchange on the balance sheet
date. The resulting translation gain and loss adjustments are recorded directly as a separate component of stockholders’ equity,
unless there is a sale or complete liquidation of the underlying foreign investment. Foreign currency translation adjustment attributable
to NuZee, Inc. recorded to other comprehensive (loss) gain amounted to ($113,929) and $7,662 as of September 30, 2022 and 2021, respectively.
Transaction
gains and losses that arise from exchange rate fluctuations on transactions denominated in a currency other than the functional currency
are included in the results of operations as incurred.
Equity
Method
Investee
companies that are not consolidated, but over which the Company exercises significant influence, are accounted for under the equity method
of accounting. Whether or not the Company exercises significant influence with respect to an investee depends on an evaluation of several
factors including, among others, representation on the investee company’s board of directors and ownership level, which is generally
a 20% to 50% interest in the voting securities of the investee company. Under the equity method of accounting, an investee company’s
accounts are not reflected within the Company’s consolidated balance sheets and consolidated statements of operations; however,
the Company’s share of the earnings or losses of the Investee company is reflected in the caption Gain (loss) from equity method
investment in the consolidated statements of operations. The Company’s carrying value in an equity method investee company is reflected
in the caption ‘‘Investment in unconsolidated affiliate’’ in the Company’s consolidated balance sheets.
When
the Company’s carrying value in an equity method investee company is reduced to zero, no further losses are recorded in the Company’s
consolidated financial statements unless the Company guaranteed obligations of the investee company or has committed additional funding.
When the investee company subsequently reports income, the Company will not record its share of such income until it equals the amount
of its share of losses not previously recognized.
On
January 9, 2020, a joint venture agreement was signed between Industrial Marino, S.A. de C.V. (50%)
and the Company (50%)
forming NuZee LATIN AMERICA, S.A. de C.V. (“NLA”). NLA was formed pursuant to the laws of Mexico, with corporate
domicile in Mazatlán, Mexico. As part of the capitalization of NLA, the Company contributed two co-packing machines to the
joint venture. These machines had an aggregate carrying cost of $313,012.
The Company received $110,000 in cash for this contribution and recorded an investment in NLA of $160,000
and a loss of $43,012
on the contribution of the machines to NLA.
The
Company accounts for NLA using the equity method of accounting since the management of day-to-day operations at NLA ultimately lies with
the Company’s joint venture partner as the operations of NLA are based in its partners facilities as well as our partner appoints
the Chairman of the joint Board. As of September 30, 2022, the activity in NLA consisted of the contribution of two machines as described
above and other start up and initial sales and marketing related activities. $5,791 and $7,889 of losses were recognized under the equity
method of accounting during the years ended September 30, 2022 and September 30, 2021, respectively.
Revenue
Recognition
In
May 2014, the FASB issued Accounting Standards Update No. 2014-09 (Topic 606) “Revenue from Contracts with Customers.” Topic
606 supersedes the revenue recognition requirements in Topic 605 “Revenue Recognition” (Topic 605). The new standard’s
core principle is that an entity will recognize revenue at an amount that reflects the consideration to which the entity expects to be
entitled in exchange for transferring goods or services to a customer. The principles in the standard are applied in five steps: 1) Identify
the contract(s) with a customer; 2) Identify the performance obligations in the contract; 3) Determine the transaction price; 4) Allocate
the transaction price to the performance obligations in the contract; and 5) Recognize revenue when (or as) the entity satisfies a performance
obligation. We adopted Topic 606 as of October 1, 2018 on a modified retrospective basis. The adoption of Topic 606 did not have a material
impact on our consolidated financial statements, including the presentation of revenues in our Consolidated Statements of Operations.
Return
and Exchange Policy
The
Company provides a 30-day money-back guarantee if a buyer is not satisfied with a product. All products are thoroughly inspected and
securely packaged before they are shipped to ensure buyers receive the best possible product. If for any reason buyers are unsatisfied
with the products, they can return them and the Company will exchange or refund the purchase minus any shipping charges. For wholesale
customers, return policies vary based on their specific agreements with customers. Under chargebacks agreements with the customers, the
Company agrees to reimburse the seller for a portion of the costs incurred by the seller to advertise and promote certain of the Company’s
products. The Company estimates, accrues and recognizes such chargebacks. These amounts are included in the determination of net sales.
As
of September 30, 2022 and September 30, 2021, the Company had no sales allowances for estimated chargebacks and returns, respectively.
Revenue recognized is net of sales allowances.
Cost
Recognition
Cost
of products sold is primarily comprised of direct materials consumed in the manufacturing of co-packing arrangements or the production
of our own products for resale. Cost of products sold also includes directly related labor salaries and other overhead cost including
depreciation, temporary labor and shipping costs for shipment of raw materials to our facilities.
Selling,
General and Administrative Expense
Selling,
general and administrative expense (SG&A) is primarily comprised of personnel costs, sales and marketing expenses, depreciation
and amortization, insurance expenses, professional services fees, travel and office expenses, and facilities costs. In some
situations, the Company covers shipping fees for delivering customer orders, and the shipping and handling expenses are recorded under operating expenses in the
consolidated statements of operations.
Advertising
Expenses
The
Company expenses advertising costs when incurred. Advertising expense for the years ended September 30, 2022 and 2021 is as follows:
SCHEDULE OF ADVERTISING EXPENSE
| |
September 30,
2022 | | |
September 30,
2021 | |
Advertising | |
$ | 192,316 | | |
$ | 227,845 | |
Research
and Development
Research
and development expenses are expensed in the consolidated statements of operations as incurred in accordance with FASB ASC 730, Research
and Development. For the years ended September 30, 2022 and 2021, respectively, research and development expenses amounted to $633 and
$1,840, respectively.
Other
Expense
Other
expense of $574,710 and $672,929 for the years ended September 20, 2022 and 2021, respectively, primarily includes write off of deferred
financing costs and sublease expense.
Prepaid
expenses and other current assets
Prepaid
expenses and other current assets for the years ended September 30, 2022 and 2021 is as follows:
SCHEDULE OF PREPAID EXPENSES AND OTHER CURRENT ASSETS
| |
September 30,
2022 | | |
September 30,
2021 | |
Prepaid expenses and other current assets | |
$ | 547,773 | | |
$ | 482,288 | |
The
Prepaid expenses and other current assets balance of $547,773 as of September 30, 2022 primarily consists of prepaid insurance, deposits
on inventory purchases, and a retainer for professional services, and the balance of $482,288 as of September 30, 2021 primarily consists
of prepaid insurance and deposits on inventory purchases.
