Liquidity
and Capital Resources
As
of September 30, 2019, we had cash and cash equivalents of $197,048. To date, we have financed our operations primarily through
cash proceeds from financing activities, borrowings and equity contributions by our shareholders.
Although
we do not believe that we will require additional cash to continue our operations over the next twelve months (i.e., we do not
believe that there is a going concern issue), we do believe additional funds are required to execute our business plan and our
strategy of acquiring additional businesses. The funds required to execute our business plan will depend on the size, capital
structure and purchase price consideration that the seller of a target business deems acceptable in a given transaction. The amount
of funds needed to execute our business plan also depends on what portion of the purchase price of a target business the seller
of that business is willing to take in the form of seller notes or equity of our company or one of our subsidiaries. Given these
factors, we believe that the amount of outside additional capital necessary to execute our business plan on the low end (assuming
target company sellers accept a significant portion of the purchase price in the form of seller notes or equity in our company
or one of our subsidiaries) ranges between $100,000 to $250,000. If, and to the extent, that sellers are unwilling to accept a
significant portion of the purchase price in seller notes and equity, then the cash required to execute our business plan could
be as much as $5,000,000. We will seek growth as funds become available from cash flow, borrowings, additional capital raised
privately or publicly, or seller retained financing.
Our
primary use of funds will be for future acquisitions, public company expenses including monthly distributions to our shareholders,
investments in future acquisitions, payments to our manager pursuant to the management services agreement, potential payment of
profit allocation to our manager and potential put price to our manager in respect of the allocation shares it owns. The management
fee, expenses, potential profit allocation and potential put price are paid before monthly distributions to shareholders and may
be significant and exceed the funds held by our company, which may require our company to dispose of assets or incur debt to fund
such expenditures. See “Item 1. Business—Our Manager” included in our Annual Report on Form 10-K for the year
ended December 31, 2018 for more information concerning the management fee, the profit allocation and put price.
At
September 30, 2019, Goedeker did not meet certain loan covenants under the loan and security agreements with Burnley and SBCC.
The agreements require compliance with the following ratios as a percentage of earnings before interest, taxes, depreciation,
and amortization for the twelve-month period ended September 30, 2019. The table below shows the required ratio and actual ratio
for such period.
Covenant
|
|
Actual Ratio
|
|
|
Required Ratio
|
|
Total debt ratio
|
|
|
(9.6
|
)x
|
|
|
4.50
|
x
|
Senior debt ratio
|
|
|
(3.7
|
)x
|
|
|
1.75
|
x
|
Interest coverage ratio
|
|
|
(0.7
|
)x
|
|
|
1.0
|
x
|
In
addition, Goedeker was not in compliance with a requirement with respect to the liquidity ratio, which is the ratio of cash and
available borrowings to customer deposits. At September 30, 2019, the actual ratio was 0.24x compared to a requirement of 0.65x.
Accordingly,
our company is in technical, not payment default, on these loan and security agreements and has classified such debt as a current
liability. We have developed plans that will return us to full compliance including a recently received proposal from a new asset-based
lender. In addition to the proposal from a new asset-based lender, we have taken the following two steps that we believe will
positively impact our retail and appliance business:
|
●
|
we
hired an appliance industry veteran as chief executive officer of our retail and appliance
business to drive growth and increase profitability; and
|
|
●
|
we
have engaged outside consultants to increase traffic to the website of our retail and
appliance business and improve our on-line shopping experience.
|
We
believe these efforts and others will increase revenue and allow us to regain compliance with our debt covenants.
There
are no cross default provisions that would require any other long-term liabilities to be classified as current. Although the 9%
subordinated promissory note described below contains a cross default provision that is triggered by the acceleration of the senior
debt, such cross default provision would only be triggered for a technical default like the one that occurred if the senior lender
accelerated the senior debt, which has not happened.
The
amount of management fee paid to our manager by our company is reduced by the aggregate amount of any offsetting management fees,
if any, received by our manager from any of our businesses. As a result, the management fee paid to our manager may fluctuate
from quarter to quarter. The amount of management fee paid to our manager may represent a significant cash obligation. In this
respect, the payment of the management fee will reduce the amount of cash available for distribution to shareholders. See “Item
1. Business—Our Manager—Our Manager as a Service Provider—Management Fee” included in our Annual Report
on Form 10-K for the year ended December 31, 2018 for more information on the calculation of the management fee.
Our
manager, as holder of 100% of our allocation shares, is entitled to receive a twenty percent (20%) profit allocation as a form
of preferred equity distribution, subject to an annual hurdle rate of eight percent (8%), as follows. Upon the sale of a company
subsidiary, the manager will be paid a profit allocation if the sum of (i) the excess of the gain on the sale of such subsidiary
over a high water mark plus (ii) the subsidiary’s net income since its acquisition by the company exceeds the 8% hurdle
rate. The 8% hurdle rate is the product of (i) a 2% rate per quarter, multiplied by (ii) the number of quarters such subsidiary
was held by the company, multiplied by (iii) the subsidiary’s average share (determined based on gross assets, generally)
of our company’s consolidated net equity (determined according to U.S. generally accepted accounting principals, or GAAP.
with certain adjustments). In certain circumstances, after a subsidiary has been held for at least 5 years, the manager may also
trigger a profit allocation with respect to such subsidiary (determined based solely on the subsidiary’s net income since
its acquisition). The amount of profit allocation may represent a significant cash payment and is senior in right to payments
of the distributions on the series A preferred and other distributions to our shareholders. Therefore, the amount of profit allocation
paid, when paid, will reduce the amount of cash available to our company for its operating and investing activities, including
future acquisitions. See “Item 1. Business—Our Manager—Our Manager as an Equity Holder—Manager’s
Profit Allocation” included in our Annual Report on Form 10-K for the year ended December 31, 2018 for more information
on the calculation of the profit allocation.
Our
operating agreement also contains a supplemental put provision, which gives our manager the right, subject to certain conditions,
to cause our company to purchase the allocation shares then owned by our manager upon termination of the management services agreement.
The amount of put price under the supplemental put provision is determined by assuming all of our subsidiaries are sold at that
time for their fair market value and then calculating the amount of profit allocation would be payable in such a case. If the
management services agreement is terminated for any reason other than the manager’s resignation, the payment to our manager
could be as much as twice the amount of such hypothetical profit allocation. As is the case with profit allocation, the calculation
of the put price is complex and based on many factors that cannot be predicted with any certainty at this time. See “Item
1. Business—Our Manager—Our Manager as an Equity Holder—Supplemental Put Provision” included in our Annual
Report on Form 10-K for the year ended December 31, 2018 for more information on the calculation of the put price. The put price
obligation, if the manager exercises its put right, will represent a significant cash payment and is senior in right to payments
of distributions to our shareholders. Therefore, the amount of put price will reduce the amount of cash available to our company
for its operating and investing activities, including future acquisitions.
Summary
of Cash Flow
The
following table provides detailed information about our net cash flow for all financial statement periods presented in this prospectus:
|
|
Years
Ended
December
31,
|
|
|
Nine
Months Ended
September
30,
|
|
|
|
2018
|
|
|
2017
|
|
|
2019
|
|
|
2018
|
|
Net cash used in operating activities
|
|
$
|
(127,005
|
)
|
|
$
|
(416,695
|
)
|
|
$
|
(954,532
|
)
|
|
$
|
(1,075,882
|
)
|
Net cash provided by (used in) investing activities
|
|
|
309,968
|
|
|
|
(438,206
|
)
|
|
|
1,158,042
|
|
|
|
200,025
|
|
Net cash provided by (used in) financing activities
|
|
|
(350,505
|
)
|
|
|
1,356,323
|
|
|
|
(340,342
|
)
|
|
|
383,418
|
|
Net increase (decrease) in cash and cash equivalents
|
|
|
(167,542
|
)
|
|
|
501,422
|
|
|
|
(136,832
|
)
|
|
|
(492,439
|
)
|
Cash and cash equivalents at beginning of period
|
|
|
501,422
|
|
|
|
-
|
|
|
|
333,880
|
|
|
|
501,422
|
|
Cash and cash equivalent at end of period
|
|
$
|
333,880
|
|
|
|
501,422
|
|
|
$
|
197,048
|
|
|
$
|
8,983
|
|
Net
cash used in operating activities was $954,532 for the nine months ended September 30, 2019, as compared to $1,075,882 for the
nine months ended September 30, 2018. For the nine months ended September 30, 2019, the net loss of $3,070,968, a decrease in
accounts payable and accrued expenses of $354,830, a decrease in accounts receivable of $617,794 and a decrease in uncertain tax
position and deferred taxes of $572,398, offset by an increase in other current liabilities of $1,234,143, depreciation and amortization
of $1,037,243, an increase in customer deposits of $800,064 and a decrease in inventory of $433,101, were the primary drivers
of the net cash used in operating activities. For the nine months ended September 30, 2018, the net loss of $1,644,341, a decrease
in uncertain tax position and deferred taxes of $746,100 and a loan contingency write-down of $395,634, offset by depreciation
and amortization of $1,054,233 and an increase in accounts payable and accrued expenses of $454,299 were the primary drivers of
the used in by operating activities.
Net
cash used in operating activities was $127,005 for the year ended December 31, 2018, as compared to $416,695 for the year ended
December 31, 2017. For the year ended December 31, 2018, the net loss of $1,541,873, a decrease in deferred tax liability and
prepaid tax of $742,000, a loan contingency write-down of $395,634, a gain on sale of fixed assets of $28,408, and an increase
in accounts receivable of $239,205, offset by depreciation and amortization of $1,441,898, loss of extinguishment of debt of $536,534,
a loss on write-off of assets of $129,400, amortization of financing costs of $29,239, an increase in accounts payable and accrued
expenses of $433,739, and a decrease of inventory of $240,353, were the primary drivers of the used in by operating activities.
For the year ended December 31, 2017, the net loss of $668,176, a decrease in deferred tax liability and prepaid tax of $1,173,994,
a gain on sale of fixed assets of $275,499, and an increase in accounts receivable of $153,667, offset by depreciation and amortization
of $1,125,667, an increase in accounts payable and accrued expenses of $452,026, and a decrease in inventory of $201,339 were
the primary drivers of the cash provided by operating activities.
Net
cash provided by investing activities was $1,158,042 for the nine months ended September 30, 2019, consisting of net cash acquired
in the acquisition of Goedeker of $1,135,368, proceeds from sale of property and equipment of $39,750 and offset by the purchase
of equipment in the amount of $17,076. Net cash provided by investing activities was $200,025 for the nine months ended September
30, 2018, consisting of $202,025 of proceeds from sale of property and equipment, offset by the purchase of equipment in the amount
of $2,000.
Net
cash provided by investing activities was $309,968 for the year ended December 31, 2018, consisting of $320,775 of proceeds from
sale of fixed assets, offset by purchase of equipment in the amount of $10,807. Net cash used in investing activities was $438,206
for the year ended December 31, 2017, consisting of $338,411 from the acquisition of Neese and $369,272 from the proceeds of fixed
assets from March 3, 2017 through December 31, 2017, offset by the purchase of $1,145,889 in equipment for Neese.
Net
cash used in financing activities was $340,342 for the nine months ended September 30, 2019, as compared to net cash provided
by financing activities of $383,418 for the nine months ended September 30, 2018. For the nine months ended September 30, 2019,
net cash used in financing activities consisted of proceeds of short-term borrowing $849,461 and, offset by net payments on notes
payable of $399,827, related party note payments of $246,207, repayment to line of credit of $180,865 and repayments on capital
lease obligations of $363,444. For the nine months ended September 30, 2018, net cash provided by financing activities consisted
of proceeds from notes payable in the amount of $3,781,908 and proceeds from related party notes payable in the amount of $117,000,
offset by repayments of notes payable of $93,767, repayment to line of credit in the amount of $675,000, principal payments on
the capital lease of $2,218,500 and financing costs and early extinguishment of debt of $528,223.
Net
cash used in financing activities was $350,505 for the year ended December 31, 2018, as compared to net cash provided by financing
activities of $1,356,323 for the year ended December 31, 2017. For the year ended December 31, 2018, net cash used in financing
activities consisted of proceeds from notes payable in the amount of $16,297 and proceeds from related party notes payable in
the amount of $117,000, offset by principal payments on the capital lease of $596,405, repayment to line of credit in the amount
of $275,000, and repayments of notes payable of $75,534. For the year ended December 31, 2017, net cash provided by financing
activities consisted of proceeds from a line of credit of $675,000, proceeds from a capital lease obligation of $759,650, and
proceeds from a note payable of $397,464, offset by principal payments on the capital lease of $150,594 and repayments of notes
payable $325,197.
Grid
Promissory Note
On
January 3, 2018, we issued a grid promissory note to our manager in the initial principal amount of $50,000. The note provides
that we may from time to time request additional advances from our manager up to an aggregate additional amount of $100,000, which
will be added to the note if our manager, in its sole discretion, so provides. Interest shall accrue on the unpaid portion of
the principal amount and the unpaid portion of all advances outstanding at a fixed rate of 8% per annum, and along with the outstanding
portion of the principal amount and the outstanding portion of all advances, shall be payable in one lump sum due on the maturity
date, which was the first anniversary of the date of the note. The maturity date of the grid promissory note was extended until
January 3, 2021. If all or a portion of the principal amount or any advance under the note, or any interest payable thereon is
not paid when due (whether at the stated maturity, by acceleration or otherwise), such overdue amount shall bear interest at a
rate of 12% per annum. The note is unsecured and contains customary events of default. As of September 30, 2019, our manager has
advanced $117,000 of the promissory note and we have accrued interest of $14,647.
Revolving
Loan - Burnley
On
April 5, 2019, Goedeker, as borrower, and 1847 Goedeker entered into a loan and security agreement with Burnley for revolving
loans in an aggregate principal amount that will not exceed the lesser of (i) the borrowing base or (ii) $1,500,000
(provided that such amount may be increased to $3,000,000 in Burnley’s sole discretion) minus reserves established Burnley
at any time in accordance with the loan and security agreement. The “borrowing base” means an amount equal to the
sum of the following: (i) the product of 85% multiplied by the liquidation value of Goedeker’s inventory (net of all liquidation
costs) identified in the most recent inventory appraisal by an appraiser acceptable to Burnley (ii) multiplied by Goedeker’s
eligible inventory (as defined in the loan and security agreement), valued at the lower of cost or market value, determined on
a first-in-first-out basis. In connection with the closing of the acquisition of Goedeker Television on April 5, 2019, Goedeker
borrowed $744,000 under the loan and security agreement and issued a revolving note to Burnley in the principal amount of up to
$1,500,000. The balance of the line of credit amounts to $576,962 as of September 30, 2019, comprised of principal of $675,295
and net of unamortized debt discount of $98,333.
The
revolving note matures on April 5, 2022, provided that at Burnley’s sole and absolute discretion, it may agree to extend
the maturity date for two successive terms of one year each. The revolving note bears interest at a per annum rate equal to the
greater of (i) the LIBOR Rate (as defined in the loan and security agreement) plus 6.00% or (ii) 8.50%; provided that upon an
event of default (as defined below) all loans, all past due interest and all fees shall bear interest at a per annum rate equal
to the foregoing rate plus 3.00%. Goedeker shall pay interest accrued on the revolving note in arrears on the last day of each
month commencing on April 30, 2019.
Goedeker
may at any time and from time to time prepay the revolving note in whole or in part. If at any time the outstanding principal
balance on the revolving note exceeds the lesser of (i) the difference of the total loan amount minus any reserves and (ii) the
borrowing base, then Goedeker shall immediately prepay the revolving note in an aggregate amount equal to such excess. In addition,
in the event and on each occasion that any net proceeds (as defined in the loan and security agreement) are received by or on
behalf of Goedeker or 1847 Goedeker in respect of any prepayment event following the occurrence and during the continuance of
an event of default, Goedeker shall, immediately after such net proceeds are received, prepay the revolving note in an aggregate
amount equal to 100% of such net proceeds. A “prepayment event” means (i) any sale, transfer, merger, liquidation
or other disposition (including pursuant to a sale and leaseback transaction) of any property of Goedeker or 1847 Goedeker; (ii)
a change of control (as defined in the loan and security agreement); (iii) any casualty or other insured damage to, or any taking
under power of eminent domain or by condemnation or similar proceeding of, any property of Goedeker or 1847 Goedeker with a fair
value immediately prior to such event equal to or greater than $25,000; (iv) the issuance by Goedeker of any capital stock or
the receipt by Goedeker of any capital contribution; or (v) the incurrence by Goedeker or 1847 Goedeker of any indebtedness (as
defined in the loan and security agreement), other than indebtedness permitted under the loan and security agreement.
Under
the loan and security agreement, Goedeker is required to pay a number of fees to Burnley, including the following:
|
●
|
a
commitment fee during the period from closing to the earlier of the maturity date or
termination of Burnley’s commitment to make loans under the loan and security agreement,
which shall accrue at the rate of 0.50% per annum on the average daily difference of
the total loan amount then in effect minus the sum of the outstanding principal balance
of the revolving note, which such accrued commitment fees are due and payable in arrears
on the first day of each calendar month and on the date on which Burnley’s commitment
to make loans under the loan and security agreement terminates, commencing on the first
such date to occur after the closing date;
|
|
●
|
an
annual loan facility fee equal to 0.75% of the revolving commitment (i.e., the maximum
amount that Goedeker may borrow under the revolving loan), which is fully earned on the
closing date for the term of the loan (including any extension) but shall be due and
payable on each anniversary of the closing date;
|
|
●
|
a
monthly collateral management fee for monitoring and servicing the revolving loan equal
to $1,700 per month for the term of revolving note, which is fully earned and non-refundable
as of the date of the loan and security agreement, but shall be payable monthly in arrears
on the first day of each calendar month; provided that payment of the collateral management
fee may be made, at the discretion of Burnley, by application of advances under the revolving
loan or directly by Goedeker; and
|
|
●
|
if
the revolving loan is terminated for any reason, including by Burnley following an event
of default, then Goedeker shall pay, as liquidated damages and compensation for the costs
of being prepared to make funds available, an amount equal to the applicable percentage
multiplied by the revolving commitment (i.e., the maximum amount that Goedeker may borrow
under the revolving loan), wherein the term applicable percentage means (i) 3%, in the
case of a termination on or prior to the first anniversary of the closing date, (ii)
2%, in the case of a termination after the first anniversary of the closing date but
on or prior to the second anniversary thereof, and (iii) 0.5%, in the case of a termination
after the second anniversary of the closing date but on or prior to the maturity date.
|
The
loan and security agreement contains customary events of default, including, among others: (i) for failure to pay principal and
interest on the revolving note when due, or to pay any fees due under the loan and security agreement; (ii) if any representation,
warranty or certification in the loan and security agreement or any document delivered in connection therewith is incorrect in
any material respect; (iii) for failure to perform any covenant or agreement contained in the loan and security agreement or any
document delivered in connection therewith; (iv) for the occurrence of any default in respect of any other indebtedness of more
than $100,000; (v) for any voluntary or involuntary bankruptcy, insolvency or dissolution; (vi) for the occurrence of one or more
judgments, non-interlocutory orders, decrees or arbitration awards involving in the aggregate a liability of $25,000 or more;
(vii) if Goedeker or 1847 Goedeker, or officer thereof, is charged by a governmental authority, criminally indicted or convicted
of a felony under any law that would reasonably be expected to lead to forfeiture of any material portion of collateral, or such
entity is subject to an injunction restraining it from conducting its business; (viii) if Burnley determines that a material adverse
effect (as defined in the loan and security agreement) has occurred; (ix) if a change of control (as defined in the loan and security
agreement) occurs; (x) if there is any material damage to, loss, theft or destruction of property which causes, for more than
thirty consecutive days beyond the coverage period of any applicable business interruption insurance, the cessation or substantial
curtailment of revenue producing activities; (xi) if there is a loss, suspension or revocation of, or failure to renew any permit
if it could reasonably be expected to have a material adverse effect; and (xii) for the occurrence of any default or event of
default under the term loan with SBCC, the 9% subordinated promissory note issued to Goedeker Television, the secured convertible
promissory note issued to Leonite (as defined below) or any other debt that is subordinated to the revolving loan.
The
loan and security agreement contains customary representations, warranties and affirmative and negative financial and other covenants
for a loan of this type. The revolving note is secured by a first priority security interest in all of the assets of Goedeker
and 1847 Goedeker. In connection with such security interest, on April 5, 2019, (i) 1847 Goedeker entered into a pledge agreement
with Burnley, pursuant to which 1847 Goedeker pledged the shares of Goedeker held by it to Burnley, and (ii) Goedeker entered
into a deposit account control agreement with Burnley, SBCC and Montgomery Bank relating to the security interest in Goedeker’s
bank accounts.
In
addition, on April 5, 2019, we entered into a guaranty with Burnley to guaranty the obligations under the loan and security agreement
upon the occurrence of certain prohibited acts described in the guaranty.
The
rights of Burnley to receive payments under the revolving note are subordinate to the rights of Northpoint (as defined below)
under a subordination agreement that Burnley entered into with Northpoint.
As
noted above, our company is in technical, not payment default, on this loan and security agreement and has classified such debt
as a current liability.
Revolving
Loan – Northpoint
On
June 24, 2019, Goedeker, as borrower, entered into a loan and security agreement with Northpoint Commercial Finance LLC, or Northpoint,
for revolving loans up to an aggregate maximum loan amount of $1,000,000 for the acquisition, financing or refinancing by Goedeker
of inventory at an interest rate of LIBOR plus 7.99%. The balance of the line of credit amounts to $736,788 as of September 30,
2019.
Pursuant
to the loan and security agreement, Goedeker shall pay the following fees to Northpoint: (i) an audit fee for each audit conducted
as determined by Northpoint, equal to the out-of-pocket expense incurred by Northpoint plus any minimum audit fee established
by Northpoint; (ii) a fee for any returned payments equal to the lesser of the maximum amount permitted by law or $50; (iii) a
late fee for each payment not received by the 25th day of a calendar month, and each month thereafter until such payment
is paid, equal to the greater of 5% of the amount past due or $25; (iv) a billing fee equal to $250 for any month for which Goedeker
requests a paper billing statement; (v) a live check fee equal to $50 for each check that Goedeker sends to Northpoint for payment
of obligations under the loan and security agreement; (vi) processing fees to be determined by Northpoint; and (vii) any additional
fees that Northpoint may implement from time to time.
The
loan and security agreement contains customary events of default, including in the event of (i) non-payment, (ii) a breach by
Goedeker of any of its representations, warranties or covenants under the loan and security agreement or any other agreement entered
into with Northpoint, or (iii) the bankruptcy or insolvency of Goedeker. The loan and security agreement contains customary
representations, warranties and affirmative and negative financial and other covenants for a loan of this type.
The
Northpoint loans are secured by a security interest in all of the inventory of Goedeker that is manufactured or sold by vendors
identified in the loan and security agreement. In connection with the loan and security agreement, on June 24, 2019 1847 Holdco
entered into a guaranty in favor of Northpoint, to guaranty the obligations of Goedeker under the loan and security agreement.
Term
Loan - SBCC
On
April 5, 2019, Goedeker, as borrower, and 1847 Goedeker entered into a loan and security agreement with SBCC for a term loan in
the principal amount of $1,500,000, pursuant to which Goedeker issued to SBCC a term note in the principal amount of up to
$1,500,000 and a ten-year warrant to purchase shares of the most senior capital stock of Goedeker equal to 5.0% of the outstanding
equity securities of Goedeker on a fully-diluted basis for an aggregate price equal to $100. The balance of the note amounts to
$1,049,186 as of September 30, 2019, comprised of principal of $1,406,250 and net of unamortized debt discount of $155,750 and
unamortized warrant feature of $201,314.
The
term note matures on April 5, 2023 and bears interest at the sum of the cash interest rate (defined as 11% per annum) plus the
PIK interest rate (defined as 2% per annum); provided that upon an event of default all principal, past due interest and all fees
shall bear interest at a per annum rate equal to the cash interest rate and the PIK interest rate, in each case plus 3.00%. Interest
accrued at the cash interest rate shall be due and payable in arrears on the last day of each month commencing May 31, 2019. Interest
accrued at the PIK interest rate shall be automatically capitalized, compounded and added to the principal amount of the term
note on each last day of each quarter unless paid in cash on or prior to the last day of each quarter; provided that (i) interest
accrued pursuant to an event of default shall be payable on demand, and (ii) in the event of any repayment or prepayment, accrued
interest on the principal amount repaid or prepaid (including interest accrued at the PIK interest rate and not yet added to the
principal amount of term note) shall be payable on the date of such repayment or prepayment. Notwithstanding the foregoing, all
interest on term note, whether accrued at the cash interest rate or the PIK interest rate, shall be due and payable in cash on
the maturity date unless payment is sooner required by the loan and security agreement.
Goedeker
must repay to SBCC on the last business day of each March, June, September and December, commencing with the last business day
of June 2019, an aggregate principal amount of the term note equal to $93,750, regardless of any prepayments made, and must pay
the unpaid principal on the maturity date unless payment is sooner required by the loan and security agreement.
Goedeker
may prepay the term note in whole or in part from time to time; provided that if such prepayment occurs (i) prior to the first
anniversary of the closing date, Goedeker shall pay SBCC an amount equal to 5.0% of such prepayment, (ii) prior to the second
anniversary of the closing date and on or after the first anniversary of the closing date, Goedeker shall pay SBCC an amount equal
to 3.0% of such prepayment, or (iii) prior to the third anniversary of the closing date and on or after the second anniversary
of the closing date, Goedeker shall pay SBCC an amount equal to 1.0% of such prepayment, in each case as liquidated damages for
damages for loss of bargain to SBCC. In addition, in the event and on each occasion that any net proceeds (as defined in the loan
and security agreement) are received by or on behalf of Goedeker or 1847 Goedeker in respect of any prepayment event following
the occurrence and during the continuance of an event of default, Goedeker shall, immediately after such net proceeds are received,
prepay the term note in an aggregate amount equal to 100% of such net proceeds. A “prepayment event” means (i) any
sale, transfer, merger, liquidation or other disposition (including pursuant to a sale and leaseback transaction) of any property
of Goedeker or 1847 Goedeker; (ii) a change of control (as defined in the loan and security agreement); (iii) any casualty or
other insured damage to, or any taking under power of eminent domain or by condemnation or similar proceeding of, any property
of Goedeker or 1847 Goedeker with a fair value immediately prior to such event equal to or greater than $25,000; (iv) the issuance
by Goedeker of any capital stock or the receipt by Goedeker of any capital contribution; or (v) the incurrence by Goedeker or
1847 Goedeker of any indebtedness (as defined in the loan and security agreement), other than indebtedness permitted under the
loan and security agreement.
The
loan and security agreement with SBCC contains the same events of default as the loan and security agreement with Burnley, provided
that the reference to the term loan in the cross default provision refers instead to the revolving loan.
The
loan and security agreement contains customary representations, warranties and affirmative and negative financial and other covenants
for a loan of this type. The term note is secured by a second priority security interest (subordinate to the revolving loan) in
all of the assets of Goedeker and 1847 Goedeker. In connection with such security interest, on April 5, 2019, (i) 1847 Goedeker
entered into a pledge agreement with SBCC, pursuant to which 1847 Goedeker pledged the shares of Goedeker held by it to SBCC,
and (ii) Goedeker entered deposit account control agreement with Burnley, SBCC and Montgomery Bank relating to the security interest
in Goedeker’s bank accounts.
In
addition, on April 5, 2019, we entered into a guaranty with SBCC to guaranty the obligations under the loan and security agreement
upon the occurrence of certain prohibited acts described in the guaranty.
The
rights of SBCC to receive payments under the term note are subordinate to the rights of Northpoint and Burnley under separate
subordination agreements that SBCC entered into with them.
As
noted above, our company is in technical, not payment default, on this loan and security agreement and has classified such debt
as a current liability.
Term
Loan - Home State Bank
On
June 13, 2018, Neese entered into a term loan agreement with Home State Bank, pursuant to which Neese issued a promissory note
to Home State Bank in the principal amount of $3,654,074 with an annual interest rate of 6.85% with covenants to maintain a minimum
debt coverage ratio of 1.00 to 1.25. Pursuant to the terms of the note, Neese will make semi-annual payments of $302,270 beginning
on January 20, 2019 and continuing every six months thereafter until July 20, 2020, the maturity date; provided however, that
Neese will pay the note in full immediately upon demand by Home State Bank. The balance of the note amounts to $3,361,499 as of
September 30, 2019, comprised of principal of $3,376,757 and net of unamortized debt discount of $15,258.
The
loan agreement contains customary representations and warranties. Pursuant to the terms of the loan agreement and the note, an
“event of default” includes: (i) if Neese fails to make any payment when due under the note; (ii) if Neese fails to
comply with or to perform any other term, obligation, covenant or condition contained in the note or in any of the related documents
or to comply with or to perform any term, obligation, covenant or condition contained in any other agreement between Home State
Bank and Neese; (iii) if Neese defaults under any loan, extension of credit, security agreement, purchase or sales agreement,
or any other agreement, in favor of any other creditor or person that may materially affect any of Home State Bank’s property
or Neese’s ability to repay the note or perform Neese’s obligations under the note or any of the related documents;
(iv) if any warranty, representation or statement made or furnished to Home State Bank by Neese or on Neese’s behalf under
the note or the related documents is false or misleading in any material respect; (v) upon the dissolution or termination of Neese’s
existence as a going business, the insolvency of Neese, the appointment of a receiver for any part of Neese’s property,
any assignment for the benefit of creditors, any type of creditor workout, or the commencement of any proceeding under any bankruptcy
or insolvency laws by or against Neese, (vi) upon commencement of foreclosure or forfeiture proceedings by any creditor of Neese
or by any governmental agency against any collateral securing the loan; and (vii) if a material adverse change occurs in Neese’s
financial condition, or Home State Bank believes the prospect of payment or performance of the note is impaired. If any event
of default occurs, all commitments and obligations of Home State Bank immediately will terminate and, at Home State Bank’s
option, all indebtedness immediately will become due and payable, all without notice of any kind to Neese. Additionally, upon
an event of default, the interest rate on the note will be increased by 3 percentage points. However, in no event will the interest
rate exceed the maximum interest rate limitations under applicable law.
The
loan is secured by inventory, accounts receivable, and certain fixed assets of Neese. The loan agreement limited the payment of
interest on the 8% vesting promissory note and 10% promissory note described below to $40,000 annually or fees to our manager.
We continue to accrue interest and management fees at the contractual amounts. Such accruals (in excess of $40,000 in interest
on the promissory notes) are shown as long-term accrued expenses in the accompanying balance sheet as of September 30, 2019.
Secured
Convertible Promissory Note
On
April 5, 2019, our company, 1847 Goedeker and Goedeker (which are collectively referred to herein as 1847) entered into a securities
purchase agreement with Leonite Capital LLC, or Leonite, pursuant to which 1847 issued to Leonite a secured convertible promissory
note in the aggregate principal amount of $714,286. As additional consideration for the purchase of the note, (i) our company
issued to Leonite 50,000 common shares, (ii) our company issued to Leonite a five-year warrant to purchase 200,000 common shares
at an exercise price of $1.25 per share (subject to adjustment), which may be exercised on a cashless basis, and (iii) 1847 Goedeker
issued to Leonite shares of common stock equal to a 7.5% non-dilutable interest in 1847 Goedeker.
The
note carries an original issue discount of $64,286 to cover Leonite’s legal fees, accounting fees, due diligence fees and/or
other transactional costs incurred in connection with the purchase of the note. Therefore, the purchase price of the note was
$650,000. We amortized $211,088 of financing costs related to the common shares and warrants in the nine months ended September
30, 2019. The remaining net balance of the note at September 30, 2019 is $456,228, comprised of principal of $714,286 and net
of unamortized original issuance discount interest of $31,473, unamortized financing costs of $76,250, and unamortized debt discount
warrant feature of $150,335.
The
note bears interest at the rate of the greater of (i) 12% per annum and (ii) the prime rate as set forth in the Wall Street Journal
on April 5, 2019 plus 6.5% guaranteed over the holding period on the unconverted principal amount, on the terms set forth in the
note (which is referred to as the Stated Rate). Any amount of principal or interest on the note which is not paid by the maturity
date shall bear interest at the rate at the lesser of 24% per annum or the maximum legal amount permitted by law (which is referred
to as the Default Interest).
Beginning
on May 5, 2019 and on the same day of each and every calendar month thereafter throughout the term of the note,
1847 shall make monthly payments of interest only due under the note to Leonite at the Stated Rate as set forth above.
1847 shall pay to Leonite on an accelerated basis any outstanding principal amount of the note, along with accrued, but unpaid
interest, from: (i) net proceeds of any future financings by our company, but not its subsidiaries, whether debt or equity, or
any other financing proceeds, except any transaction having a specific use of proceeds requirement that such proceeds are to be
used exclusively to purchase the assets or equity of an unaffiliated business and the proceeds are used accordingly; (ii) net
proceeds from any sale of assets of 1847 or any of its subsidiaries other than sales of assets in the ordinary course of business
or receipt by 1847 or any of its subsidiaries of any tax credits, subject to rights of Goedeker, or other financing sources of
1847 (including its subsidiaries) existing prior to the date of the note; and (iii) net proceeds from the sale of any assets outside
of the ordinary course of business or securities in any subsidiary.
The
note will mature 12 months from the issue date, or April 5, 2020, at which time the principal amount and all accrued and unpaid
interest, if any, and other fees relating to the note, will be due and payable. Unless an event of default as set forth in the
note has occurred, 1847 has the right to prepay principal amount of, and any accrued and unpaid interest on, the note at any time
prior to the maturity date at 115% of the principal amount, or the Premium, provided, however, that if the prepayment is the result
of any of the occurrence of any of the transactions described in subparagraphs (i), (ii) or (iii) above then such prepayment shall
be the unpaid principal amount, plus accrued and unpaid interest and other amounts due but without the Premium.
The
note contains customary events of default, including in the event of (i) non-payment, (ii) a breach by 1847 of its covenants under
the securities purchase agreement or any other agreement entered into in connection with the securities purchase agreement, or
a breach of any of representations or warranties under the note, or (iii) the bankruptcy of 1847. The note also contains a cross
default provision, whereby a default by 1847 of any covenant or other term or condition contained in any of the other financial
instrument issued by of 1847 to Leonite or any other third party after the passage all applicable notice and cure or grace periods
that results in a material adverse effect shall, at Leonite’s option, be considered a default under the note, in which event
Leonite shall be entitled to apply all rights and remedies under the terms of the note.
Under
the note, Leonite has the right at any time at its option to convert all or any part of the outstanding and unpaid principal amount
and accrued and unpaid interest of the note into fully paid and non-assessable common shares or any shares or other securities
of our company into which such common shares may be changed or reclassified. The number of common shares to be issued upon each
conversion of the note shall be determined by dividing the conversion amount by the applicable conversion price then in effect.
The conversion amount is the sum of: (i) the principal amount of the note to be converted plus (ii) at Leonite’s option,
accrued and unpaid interest, plus (iii) at Leonite’s option, Default Interest, if any, plus (iv) Leonite’s expenses
relating to a conversion, plus (v) at Leonite’s option, any amounts owed to Leonite. The conversion price shall be $1.00
per share (subject to adjustment as further described in the note for common share distributions and splits, certain fundamental
transactions, and anti-dilution adjustments), provided that at any time after any event of default under the note, the conversion
price shall immediately be equal to the lesser of (i) such conversion price less 40%; and (ii) the lowest weighted average price
of the common shares during the 21 consecutive trading day period immediately preceding the trading day that 1847 receives a notice
of conversion or (iii) the discount to market based on subsequent financings with other investors.