Inventory
Inventory,
consisting principally of raw materials, work in process and finished goods held for production and sale, is stated at the lower of cost
or net realizable value, cost being determined using the weighted average cost method. The Company reviews inventory levels at least
quarterly and records a valuation allowance when appropriate. At September 30, 2022 and 2021, the carrying value of inventory of $947,995
and $573,464 respectively, reflected on the consolidated balance sheets is net of this adjustment.
SCHEDULE OF INVENTORY
| |
September 30,
2022 | | |
September 30,
2021 | |
Raw materials | |
$ | 887,632 | | |
$ | 552,621 | |
Finished goods | |
| 60,363 | | |
| 20,843 | |
Less - Inventory reserve | |
| - | | |
| - | |
Total | |
$ | 947,995 | | |
$ | 573,464 | |
Property
and Equipment
Property
and equipment is stated at cost, net of accumulated depreciation. The Company generally depreciates property and equipment on a straight-line
basis over the estimated useful lives of the assets after the assets are placed in service except for NuZee KR which uses the declining
balance method. Office equipment is depreciated over a 3-year life, furniture over a 7-year life, and other equipment over a 5-year life.
Depreciation expense for the years ended September 30, 2022 and 2021 was $333,196 and $344,699, respectively. Repair and maintenance costs
are expensed as incurred. Expenditures associated with upgrades and enhancements that improve, add functionality, or otherwise extend
the life of property and equipment that exceed $1,000 are capitalized. Property and equipment as of September 30, 2022 and 2021 consist
of:
SCHEDULE OF PROPERTY AND EQUIPMENT
| |
September 30,
2022 | | |
September 30,
2021 | |
Machinery & Equipment | |
| 1,930,898 | | |
| 1,794,968 | |
Vehicles | |
| 73,008 | | |
| 76,267 | |
Leasehold Improvements | |
| 62,122 | | |
| 122,698 | |
Less - Accumulated Depreciation | |
| (1,540,953 | ) | |
| (1,319,909 | ) |
Net Property and Equipment | |
$ | 525,075 | | |
$ | 674,024 | |
The
Company is required to make deposits or prepayments and progress payments on equipment purchases before the Company receives possession
and title. As a result, the Company accounts for such payments as Other Assets until it has possession at which time the equipment is
recorded as Property and Equipment. There were no such deposits as of September 30, 2022 or September 30, 2021.
Samples
The
Company distributes samples of its products as a component of its marketing program. Costs for samples are expensed at the time the samples
are produced and recorded under operating expenses in the consolidated statements of operations.
Long-Lived
Assets
The
Company tests long-lived assets or asset groups for recoverability when events or changes in circumstances indicated that their carrying
amount may not be recoverable. Circumstances which could trigger a review include, but are not limited to: significant decreases in the
market price of the asset; significant adverse changes in the business climate or legal factors; accumulation of costs significantly
in excess of the amount originally expected for the acquisition or construction of the asset; current period cash flow or operating losses
combined with a history of losses or a forecast of continuing losses associated with the use of the asset; and a current expectation
that the asset will more likely than not be sold or disposed significantly before the end of its estimated useful life. Recoverability
is assessed based on the carrying amount of the asset and its fair value which is generally determined based on the sum of the undiscounted
cash flows expected to result from the use and the eventual disposal of the asset, as well as specific appraisal in certain instances.
In March 2021, the Company wrote off $840,391 of assets in North America as these assets were deemed to be no longer useful for the current
business operations. This write off is included in operating expenses on our consolidated statement of operations for the year ended
September 30, 2021.
Goodwill
and intangible assets
We
evaluate goodwill for impairment on an annual basis as of the last day of our fiscal fourth quarter, and whenever events or
circumstances make it more likely than not that an impairment may have occurred. These events or circumstances could include a
significant change in the business climate, legal factors, operating performance indicators, competition, client engagement, or sale
or disposition. We monitor the existence of potential impairment indicators throughout the fiscal year. We test for goodwill
impairment at the reporting unit level. We consider the Company as a reporting unit for goodwill impairment testing. We determined
the Company has one operating segment and two components, NuZee, Inc. and NuZee KR, which are combined into one reporting unit as
they are considered to be economically similar. The impairment test involves comparing the fair value of the reporting unit to its
carrying value, including goodwill. Fair value reflects the price a market participant would be willing to pay in a potential sale
of the reporting unit. If the fair value exceeds the carrying value, we conclude that no goodwill impairment has occurred. If the
carrying value of the reporting unit exceeds its fair value, we recognize an impairment loss in an amount equal to the excess, not
to exceed the carrying value of the goodwill. Since the Company is one reporting unit, the fair value of the Company equals market
capitalization, thus net book value is compared to market capitalization to determine if there is any impairment.
During
the year ended September 30, 2022, we recorded a goodwill impairment loss of $531,412 as a result of our market capitalization being
below our net book value, which is included in impairment expense within Operating expenses in our Consolidated Statements of Operations.
Refer to Note 7: Goodwill and Intangible Assets for further details regarding the goodwill impairment charge recorded during the
year ended September 30, 2022. As of September 30, 2022, the goodwill balance net of the impairment loss was $0. We had no goodwill as
of September 30, 2021.
Intangible
assets have either an identifiable or indefinite useful life. Intangible assets with identifiable useful lives are amortized on a straight-line
basis over their economic or legal life, whichever is shorter. We have identifiable useful life intangible assets related to acquired
Dripkit tradename and customer relationships. We test these intangible assets annually for impairment, and when indications of potential
impairment exist. We utilize the relief from royalty method to determine the fair value of the tradename. Management uses considerable
judgment to determine key assumptions, including projected revenue, royalty rates and appropriate discount rates. We estimate the fair
value of acquired customer relationships using a weighted average of the income. The income approach applies a fair value methodology
based on discounted cash flows. This analysis requires significant estimates and judgments, including estimation of future cash flows,
which is dependent on internal forecasts, estimation of the long-term rate of growth for our business, estimation of the useful life
over which cash flows will occur, customer attrition, and determination of our weighted average cost of capital. If the carrying value
of an intangible asset exceeds the fair value, we recognize an impairment loss in an amount equal to the excess, not to exceed the carrying
value. During the year ended September 30, 2022, we recorded an impairment loss of $63,167 related to tradename, and $80,555 related
to customer relationships, which are included in impairment expense within Operating expenses in our Consolidated Statements of Operations.
Refer to Note 7: Goodwill and Intangible Assets for further details regarding the tradename and customer relationship impairment
charges recorded during the year ended September 30, 2022. After the noted impairments above, the Company had intangible assets related
to the Dripkit tradename and customer relationship of $140,000 and $0, respectively, as of September 30, 2022, and had no intangible
assets as of September 30, 2021.