Notwithstanding
the foregoing, in no event shall Leonite be entitled to convert any portion of the note in excess of that portion of the note
upon conversion of which the sum of (1) the number of common shares beneficially owned by Leonite and its affiliates (other than
common shares which may be deemed beneficially owned through the ownership of the unconverted portion of the note or the unexercised
or unconverted portion of any other security of our company subject to a limitation on conversion or exercise analogous to the
limitations contained in the note, and, if applicable, net of any shares that may be deemed to be owned by any person not affiliated
with Leonite who has purchased a portion of the note from Leonite) and (2) the number of common shares issuable upon the conversion
of the portion of the note with respect to which the determination of this proviso is being made, would result in beneficial ownership
by Leonite and its affiliates of more than 4.99% of the outstanding common shares of our company. Such limitations on conversion
may be waived (up to a maximum of 9.99%) by Leonite upon, at its election, not less than 61 days’ prior notice to us, and
the provisions of the conversion limitation shall continue to apply until such 61st day (or such later date, as determined by
Leonite, as may be specified in such notice of waiver).
Concurrently
with 1847 and Leonite entering into the securities purchase agreement and as security for 1847’s obligations thereunder,
on April 5, 2019, our company, 1847 Goedeker and Goedeker entered into a security and pledge agreement with Leonite, pursuant
to which, in order to secure 1847’s timely payment of the note and related obligations and the timely performance of each
and all of its covenants and obligations under the securities purchase agreement and related documents, 1847 unconditionally and
irrevocably granted, pledged and hypothecated to Leonite a continuing security interest in and to, a lien upon, assignment of,
and right of set-off against, all presently existing and hereafter acquired or arising assets. Such security interest is a first
priority security interest with respect to the securities that our company owns in 1847 Goedeker and in 1847 Neese, and a third
priority security interest with respect to all other assets.
The
rights of Leonite to receive payments under the note are subordinate to the rights of Northpoint, Burnley and SBCC under separate
subordination agreements that Leonite entered into with them.
9%
Subordinated Promissory Note
A
portion of the purchase price for the acquisition of assets from Goedeker Television was paid by the issuance by Goedeker of a
9% subordinated promissory note in the principal amount of $4,100,000. The note will accrue interest at 9% per annum, amortized
on a five-year straight-line basis and payable quarterly in accordance with the amortization schedule attached thereto, and mature
on April 5, 2023. Goedeker has the right to redeem all or any portion of the note at any time prior to the maturity date without
premium or penalty of any kind. The note contains customary events of default, including in the event of (i) non-payment, (ii)
a default by Goedeker of any of its covenants under the asset purchase agreement or any other agreement entered into in connection
with the asset purchase agreement, or a breach of any of representations or warranties under such documents, or (iii) the bankruptcy
of Goedeker. The note also contains a cross default provision which provides that if there occurs with respect to the revolving
loan with Burnley or the term loan with SBCC (A) a default with respect to any payment obligation thereunder that entitles the
holder thereof to declare such indebtedness to be due and payable prior to its stated maturity or (B) any other default thereunder
that entitles, and has caused, the holder thereof to declare such indebtedness to be due and payable prior to maturity. Since
the defaults under the loans with Burnley and SBCC are not payment defaults, they fall under clause (B) above and would require
Burnley or SBCC to accelerate the payment of indebtedness under their notes (which they have not done) before the cross default
provisions would result in a default under this note.
The
rights of the holder to receive payments under the note are subordinate to the rights of Northpoint, Burnley and SBCC under separate
subordination agreements that the holder entered into with them.
The
remaining balance of the note at September 30, 2019 is $4,274,209, comprised of principal of $4,530,293 and net of unamortized
debt discount of $256,084.
8%
Vesting Promissory Note
A
portion of the purchase price for the acquisition of Neese was paid by the issuance of an 8% vesting promissory note in the principal
amount of $1,875,000 (which was determined to have no fair value as of September 30, 2019 and December 31, 2018) by 1847 Neese
and Neese to the sellers of Neese. Payment of the principal and accrued interest on the note is subject to vesting and a contingent
consideration subject to fair market valuation adjustment at each reporting period. The note bears interest on the vested portion
of the principal amount at the rate of eight percent (8%) per annum and is due and payable in full on June 30, 2020. The principal
of the note vests in accordance with the following formula:
|
●
|
Fiscal
Year 2017: If Adjusted EBITDA for the fiscal year ending December 31, 2017 exceeds an
Adjusted EBITDA target of $1,300,000 (referred to as the Adjusted EBITDA Target), then
a portion of the principal amount of the note that is equal to sixty percent (60%) of
such excess shall vest. Interest shall be payable on such vested portion of principal
from January 1, 2017 through the maturity date. For the year ended December 31, 2017,
Adjusted EBITDA was $788,958, below the threshold amount of $1,300,000, therefore no
portion of the note vested in fiscal year 2017.
|
|
●
|
Fiscal
Year 2018: If Adjusted EBITDA for the fiscal year ending December 31, 2018 exceeds the
Adjusted EBITDA Target, then a portion of the principal amount of the note that is equal
to sixty percent (60%) of such excess shall vest. Interest shall be payable on such vested
portion of principal from January 1, 2018 through the maturity date. For the year ended
December 31, 2018, Adjusted EBITDA was approximately $320,000, below the threshold amount
of $1,300,000, therefore no portion of the note vested in fiscal year 2018.
|
|
●
|
Fiscal
Year 2019: If Adjusted EBITDA for the fiscal year ending December 31, 2019 exceeds the
Adjusted EBITDA Target, then a portion of the principal amount of the note that is equal
to sixty percent (60%) of such excess shall vest. Interest shall be payable on such vested
portion of principal from January 1, 2019 through the maturity date.
|
For
purposes of the note, “Adjusted EBITDA” means the earnings before interest, taxes, depreciation and amortization expenses,
in accordance with GAAP applied on a basis consistent with the accounting policies, practices and procedures used to prepare the
financial statements of Neese as of the closing date, plus to the extent deducted in calculating such net income: (i) all expenses
related to the transactions contemplated hereby and/or potential or completed future financings or acquisitions, including legal,
accounting, due diligence and investment banking fees and expenses; (ii) all management fees, allocations or corporate overhead
(including executive compensation) or other administrative costs that arise from the ownership of Neese by 1847 Neese including
allocations of supervisory, centralized or other parent-level expense items; (iii) one-time extraordinary expenses or losses;
and (iv) any reserves or adjustments to reserves which are not consistent with GAAP. Additionally, for purposes of calculating
Adjusted EBITDA, the purchase and sales prices of goods and services sold by or purchased by Neese to or from 1847 Neese, its
subsidiaries or affiliates shall be adjusted to reflect the amounts that Neese would have realized or paid if dealing with an
independent third-party in an arm’s-length commercial transaction, and inventory items shall be properly categorized as
such and shall not be expenses until such inventory is sold or consumed.
At
June 30, 2018, management made the determination that the vesting note payable had no value because it estimated that the EBITDA
threshold of $1,300,000 for both 2018 and 2019 would be not attained, thus eliminating the requirement for a payment under terms
of the note payable.
The
note contains customary events of default, including in the event of: (i) non-payment; (ii) a default by 1847 Neese or Neese of
any of their covenants under the stock purchase agreement, the note, or any other agreement entered into in connection with the
acquisition of Neese, or a breach of any of their representations or warranties under such documents; or (iii) the bankruptcy
of 1847 Neese or Neese.
Under
terms of the term loan with Home State Bank described above, the note may not be paid until the term loan is paid in full.
10%
Promissory Note
A
portion of the purchase price for the acquisition of Neese was paid by the issuance of a 10% promissory note in the principal
amount of $1,025,000 by 1847 Neese and Neese to the sellers of Neese. The note bears interest on the outstanding principal amount
at the rate of ten percent (10%) per annum and was due and payable in full on March 3, 2018; provided, however, that the unpaid
principal, and all accrued, but unpaid, interest thereon shall be prepaid if at any time, and from time to time, the cash on hand
of 1847 Neese and Neese exceeds $250,000 and, then, the prepayment shall be equal to the amount of cash in excess of $200,000
until the unpaid principal and accrued, but unpaid, interest thereon is fully prepaid. The note contains the same events of default
as the 8% vesting promissory note. The note has not been repaid, thus we are in default under this note. Under terms of the term
loan with Home State Bank described above, this note may not be paid until the term loan is paid in full. The payees on the note
agreed to the modification of its terms by signing the loan agreement. Accordingly, the loan is shown as a long-term liability
as of September 30, 2019. Additionally, the term loan lender limits the payment of interest on this note to $40,000 annually.
We continue to accrue interest at the contract rate; however, given the limitations of the term loan, all accrued interest in
excess of $40,000 is included in long-term accrued expenses.
Floor
Plan Loans Payable
At
September 30, 2019, $13,908 of machinery and equipment inventory was pledged to secure a floor plan loan from a commercial lender.
We must remit proceeds from the sale of the secured inventory to the floor plan lender and pay a finance charge that can vary
monthly at the option of the lender. The balance of the floor plan payable as of September 30, 2019 amounted to $13,908.
Master
Lease Agreement
The
cash portion of the purchase price for the acquisition of Neese was financed under a capital lease transaction for Neese’s
equipment with Utica Leaseco, LLC, or Utica, pursuant to a master lease agreement, dated March 3, 2017, between Utica and 1847
Neese and Neese, as co-lessees (collectively, referred to as the Lessee). Under the master lease agreement, Utica loaned an aggregate
of $3,240,000 for certain of Neese’s equipment listed therein, which it leases to the Lessee. The initial term of the master
lease agreement was for 51 months. Under the master lease agreement, the Lessee agreed to pay a monthly rent of $53,000 for the
first three (3) months, with such amount increasing to $85,321.63 for the remaining forty-eight (48) months.
On
June 14, 2017, the parties entered into a first amendment to lease documents, pursuant to which the parties agreed to, among other
things, extend the term of the master lease agreement from 51 months to 57 months and amend the payments due thereunder. Under
the amendment, the Lessee agreed to pay a monthly rent of $53,000 for the first ten (10) months, with such amount increasing to
$85,321.63 for the remaining forty-seven (47) months. In connection with the extension of the term of the master lease agreement,
the parties also amended the schedule of stipulated loss values and early termination payment schedule attached thereto. In connection
with the amendment, the Lessee agreed to pay Utica an amendment fee of $2,500.
On
October 31, 2017, the Lessee and Utica entered into a second equipment schedule to the master lease agreement, pursuant to which
Utica loaned an aggregate of $980,000 for certain of Neese’s equipment listed therein. The term of the second equipment
schedule is 51 months and agreed monthly payments are $25,807.
If
any rent is not received by Utica within five (5) calendar days of the due date, the Lessee shall pay a late charge equal to ten
(10%) percent of the amount. In addition, in the event that any payment is not processed or is returned on the basis of insufficient
funds, upon demand, the Lessee shall pay Utica a charge equal to five percent (5%) of the amount of such payment. The Lessee is
also required to pay an annual administration fee of $3,000. Upon the expiration of the term of the master lease agreement, the
Lessee is required to pay, together with all other amounts then due and payable under the master lease agreement, in cash, an
end of term buyout price equal to the lesser of: (a) five percent (5%) of the Total Invoice Cost (as defined in the master lease
agreement); or (b) the fair market value of the equipment, as determined by Utica.
Provided
that no default under the master lease agreement has occurred and is continuing beyond any applicable grace or cure period, the
Lessee has an early buy-out option with respect to all but not less than all of the equipment, upon the payment of any outstanding
rental payments or other fees then due, plus an additional amount set forth in the master lease agreement, which represents the
anticipated fair market value of the equipment as of the anticipated end date of the master lease agreement. In addition, the
Lessee shall pay to Utica an administrative charge to be determined by Utica to cover its time and expenses incurred in connection
with the exercise of the option to purchase, including, but not limited to, reasonable attorney fees and costs. Furthermore, upon
the exercise by the Lessee of this option to purchase the equipment, the Lessee shall pay all sales and transfer taxes and all
fees payable to any governmental authority as a result of the transfer of title of the equipment to Lessee.
In
connection with the master lease agreement, the Lessee granted a security interest on all of its right, title and interest in
and to: (i) the equipment, together with all related software (embedded therein or otherwise) and general intangibles, all additions,
attachments, accessories and accessions thereto whether or not furnished by the supplier; (ii) all accounts, chattel paper, deposit
accounts, documents, other equipment, general intangibles, instruments, inventory, investment property, letter of credit rights
and any supporting obligations related to any of the foregoing; (iii) all books and records pertaining to the foregoing; (iv)
all property of such Lessee held by Utica, including all property of every description, in the custody of or in transit to Utica
for any purpose, including safekeeping, collection or pledge, for the account of such Lessee or as to which such Lessee may have
any right or power, including but not limited to cash; and (v) to the extent not otherwise included, all insurance, substitutions,
replacements, exchanges, accessions, proceeds and products of the foregoing.
On
February 1, 2018, Utica agreed to continue the $53,000 payments for three additional months and extend the maturity of the loan
by three months. Additionally, Utica agreed to defer the February 3, 2018 payment to February 20, 2018. We paid one-half the normal
late fee, $2,650 for the late payment. On March 2, 2018, Utica agreed to defer the March 3 payment to March 30, 2018. We paid
a late payment fee of $5,300 for the payment deferral.
On
April 18, 2018, Utica, the Lessee, and Ellery W. Roberts, as guarantor under the master lease agreement, entered into a forbearance
agreement relating to the non-payment of certain rent payments due under the Master Lease Agreement for the months of March 2018
and April 2018. Pursuant to the forbearance agreement, Utica agreed to forbear from demanding payment in full and exercising its
remedies under the master lease agreement until June 3, 2018. Pursuant to the forbearance agreement, the Lessee agreed to, among
other things, (i) make the payments set forth in the forbearance agreement on or before the dates specified therein, totaling
$173,376, (ii) be current on all rent due under Schedule 1 of the master lease agreement by June 3, 2018 and be current on all
rent due under Schedule 2 of the master lease agreement by May 30, 2018, (ii) reinstate or renew and continue in effect all insurance
as required under the master lease agreement at Lessee’s sole cost and expense, (iv) pay a forbearance fee to Utica totaling
$4,500, which shall not be due until termination of the master lease agreement and (v) execute a surrender agreement with respect
to the Lessee’s equipment, which will be held in escrow by Utica and not deemed effective unless and until the earlier to
occur of: (a) June 3, 2018, provided liabilities under master lease agreement remain due but unpaid; (b) such time as Utica accelerates
due and unpaid liabilities pursuant to the term of the forbearance agreement and the master lease agreement; or (c) a default
occurs under the forbearance agreement or the master lease agreement.
A
portion of the proceeds from the term loan described below were applied to reduce the balance of this lease to $475,000. The lease
is payable in 46 payments of $12,881.96 beginning July 3, 2018 and an end-of-term buyout of $38,000. As a result, the parties
to the forbearance agreement agreed that the forbearance agreement is terminated and is no longer in effect.
The
remaining balance of the lease amounts to $707,997 as of September 30, 2019, comprised of principal of $907,245 and net of unamortized
debt discount of $28,070, accrued payments on lien release of $249,784 and lease deposits of $38,807, offset by end of lease buyout
payments of $117,413.
Total
Debt
The
following table shows aggregate figures for the total debt described above that is coming due in the short and long term as of
September 30, 2019. See the above disclosures for more details regarding these loans.
|
|
Short-Term
|
|
|
Long-Term
|
|
|
Total Debt
|
|
Grid Promissory Note
|
|
$
|
131,647
|
|
|
$
|
-
|
|
|
$
|
131,647
|
|
Revolving Loan – Burnley
|
|
|
576,962
|
|
|
|
-
|
|
|
|
576,962
|
|
Revolving Loan – Northpoint
|
|
|
736,788
|
|
|
|
-
|
|
|
|
736,788
|
|
Term Loan - SBCC
|
|
|
1,049,186
|
|
|
|
-
|
|
|
|
1,049,186
|
|
Term Loan - Home State Bank
|
|
|
3,376,757
|
|
|
|
-
|
|
|
|
3,376,757
|
|
Secured Convertible Promissory Note
|
|
|
456,228
|
|
|
|
-
|
|
|
|
456,228
|
|
9% Subordinated Promissory Note
|
|
|
680,884
|
|
|
|
3,593,325
|
|
|
|
4,274,209
|
|
10% Promissory Note
|
|
|
-
|
|
|
|
1,025,000
|
|
|
|
1,025,000
|
|
Floor Plan Loans Payable
|
|
|
13,908
|
|
|
|
-
|
|
|
|
13,908
|
|
Master Lease Agreement
|
|
|
344,716
|
|
|
|
363,281
|
|
|
|
707,997
|
|
Total
|
|
$
|
7,367,076
|
|
|
$
|
4,981,606
|
|
|
$
|
12,348,682
|
|
Results
of Operations of Goedeker Television
Comparison
of Years Ended December 31, 2018 and 2017
The
following table sets forth key components of the results of operations of Goedeker Television during the years ended December
31, 2018 and 2017, both in dollars and as a percentage of net sales.
|
|
December 31, 2018
|
|
|
December 31, 2017
|
|
|
|
Amount
|
|
|
%
of
Net
Sales
|
|
|
Amount
|
|
|
%
of
Net
Sales
|
|
Net sales
|
|
$
|
56,307,960
|
|
|
|
100.00
|
|
|
$
|
58,555,495
|
|
|
|
100.00
|
|
Cost of goods sold
|
|
|
45,409,884
|
|
|
|
80.65
|
|
|
|
49,104,277
|
|
|
|
83.86
|
|
Gross profit
|
|
|
10,898,076
|
|
|
|
19.35
|
|
|
|
9,451,218
|
|
|
|
16.14
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personnel
|
|
|
3,627,883
|
|
|
|
6.44
|
|
|
|
3,705,336
|
|
|
|
6.33
|
|
Advertising
|
|
|
2,640,958
|
|
|
|
4.69
|
|
|
|
2,197,518
|
|
|
|
3.75
|
|
Bank and credit card fees
|
|
|
1,369,557
|
|
|
|
2.43
|
|
|
|
1,490,641
|
|
|
|
2.55
|
|
Other operating expenses
|
|
|
1,370,286
|
|
|
|
2.43
|
|
|
|
1,220,279
|
|
|
|
2.08
|
|
Total operating expenses
|
|
|
9,008,684
|
|
|
|
16.00
|
|
|
|
8,613,774
|
|
|
|
14.71
|
|
Income from operations
|
|
|
1,889,392
|
|
|
|
3.36
|
|
|
|
837,444
|
|
|
|
1.43
|
|
Other income (expense):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income
|
|
|
116,135
|
|
|
|
0.21
|
|
|
|
77,938
|
|
|
|
0.13
|
|
Interest expense
|
|
|
(149
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Total other income (expense)
|
|
|
115,986
|
|
|
|
0.21
|
|
|
|
77,938
|
|
|
|
0.13
|
|
Net income
|
|
$
|
2,005,378
|
|
|
|
3.56
|
|
|
$
|
915,382
|
|
|
|
1.56
|
|
Net
sales. Goedeker Television generates revenue through the sales of home furnishings, including appliances, furniture, bath
and kitchen fixtures, décor, lighting and home goods. Total net sales decreased by $2,247,535, or 3.84%, to $56,307,960
for the year ended December 31, 2018 from $58,555,495 for the year ended December 31, 2017. Such decrease was primarily due to
a decrease of consumer sales in the appliance industry in general, a shift of product mix to different appliance vendors, and
to recent company strategy of reducing furniture sales of lower margin items.