Income
Taxes
In
accordance with ASC 740 - Income Taxes, the provision for income taxes is computed using the asset and liability method. Under the asset
and liability method, deferred income tax assets and liabilities are determined based on the differences between the financial reporting
and tax bases of assets and liabilities and are measured using the currently enacted tax rates and laws. A valuation allowance is provided
for the amount of deferred tax assets that, based on available evidence, are not expected to be realized.
The
Company also follows the guidance related to accounting for income tax uncertainties. In accounting for uncertainty in income taxes,
the Company recognizes the financial statement benefit of a tax position only after determining that the relevant tax authority would
more likely than not sustain the position following an audit. For tax positions meeting the more likely than not threshold, the amount
recognized in the financial statements is the largest benefit that has a greater than 50% likelihood of being realized upon ultimate
settlement with the relevant tax authority. No liability for unrecognized tax benefits was recorded as of September 30, 2022 and 2021.
Related
parties
A
party is considered to be related to the Company if the party directly or indirectly or through one or more intermediaries, controls,
is controlled by, or is under common control with the Company. Related parties also include principal owners of the Company, its management,
members of the immediate families of principal owners of the Company and its management and other parties with which the Company may
deal if one party controls or can significantly influence the management or operating policies of the other to an extent that one of
the transacting parties might be prevented from fully pursuing its own separate interests. A party which can significantly influence
the management or operating policies of the transacting parties or if it has an ownership interest in one of the transacting parties
and can significantly influence the other to an extent that one or more of the transacting parties might be prevented from fully pursuing
its own separate interests is also a related party.
Other
Current Liabilities
Other
current liabilities are primarily comprised of deposits and advances received from equity investors for certain legal opinions that will
be provided by the Company’s counsel which totaled $8,553 and $99,760 as of September 30, 2022 and September 30, 2021, respectively.
Stock-based
Compensation
We
account for share-based awards issued to employees in accordance with Accounting Standards Codification (ASC) 718, “Compensation-Stock
Compensation”. Accordingly, employee share-based payment compensation is measured at the grant date, based on the fair value of
the award, and is recognized as an expense over the requisite service period, which is normally the vesting period. Share-based compensation
to directors is treated in the same manner as share-based compensation to employees, regardless of whether the directors are also employees.
In June 2018, the FASB issued ASU 2018-07 which simplifies several aspects of the accounting for non-employee transactions by stipulating
that the existing accounting guidance for share-based payments to employees (accounted for under ASC Topic 718, “Compensation-Stock
Compensation”) will also apply to non-employee share-based transactions (accounted for under ASC Topic 505, “Equity”).
The Company implemented ASU 2018-07 on October 1, 2019 and the impact of the implementation was not material to the financial statements.
We
determine the fair value of share-based payments using the Black Scholes option-pricing model for common stock options and warrants
and the closing price of our common stock for common share issuances. We recognize forfeitures as they occurred.
Comprehensive
income/loss
Comprehensive
income/loss is defined to include all changes in equity except those resulting from investments by owners and distributions to owners.
Among other disclosures, all items that are required to be recognized under current accounting standards as components of comprehensive
income/loss are required to be reported in a financial statement that is presented with the same prominence as other financial statements.
The Company’s current component of other comprehensive income/loss pertain to foreign currency translation adjustments.
Segment
Information
ASC
Topic 280, “Disclosures about Segments of an Enterprise and Related Information,” established standards for the way that
public business enterprises report information about operating segments in annual financial statements and requires those enterprises
to report selected information about operating segments in interim financial reports issued to stockholders. Management has determined
that the Company operates in one business segment, which is the commercialization and development of functional beverages.
Recent
Accounting Pronouncements
Changes
to accounting principles are established by the Financial Accounting Standards Board’s (“FASB”) in the form of Accounting
Standards Update (“ASU”) to the FASB’s Codification. We consider the applicability and impact of all ASUs on our financial
position, results of operations, cash flows, or presentation thereof.
The
Company reviewed all recently issued pronouncements in 2022, but not yet effective, and does not believe the future adoption of any such
pronouncements may be expected to cause a material impact on the Company’s financial condition or the results of its operations.
3.
LOANS
On
April 1, 2019, the Company purchased a delivery van from Ford Motor Credit for $41,627. The Company paid $3,500 as a down payment and
financed $38,127 for 60 months at a rate of 2.9%. The loan is secured by the van. The outstanding balance on the loan at September 30,
2022 and 2021 amounted to $12,692 and $20,416, respectively. On February 15, 2019 NuZee KR entered into equipment financing for production
equipment with Shin Han Bank for $60,563. In June 2019, NuZee KR purchased additional equipment and increased the loan with Shin Han
Bank by $86,518. The financing has a term of 36 months at a rate of 4.33%. Principal payments began in July 2019. The outstanding balance
on this loan at September 30, 2022 and 2021 amounted to $0 and $35,898, respectively.
The
loan payments required for the next five years are as follows:
SCHEDULE OF LOAN PAYMENTS
| |
Ford Motor
Credit | |
2022 (October-December) | |
$ | 1,965 | |
2023 (January-September) | |
| 5,982 | |
Total Current Portion | |
| 7,947 | |
2023 (October-September) | |
| 2,019 | |
2024 | |
| 2,726 | |
Total Long-Term Portion | |
| 4,745 | |
Grand Total | |
$ | 12,692 | |
4.
GEOGRAPHIC CONCENTRATIONS
The
Company is organized based on fundamentally one business segment although it does sell its products on a world-wide basis. The Company
is organized in three geographical segments. The Company co-packs product for customers and produces and sells its products directly
in North America and Korea. In fiscal year 2022, the Company had a minimally staffed office in Japan that provided support for import
and export of product and materials between the U.S. and Japan, as well as investor relations support to our stockholders based in Japan;
these functions are now supported by our personnel residing in the United States. Information about the Company’s geographic operations
for the years ended September 30, 2022 and 2021 are as follows:
SCHEDULE
OF GEOGRAPHIC OPERATIONS
| |
Year Ended September 30, 2022 | | |
Year Ended September 30, 2021 | |
Net Revenue: | |
| | | |
| | |
North America | |
$ | 2,443,863 | | |
$ | 1,441,274 | |
South Korea | |
| 665,299 | | |
| 485,386 | |
Net Revenue | |
$ | 3,109,162 | | |
$ | 1,926,660 | |
| |
September 30, 2022 | | |
September 30, 2021 | |
Property and equipment, net: | |
| | | |
| | |
North America | |
$ | 378,546 | | |
$ | 517,966 | |
Japan | |
| 1,664 | | |
| 1,496 | |
South Korea | |
| 144,865 | | |
| 154,562 | |
Property and equipment,
net | |
$ | 525,075 | | |
$ | 674,024 | |
5.