Net
sales by sales type for the years ended December 31, 2018 and 2017 is as follows:
|
|
For the Years Ended
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Appliance sales
|
|
$
|
42,871,864
|
|
|
$
|
43,134,923
|
|
Furniture sales
|
|
|
10,813,453
|
|
|
|
12,605,779
|
|
Other sales
|
|
|
2,622,643
|
|
|
|
2,814,793
|
|
Total net sales
|
|
$
|
56,307,960
|
|
|
$
|
58,555,495
|
|
Cost
of goods sold. Cost of goods sold includes the cost of purchased merchandise plus the cost of delivering merchandise and
where applicable installation, net of promotional rebates and other incentives received from vendors. Cost of goods sold decreased
by $3,694,393, or 7.52%, to $45,409,884 for the year ended December 31, 2018 from $49,104,277 for the year ended December 31,
2017. Such decrease was primarily due to a decrease of consumer sales in the appliance industry in general, a shift of product
mix to different appliance vendors, and to recent company strategy of reducing furniture sales of lower margin items.
Gross
profit. Gross profit increased by $1,446,858, or $15.31%, to $10,898,076 for the year ended December 31, 2018 from $9,451,218
for the year ended December 31, 2017. The gross margin (percent of net sales) increased to 19.35% for the year ended December
31, 2018 from 16.14% for the year ended December 31, 2017. Such increase was primarily due to our recent strategy of reducing
furniture sales of lower margin items.
Operating
expenses. Operating expenses including personnel expenses (including employee salaries and bonuses, payroll taxes, health
insurance premiums, 401(k) contributions, and training costs), advertising expenses, bank and credit card fees and other general
operating costs. Operating expenses increased by $394,910, or 4.58%, to $9,008,684 for the year ended December 31, 2018 from $8,613,774
for the year ended December 31, 2017. Such increase was due to a 20.18% increase in advertising expenses and a 12.29% increase
in other operating expense, including computer support and repairs and maintenance, offset by a 2.10% decrease in personnel expenses
and an 8.12% decrease in bank and credit card fees. As a percentage of net sales, operating expenses were 16.00% and 14.71% for
the years ended December 31, 2018 and 2017, respectively.
Other
income. Other income, which includes interest income and other miscellaneous income, increased by $38,197, or 49.01%,
to $116,135 for the year ended December 31, 2018 from $77,938 for the year ended December 31, 2017.
Net
income. As a result of the cumulative effect of the factors described above, net income increased by $1,089,996, or 119.08%,
to $2,005,378 for the year ended December 31, 2018 from $915,382 for the year ended December 31, 2018.
Liquidity
and Capital Resources
As
of December 31, 2018, Goedeker Television had cash and cash equivalents of $1,525,693. Goedeker Television has financed its operations
primarily through cash flow from operations.
The
following table provides detailed information about net cash flow for all financial statement periods presented in this prospectus:
|
|
Years Ended December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Net cash provided by (used in) operating activities
|
|
$
|
442,074
|
|
|
$
|
275,267
|
|
Net cash provided by investing activities
|
|
|
-
|
|
|
|
-
|
|
Net cash used in financing activities
|
|
|
(713,800
|
)
|
|
|
(980,996
|
)
|
Net increase (decrease) in cash and cash equivalents
|
|
|
(271,726
|
)
|
|
|
(705,734
|
)
|
Cash and cash equivalents at beginning of period
|
|
|
1,797,419
|
|
|
|
2,503,153
|
|
Cash and cash equivalent at end of period
|
|
$
|
1,525,693
|
|
|
$
|
1,797,419
|
|
Net
provided by operating activities was $442,074 for the year ended December 31, 2018, as compared to $275,267 for the year ended
December 31, 2017. For the year ended December 31, 2018, net cash provided by operating activities primarily consisted of the
net income of $2,005,378, increases in inventory in the amount of $597,981 and receivables in the amount of $271,776, and decreases
in customer deposits in the amount of $1,711,409, accounts payable in the amount of $519,108, deposits with vendors in the amount
of $116,281, accrued expenses and other liabilities in the amount of $99,801 and payroll related liabilities in the amount of
$35,817. For the year ended December 31, 2017, net cash provided by operating activities primarily consisted of the net income
of $915,382, increases in accounts payable in the amount of $44,185, other assets in the amount of $43,524 and accrued expenses
and other liabilities in the amount of $39,380, and decreases in inventory in the amount of $1,247,732, receivables in the amount
of $957,292 and deposits with vendors in the amount of $262,832.
Goedeker
Television had no investing activities for the years ended December 31, 2018 and 2017.
Net
cash provided by financing activities for the years ended December 31, 2018 and 2017 was $713,800 and $980,996, respectively,
which consisted of distributions to stockholders.
Contractual
Obligations
We
have engaged our manager to manage the day-to-day operations and affairs of our company. Our relationship with our manager will
be governed principally by the following agreements:
|
●
|
the
management services agreement relating to the management services our manager will perform
for us and the businesses we own and the management fee to be paid to our manager in
respect thereof; and
|
|
●
|
our
company’s operating agreement setting forth our manager’s rights with respect
to the allocation shares it owns, including the right to receive profit allocations from
our company, and the supplemental put provision relating to our manager’s right
to cause our company to purchase the allocation shares it owns.
|
Pursuant
to the management services agreement that we entered into with our manager, our manager will have the right to cause our company
to purchase the allocation shares then owned by our manager upon termination of the management services agreement. The redemption
value of the allocation shares will be recorded outside of permanent equity in the mezzanine section of the balance sheet. We
will recognize any change in the redemption value of the allocation shares by recording a dividend between net income and net
income available to common shareholders. The amount recorded for the allocation shares is largely related to the fair value of
the profit allocation that our manager, as holder of the allocation shares, will receive. The carrying value of the allocation
shares will represent an estimate of the amounts to ultimately be paid to our manager, whether as a result of the occurrence of
one or more of the various trigger events or upon the exercise of the supplemental put provision contained in our operating agreement
following the termination of the management services agreement. See “Our Manager—Our Manager as an Equity Holder—Supplemental
Put Provision” for more information about this agreement.
We
also expect that our manager will enter into offsetting management services agreements, transaction services agreements and other
agreements, in each case, with some or all of the businesses that we acquire in the future. See “Our Manager” for
more information about these and other agreements our company intends to enter into with our manager.
Pursuant
to the asset purchase agreement with Goedeker Television, dated April 5, 2019, Goedeker Television is also entitled to receive
the following earn out payments to the extent the Goedeker business achieves the applicable EBITDA (as defined in the asset purchase
agreement) targets:
|
1.
|
An
earn out payment of $200,000 if the EBITDA of the Goedeker business for the trailing
twelve (12) month period from the closing date is $2,500,000 or greater;
|
|
2.
|
An
earn out payment of $200,000 if the EBITDA of the Goedeker business for the trailing
twelve (12) month period from the first anniversary of closing date is $2,500,000 or
greater; and
|
|
3.
|
An
earn out payment of $200,000 if the EBITDA of the Goedeker business for the trailing
twelve (12) month period from the second anniversary of the closing date is $2,500,000
or greater.
|
To
the extent the EBITDA of the Goedeker business for any applicable period is less than $2,500,000 but greater than $1,500,000,
Goedeker must pay a partial earn out payment to Goedeker Television in an amount equal to the product determined by multiplying
(i) the EBITDA Achievement Percentage by (ii) the applicable earn out payment for such period, where the “Achievement Percentage”
is the percentage determined by dividing (A) the amount of (i) the EBITDA of the Goedeker business for the applicable period less
(ii) $1,500,000, by (B) $1,000,000. For avoidance of doubt, no partial earn out payments shall be earned or paid to the extent
the EBITDA of the Goedeker business for any applicable period is equal or less than $1,500,000.
To
the extent Goedeker Television is entitled to all or a portion of an earn out payment, the applicable earn out payment(s) (or
portion thereof) shall be paid on the date that is three (3) years from the closing date, and shall accrue interest from the date
on which it is determined Goedeker Television is entitled to such earn out payment (or portion thereof) at a rate equal to five
percent (5%) per annum, computed on the basis of a 360 day year for the actual number of days elapsed.
The
rights of Goedeker Television to receive any earn out payment are subordinate to the rights of Burnley and SBCC under separate
subordination agreements that Goedeker Television entered into with them on April 5, 2019.
Off-Balance
Sheet Arrangements
We
have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial
condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital
resources.
Critical
Accounting Policies
The
following discussion relates to critical accounting policies for our consolidated company. The preparation of financial statements
in conformity with GAAP requires our management to make assumptions, estimates and judgments that affect the amounts reported,
including the notes thereto, and related disclosures of commitments and contingencies, if any. We have identified certain accounting
policies that are significant to the preparation of our financial statements. These accounting policies are important for an understanding
of our financial condition and results of operation. Critical accounting policies are those that are most important to the portrayal
of our financial condition and results of operations and require management’s difficult, subjective, or complex judgment,
often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent
periods. Certain accounting estimates are particularly sensitive because of their significance to financial statements and because
of the possibility that future events affecting the estimate may differ significantly from management’s current judgments.
We believe the following critical accounting policies involve the most significant estimates and judgments used in the preparation
of our financial statements:
Revenue
Recognition and Cost of Revenue
On
January 1, 2018, we adopted Accounting Standards Update, or ASU, No. 2014-09, Revenue from Contracts with Customers (Topic
606), which supersedes the revenue recognition requirements in Accounting Standards Codification, or ASC, Topic 605, Revenue
Recognition. This ASU is based on the principle that revenue is recognized to depict the transfer of goods or services
to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods
or services. This ASU also requires additional disclosure about the nature, amount, timing, and uncertainty of revenue and
cash flows arising from customer purchase orders, including significant judgments. Our adoption of this ASU resulted in no
change to our results of operations or balance sheet.
Land
Management Segment
Neese’s
payment terms are due on demand from acceptance of delivery. Neese does not incur incremental costs obtaining purchase orders
from customers, however, if Neese did, because all of Neese’s contracts are less than a year in duration, any contract costs
incurred would be expensed rather than capitalized.
The
revenue that Neese recognizes arises from orders it receives from customers. Neese’s performance obligations under the customer
orders correspond to each service delivery or sale of equipment that Neese makes to customers under the purchase orders; as a
result, each purchase order generally contains only one performance obligation based on the service or equipment sale to be completed.
Control of the delivery transfers to customers when the customer is able to direct the use of, and obtain substantially all of
the benefits from, Neese’s products, which generally occurs at the later of when the customer obtains title to the equipment
or when the customer assumes risk of loss. The transfer of control generally occurs at a point of delivery. Once this occurs,
Neese has satisfied its performance obligation and Neese recognizes revenue.
Neese
also sells equipment by posting it on auction sites specializing in farm equipment. Neese posts the equipment for sale on a “magazine”
site for several weeks before the auction. When Neese decides to sell, it moves the equipment to the auction site. The auctions
are one day. If Neese accepts a bid, the customer pays the bid price and arranges for pick-up of the equipment.
Transaction
Price ‒ Neese agrees with customers on the selling price of each transaction. This transaction price is generally based
on the agreed upon service fee. In Neese’s contracts with customers, it allocates the entire transaction price to the service
fee to the customer, which is the basis for the determination of the relative standalone selling price allocated to each performance
obligation. Any sales tax, value added tax, and other tax Neese collects concurrently with revenue-producing activities are excluded
from revenue.
If
Neese continued to apply legacy revenue recognition guidance for the three and nine months ended September 30, 2019, revenues,
gross margin, and net loss would not have changed.
Substantially
all of Neese’s sales are to businesses, including farmers or municipalities and very little to individuals.
Disaggregated
Revenue ‒ Neese disaggregates revenue from contracts with customers by contract type, as it believes it best depicts how
the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic factors.
Performance
Obligations ‒ Performance obligations for the different types of services are discussed below:
|
●
|
Trucking
‒ Revenues for time and material contracts are recognized when the merchandise
or commodity is delivered to the destination specified in the agreement with the customer.
|
|
●
|
Waste
Hauling and pumping ‒ Revenues for waste hauling and pumping is recognized
when the hauling, pumping, and spreading are complete.
|
|
●
|
Repairs
‒ Revenues for repairs are recognized upon completion of equipment serviced.
|
|
●
|
Sales
of parts and equipment ‒ Revenues for the sale of parts and equipment are recognized
upon the transfer and acceptance by the customer.
|
Accounts
Receivable, Net ‒ Accounts receivable, net, are amounts due from customers where there is an unconditional right to consideration.
Unbilled receivables of $0 and $139,766 are included in this balance at September 30, 2019 and December 31, 2018, respectively.
The payment of consideration related to these unbilled receivables is subject only to the passage of time.
Neese
reviews accounts receivable on a periodic basis to determine if any receivables will potentially be uncollectible. Estimates are
used to determine the amount of the allowance for doubtful accounts necessary to reduce accounts receivable to its estimated net
realizable value. The estimates are based on an analysis of past due receivables, historical bad debt trends, current economic
conditions, and customer specific information. After Neese has exhausted all collection efforts, the outstanding receivable balance
relating to services provided is written off against the allowance. Additions to the provision for bad debt are charged to expense.
Neese
determined that an allowance for loss of $29,001 was required at September 30, 2019 and December 31, 2018.
Retail
and Appliances Segment
Goedeker
collects the full sales price from the customer at the time the order is placed. Goedeker does not incur incremental costs obtaining
purchase orders from customers, however, if Goedeker did, because all Goedeker’s contracts are less than a year in duration,
any contract costs incurred would be expensed rather than capitalized.
The
revenue that Goedeker recognizes arises from orders it receives from customers. Goedeker’s performance obligations under
the customer orders correspond to each sale of merchandise that it makes to customers under the purchase orders; as a result,
each purchase order generally contains only one performance obligation based on the merchandise sale to be completed. Control
of the delivery transfers to customers when the customer can direct the use of, and obtain substantially all the benefits from,
Goedeker’s products, which generally occurs when the customer assumes the risk of loss. The transfer of control generally
occurs at the point of shipment. Once this occurs, Goedeker has satisfied its performance obligation and Goedeker recognizes revenue.
Revenue from the sale of long-term service warranties are recognized net of costs to sell the contracts to the third-party warranty
service company.
Transaction
Price ‒ Goedeker agrees with customers on the selling price of each transaction. This transaction price is generally based
on the agreed upon sales price. In Goedeker’s contracts with customers, it allocates the entire transaction price to the
sales price, which is the basis for the determination of the relative standalone selling price allocated to each performance obligation.
Any sales tax, value added tax, and other tax Goedeker collects concurrently with revenue-producing activities are excluded from
revenue.
If
Goedeker continued to apply legacy revenue recognition guidance for the three and nine months ended September 30, 2019, revenues,
gross margin, and net loss would not have changed.
Cost
of revenue includes the cost of purchased merchandise plus the cost of delivering merchandise and where applicable installation,
net of promotional rebates and other incentives received from vendors.
Substantially
all Goedeker’s sales are to individual retail consumers.
Disaggregated
Revenue ‒ Goedeker disaggregates revenue from contracts with customers by contract type, as it believes it best
depicts how the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic factors.
Performance
Obligations – Goedeker’s performance obligations include delivery of products and, in some instances, performance
of services such as installation. Revenue for the sale of merchandise is recognized upon shipment to the customer; or in some
instances, upon delivery and installation of the product which typically occur simultaneously.
Receivables
Receivables
consist of credit card transactions in the process of settlement. Vendor rebates receivable represent amounts due from manufactures
from whom we purchase products. Rebates receivable are stated at the amount that management expects to collect from manufacturers,
net of accounts payable amounts due the vendor. Rebates are calculated on product and model sales programs from specific vendors.
The rebates are paid at intermittent periods either in cash or through issuance of vendor credit memos, which can be applied against
vendor accounts payable. Based on our assessment of the credit history with our manufacturers, we have concluded that there should
be no allowance for uncollectible accounts. We historically collect substantially all of our outstanding rebates receivables.
Uncollectible balances are expensed in the period it is determined to be uncollectible.