RELATED PARTY TRANSACTIONS
During
the years ended September 30, 2022 and 2021, the Company sold $0 and $28,298 of materials to NLA, respectively.
During the years ended September 30, 2022 and 2021, NuZee KR sold $8,117
and $0 of single serve pour over and coffee brew bag coffee products, respectively, to Mystery Golf Ltd., a company owned by the chief
executive officer of NuZee KR.
6.
BUSINESS COMBINATIONS
As
described in Note 2, on February 25, 2022, the Company acquired substantially all the assets and certain specified liabilities of Dripkit
pursuant to the Asset Purchase Agreement, dated as of February 21, 2022, by and among the Company, Dripkit, and Dripkit’s existing
investors who executed joinders to the Asset Purchase Agreement as of the Closing Date. Pursuant to the terms of the Asset Purchase Agreement,
the aggregate purchase price paid by the Company for the Acquisition was $860,000, consisting of cash
paid by the Company to Dripkit and the Company’s issuance to the Stock Recipients of shares of the Company’s common stock,
plus the assumption of certain assumed liabilities, including a $13,000 bridge loan and approximately $3,176 of payables, subject
to certain adjustments and holdbacks as provided in the Asset Purchase Agreement resulting in an acquisition accounting purchase price
of $876,176. The Company analyzed the Acquisition under ASC 805 and concluded that it should be accounted for as a business combination.
Dripkit operates as a new Dripkit Coffee business division that is wholly-owned by NuZee, Inc.
Pursuant
to the terms of the Asset Purchase Agreement, on the Closing Date, the cash portion of the purchase price was reduced by the following
amounts: (a) $22,000, in satisfaction of the bridge loan made from the Company to Dripkit in February 2022 to provide Dripkit with operational
financing prior to the Closing Date, (b) $35,500, as an indemnity holdback for the purpose of satisfying any indemnification claims made
by the Company pursuant to the Asset Purchase Agreement, and (c) $40,000, as a cash bulk sales holdback (the “Cash Bulk Sales Holdback
Amount”). In addition, on the Closing Date, the Company held back $40,000 worth of stock consideration as the Stock Bulk Sales
Holdback Amount (together with the Cash Bulk Sales Holdback Amount, the “Bulk Sales Holdback Amount”).
On
the Closing Date, after adjustments and holdbacks under the Asset Purchase Agreement, the Company paid the aggregate purchase price as
follows: (i) cash paid by the Company to Dripkit was $257,000, and (ii) the Company issued to the Stock Recipients an aggregate of 178,681
shares of the Company’s common stock. The Company repaid the entire outstanding principal amount of Dripkit’s Small Business
Association Economic Injury Disaster Loan in the amount of $78,656. In addition, the Company recorded a liability on its balance sheet
in Accounts Payable of $115,500 related to potential future amounts due related to the Bulk Sales Holdback of $80,000 and the indemnity
holdback of $35,500.
During
the year ended September 30, 2022, pursuant to the terms of the Asset Purchase Agreement, the Bulk Sales Holdback Amount was used to
satisfy sales and use taxes owed by Dripkit to the State of New York as of the Closing Date. Pursuant to the terms of the Asset Purchase
Agreement, the amounts remaining after offsetting the cost of these sales and use taxes were distributed as follows in the quarter ended
June 30, 2022: (i) $39,237 was distributed to Dripkit on May 9, 2022, in connection with the Cash Bulk Sales Holdback Amount, and (ii)
18,475 shares of common stock were issued to the Stock Recipients on April 25, 2022, in connection with the Stock Bulk Sales Holdback
Amount.
The
following table presents the allocation of the aggregate purchase price paid by the Company for the Acquisition of $860,000, plus the
assumption of certain assumed liabilities, including a $13,000 bridge loan and approximately $3,176 of payables, resulting in an acquisition
accounting purchase price of $876,176, to the assets acquired for the acquisition of Dripkit:
SCHEDULE
OF ALLOCATION OF AGGREGATE PURCHASE PRICE
| |
| |
Total purchase price | |
$ | 876,176 | |
Assets acquired: | |
| | |
Inventory | |
$ | 9,664 | |
Property and equipment | |
| 5,100 | |
Identifiable intangible assets | |
| 330,000 | |
Total assets acquired | |
$ | 344,764 | |
| |
| | |
Estimated fair value of net assets acquired | |
$ | 344,764 | |
Goodwill | |
$ | 531,412 | |
Identified
Intangibles and Goodwill
The
Company identified tradename and customer relationships intangible assets. The tradename and customer relationships intangible assets
will be amortized on a straight-line basis over their respective estimated useful lives. The goodwill recognized results from such factors
as an assembled workforce and management’s industry know-how. See Note 7-Goodwill and Intangible Assets for additional information
on identified intangible assets and goodwill.
The
financial statements for the year ended September 30, 2022 include the operating results of Dripkit for the period from February
25, 2022, the date of the Acquisition, to September 30, 2022. The consolidated statement of operations for the year ended September
30, 2022 includes revenues of approximately $69,767,
net loss of approximately $272,610,
and amortization expense of approximately $46,278,
contributed by Dripkit.
During
the year ended September 30, 2022, the Company incurred $270,478 of transaction costs related to the Acquisition which are included in
Selling, general and administrative expense.
Unaudited
Pro forma Financial Information
The
following unaudited proforma financial information presents the combined results of operations of the Company and gives effect to the
Acquisition for the year ended September 30, 2022, as if the Acquisition had occurred as of October 1, 2020 instead of on February 25,
2022.
The
pro forma financial information is presented for illustrative purposes only and is not necessarily indicative of the results of operations
that would have been realized if the Acquisition had been completed on October 1, 2020, nor does it purport to project the results of
operations of the combined company in future periods. The pro forma financial information does not give effect to any integration costs
related to the acquired company.
The
pro forma financial information for the Company and Dripkit is as follows for the years ended:
SCHEDULE
OF UNAUDITED
PRO FORMA FINANCIAL INFORMATION
| |
September 30,
2022 | | |
September 30,
2021 | |
Revenues | |
$ | 3,168,528 | | |
$ | 2,322,859 | |
Net loss | |
$ | 11,651,790 | | |
$ | 18,815,500 | |
For
purposes of the pro forma disclosures above, the primary adjustments for the year ended September 30, 2022 include the elimination of
transaction costs of approximately $270,478.
7.
GOODWILL AND INTANGIBLE ASSETS
Impairments
Goodwill
During
the year ended September 30, 2022, we recorded a non-cash impairment charge of $531,412 related to goodwill, which was included
in impairment expense within operating expenses in our Consolidated Statements of Operations. The charge was a result of our net book
value being lower than our market capitalization.
Changes
in goodwill for the year ended September 30, 2022, consists of the following:
SCHEDULE OF CHANGES IN GOODWILL
| |
September 30,
2022 | |
Balance at September 30, 2021 | |
$ | - | |
Dripkit acquisition | |
| 531,412 | |
Impairment charge | |
| (531,412 | ) |
Balance at September 30, 2022 | |
$ | - | |
Identifiable
life intangible assets
During
the year ended September 30, 2022, we recorded non-cash impairment charges for the Dripkit tradename and acquired customer relationships
of $80,555 and $63,167, respectively, which was included in impairment expense within operating expenses in our Consolidated Statements
of Operations. The charge was primarily the result of a change in forecast related to estimated future revenue growth for Dripkit, sales
channel mix, and estimated costs to support such growth, which had the effect of decreasing our forecast of estimated future cash flows.
As of September 30, 2022, the remaining tradename asset balance adjusting for impairment was $140,000, and the customer relationship
asset balance was fully written off.
As
of September 30, 2022, the Company’s intangible assets consisted of the following:
SCHEDULE OF INTANGIBLE ASSETS
| |
Amortization | | |
September 30, 2022 | |
| |
Period (Years) | | |
Gross | | |
Accumulated Amortization | | |
Impairment Charge | | |
Net | |
Tradenames | |
5 | | |
$ | 230,000 | | |
$ | 26,833 | | |
$ | 63,167 | | |
$ | 140,000 | |
Customer relationships | |
3 | | |
| 100,000 | | |
| 19,445 | | |
| 80,555 | | |
| - | |
Balance at September 30, 2022 | |
| | |
$ | 330,000 | | |
$ | 46,278 | | |
$ | 143,722 | | |
$ | 140,000 | |
Amortization
expense was $46,278 for the year ended September 30, 2022.
Amortization
expense for the next five fiscal years is as follows:
SCHEDULE OF AMORTIZATION EXPENSE
| |
Tradename
Amortization | |
2023 | |
| 31,111 | |
2024 | |
| 31,111 | |
2025 | |
| 31,111 | |
2026 | |
| 31,111 | |
2027 | |
| 15,556 | |
Grand
Total | |
$ | 140,000 | |
8.
ISSUANCE OF EQUITY SECURITIES
During
the year ended September 30, 2021, the Company sold (i) 72,955 shares of common stock to Triton Funds LP in a registered public offering
for aggregate net proceeds of $534,494 pursuant to a Common Stock Purchase Agreement dated as of October 26, 2020 and a prospectus supplement
to the Company’s effective shelf registration statement on Form S-3 (Registration No. 333-248531), and (ii) 256,338 shares of common
stock at $9.14 per share for aggregate net proceeds of $2,149,486 pursuant to Securities Act registration exemptions under Regulation
S and/or Section 4(a)(2) of the Securities Act. In addition, as further described below, during the year ended September 30, 2021, the
Company sold pursuant to an Underwriting Agreement dated as of March 19, 2021 and a prospectus supplement to the Company’s effective
shelf registration statement on Form S-3 (Registration No. 333-248531) (i) 2,777,777 units (“2021 Units”) in an underwritten
registered public offering for aggregate net proceeds of $11,017,304 which includes the proceeds from the underwriter’s full exercise
of their overallotment option with respect to the warrant component of the 2021 Units, as further described below, with each Unit consisting
of (a) one share of our common stock, (b) one Series A warrant (each, a “Series A Warrant” and collectively, the “Series
A Warrants”) to purchase one share of our common stock with an initial exercise price of $4.50 per whole share, and (c) one Series
B warrant (each, a “Series B Warrant” and collectively, the “Series B Warrants” and together with the Series
A Warrants, the “2021 Warrants”) to purchase one-half share of our common stock with an initial exercise price of $5.85 per
whole share, and (ii) 416,666 Series A Warrants and 416,666 Series B Warrants, each pursuant to the underwriter’s full exercise
of their overallotment option with respect to such warrants.
On
March 11, 2021, we terminated our At Market Issuance Sales Agreement, dated September 1, 2020 (the “ATM Agreement”), with
B. Riley Securities, Inc. (f/k/a/ B. Riley FBR, Inc.) and The Benchmark Company, LLC (collectively, the “Agents”), pursuant
to which we could from time to time offer and sell up to an aggregate of $50.0 million of shares of our common stock through the Agents
in “at-the-market-offerings”, as defined in Rule 415 under the Securities Act. We did not sell any shares of common stock
under the ATM Agreement. The Company’s consolidated statement of cash flows for the year ended September 30, 2021 includes write-off
of stock issuance expenses of $477,605, which is included in Other expense in our consolidated statement of operations, in connection
with the terminated ATM Agreement with B. Riley Securities, Inc. (f/k/a/ B. Riley FBR, Inc.) and The Benchmark Company, LLC, as agents.
On
December 28, 2021, the Company entered into an Equity Distribution Agreement (the “Equity Distribution Agreement”) with
Maxim Group LLC, as agent (the “Agent”), pursuant to which the Company could offer and sell, from time to time, shares
of common stock through the Agent in “at-the-market-offerings”, as defined in Rule 415 under the Securities Act, having
an aggregate offering price of up to $20,000,000.
Pursuant to the Equity Distribution Agreement, the Company paid the Agent a commission rate, in cash, equal to 3.0%
of the aggregate gross proceeds from each sale of shares of the Company’s common stock under the Equity Distribution
Agreement. The offer and sale of shares under the Equity Distribution Agreement were made pursuant to the Company’s effective
shelf registration statement on Form S-3 (Registration No. 333-248531) and the related prospectus. In
the year ended September 30, 2022, the Company issued and sold 49,326
shares of common stock under the Equity Distribution Agreement, raising net proceeds of $95,256.
In connection with such sales, the Company paid compensation to the Agent in the amount of $3,003.
On August 5, 2022, the Company terminated the Equity Distribution Agreement. The
Company’s consolidated statement of cash flows for the year ended September 30, 2022 includes write-off of stock issuance
expenses of $368,783,
which is included in Other expense in our consolidated statement of operations, in connection with the terminated Equity
Distribution Agreement with the Agent.