Allowance
for Credit Losses
Provisions
for credit losses are charged to income as losses are estimated to have occurred and in amounts sufficient to maintain an allowance
for credit losses at an adequate level to provide for future losses on our accounts receivable. We charge credit losses against
the allowance and credits subsequent recoveries, if any, to the allowance. Historical loss experience and contractual delinquency
of accounts receivables, and management’s judgment are factors used in assessing the overall adequacy of the allowance and
the resulting provision for credit losses. While management uses the best information available to make its evaluation, future
adjustments to the allowance may be necessary if there are significant changes in economic conditions or portfolio performance.
This evaluation is inherently subjective as it requires estimates that are susceptible to significant revisions as more information
becomes available.
The
allowance for credit losses consists of general and specific components. The general component of the allowance estimates credit
losses for groups of accounts receivable on a collective basis and relates to probable incurred losses of unimpaired accounts
receivables. We record a general allowance for credit losses that includes forecasted future credit losses.
Inventory
Inventory
consists of finished products acquired for resale and is valued at the lower-of-cost-or-market with cost determined on a specific
item basis for the Neese and of finished products acquired for resale and is valued at the low-of-cost-or-market with cost determined
on an average item basis for Goedeker. We periodically evaluate the value of items in inventory and provide write-downs to inventory
based on our estimate of market conditions.
Property
and Equipment
Property
and equipment is stated at cost. Depreciation of furniture, vehicles and equipment is calculated using the straight-line method
over the estimated useful lives as follows:
|
|
Useful Life
(Years)
|
|
Building and Improvements
|
|
4
|
|
Machinery & Equipment
|
|
3-7
|
|
Tractors
|
|
3-7
|
|
Trucks and vehicles
|
|
3-6
|
|
Goodwill
and Intangible Assets
In
applying the acquisition method of accounting, amounts assigned to identifiable assets and liabilities acquired were based on
estimated fair values as of the date of acquisition, with the remainder recorded as goodwill. Identifiable intangible assets are
initially valued at fair value using generally accepted valuation methods appropriate for the type of intangible asset. Identifiable
intangible assets with definite lives are amortized over their estimated useful lives and are reviewed for impairment if indicators
of impairment arise. Intangible assets with indefinite lives are tested for impairment within one year of acquisitions or annually
as of December 1, and whenever indicators of impairment exist. The fair value of intangible assets are compared with their carrying
values, and an impairment loss would be recognized for the amount by which a carrying amount exceeds its fair value.
Acquired
identifiable intangible assets are amortized over the following periods:
Acquired intangible Asset
|
|
Amortization Basis
|
|
Expected
Life
(years)
|
Customer-Related
|
|
Straight-line basis
|
|
5
|
Long-Lived
Assets
We
review our property and equipment and any identifiable intangibles for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. The test for impairment is required to be performed by management
at least annually. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset
to the future undiscounted operating cash flow expected to be generated by the asset. If such assets are considered to be impaired,
the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the fair value of
the asset. Long-lived assets to be disposed of are reported at the lower of carrying amount or fair value less costs to sell.
Derivative
Instrument Liability
We
account for derivative instruments in accordance with ASC 815, Derivatives and Hedging, which establishes accounting and
reporting standards for derivative instruments and hedging activities, including certain derivative instruments embedded in other
financial instruments or contracts, and requires recognition of all derivatives on the balance sheet at fair value, regardless
of hedging relationship designation. Accounting for changes in fair value of the derivative instruments depends on whether the
derivatives qualify as hedge relationships and the types of relationships designated are based on the exposures hedged. At June
30, 2019, we classified a warrant issued in conjunction with a term loan as a derivative instrument designated.
Recent
Accounting Pronouncements
Not
Yet Adopted
In
January 2017, the FASB issued ASU No. 2017-04, Intangibles - Goodwill and Other: Simplifying the Test for Goodwill Impairment.
To simplify the subsequent measurement of goodwill, the update requires only a single-step quantitative test to identify and
measure impairment based on the excess of a reporting unit’s carrying amount over its fair value. A qualitative assessment
may still be completed first for an entity to determine if a quantitative impairment test is necessary. The update is effective
for fiscal year 2021 and is to be adopted on a prospective basis. Early adoption is permitted for interim or annual goodwill impairment
tests performed on testing dates after January 1, 2017. We will test goodwill for impairment within one year of the acquisition
or annually as of December 1, and whenever indicators of impairment exist.
In
June 2016, the FASB issued ASU 2016-13 Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial
Instruments, which requires the measurement and recognition of expected credit losses for financial assets held at amortized
cost. ASU 2016-13 replaces the existing incurred loss impairment model with an expected loss methodology, which will result in
more timely recognition of credit losses. ASU 2016-13 is effective for annual reporting periods, and interim periods within those
years beginning after December 15, 2019. We are currently in the process of evaluating the impact of the adoption of ASU 2016-13
on our consolidated financial statements.
Recently
Adopted
In
February 2016, the FASB issued ASU 2016-02, Leases. This ASU is a comprehensive new leases standard that amends various
aspects of existing guidance for leases and requires additional disclosures about leasing arrangements. It will require companies
to recognize lease assets and lease liabilities by lessees for those leases classified as operating leases under previous GAAP.
Topic 842 retains a distinction between finance leases and operating leases. The classification criteria for distinguishing between
finance leases and operating leases are substantially similar to the classification criteria for distinguishing between capital
leases and operating leases in the previous leases guidance. The ASU is effective for annual periods beginning after December
15, 2018, including interim periods within those fiscal years; and earlier adoption is permitted. In the financial statements
in which the ASU is first applied, leases shall be measured and recognized at the beginning of the earliest comparative period
presented with an adjustment to equity. Practical expedients are available for election as a package and if applied consistently
to all leases. As part of our adoption, we elected the following practical expedients: we have not reassessed whether any expired
or existing contracts are or contain leases, we have not reassessed lease classification for any expired or existing leases; we
have not reassessed initial direct costs for any existing leases; and we have not separated lease and non-lease components. The
adoption of the standard did not have a material impact on our consolidated financial statements and related disclosures. The
comparative periods have not been restated for the adoption of ASU 2016-02.
OUR
CORPORATE STRUCTURE AND HISTORY
Our
company is a Delaware limited liability company that was formed on January 22, 2013. Your rights as a holder of common shares,
and the fiduciary duties of our board of directors and executive officers, and any limitations relating thereto, are set forth
in the operating agreement governing our company and may differ from those applying to a Delaware corporation. However, subject
to certain exceptions, the documents governing our company specify that the duties of our directors and officers will be generally
consistent with the duties of directors and officers of a Delaware corporation.
Our
company is classified as a partnership for U.S. federal income tax purposes. Under the partnership income tax provisions, our
company will not incur any U.S. federal income tax liability; rather, each of our shareholders will be required to take into account
his or her allocable share of company income, gain, loss, and deduction. As a holder of our shares, you may not receive cash distributions
sufficient in amount to cover taxes in respect of your allocable share of our company’s net taxable income. Our company
will file a partnership return with the IRS and will issue tax information, including a Schedule K-1, to you that describes your
allocable share of our company’s income, gain, loss, deduction, and other items. The U.S. federal income tax rules that
apply to partnerships are complex, and complying with the reporting requirements may require significant time and expense. See
“Material U.S. Federal Income Tax Considerations” for more information.
Our
company currently has two classes of limited liability company interests - the common shares and the allocation shares. In connection
with the offering described under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Recent
Developments” above, we will also establish series A preferred shares. All of our allocation shares have been and will continue
to be held by our manager. See “Description of Securities” for more information about our shares.
On
March 3, 2017, our newly formed wholly-owned subsidiary 1847 Neese acquired all of the issued and outstanding capital stock of
Neese for an aggregate purchase price of $6,655,000, consisting of: (i) $2,225,000 in cash (subject to certain adjustments); (ii)
450 shares of the common stock of 1847 Neese, valued by the parties at $1,530,000, constituting 45% of its capital stock; (iii)
the issuance of a vesting promissory note in the principal amount of $1,875,000 (which was determined to have a fair value of
$395,634) due June 30, 2020; and (iv) the issuance of a short-term promissory note in the principal amount of $1,025,000 due March
3, 2018 (of which we are in default). As a result of this transaction, we own 55% of 1847 Neese, with the remaining 45% held by
third-parties. 1847 Neese was formed in the State of Delaware on October 11, 2016 and Neese was formed in the State of Iowa in
January 1993.
On
January 10, 2019, we formed Goedeker as a wholly-owned subsidiary in the State of Delaware. On March 20, 2019, we formed 1847
Goedeker as a wholly-owned subsidiary in the State of Delaware and then we transferred all of our shares in Goedeker to 1847 Goedeker,
such that Goedeker became a wholly-owned subsidiary of 1847 Goedeker.
On
April 5, 2019, Goedeker acquired substantially all of the assets of Goedeker Television for an aggregate purchase price of $6,200,000
consisting of: (i) $1,500,000 in cash, subject to adjustment; (ii) the issuance of a promissory note in the principal amount of
$4,100,000; and (iii) up to $600,000 in earn out payments. As additional consideration, 1847 Goedeker agreed to issue to each
of the stockholders of Goedeker Television a number of shares of its common stock equal to a 11.25% non-dilutable interest in
all of the issued and outstanding stock of 1847 Goedeker as of the closing date. As a result of this transaction, we own 70% of
1847 Goedeker, with the remaining 30% held by third parties.
The
following chart depicts our current organizational structure:
See
“—Our Manager” for more details regarding the ownership of our manager.
OUR
MANAGER
Overview
of Our Manager
Our
manager, 1847 Partners LLC, is a Delaware limited liability company. It has two classes of limited liability interests known as
Class A interests and Class B interests. The Class A interests, which give the holder the right to the profit allocation received
by our manager as a result of holding our allocation shares, are owned in their entirety by 1847 Partners Class A Member LLC;
and the Class B interests, which give the holder the right to all other profits or losses of our manager, including the management
fee payable to our manager by us, are owned in their entirety by 1847 Partners Class B Member LLC. 1847 Partners Class A Member
LLC is owned 52% by Ellery W. Roberts, our Chief Executive Officer, 38% by 1847 Founders Capital LLC, which is owned by Edward
J. Tobin, and approximately 9% by Louis A. Bevilacqua, the managing member of Bevilacqua PLLC, outside counsel to our company,
with the balance being owned by a former contractor to such law firm. 1847 Partners Class B Member LLC is owned 54% by Ellery
W. Roberts, 36% by 1847 Founders Capital LLC and 10% by Louis A. Bevilacqua. Mr. Roberts is also the sole manager of both entities.
In the future, Mr. Roberts may cause 1847 Partners Class A Member LLC or 1847 Partners Class B Member LLC to issue units to employees
of our manager to incentivize those employees by providing them with the ability to participate in our manager’s incentive
allocation and management fee.
Key
Personnel of Our Manager
The
key personnel of our manager are Ellery W. Roberts, our Chief Executive Officer, and Edward J. Tobin. Please see “Management”
for a description of the business experience of these individuals. Each of these individuals will be compensated entirely by our
manager from the management fees it receives. As employees of our manager, these individuals devote a substantial majority of
their time to the affairs of our company.
Collectively,
the management team of our manager has more than 60 years of combined experience in acquiring and managing small businesses and
has overseen the acquisitions and financing of over 50 businesses.
Acquisition
and Disposition Opportunities
Our
manager has exclusive responsibility for reviewing and making recommendations to our board of directors with respect to acquisition
and disposition opportunities. If our manager does not originate an opportunity, our board of directors will seek a recommendation
from our manager prior to making a decision concerning such opportunity. In the case of any acquisition or disposition opportunity
that involves an affiliate of our manager or us, our nominating and corporate governance committee, or, if we do not have such
a committee, the independent members of our board of directors, will be required to authorize and approve such transaction.
Our
manager will review each acquisition or disposition opportunity presented to our manager to determine if such opportunity satisfies
the acquisition and disposition criteria established by our board of directors. The acquisition and disposition criteria provide
that our manager will review each acquisition opportunity presented to it to determine if such opportunity satisfies our company’s
acquisition and disposition criteria, and if it is determined, in our manager’s sole discretion, that an opportunity satisfies
the criteria, our manager will refer the opportunity to our board of directors for its authorization and approval prior to the
consummation of any such opportunity.
Our
investment criteria include the following:
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Revenue
of at least $5.0 million
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Current
year EBITDA/Pre-tax Income of at least $1.5 million with a history of positive cash flow
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Clearly
identifiable “blueprint” for growth with the potential for break-out returns
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Well-positioned
companies within our core industry categories (consumer-driven, business-to-business,
light manufacturing and specialty finance) with strong returns on capital
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Opportunities
wherein building management team, infrastructure and access to capital are the primary
drivers of creating value
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Headquartered
in North America
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We
believe we will be able to acquire small businesses for multiples ranging from three to six times EBITDA. With respect to investment
opportunities that do not fall within the criteria set forth above our manager must first present such opportunities to our board
of directors. Our board of directors and our manager will review these criteria from time to time and our board of directors may
make changes and modifications to such criteria as our company makes additional acquisitions and dispositions.
If
an acquisition opportunity is referred to our board of directors by our manager and our board of directors determines not to timely
pursue such opportunity in whole or in part, any part of such opportunity that our company does not promptly pursue may be pursued
by our manager or may be referred by our manager to any person, including affiliates of our manager. In this case, our manager
is likely to devote a portion of its time to the oversight of this opportunity, including the management of a business that we
do not own.
If
there is a disposition, our manager must use its commercially reasonable efforts to manage a process through which the value of
such disposition can be maximized, taking into consideration non-financial factors such as those relating to competition, strategic
partnerships, potential favorable or adverse effects on us, our businesses, or our investments or any similar factors that may
reasonably perceived as having a short- or long-term impact on our business, results of operations and financial condition.
Management
Services Agreement
The
management services agreement sets forth the services to be performed by our manager. Our manager will perform such services subject
to the oversight and supervision of our board of directors.
In
general, our manager will perform those services for our company that would be typically performed by the executive officers of
a company. Specifically, our manager will perform the following services, which we refer to as the management services, pursuant
to the management services agreement:
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manage
the day-to-day business and operations of our company, including our liquidity and capital
resources and compliance with applicable law;
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identify,
evaluate, manage, perform due diligence on, negotiate and oversee acquisitions of target
businesses and any other investments;
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evaluate
and oversee the financial and operational performance of our businesses, including monitoring
the business and operations of such businesses, and the financial performance of any
other investments that we make;
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provide,
on our behalf, managerial assistance to our businesses;
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evaluate,
manage, negotiate and oversee dispositions of all or any part of any of our property,
assets or investments, including disposition of all or any part of our businesses;
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provide
or second, as necessary, employees of our manager to serve as executive officers or other
employees of our company or as members of our board of directors; and
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perform
any other services that would be customarily performed by executive officers and employees
of a publicly listed or quoted company.
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Our
company and our manager have the right at any time during the term of the management services agreement to change the services
provided by our manager. In performing management services, our manager will have all necessary power and authority to perform,
or cause to be performed, such services on behalf of our company, and, in this respect, our manager will be the only provider
of management services to our company. Nonetheless, our manager will be required to obtain authorization and approval of our board
of directors in all circumstances where executive officers of a corporation typically would be required to obtain authorization
and approval of a corporation’s board of directors, including, for example, with respect to the consummation of an acquisition
of a target business, the issuance of securities or the entry into credit arrangements.
While
our Chief Executive Officer, Mr. Ellery W. Roberts, intends to devote substantially all of his time to the affairs of our company,
neither Mr. Roberts, nor our manager, is expressly prohibited from investing in or managing other entities. In this regard, the
management services agreement will not require our manager and its affiliates to provide management services to our company exclusively.
Secondment
of Our Executive Officers
In
accordance with the terms of the management services agreement, our manager may second to our company our executive officers,
which means that these individuals will be assigned by our manager to work for us during the term of the management services agreement.
Our board of directors has appointed Mr. Roberts as an executive officer of our company. Although Mr. Roberts is an employee of
our manager, he will report directly, and be subject, to our board of directors. In this respect, our board of directors may,
after due consultation with our manager, at any time request that our manager replace any individual seconded to our company and
our manager will, as promptly as practicable, replace any such individual; however, our Chief Executive Officer, Mr. Roberts,
controls our manager, which may make it difficult for our board of directors to completely sever ties with Mr. Roberts. Our manager
and our board of directors may agree from time to time that our manager will second to our company one or more additional individuals
to serve on behalf of our company, upon such terms as our manager and our board of directors may mutually agree.
Indemnification
by our Company
Our
company has agreed to indemnify and hold harmless our manager and its employees and representatives, including any individuals
seconded to our company, from and against all losses, claims and liabilities incurred by our manager in connection with, relating
to or arising out of the performance of any management services. However, our company will not be obligated to indemnify or hold
harmless our manager for any losses, claims and liabilities incurred by our manager in connection with, relating to or arising
out of (i) a breach by our manager or its employees or its representatives of the management services agreement, (ii) the gross
negligence, willful misconduct, bad faith or reckless disregard of our manager or its employees or representatives in the performance
of any of its obligations under the management services agreement, or (iii) fraudulent or dishonest acts of our manager or its
employees or representatives with respect to our company or any of its businesses.
We
expect that our directors and officers insurance policy for our directors and officers will be expanded, or supplemental insurance
will be obtained, to cover this indemnification obligation.