On
April 13, 2022, pursuant to Securities Act registration exemptions under Regulation S and/or Section 4(a)(2) of the Securities Act, the
Company sold 884,778 units (the “2022 Units”), at a price of $2.00 per 2022 Unit for aggregate net proceeds of $1,649,736,
with each 2022 Unit consisting of (a) one share of our common stock and (b) one warrant (each, a “2022 Warrant” and collectively,
the “2022 Warrants”) to purchase one whole share of our common stock with an initial exercise price of $2.00 per share.
On
August 10, 2022, the Company completed an underwritten public offering of 4,200,000 shares of common stock, pursuant to an Underwriting
Agreement dated as of August 7, 2022 and a prospectus supplement to the Company’s effective shelf registration statement on Form
S-3 (Registration No. 333-248531). The Company received aggregate net proceeds of approximately $2.5 million ($2,656,460 of proceeds
from issuance of common stock minus $135,592 of accrued stock issuance costs in our consolidated statement of cash flows for the year
ended September 30, 2022), after deducting underwriting discounts and commissions and offering expenses payable by the Company.
Exercise
of Warrants
In
the year ended September 30, 2022, the Company issued 384,447 shares of common stock related to exercises of 2021 Warrants, including
380,447 shares of common stock issued upon exercise of 380,447 Series A Warrants and 4,000 shares of common stock issued upon exercise
of 8,000 Series B Warrants. In connection with such exercises, in year ended September 30, 2022, the Company received aggregate net proceeds
of $1,702,596.
Restricted
Shares
On
January 11, 2021, the Compensation Committee (the “Compensation Committee”) of the Company’s Board of Directors granted
to Shanoop Kothari, who was serving at the time as both the Company’s Chief Financial Officer and Chief Operating Officer, in connection
with the Compensation Committee’s determination of Mr. Kothari’s annual compensation, an award of 152,215 restricted shares
(the “Restricted Shares”) of the Company’s common stock under the NuZee, Inc. 2019 Stock Incentive Plan. These Restricted
Shares vested as follows: (i) 50,739 Restricted Shares vested immediately (35,739 net shares were issued to Mr. Kothari following the
forfeiture of 15,000 vested shares to cover taxes); (ii) 50,739 Restricted Shares vested on March 31, 2021; and (iii) 50,737 Restricted
Shares were originally scheduled to vest on March 31, 2022 but were accelerated to vest on Mr. Kothari’s separation date of August
16, 2021. The Company recognized common stock compensation expense of $1,251,402 for the year ended September 30, 2021 related to these
Restricted Shares.
Grant
of Restricted Stock Awards to the Company’s Independent Board Members
On
March 17, 2022, pursuant to the Company’s non-employee director compensation policy, the Compensation Committee granted 23,584
restricted shares of the Company’s common stock to each of the Company’s five independent directors pursuant to the NuZee,
Inc. 2013 Stock Incentive Plan, totaling 117,920 Restricted Shares. These Restricted Shares are scheduled to vest in full on the one-year
anniversary of the grant date, subject to each independent director’s continued service as a director of the Company. The Company
recognized common stock compensation expense of $134,755 for the year ended September 30, 2022 related to these Restricted Shares.
Exercise
of options
During
the year ended September 30, 2021, 6,000 shares were issued upon the exercise of stock options. As part of this exercise, the Company
received $9,180 in proceeds. During the year ended September 30, 2022, 14,000 shares were issued upon the exercise of stock options,
and the Company received $12,600 as part of this exercise.
9.
STOCK OPTIONS AND WARRANTS
Options
During
the fiscal year ended September 30, 2022, the Company granted 185,000 new stock options at an average exercise price of $1.31 to employees.
For employees, these options shall vest and become exercisable (i) in the case of time-based options, generally as to 1/3 on each anniversary
of the grant date, although different vesting patterns exist, or (ii) in the case of performance-based options (the “Performance-Based
Options”), based on the Company’s or individual’s achievement of certain performance milestones established by the
Compensation Committee for each fiscal year in the fiscal years ending September 30, 2023, 2024 and 2025. During the fiscal year ended
September 30, 2022, the Company issued a total of 128,000 Performance-Based Options, which represents the maximum number of Performance-Based
Options that may be earned if all performance milestones are achieved for the applicable performance periods.
The exercise price for the options issued in the year ended September 30, 2022 ranged from $0.313
- $2.16 per share. The options will expire ten years from the grant date, unless terminated earlier as provided by the option agreements.
During
the fiscal year ended September 30, 2021, the Company issued 3,366,681 options at an average exercise price of $4.88, including issuing
15,000 options to independent contractors, 1,369,944 options to independent Board members and 1,981,737 options to employees. For independent
contractors, these options shall vest and become exercisable over a period of 3 years, with 33% of the options vesting on each anniversary of the grant date. For employees, these options shall vest and become exercisable (i) in the case of time-based options, generally as
to 1/3 on each anniversary of the grant date, although different vesting patterns exist, or (ii) in the case of performance-based options
(the “Performance-Based Options”), based on the Company’s or individual’s achievement of certain performance
milestones established by the Compensation Committee for each fiscal year in the fiscal years ending September 30, 2021, 2022, 2023 and
2024. During the year ended September 30, 2021, the Company issued a total of 1,610,743 Performance-Based Options, which represents the
maximum number of Performance-Based Options that may be earned if all performance milestones are achieved for the applicable performance
periods.
The exercise price for the options issued in the year ended September 30, 2021 ranged from $2.91 - $16.79 per share.
The options will expire ten years from the grant date, unless terminated earlier as provided by the option agreements.
The
fair value of each option award was estimated on the date of grant using the Black-Scholes option valuation model using the
assumptions noted as follows: expected volatility was based on the volatility of a peer group of companies for the year ended
September 30, 2022, and historical volatility of Company stock for the year ended September 30, 2021. For the year ended
September 30, 2022, the expected term of options granted was determined using the simplified method under SAB 107 which represents
the mid-point between the vesting term and the contractual term. For the year ended September 30, 2021, the expected term of options
granted was based on the contractual term. The risk-free rate is calculated using the U.S. Treasury yield curve and is based on the
expected term of the option.
The
Black-Scholes option pricing model was used with the following weighted average assumptions for options granted during the year ended
September 30, 2022 and 2021, respectively:
SCHEDULE OF WEIGHTED AVERAGE ASSUMPTIONS FOR FAIR VALUE MEASUREMENT OF OPTIONS GRANTED
For
employees | |
September
30, 2022 | | |
September
30, 2021 | |
Risk-free
interest rate | |
| 2.38-3.71 | % | |
| 1.27
– 2.2 | % |
Expected
option life | |
| 6
years | | |
| 10
years | |
Expected
volatility | |
| 68.2-70.5 | % | |
| 297
– 301 | % |
Expected
dividend yield | |
| 0.00 | % | |
| 0.00 | % |
Exercise
price | |
| $
0.31-$2.16 | | |
| $
2.91 - $3.27 | |
For non-employees | |
September 30, 2022 | |
September 30, 2021 | |
Risk-free interest rate | |
Not applicable | |
| 0.78
– 1.71 | % |
Expected option life | |
Not applicable | |
| 10 years | |
Expected volatility | |
Not applicable | |
| 302 -310 | % |
Expected dividend yield | |
Not applicable | |
| 0.00 | % |
Exercise price | |
Not applicable | |
| $ 3.03 – 16.79 | |
The
Company is expensing these stock option awards on a straight-line basis over the requisite service period. The Company recognized stock
option expense $2,899,338 and $9,405,191, respectively, for the years ended September 30, 2022 and 2021. Unamortized option expense as
of September 30, 2022, for all options outstanding amounted to approximately $1,104,758. These costs are expected to be recognized over
a weighted-average period of 1.23 years.
During
the year ended September 30, 2022, the Company issued 14,000 shares of common stock upon the exercise of outstanding stock options and
563,016 stock options were forfeited. For the year ended September 30, 2022, of the 563,016 options were forfeited, 227,667 options forfeited
because of the termination of employment and 335,349 options forfeited because the performance conditions were not met. In addition,
144,000 vested stock options expired pursuant to the terms of the applicable award agreements following the termination of employment.
The
following table summarizes stock option activity for the year ended September 30, 2022.
SUMMARY OF STOCK OPTION ACTIVITY
| |
Number of Shares | | |
Weighted Average Exercise Price | | |
Weighted Average Remaining Contractual Life (years) | | |
Aggregate Intrinsic Value | |
Outstanding at September 30, 2021 | |
| 4,511,691 | | |
$ | 4.73 | | |
| 8.4 | | |
$ | 452,206 | |
Granted | |
| 185,000 | | |
| 1.31 | | |
| | | |
| | |
Exercised | |
| (14,000 | ) | |
| 0.90 | | |
| | | |
| | |
Expired | |
| (144,000 | ) | |
| 19.42 | | |
| | | |
| | |
Forfeited | |
| (563,016 | ) | |
| 3.12 | | |
| | | |
| | |
Outstanding at September 30, 2022 | |
| 3,975,675 | | |
| 4.28 | | |
| 7.4 | | |
$ | 1,207 | |
| |
| | | |
| | | |
| | | |
| | |
Exercisable at September 30, 2022 | |
| 2,226,557 | | |
$ | 4.59 | | |
| 6.5 | | |
$ | - | |
During the year ended September 30, 2021, the Company issued 6,000 shares of common stock upon the
exercise of outstanding stock options and 469,657 stock options were forfeited. For the year ended September 30, 2021, of the 469,657
options were forfeited, 361,657 options forfeited because of the termination of employment and 108,000 options forfeited because the performance
conditions were not met.
A
summary of the status of the Company’s unvested options as of September 30, 2022 and 2021, are presented below:
SUMMARY OF UNVESTED SHARES
| |
Number of Nonvested | | |
Weighted Average Grant | |
| |
Options | | |
Date
Fair Value | |
Nonvested options at September 30, 2020 | |
| 762,917 | | |
$ | 10.60 | |
Granted | |
| 3,366,681 | | |
$ | 4.88 | |
Exercised | |
| — | | |
$ | — | |
Forfeited | |
| (316,328 | ) | |
$ | 7.66 | |
Vested | |
| (942,471 | ) | |
$ | 8.16 | |
Nonvested options at September 30, 2021 | |
| 2,870,799 | | |
$ | 5.02 | |
Granted | |
| 185,000 | | |
$ | 0.84 | |
Exercised | |
| - | | |
$ | - | |
Forfeited | |
| (563,016 | ) | |
$ | 3.09 | |
Vested | |
| (743,665 | ) | |
$ | 6.11 | |
Nonvested options at September 30, 2022 | |
| 1,749,118 | | |
$ | 4.41 | |
Warrants
2020
Warrants
On
June 23, 2020, as part of our agreement with Benchmark Company, LLC, the underwriter of the Company’s June 2020 registered public
offering of common stock, we issued 40,250 warrants (the “2020 Warrants”) to purchase our common stock at an exercise price
of $9.00 per share. The 2020 Warrants became exercisable on December 23, 2020 and expire on June 18, 2025.
2021
Warrants
On
March 19, 2021, the Company sold (i) 2,777,777 2021 Units, at a price to the public of $4.50 per 2021 Unit, with each 2021 Unit consisting
of (a) one share of our common stock, (b) one Series A Warrant, and (c) one Series B Warrant, and (ii) 416,666 Series A Warrants and
416,666 Series B Warrants, each pursuant to the underwriter’s full exercise of their overallotment option with respect to such
warrants. Each Series A Warrant entitles the registered holder to purchase one share of our common stock at an exercise price of $4.50
per share. Each Series B Warrant entitles the registered holder thereof to purchase one-half of a share of our common stock at an exercise
price of $5.85 per whole share. The 2021 Warrants have a term of 5 years. The Series A and Series B Warrant holders are obligated to
pay the exercise price in cash upon exercise of the 2021 Warrants unless we fail to maintain a current prospectus relating to the common
stock issuable upon the exercise of the 2021 Warrants (in which case, the 2021 Warrants may only be exercised via a “cashless”
exercise provision).
2022
Warrants
On
April 13, 2022, the Company sold 884,778 2022 Units, with each 2022 Unit consisting of (a) one share of our common stock and (b) one
2022 Warrant. Each 2022 Warrant entitles the holder to purchase one share of our common stock at an exercise price of $2.00 per share.
The 2022 Warrants have a term of 5 years. Holders may exercise their 2022 Warrants on a “cashless” basis pursuant to a formula
set forth in the form of 2022 Warrant.