Termination
of Management Services Agreement
Our
board of directors may terminate the management services agreement and our manager’s appointment if, at any time:
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a
majority of our board of directors vote to terminate the management services agreement,
and the holders of at least a majority of the outstanding shares (other than shares beneficially
owned by our manager) then entitled to vote also vote to terminate the management services
agreement;
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neither
Mr. Roberts nor his designated successor controls our manager, which change of control
occurs without the prior written consent of our board of directors;
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there
is a finding by a court of competent jurisdiction in a final, non-appealable order that
(i) our manager materially breached the terms of the management services agreement and
such breach continued unremedied for 60 days after our manager receives written notice
from our company setting forth the terms of such breach, or (ii) our manager (x) acted
with gross negligence, willful misconduct, bad faith or reckless disregard in performing
its duties and obligations under the management services agreement, or (y) engaged in
fraudulent or dishonest acts in connection with the business or operations of our company;
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our
manager has been convicted of a felony under federal or state law, our board of directors
finds that our manager is demonstrably and materially incapable of performing its duties
and obligations under the management services agreement, and the holders of at least
66 2/3% of the then outstanding shares, other than shares beneficially owned by our manager,
vote to terminate the management services agreement; or
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there
is a finding by a court of competent jurisdiction that our manager has (i) engaged in
fraudulent or dishonest acts in connection with the business or operations of our company
or (ii) acted with gross negligence, willful misconduct, bad faith or reckless disregard
in performing its duties and obligations under the management services agreement, and
the holders of at least 66 2/3% of the then outstanding shares (other than shares beneficially
owned by our manager) vote to terminate the management services agreement.
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In
addition, our manager may resign and terminate the management services agreement at any time upon 120 days prior written notice
to our company, and this right is not contingent upon the finding of a replacement manager. However, if our manager resigns, until
the date on which the resignation becomes effective, it will, upon request of our board of directors, use reasonable efforts to
assist our board of directors to find a replacement manager at no cost and expense to our company.
Upon
the termination of the management services agreement, seconded officers, employees, representatives and delegates of our manager
and its affiliates who are performing the services that are the subject of the management services agreement will resign their
respective position with our company and cease to work at the date of such termination or at any other time as determined by our
manager. Any director appointed by our manager may continue serving on our board of directors subject to the terms of the operating
agreement.
If
we terminate the management services agreement, our company and its businesses have agreed to cease using the term “1847”,
including any trademarks based on the name of our company that may be licensed to them by our manager, under the licensing provisions
of the management services agreement, entirely in their businesses and operations within 180 days of such termination. Such licensing
provisions of the management services agreement would require our company and its businesses to change their names to remove any
reference to the term “1847” or any reference to trademarks licensed to them by our manager. In this respect, our
right to use the term “1847” and related intellectual property is subject to licensing provisions between our manager,
on the one hand, and our company and our businesses, on the other hand.
Except
with respect to the termination fee payable to our manager due to a termination of the management services agreement based solely
on a vote of our board of directors and our shareholders, no other termination fee is payable upon termination of the management
services agreement for any other reason. See “—Our Manager as a Service Provider—Termination Fee” for
more information about the termination fee payable upon termination of the management services agreement.
While
termination of the management services agreement will not affect any terms and conditions, including those relating to any payment
obligations, that exist under any offsetting management services agreements or transaction services agreements, such agreements
will be terminable by future businesses that we acquire upon 60 days prior written notice and there will be no termination or
other similar fees due upon such termination. Notwithstanding termination of the management services agreement, our manager will
maintain its rights with respect to the allocation shares it then owns, including its rights under the supplemental put provision
of our operating agreement. See “—Our Manager as an Equity Holder—Supplemental Put Provision” for more
information on our manager’s put right with respect to the allocation shares.
Our
Relationship with Our Manager, Manager Fees and Manager Profit Allocation
Our
relationship with our manager is based on our manager having two distinct roles: first, as a service provider to us and, second,
as an equity holder of the allocation shares.
As
a service provider, our manager performs a variety of services for us, which entitles it to receive a management fee. As holder
of our company’s allocation shares, our manager has the right to a preferred distribution in the form of a profit allocation
upon the occurrence of certain events. Our manager paid $1,000 for the allocation shares. In addition, our manager will have the
right to cause our company to purchase the allocation shares then owned by our manager upon termination of the management services
agreement.
These
relationships with our manager are governed principally by the following agreements:
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the
management services agreements relating to the services our manager will perform for
us and our businesses; and
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our
company’s operating agreement relating to our manager’s rights with respect
to the allocation shares it owns and which contains the supplemental put provision relating
to our manager’s right to cause our company to purchase the allocation shares it
owns.
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We
also expect that our manager will enter into offsetting management services agreements and transaction services agreements with
our businesses directly. These agreements, and some of the material terms relating thereto, are discussed in more detail below.
The management fee, profit allocation and put price under the supplemental put provision will be payment obligations of our company
and, as a result, will be paid, along with other company obligations, prior to the payment of distributions on the series A preferred
shares, if and when they are issued, or distributions to common shareholders.
The
following table provides a simplified description of the fees and profit allocation rights held by our manager. Further detail
is provided in the following subsections.
Description
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Fee
Calculation
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Payment
Term
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Management Fees
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Determined by management services agreement
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0.5% of adjusted net assets (2.0% annually)
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Quarterly
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Determined by offsetting management services
agreement
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Payment of fees by our subsidiary businesses
that result in a dollar for dollar reduction of manager fees paid by us to our manager such that our manager cannot receive
duplicate fees from both us and our subsidiary
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Quarterly
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Termination fee – determined by management
services agreement
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Accumulated management fee paid in the preceding
4 fiscal quarters multiplied by 2. Paid only upon termination by our board and a majority in interest of our shareholders
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Determined by management services agreement
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Reimbursement of manager’s costs and expenses
in providing services to us, but not including: (1) costs of overhead; (2) due diligence and other costs for potential acquisitions
our board of directors does not approve pursuing or that are required by acquisition target to be reimbursed under a transaction
services agreement; and (3) certain seconded officers and employees
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Ongoing
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Transaction Services
Fees
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Acquisition services of target businesses or
disposition of subsidiaries – fees determined by transaction services agreements
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2.0% of aggregate purchase price up to $50 million;
plus 1.5% of aggregate purchase price in excess of $50 million and up to and equal to $100 million; plus 1.0% of aggregate
purchase price in excess of $100 million
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Per transaction
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Manager profit allocation determined by our
operating agreement
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20%
of certain profits and gains on a sale of subsidiary after clearance of the 8% annual hurdle rate
8%
hurdle rate determined for any subsidiary by multiplying the subsidiary’s average quarterly share of our assets
by an 8% annualized rate
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Sale
of a material amount of capital stock or assets of one of our businesses or subsidiaries.
Holding
event: at the option of our manager, for the 30 day period following the 5th anniversary of an acquired business (but
only based on historical profits of the business)
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Our
Manager as a Service Provider
Management
Fee
Our
company will pay our manager a quarterly management fee equal to 0.5% (2.0% annualized) of its adjusted net assets, as discussed
in more detail below.
Subject
to any adjustments discussed below, for performing management services under the management services agreement during any fiscal
quarter, our company will pay our manager a management fee with respect to such fiscal quarter. The management fee to be paid
with respect to any fiscal quarter will be calculated as of the last day of such fiscal quarter, which we refer to as the calculation
date. The management fee will be calculated by an administrator, which will be our manager so long as the management services
agreement is in effect. The amount of any management fee payable by our company as of any calculation date with respect to any
fiscal quarter will be (i) reduced by the aggregate amount of any offsetting management fees, if any, received by our manager
from any of our businesses with respect to such fiscal quarter, (ii) reduced (or increased) by the amount of any over-paid (or
under-paid) management fees received by (or owed to) our manager as of such calculation date, and (iii) increased by the amount
of any outstanding accrued and unpaid management fees.
As
an obligation of our company, the management fee will be paid prior to the payment of distributions on the series A preferred
shares, if and when they are issued, or distributions to our common shareholders. If we do not have sufficient liquid assets to
pay the management fee when due, we may be required to liquidate assets or incur debt in order to pay the management fee.
Offsetting
Management Services Agreements
Pursuant
to the management services agreement, we have agreed that our manager may, at any time, enter into offsetting management services
agreements with our businesses pursuant to which our manager may perform services that may or may not be similar to management
services. Any fees to be paid by one of our businesses pursuant to such agreements are referred to as offsetting management fees
and will offset, on a dollar-for-dollar basis, the management fee otherwise due and payable by our company under the management
services agreement with respect to a fiscal quarter. The management services agreement provides that the aggregate amount of offsetting
management fees to be paid to our manager with respect to any fiscal quarter shall not exceed the management fee to be paid to
our manager with respect to such fiscal quarter.
Our
manager entered into offsetting management services agreements with 1847 Neese and Goedeker and may enter into offsetting management
services agreements with our future subsidiaries, which agreements would be in the form prescribed by our management services
agreement.
The
services that our manager will provide to future subsidiaries under the offsetting management services agreements will include:
conducting general and administrative supervision and oversight of the subsidiary’s day-to-day business and operations,
including, but not limited to, recruiting and hiring of personnel, administration of personnel and personnel benefits, development
of administrative policies and procedures, establishment and management of banking services, managing and arranging for the maintaining
of liability insurance, arranging for equipment rental, maintenance of all necessary permits and licenses, acquisition of any
additional licenses and permits that become necessary, participation in risk management policies and procedures; and overseeing
and consulting with respect to our business and operational strategies, the implementation of such strategies and the evaluation
of such strategies, including, but not limited to, strategies with respect to capital expenditure and expansion programs, acquisitions
or dispositions and product or service lines. If our manager and the subsidiary do not enter into an offsetting management services
agreement, our manager will provide these services for our subsidiaries under our management services agreement.
The
offsetting management fee paid to our manager for providing management services to a future subsidiary will vary.
On
March 3, 2017, 1847 Neese entered into an offsetting management services agreement with our manager and on April 5, 2019, Goedeker
entered into an offsetting management services agreement with our manager. Pursuant to the offsetting management services agreements,
each of 1847 Neese and Goedeker appointed our manager to provide certain services to it for a quarterly management fee equal to
$62,500 per quarter (in the case of Goedeker, such fee is equal to the greater of $62,500 or 2% of Adjusted Net Assets (as defined
in the management services agreement)); provided, however, that (i) pro rated payments shall be made in the first quarter and
the last quarter of the term, (ii) if the aggregate amount of management fees paid or to be paid by 1847 Neese or Goedeker, together
with all other management fees paid or to be paid by all other subsidiaries of our company to our manager, in each case, with
respect to any fiscal year exceeds, or is expected to exceed, 9.5% of our gross income with respect to such fiscal year, then
the management fee to be paid by 1847 Neese or Goedeker for any remaining fiscal quarters in such fiscal year shall be reduced,
on a pro rata basis determined by reference to the management fees to be paid to our manager by all of the subsidiaries of our
company, until the aggregate amount of the management fee paid or to be paid by 1847 Neese or Goedeker, together with all other
management fees paid or to be paid by all other subsidiaries of our company to our manager, in each case, with respect to such
fiscal year, does not exceed 9.5% of our gross income with respect to such fiscal year, and (iii) if the aggregate amount the
management fee paid or to be paid by 1847 Neese or Goedeker, together with all other management fees paid or to be paid by all
other subsidiaries of our company to our manager, in each case, with respect to any fiscal quarter exceeds, or is expected to
exceed, the aggregate amount of the management fee (before any adjustment thereto) calculated and payable under the management
services agreement, which we refer to as the parent management fee, with respect to such fiscal quarter, then the management fee
to be paid by 1847 Neese or Goedeker for such fiscal quarter shall be reduced, on a pro rata basis, until the aggregate amount
of the management fee paid or to be paid by 1847 Neese or Goedeker, together with all other management fees paid or to be paid
by all other subsidiaries of our company to our manager, in each case, with respect to such fiscal quarter, does not exceed the
parent management fee calculated and payable with respect to such fiscal quarter.
Notwithstanding
the foregoing, payment of the management fee to Goedeker is subordinated to the payment of interest on a promissory note issued
to Goedeker Television, such that no payment of the management fee may be made if Goedeker is in default under such note with
regard to interest payments and, for the avoidance of doubt, such payment of the management fee will be contingent on Goedeker
being in good standing on all associated loan covenants. In addition, during the period that that any amounts are owed under the
note or the earn out payments under the asset purchase agreement with Goedeker Television, the annual management fee shall be
capped at $250,000. In addition, the rights of our manager to receive payments under the Goedeker offsetting management services
agreement are subordinate to the rights of Burnley and SBCC under separate subordination agreements that Goedeker entered into
with them on April 5, 2019.
Each
of 1847 Neese and Goedeker shall also reimburse our manager for all of its costs and expenses which are specifically approved
by its board of directors, including all out-of-pocket costs and expenses, which are actually incurred by our manager or its affiliates
on behalf of 1847 Neese or Goedeker in connection with performing services under the offsetting management services agreements.
The
services provided by our manager include: conducting general and administrative supervision and oversight of day-to-day business
and operations, including, but not limited to, recruiting and hiring of personnel, administration of personnel and personnel benefits,
development of administrative policies and procedures, establishment and management of banking services, managing and arranging
for the maintaining of liability insurance, arranging for equipment rental, maintenance of all necessary permits and licenses,
acquisition of any additional licenses and permits that become necessary, participation in risk management policies and procedures;
and overseeing and consulting with respect to business and operational strategies, the implementation of such strategies and the
evaluation of such strategies, including, but not limited to, strategies with respect to capital expenditure and expansion programs,
acquisitions or dispositions and product or service lines.
Example
of Calculation of Management Fee with Adjustment for Offsetting Management Fees
In
order to better understand how the management fee is calculated, we are providing the following example:
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(in thousands)
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Quarterly management fee:
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1
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Consolidated total assets
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$
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100,000
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2
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Consolidated accumulation amortization of intangibles
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5,000
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3
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Total cash and cash equivalents
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5,000
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4
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Adjusted total liabilities
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(10,000
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)
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5
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Adjusted net assets (Line 1 + Line 2 – Line 3 – Line 4)
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90,000
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6
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|
Multiplied by quarterly rate
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0.5
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%
|
7
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|
Quarterly management fee
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$
|
450
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|
|
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|
|
|
|
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Offsetting management fees:
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|
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8
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|
Acquired company A offsetting management fees
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$
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(100
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)
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9
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|
Acquired company B offsetting management fees
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(100
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)
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10
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Acquired company C offsetting management fees
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(100
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)
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11
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Acquired company D offsetting management fees
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|
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(100
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)
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12
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Total offsetting management fees (Line 8 + Line 9 – Line 10 –
Line 11)
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|
|
(400
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)
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13
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Quarterly management fee payable by Company (Line 7 + Line 12)
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$
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50
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The
foregoing example provides hypothetical information only and does not intend to reflect actual or expected management fee amounts.
For
purposes of the calculation of the management fee:
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“Adjusted
net assets” will be equal to, with respect to our company as of any calculation
date, the sum of (i) consolidated total assets (as determined in accordance with GAAP)
of our company as of such calculation date, plus (ii) the absolute amount of consolidated
accumulated amortization of intangibles (as determined in accordance with GAAP) for our
company as of such calculation date, minus (iii) total cash and cash equivalents, minus
(iv) the absolute amount of adjusted total liabilities of our company as of such calculation
date.
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|
●
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“Adjusted
total liabilities” will be equal to, with respect to our company as of any calculation
date, our company’s consolidated total liabilities (as determined in accordance
with GAAP) as of such calculation date after excluding the effect of any outstanding
third party indebtedness of our company.
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●
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“Quarterly
management fee” will be equal to, as of any calculation date, the product of (i)
0.5%, multiplied by (ii) our company’s adjusted net assets as of such calculation
date; provided, however, that with respect to any fiscal quarter in which the management
services agreement is terminated, our company will pay our manager a management fee with
respect to such fiscal quarter equal to the product of (i)(x) 0.5%, multiplied by (y)
our company’s adjusted net assets as of such calculation date, multiplied by (ii)
a fraction, the numerator of which is the number of days from and including the first
day of such fiscal quarter to but excluding the date upon which the management services
agreement is terminated and the denominator of which is the number of days in such fiscal
quarter.
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●
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“Total
offsetting management fees” will be equal to, as of any calculation date, fees
paid to our manager by the businesses that we acquire in the future under separate offsetting
management services agreements.
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Transaction
Services Agreements
Pursuant
to the management services agreement, we have agreed that our manager may, at any time, enter into transaction services agreements
with any of our businesses relating to the performance by our manager of certain transaction-related services in connection with
the acquisitions of target businesses by our company or its businesses or dispositions of our company’s or its businesses’
property or assets. These services may include those customarily performed by a third-party investment banking firm or similar
financial advisor, which may or may not be similar to management services, in connection with the acquisition of target businesses
by us or our subsidiaries or disposition of subsidiaries or any of our property or assets or those of our subsidiaries. In connection
with providing transaction services, our manager will generally receive a fee equal to the sum of (i) 2.0% of the aggregate purchase
price of the target business up to and equal to $50 million, plus (ii) 1.5% of the aggregate purchase price of the target business
in excess of $50 million and up to and equal to $100 million, plus (iii) 1.0% of the aggregate purchase price over $100 million,
subject to annual review by our board of directors. The purchase price of a target business shall be defined as the aggregate
amount of consideration, including cash and the value of any shares issued by us on the date of acquisition, paid for the equity
interests of such target business plus the aggregate principal amount of any debt assumed by us of the target business on the
date of acquisition or any similar formulation. The other terms and conditions relating to the performance of transaction services
will be established in accordance with market practice.
Our
manager may enter into transaction services agreements with our subsidiaries and future subsidiaries, which agreements would be
in the form prescribed by our management services agreement.
The
services that our manager will provide to our subsidiaries and future subsidiaries under the transaction services agreements will
include the following services that would be provided in connection with a specific transaction identified at the time that the
transaction services agreement is entered into: reviewing, evaluating and otherwise familiarizing itself and its affiliates with
the business, operations, properties, financial condition and prospects of the future subsidiary and its target acquisition and
preparing documentation describing the future subsidiary’s operations, management, historical financial results, projected
financial results and any other relevant matters and presenting such documentation and making recommendations with respect thereto
to certain of our manager’s affiliates.
Any fees received by our manager pursuant to such a transaction
services agreement will be in addition to the management fee payable by our company pursuant to the management services agreement
and will not offset the payment of such management fee. A transaction services agreement with any of our businesses may provide
for the reimbursement of costs and expenses incurred by our manager in connection with the acquisition of such businesses.
Transaction services agreements will be reviewed, authorized
and approved by our company’s board of directors on an annual basis.
Reimbursement of Expenses
Our company will be responsible for paying costs and expenses
relating to its business and operations. Our company agreed to reimburse our manager during the term of the management services
agreement for all costs and expenses of our company that are incurred by our manager or its affiliates on behalf of our company,
including any out-of-pocket costs and expenses incurred in connection with the performance of services under the management services
agreement, and all costs and expenses the reimbursement of which are specifically approved by our company’s board of directors.
Our company will not be obligated or responsible for reimbursing
or otherwise paying for any costs or expenses relating to our manager’s overhead or any other costs and expenses relating
to our manager’s conduct of its business and operations. Also, our company will not be obligated or responsible for reimbursing
our manager for costs and expenses incurred by our manager in the identification, evaluation, management, performance of due diligence
on, negotiation and oversight of potential acquisitions of new businesses for which our company (or our manager on behalf of our
company) fails to submit an indication of interest or letter of intent to pursue such acquisition, including costs and expenses
relating to travel, marketing and attendance of industry events and retention of outside service providers relating thereto. In
addition, our company will not be obligated or responsible for reimbursing our manager for costs and expenses incurred by our
manager in connection with the identification, evaluation, management, performance of due diligence on, negotiating and oversight
of an acquisition by our company if such acquisition is actually consummated and the business so acquired entered into a transaction
services agreement with our manager providing for the reimbursement of such costs and expenses by such business. In this respect,
the costs and expenses associated with the pursuit of add-on acquisitions for our company may be reimbursed by any businesses
so acquired pursuant to a transaction services agreement.
All reimbursements will be reviewed and, in certain circumstances,
approved by our company’s board of directors on an annual basis in connection with the preparation of year-end financial
statements.
Termination Fee
We will pay our manager a termination fee upon termination
of the management services agreement if such termination is based solely on a vote of our company’s board of directors and
our shareholders; no other termination fee will be payable to our manager in connection with the termination of the management
services agreement for any other reason. The termination fee that is payable to our manager will be equal to the product of (i)
two (2) multiplied by (ii) the sum of the amount of the quarterly management fees calculated with respect to the four fiscal quarters
immediately preceding the termination date of the management services agreement. The termination fee will be payable in eight
equal quarterly installments, with the first such installment being paid on or within five (5) business days of the last day of
the fiscal quarter in which the management services agreement was terminated and each subsequent installment being paid on or
within five (5) business days of the last day of each subsequent fiscal quarter, until such time as the termination fee is paid
in full to our manager.
Our Manager as an Equity Holder
Manager’s Profit Allocation
Our manager owns 100% of the allocation shares of our company,
which generally will entitle our manager to receive a 20% profit allocation as a form of preferred distribution. Upon the sale
of a company subsidiary, our manager will be paid a profit allocation if the sum of (i) the excess of the gain on the sale of
such subsidiary over a high water mark plus (ii) the subsidiary’s net income since its acquisition by our company exceeds
the 8% hurdle rate. The 8% hurdle rate is the product of (i) a 2% rate per quarter, multiplied by (ii) the number of quarters
such subsidiary was held by our company, multiplied by (iii) the subsidiary’s average share (determined based on gross assets,
generally) of our consolidated net equity (determined according to GAAP with certain adjustments). In certain circumstances, after
a subsidiary has been held for at least 5 years, our manager may also trigger a profit allocation with respect to such subsidiary
(determined based solely on the subsidiary’s net income since its acquisition). The calculation of the profit allocation
and the rights of our manager, as the holder of the allocation shares, are governed by the operating agreement.
Our board will have the opportunity to review and approve the
calculation of manager’s profit allocation when it becomes due and payable. Our manager will not receive a profit allocation
on an annual basis. Instead, our manager will be paid a profit allocation only upon the occurrence of one of the following events,
which we refer to collectively as the trigger events:
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the sale of a material amount, as determined by our manager
and reasonably consented to by a majority of our company’s board of directors,
of the capital stock or assets of one of our businesses or a subsidiary of one of our
businesses, which event we refer to as a sale event; or
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●
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at the option of our manager, for the 30-day period following
the fifth anniversary of the date upon which we acquired a controlling interest in a
business, which event we refer to as a holding event. If our manager elects to forego
declaring a holding event with respect to such business during such period, then our
manager may only declare a holding event with respect to such business during the 30-day
period following each anniversary of such fifth anniversary date with respect to such
business. Once declared, our manager may only declare another holding event with respect
to a business following the fifth anniversary of the calculation date with respect to
a previously declared holding event.
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We believe this payment timing, rather than a method that provides
for annual allocation payments, more accurately reflects the long-term performance of each of our businesses and is consistent
with our intent to hold, manage and grow our businesses over the long term. We refer generally to the obligation to make this
payment to our manager as the “profit allocation” and, specifically, to the amount of any particular profit allocation
as the “manager’s profit allocation.”
Definitions used in, and an example of the calculation of profit
allocation, are set forth in more detail below.
The amount of our manager’s profit allocation will be
based on the extent to which the “total profit allocation amount” (as defined below) with respect to any business,
as of the last day of any fiscal quarter in which a trigger event occurs, which date we refer to as the “calculation date”,
exceeds the relevant hurdle amounts (as described below) with respect to such business, as of such calculation date. Our manager’s
profit allocation will be calculated by an administrator, which will be our manager so long as the management services agreement
is in effect, and such calculation will be subject to a review and approval process by our company’s board of directors.
For this purpose, “total profit allocation amount” will be equal to, with respect to any business as of any calculation
date, the sum of:
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the contribution-based profit (as described below) of
such business as of such calculation date, which will be calculated upon the occurrence
of any trigger event with respect to such business; plus
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the excess of the cumulative gains and losses of our
company (as described below) over the high water mark (as described below) as of such
calculation date, which will only be calculated upon the occurrence of a sale event with
respect to such business, and not on a holding event (we generally expect this component
to be the most significant component in calculating total profit allocation amount).
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Specifically, manager’s profit allocation will be calculated
and paid as follows:
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manager’s profit allocation will not be paid with
respect to a trigger event relating to any business if the total profit allocation amount,
as of any calculation date, with respect to such business does not exceed such business’
level 1 hurdle amount (based on an 8% annualized hurdle rate, as described below), as
of such calculation date; and
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●
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manager’s profit allocation will be paid with respect
to a trigger event relating to any business if the total profit allocation amount, as
of any calculation date, with respect to such business exceeds such business’ level
1 hurdle amount, as of such calculation date. Our manager’s profit allocation to
be paid with respect to such calculation date will be equal to the sum of the following:
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○
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100%
of such business’ total profit allocation amount, as of such calculation date,
with respect to that portion of the total profit allocation amount that exceeds such
business’ level 1 hurdle amount (but is less than or equal to such business’
level 2 hurdle amount (which is based on a 10% annualized hurdle rate, as described below),
in each case, as of such calculation date. We refer to this portion of the total profit
allocation amount as the “catch-up.” The “catch-up” is intended
to provide our manager with an overall profit allocation of 20% of the business’
total profit allocation amount until such business’ level 2 hurdle amount has been
reached; plus
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○
|
20%
of the total profit allocation amount, as of such calculation date, that exceeds such
business’ level 2 hurdle amount as of such calculation date; minus
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○
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the
high water mark allocation, if any, as of such calculation date. The effect of deducting
the high water mark allocation is to take into account profit allocations our manager
has already received in respect of past gains attributable to previous sale events.
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The administrator will calculate our manager’s profit
allocation on or promptly following the relevant calculation date, subject to a “true-up” calculation upon availability
of audited or unaudited consolidated financial statements, as the case may be, of our company to the extent not available on such
calculation date. Any adjustment necessitated by the true-up calculation will be made in connection with the next calculation
of manager’s profit allocation. Because of the length of time that may pass between trigger events, there may be a significant
delay in our company’s ability to realize the benefit, if any, of a true-up of our manager’s profit allocation.
Once calculated, the administrator will submit the calculation
of our manager’s profit allocation, as adjusted pursuant to any true-up, to our company’s board of directors for its
review and approval. The board of directors will have ten business days to review and approve the calculation, which approval
shall be automatic absent disapproval by the board of directors. Our manager’s profit allocation will be paid ten business
days after such approval.
If the board of directors disapproves of the administrator’s
calculation of manager’s profit allocation, the calculation and payment of manager’s profit allocation will be subject
to a dispute resolution process, which may result in manager’s profit allocation being determined, at our company’s
cost and expense, by two independent accounting firms. Any determination by such independent accounting firms will be conclusive
and binding on our company and our manager.
We will also pay a tax distribution to our manager if our manager
is allocated taxable income by our company but does not realize distributions from our company at least equal to the taxes payable
by our manager resulting from allocations of taxable income. Any such tax distributions will be paid in a similar manner as profit
allocations are paid.
For any fiscal quarter in which a trigger event occurs with
respect to more than one business, the calculation of our manager’s profit allocation, including the components thereof,
will be made with respect to each business in the order in which controlling interests in such businesses were acquired or obtained
by our company and the resulting amounts shall be aggregated to determine the total amount of manager’s profit allocation.
If controlling interests in two or more businesses were acquired at the same time and such businesses give rise to a calculation
of manager’s profit allocation during the same fiscal quarter, then manager’s profit allocation will be further calculated
separately for each such business in the order in which such businesses were sold.
As obligations of our company, profit allocations and tax distributions
will be paid prior to the payment of distributions to our shareholders. If we do not have sufficient liquid assets to pay the
profit allocations or tax distributions when due, we may be required to liquidate assets or incur debt in order to pay such profit
allocation. Our manager will have the right to elect to defer the payment of our manager’s profit allocation due on any
payment date. Once deferred, our manager may demand payment thereof upon 20 business days’ prior written notice.
Termination of the management services agreement, by any means,
will not affect our manager’s rights with respect to the allocation shares that it owns, including its right to receive
profit allocations, unless our manager exercises its put right to sell such allocation shares to our company.
Example of Calculation of Manager’s Profit Allocation
Our manager will receive a profit allocation at the end of
the fiscal quarter in which a trigger event occurs, as follows (all dollar amounts are in millions):
Assumptions
Year 1:
Acquisition of Company A
Acquisition of Company B
Year 4
Company A (or assets thereof) sold for $25 capital
gain (as defined below) over its net book value of assets at time of sale, which is a qualifying trigger event
Company A’s average allocated share of our
consolidated net equity over its ownership is $50
Company A’s holding period in quarters is 12
Company A’s contribution-based profit since
acquisition is $5
Year 6:
Company B’s contribution-based profit since
acquisition is $7
Company B’s average allocated share of our
consolidated net equity over its ownership is $25
Company B’s holding period in quarters is 20
Company B’s cumulative gains and losses are
$20
Manager elects to have holding period measured for
purposes of profit allocation for Company B
Quarterly management
fee:
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|
Year
4
A,
due to
sale
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|
|
Year
6
B,
due to
5
year hold
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1
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Contribution-based profit since acquisition for respective subsidiary
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$
|
5
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|
$
|
7
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2
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Gain/ Loss on sale of company
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25
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0
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3
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Cumulative gains and losses
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25
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20
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4
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High water mark prior to transaction
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0
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|
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20
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5
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|
Total Profit Allocation Amount (Line 1 + Line 3)
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30
|
|
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27
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6
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|
Business’ holding period in quarters since ownership or last measurement
due to holding event
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12
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20
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7
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|
Business’ average allocated share of consolidated net equity
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50
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25
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8
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|
Business’ level 1 hurdle amount (2.00% * Line 6 * Line 7)
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12
|
|
|
|
10
|
|
9
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|
Business’ excess over level 1 hurdle amount (Line 5 – Line
8)
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|
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18
|
|
|
|
17
|
|
10
|
|
Business’ level 2 hurdle amount (125% * Line 8)
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15
|
|
|
|
12.5
|
|
11
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|
Allocated to manager as “catch-up” (Line 10 – Line 8)
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|
3
|
|
|
|
2.5
|
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12
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|
Excess over level 2 hurdle amount (Line 9 – Line 11)
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|
|
15
|
|
|
|
14.5
|
|
13
|
|
Allocated to manager from excess over level 2 hurdle amount (20% * Line 12)
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|
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3
|
|
|
|
2.9
|
|
14
|
|
Cumulative allocation to manager (Line 11 + Line 13)
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|
|
6
|
|
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|
5.4
|
|
15
|
|
High water mark allocation (20% * Line 4)
|
|
|
0
|
|
|
|
4
|
|
16
|
|
Manager’s Profit Allocation for Current Period
(Line 14 – Line 15,> 0)
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$
|
6
|
|
|
$
|
1.4
|
|
For purposes of calculating profit allocation:
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An entity’s “adjusted net assets”
will be equal to, as of any date, the sum of (i) such entity’s consolidated total
assets (as determined in accordance with GAAP) as of such date, plus (ii) the absolute
amount of such entity’s consolidated accumulated amortization of intangibles (as
determined in accordance with GAAP) as of such date, minus (iii) the absolute amount
of such entity’s adjusted total liabilities as of such date.
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●
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An entity’s “adjusted total liabilities”
will be equal to, as of any date, such entity’s consolidated total liabilities
(as determined in accordance with GAAP) as of such date after excluding the effect of
any outstanding third party indebtedness of such entity.
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A business’ “allocated share of our company’s
overhead” will be equal to, with respect to any measurement period as of any
calculation date, the aggregate amount of such business’ quarterly share of our
company’s overhead for each fiscal quarter ending during such measurement period.
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A business’ “average allocated share of
our consolidated equity” will be equal to, with respect to any measurement
period as of any calculation date, the average (i.e., arithmetic mean) of a business’
quarterly allocated share of our consolidated equity for each fiscal quarter ending during
such measurement period.
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“Capital gains” (i) means, with respect
to any entity, capital gains (as determined in accordance with GAAP) that are calculated
with respect to the sale of capital stock or assets of such entity and which sale gave
rise to a sale event and the calculation of profit allocation and (ii) will be equal
to the amount, adjusted for minority interests, by which (x) the net sales price of such
capital stock or assets, as the case may be, exceeded (y) the net book value (as determined
in accordance with GAAP) of such capital stock or assets, as the case may be, at the
time of such sale, as reflected on our company’s consolidated balance sheet prepared
in accordance with GAAP; provided, that such amount shall not be less than zero.
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“Capital losses” (i) means, with respect
to any entity, capital losses (as determined in accordance with GAAP) that are calculated
with respect to the sale of capital stock or assets of such entity and which sale gave
rise to a sale event and the calculation of profit allocation and (ii) will be equal
to the amount, adjusted for minority interests, by which (x) the net book value (as determined
in accordance with GAAP) of such capital stock or assets, as the case may be, at the
time of such sale, as reflected on our consolidated balance sheet prepared in accordance
with GAAP, exceeded (y) the net sales price of such capital stock or assets, as
the case may be; provided, that such absolute amount thereof shall not be less
than zero.
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Our “consolidated net equity” will
be equal to, as of any date, the sum of (i) our consolidated total assets (as
determined in accordance with GAAP) as of such date, plus (ii) the aggregate amount
of asset impairments (as determined in accordance with GAAP) that were taken relating
to any businesses owned by us as of such date, plus (iii) our consolidated accumulated
amortization of intangibles (as determined in accordance with GAAP), as of such date
minus (iv) our consolidated total liabilities (as determined in accordance with
GAAP) as of such date.
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A business’ “contribution-based profits”
will be equal to, for any measurement period as of any calculation date, the sum of (i)
the aggregate amount of such business’ net income (loss) (as determined in accordance
with GAAP and as adjusted for minority interests) with respect to such measurement period
(without giving effect to (x) any capital gains or capital losses realized by such business
that arise with respect to the sale of capital stock or assets held by such business
and which sale gave rise to a sale event and the calculation of profit allocation or
(y) any expense attributable to the accrual or payment of any amount of profit allocation
or any amount arising under the supplemental put agreement, in each case, to the extent
included in the calculation of such business’ net income (loss)), plus (ii)
the absolute aggregate amount of such business’ loan expense with respect to such
measurement period, minus (iii) the absolute aggregate amount of such business’
allocated share of our company’s overhead with respect to such measurement period.
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Our “cumulative capital gains” will
be equal to, as of any calculation date, the aggregate amount of capital gains realized
by our company as of such calculation date, after giving effect to any capital gains
realized by our company on such calculation date, since its inception.
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|
Our “cumulative capital losses” will
be equal to, as of any calculation date, the aggregate amount of capital losses realized
by our company as of such calculation date, after giving effect to any capital losses
realized by our company on such calculation date, since its inception.
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Our “cumulative gains and losses”
will be equal to, as of any calculation date, the sum of (i) the amount of cumulative
capital gains as of such calculation date, minus (ii) the absolute amount of cumulative
capital losses as of such calculation date.
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|
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|
The “high water mark” will be equal
to, as of any calculation date, the highest positive amount of capital gains and losses
as of such calculation date that were calculated in connection with a qualifying trigger
event that occurred prior to such calculation date.
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●
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The “high water mark allocation” will
be equal to, as of any calculation date, the product of (i) the amount of the high water
mark as of such calculation date, multiplied by (ii) 20%.
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A business’ “level 1 hurdle amount”
will be equal to, as of any calculation date, the product of (i) (x) the quarterly hurdle
rate of 2.00% (8% annualized), multiplied by (y) the number of fiscal quarters
ending during such business’ measurement period as of such calculation date, multiplied
by (ii) a business’ average allocated share of our consolidated equity for
each fiscal quarter ending during such measurement period.