The
following table summarizes warrant activity for the year ended September 30, 2022:
SCHEDULE OF WARRANT ACTIVITY
| |
Number of Shares Issuable Upon Exercise of Warrants | | |
Weighted Average Exercise Price | | |
Weighted Average Remaining Contractual Life (years) | | |
Aggregate Intrinsic Value | |
Outstanding at September 30, 2021 | |
| 4,831,915 | | |
$ | 4.98 | | |
| 4.5 | | |
$ | - | |
Issued | |
| 884,778 | | |
| 2.00 | | |
| | | |
| | |
Exercised | |
| (384,447 | ) | |
| 4.51 | | |
| | | |
| | |
Expired | |
| - | | |
| - | | |
| | | |
| | |
Outstanding at September 30, 2022 | |
| 5,332,246 | | |
$ | 4.52 | | |
| 3.7 | | |
| - | |
Exercisable at September 30, 2022 | |
| 5,332,246 | | |
$ | 4.52 | | |
| 3.7 | | |
$ | - | |
In
the year ended September 30, 2022, we issued 384,447 shares of common stock related to exercises of 2021 Warrants, including 380,447
shares of common stock issued upon exercise of 380,447 Series A Warrants and 4,000 shares of common stock issued upon exercise of 8,000
Series B Warrants. In connection with such exercises, in the year ended September 30, 2022, we received aggregate net proceeds of $1,702,596.
10.
INCOME TAX
The
company recorded $0 income tax expense for the years ended September 30, 2022 and 2021.
Deferred
income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes.
The
Company will have tax losses available to be applied against future years’ income as result of the losses incurred. However, due
to the losses incurred in the period and expected future operating results, management determined that it is more likely than not that
the deferred tax asset resulting from the tax losses available for carry forward will not be realized through the reduction of future
income tax payments. Accordingly, a 100% valuation allowance has been recorded for deferred income tax assets. Cumulative net operating
loss carry forward is $37,663,761 and $27,750,819 as of September 30, 2022 and 2021, respectively, and will begin expiring in 2033. Utilization
of these NOLs might be subject to various limitations such as the IRC Section 382 limitation and the 80% taxable income limitation. A
full study of the NOL limitations has not been completed yet.
The
earliest tax year which remains open to examination is 2019.
The
Company used statutory blended tax rates of 28%, 11% and 33.58% for its deferred tax assets that arose in the US, Korea, and Japan respectively.
Deferred
tax assets consisted of the following as of September 30, 2022 and 2021:
SCHEDULE OF DEFERRED TAX ASSETS
| |
2022 | | |
2021 | |
Net Operating Losses | |
$ | 10,263,914 | | |
$ | 7,770,229 | |
Stock based compensation | |
| 5,775,567 | | |
| 4,926,021 | |
Fixed assets and intangible assets | |
| 168,498 | | |
| - | |
Total deferred tax assets | |
$ | 16,207,979 | | |
$ | 12,696,250 | |
Valuation Allowance | |
$ | (16,207,979 | ) | |
$ | (12,696,250 | ) |
Deferred tax assets net of valuation allowance | |
$ | - | | |
$ | - | |
11.
CONTINGENCIES
From
time to time, we may be subject to legal proceedings and claims in the ordinary course of business. The results of any future litigation
cannot be predicted with certainty, and, regardless of the outcome, litigation can have an adverse impact on us because of defense and
settlement costs, diversion of management resources, and other factors. Matters that are probable of unfavorable outcomes to us and which
can be reasonably estimated are accrued. Such accruals are based on information known about the matters, our estimates of the outcomes
of such matters and our experience in contesting, litigating and settling similar matters.
12.
SUBSEQUENT EVENTS
Resignation
of Patrick Shearer as Chief Financial Officer
On
November 2, 2022, Patrick Shearer notified the Company of his resignation as the Company’s Chief Financial Officer. Mr. Shearer’s
resignation will be effective as of January 4, 2023 (the “Effective Date”).
Appointment
of Shana Bowman as Interim Chief Financial Officer
On
November 4, 2022, in connection with Mr. Shearer’s resignation as described above, Shana Bowman was appointed as the Company’s
Interim Chief Financial Officer, with such appointment to be effective on the Effective Date. Ms. Bowman will serve as the Company’s
principal financial officer and principal accounting officer on an interim basis.
On
November 4, 2022, the Company and Ms. Bowman entered into that certain Second Amended and Restated Employment Agreement (the “Employment
Agreement”), providing for Ms. Bowman’s continued employment as the Controller until the Effective Date, and thereafter as
Interim Chief Financial Officer. Pursuant to the Employment Agreement, commencing on the Effective Date, Ms. Bowman is entitled to an
annual base salary of $185,000 (the “Base Salary”), with an annual target bonus opportunity equal to 20-30% of the Base Salary
(“Annual Bonus”), the amount and terms of such Annual Bonus to be determined in the sole and absolute discretion of the Compensation
Committee. The Employment Agreement provides for $15,000 of the Base Salary to be paid as of the date of the Employment Agreement. Ms.
Bowman is also eligible to participate in any equity compensation plan of the Company and to receive future equity awards at the Compensation
Committee’s discretion.
Appointment
of Marie Franklin as Senior Vice President of Sales and Marketing
On
December 9, 2022, the Company appointed Marie Franklin to serve as the Company’s Senior Vice
President of Sales and Marketing, effective December 1, 2022 (the “Employment Date”).
Pursuant to her employment agreement (the “Franklin Employment Agreement”), commencing on the Employment Date, Ms. Franklin
is entitled to an annual base salary of $180,000. The Franklin Employment Agreement provides that Ms. Franklin will be entitled to receive
an annual bonus for the fiscal year ended September 30, 2023 (“Fiscal Year 2023”) that includes (a) a cash component ranging
from $12,000 to $100,000 and (b) a stock option component ranging from options to purchase 5,000 to 100,000 shares of the Company’s
common stock, each of which will be awarded, if at all, based upon achievement of a specified amount of gross revenue for Fiscal Year
2023, as calculated in accordance with GAAP. Ms. Franklin is also eligible to participate in any equity compensation plan of the Company
and to receive future equity awards at the Compensation Committee’s discretion.
Stockholder
Approval of Reverse Stock Split
On
December 9, 2022, at a Special Meeting of Stockholders, the Company’s stockholders approved a proposal granting the Board discretionary
authority to file an amendment (the “Certificate of Amendment”) to the Company’s Articles of Incorporation, as amended
(the “Articles”), which amends the Articles to add a Section 1A to effect a reverse stock split of the Company’s common
stock, at any ratio from 1-for-10 to 1-for-50 at the Board’s discretion. The Board intends to effect the 2022 Reverse Stock Split
as soon as practicable.
New
Operating Lease
Effective
December 1, 2022, we entered into a new operating lease for our principal executive office, which is located at 1350 East Arapaho Road,
Suite #230, Richardson, Texas 75081. We lease the Richardson office on an annual basis, at a cost of $1,510 per month, through November
30, 2023.