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A business’ “level 2 hurdle amount”
will be equal to, as of any calculation date, the product of (i) (x) the quarterly hurdle
rate of 2.5% (10% annualized, which is 125% of the 8% annualized hurdle rate), multiplied
by (y) the number of fiscal quarters ending during such business’ measurement
period as of such calculation date, multiplied by (ii) a business’ average
allocated share of our consolidated equity for each fiscal quarter ending during such
measurement period.
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A business’ “loan expense” will
be equal to, with respect to any measurement period as of any calculation date, the aggregate
amount of all interest or other expenses paid by such business with respect to indebtedness
of such business to either our company or other company businesses with respect to such
measurement period.
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The “measurement period” will mean,
with respect to any business as of any calculation date, the period from and including
the later of (i) the date upon which we acquired a controlling interest in such business
and (ii) the immediately preceding calculation date as of which contribution-based profits
were calculated with respect to such business and with respect to which profit allocation
were paid (or, at the election of the allocation member, deferred) by our company up
to and including such calculation date.
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Our company’s “overhead” will
be equal to, with respect to any fiscal quarter, the sum of (i) that portion of
our operating expenses (as determined in accordance with GAAP) (without giving effect
to any expense attributable to the accrual or payment of any amount of profit allocation
or any amount arising under the supplemental put agreement to the extent included in
the calculation of our operating expenses), including any management fees actually paid
by our company to our manager, with respect to such fiscal quarter that are not attributable
to any of the businesses owned by our company (i.e., operating expenses that do not correspond
to operating expenses of such businesses with respect to such fiscal quarter), plus
(ii) our accrued interest expense (as determined in accordance with GAAP) on any
outstanding third party indebtedness of our company with respect to such fiscal quarter,
minus (iii) revenue, interest income and other income reflected in our unconsolidated
financial statements as prepared in accordance with GAAP.
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A “qualifying trigger event” will
mean, with respect to any business, a trigger event that gave rise to a calculation of
total profit allocation with respect to such business as of any calculation date and
(ii) where the amount of total profit allocation so calculated as of such calculation
date exceeded such business’ level 2 hurdle amount as of such calculation date.
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A business’ “quarterly allocated share
of our consolidated equity” will be equal to, with respect to any fiscal quarter,
the product of (i) our consolidated net equity as of the last day of such fiscal
quarter, multiplied by (ii) a fraction, the numerator of which is such business’
adjusted net assets as of the last day of such fiscal quarter and the denominator of
which is the sum of (x) our adjusted net assets as of the last day of such fiscal
quarter, minus (y) the aggregate amount of any cash and cash equivalents as such
amount is reflected on our consolidated balance sheet as prepared in accordance with
GAAP that is not taken into account in the calculation of any business’ adjusted
net assets as of the last day of such fiscal quarter.
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A business’ “quarterly share of our company’s
overhead” will be equal to, with respect to any fiscal quarter, the product
of (i) the absolute amount of our company’s overhead with respect to such fiscal
quarter, multiplied by (ii) a fraction, the numerator of which is such business’
adjusted net assets as of the last day of such fiscal quarter and the denominator of
which is our adjusted net assets as of the last day of such fiscal quarter.
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An entity’s “third party indebtedness”
means any indebtedness of such entity owed to any third party lenders that are not affiliated
with such entity.
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Supplemental Put Provision
In addition to the provisions discussed above, in consideration
of our manager’s acquisition of the allocation shares, our operating agreement contains a supplemental put provision pursuant
to which our manager will have the right to cause our company to purchase the allocation shares then owned by our manager upon
termination of the management services agreement.
If the management services agreement is terminated at any time
or our manager resigns, then our manager will have the right, but not the obligation, for one year from the date of such termination
or resignation, as the case may be, to elect to cause our company to purchase all of the allocation shares then owned by our manager
for the put price as of the put exercise date.
For purposes of this provision, the “put price”
is equal to, as of any exercise date, (i) if we terminate the management services agreement, the sum of two separate, independently
made calculations of the aggregate amount of manager’s profit allocation as of such exercise date or (ii) if our manager
resigns, the average of two separate, independently made calculations of the aggregate amount of manager’s profit allocation
as of such exercise date, in each case, calculated assuming that (x) all of the businesses are sold in an orderly fashion for
fair market value as of such exercise date in the order in which the controlling interest in each business was acquired or otherwise
obtained by our company, (y) the last day of the fiscal quarter ending immediately prior to such exercise date is the relevant
calculation date for purposes of calculating manager’s profit allocation as of such exercise date. Each of the two separate,
independently made calculations of our manager’s profit allocation for purposes of calculating the put price will be performed
by a different investment bank that is engaged by our company at its cost and expense. The put price will be adjusted to account
for a final “true-up” of our manager’s profit allocation.
Our manager and our company can mutually agree to permit our
company to issue a note in lieu of payment of the put price when due; provided, that if our manager resigns and terminates the
management services agreement, then our company will have the right, in its sole discretion, to issue a note in lieu of payment
of the put price when due. In either case the note would have an aggregate principal amount equal to the put price, would bear
interest at a rate of LIBOR plus 4.0% per annum, would mature on the first anniversary of the date upon which the put price was
initially due, and would be secured by the then-highest priority lien available to be placed on our equity interests in each of
our businesses.
Our company’s obligations under the put provision of
our operating agreement are absolute and unconditional. In addition, our company will be subject to certain obligations and restrictions
upon exercise of our manager’s put right until such time as our company’s obligations under the put provision of our
operating agreement, including any related note, have been satisfied in full, including:
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subject to our company’s right to issue a note
in the circumstances described above, our company must use commercially reasonable efforts
to raise sufficient debt or equity financing to permit our company to pay the put price
or note when due and obtain approvals, waivers and consents or otherwise remove any restrictions
imposed under contractual obligations or applicable law or regulations that have the
effect of limiting or prohibiting our company from satisfying its obligations under the
supplemental put agreement or note;
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our manager will have the right to have a representative
observe meetings of our company’s board of directors and have the right to receive
copies of all documents and other information furnished to the board of directors;
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our company and its businesses will be restricted in
their ability to sell or otherwise dispose of their property or assets or any businesses
they own and in their ability to incur indebtedness (other than in the ordinary course
of business) without granting a lien on the proceeds therefrom to our manager, which
lien will secure our company’s obligations under the put provision of our operating
agreement or note; and
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our company will be restricted in its ability to (i)
engage in certain mergers or consolidations, (ii) sell, transfer or otherwise dispose
of all or a substantial part of its business, property or assets or all or a substantial
portion of the stock or beneficial ownership of its businesses or a portion thereof,
(iii) liquidate, wind-up or dissolve, (iv) acquire or purchase the property, assets,
stock or beneficial ownership or another person, or (v) declare and pay distributions
on the series A preferred shares, if and when they are issued, and distributions to our
common shareholders.
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Our company also has agreed to indemnify our manager for any
losses or liabilities it incurs or suffers in connection with, arising out of or relating to its exercise of its put right or
any enforcement of terms and conditions of the supplemental put provision of our operating agreement.
As an obligation of our company, the put price will be paid
prior to the payment of distributions to our shareholders. If we do not have sufficient liquid assets to pay the put price when
due, we may be required to liquidate assets or incur debt in order to pay the put price.
Termination of the management services agreement, by any means,
will not affect our manager’s rights with respect to the allocation shares that it owns. In this regard, our manager will
retain its put right and its allocation shares after ceasing to serve as our manager. As a result, if we terminate our manager,
regardless of the reason for such termination, it would retain the right to exercise the put right and demand payment of the put
price.
OUR BUSINESS
Overview
We are an acquisition holding company focused on acquiring
and managing a group of small businesses, which we characterize as those that have an enterprise value of less than $50 million,
in a variety of different industries headquartered in North America. To date, we have completed two acquisitions.
In March 2017, we acquired Neese. Headquartered in Grand Junction,
Iowa and founded in 1991, Neese is an established business specializing in providing a wide range of land application services
and selling equipment and parts, primarily to the agricultural industry, but also to the construction and lawn and garden industries.
In April 2019, we acquired substantially all of the assets
of Goedeker Television through our subsidiary Goedeker, which now operates the prior business of Goedeker Television, a Missouri
corporation founded in 1951. Headquartered in St. Louis, Missouri, Goedeker is a one-stop e-commerce destination for home furnishings,
including appliances, furniture, bath and kitchen fixtures, décor, lighting and home goods.
Through our structure, we plan to offer investors an opportunity
to participate in the ownership and growth of a portfolio of businesses that traditionally have been owned and managed by private
equity firms, private individuals or families, financial institutions or large conglomerates. We believe that our management and
acquisition strategies will allow us to achieve our goals to begin making and growing regular monthly distributions to our
common shareholders and increasing common shareholder value over time.
We seek to acquire controlling interests in small businesses
that we believe operate in industries with long-term macroeconomic growth opportunities, and that have positive and stable earnings
and cash flows, face minimal threats of technological or competitive obsolescence and have strong management teams largely in
place. We believe that private company operators and corporate parents looking to sell their businesses will consider us to be
an attractive purchaser of their businesses. We intend to make these future businesses our majority-owned subsidiaries and intend
to actively manage and grow such businesses. We expect to improve our businesses over the long term through organic growth opportunities,
add-on acquisitions and operational improvements.
Market Opportunity
We seek to acquire and manage small businesses, which we characterize
as those that have an enterprise value of less than $50 million. We believe that the merger and acquisition market for small businesses
is highly fragmented and provides significant opportunities to purchase businesses at attractive prices. For example, according
to GF Data, platform acquisitions with enterprise values greater than $50.0 million commanded valuation premiums 30% higher than
platform acquisitions with enterprise values less than $50.0 million (8.2x trailing twelve month adjusted EBITDA versus 6.3x trailing
twelve month adjusted EBITDA, respectively).
We believe that the following factors contribute to lower acquisition
multiples for small businesses:
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there are typically fewer potential acquirers for these
businesses;
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third-party financing generally is less available for
these acquisitions;
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sellers of these businesses may consider non-economic
factors, such as continuing board membership or the effect of the sale on their employees;
and
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these businesses are generally less frequently sold pursuant
to an auction process.
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We believe that our management team’s strong relationships
with business brokers, investment and commercial bankers, accountants, attorneys and other potential sources of acquisition opportunities
offers us substantial opportunities to purchase small businesses. See “Our Manager—Key Personnel of our Manager”
for more information about our management team.
We also believe that significant opportunities exist to improve
the performance of the businesses upon their acquisition. In the past, our manager has acquired businesses that are often formerly
owned by seasoned entrepreneurs or large corporate parents. In these cases, our manager has frequently found that there have been
opportunities to further build upon the management teams of acquired businesses. In addition, our manager has frequently found
that financial reporting and management information systems of acquired businesses may be improved, both of which can lead to
substantial improvements in earnings and cash flow. Finally, because these businesses tend to be too small to have their own corporate
development efforts, we believe opportunities exist to assist these businesses in meaningful ways as they pursue organic or external
growth strategies that were often not pursued by their previous owners.
Our Strategy
Our long-term goals are to begin making and growing monthly
distributions to our common shareholders and to increase common shareholder value over the long-term. We acquired Neese and all
of the assets of Goedeker Television primarily so that we can achieve a base of cash flow to build our company and begin making
and growing monthly distributions to our common shareholders. We believe that these acquisitions will help us achieve our long-term
goals.
We plan to continue focusing on acquiring other businesses.
Therefore, we intend to continue to identify, perform due diligence on, negotiate and consummate platform acquisitions of small
businesses in attractive industry sectors.
Unlike buyers of small businesses that rely on significant
leverage to consummate acquisitions (as demonstrated by the data below), we plan to limit the use of third party (i.e., external)
acquisition leverage so that our debt will not exceed the market value of the assets we acquire and so that our debt to EBITDA
ratio will not exceed 1.25x to 1 for our operating subsidiaries. We believe that limiting leverage in this manner will avoid the
imposition on stringent lender controls on our operations that would otherwise potentially hamper the growth of our operating
subsidiaries and otherwise harm our business even during times when we have positive operating cash flows. Additionally, in our
experience, leverage rarely leads to “break-out” returns and often creates negative return outcomes that are not correlated
with the profitability of the business.
Source: GF Data M&A Report (May
2019)
Source: GF Data Leverage Report (May
2019)
Management Strategy
Our management strategy involves the identification, performance
of due diligence, negotiation and consummation of acquisitions. After acquiring businesses, we will attempt to grow the businesses
both organically and through add-on or bolt-on acquisitions. Add-on or bolt-on acquisitions are acquisitions by a company of other
companies in the same industry. Following the acquisition of companies, we will seek to grow the earnings and cash flow of acquired
companies and, in turn, begin making and growing regular monthly distributions to our common shareholders and to increase common
shareholder value over time. We believe we can increase the cash flows of our businesses by applying our intellectual capital
to improve and grow our future businesses.
We will seek to acquire and manage small businesses. We believe
that the merger and acquisition market for small businesses is highly fragmented and provides opportunities to purchase businesses
at attractive prices. We believe we will be able to acquire small businesses for multiples ranging from three to six times EBITDA.
We also believe, and our manager has historically found, that significant opportunities exist to improve the performance of these
businesses upon their acquisition.
In general, our manager will oversee and support the management
team of our future platform businesses by, among other things:
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recruiting and retaining managers to operate our future
businesses by using structured incentive compensation programs, including minority equity
ownership, tailored to each business;
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regularly monitoring financial and operational performance,
instilling consistent financial discipline, and supporting management in the development
and implementation of information systems;
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assisting the management teams of our future businesses
in their analysis and pursuit of prudent organic growth strategies
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identifying and working with future business management
teams to execute on attractive external growth and acquisition opportunities;
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identifying and executing operational improvements and
integration opportunities that will lead to lower operating costs and operational optimization;
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providing the management teams of our future businesses
the opportunity to leverage our experience and expertise to develop and implement business
and operational strategies; and
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forming strong subsidiary level boards of directors to
supplement management teams in their development and implementation of strategic goals
and objectives.
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We also believe that our long-term perspective provides us
with certain additional advantages, including the ability to:
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recruit and develop management teams for our future businesses
that are familiar with the industries in which our future businesses operate;
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focus on developing and implementing business and operational
strategies to build and sustain shareholder value over the long term;
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create sector-specific businesses enabling us to take
advantage of vertical and horizontal acquisition opportunities within a given sector;
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achieve exposure in certain industries in order to create
opportunities for future acquisitions; and
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develop and maintain long-term collaborative relationships
with customers and suppliers.
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We intend to continually increase our intellectual capital
as we operate our businesses and acquire new businesses and as our manager identifies and recruits qualified operating partners
and managers for our businesses.
Acquisition Strategy
Our acquisition strategies involve the acquisition of small
businesses in various industries that we expect will produce positive and stable earnings and cash flow, as well as achieve attractive
returns on our invested capital. In this respect, we expect to make acquisitions in industries wherein we believe an acquisition
presents an attractive opportunity from the perspective of both (i) return on assets or equity and (ii) an easily identifiable
path for growing the acquired businesses. We believe that attractive opportunities will increasingly present themselves as private
sector owners seek to monetize their interests in longstanding and privately-held businesses and large corporate parents seek
to dispose of their “non-core” operations.
We believe that the greatest opportunities for generating consistently
positive annual returns and, ultimately, residual returns on capital invested in acquisitions will result from targeting capital
light businesses operating in niche geographical markets with a clearly identifiable competitive advantage within the following
industries: business services, consumer services, consumer products, consumable industrial products, industrial services, niche
light manufacturing, distribution, alternative/specialty finance and in select cases, specialty retail. While we believe that
the professional experience of our management team within the industries identified above will offer the greatest number of acquisition
opportunities, we will not eschew opportunities if a business enjoys an inarguable moat around its products and services in an
industry which our management team may have less familiarity.
From a financial perspective, we expect to make acquisitions
of small businesses that are stable, have minimal bad debt, and strong accounts receivable. In addition, we expect to acquire
companies that have been able to generate positive pro forma cash available for distribution for a minimum of three years prior
to acquisition. Our previous acquisitions of Neese and Goedeker met these acquisition criteria.
We expect to benefit from our manager’s ability to identify
diverse acquisition opportunities in a variety of industries. In addition, we intend to rely upon our management teams’
experience and expertise in researching and valuing prospective target businesses, as well as negotiating the ultimate acquisition
of such target businesses. In particular, because there may be a lack of information available about these target businesses,
which may make it more difficult to understand or appropriately value such target businesses, we expect our manager will:
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engage in a substantial level of internal and third-party
due diligence;
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critically evaluate the management team;
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identify and assess any financial and operational strengths
and weaknesses of any target business;
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analyze comparable businesses to assess financial and
operational performances relative to industry competitors;
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actively research and evaluate information on the relevant
industry; and
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thoroughly negotiate appropriate terms and conditions
of any acquisition.
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We expect the process of acquiring new businesses to be time-consuming
and complex. Our manager has historically taken from 2 to 24 months to perform due diligence on, negotiate and close acquisitions.
Although we expect our manager to be at various stages of evaluating several transactions at any given time, there may be significant
periods of time during which it does not recommend any new acquisitions to us.
Upon an acquisition of a new business, we intend to rely on
our manager’s experience and expertise to work efficiently and effectively with the management of the new business to jointly
develop and execute a business plan.
While we will primarily seek to acquire controlling interests
in a business, we may also acquire non-control or minority equity positions in businesses where we believe it is consistent with
our long-term strategy.
As discussed in more detail below, we intend to raise capital
for additional acquisitions primarily through debt financing, primarily at our operating company level, additional equity offerings
by our company, the sale of all or a part of our businesses or by undertaking a combination of any of the above.
Our primary corporate purpose is to own, operate and grow our
operating businesses. However, in addition to acquiring businesses, we expect to sell businesses that we own from time to
time. Our decision to sell a business will be based upon financial, operating and other considerations rather than a plan
to complete a sale of a business within any specific time frame. We may also decide to own and operate some or all of our
businesses in perpetuity if our board believes that it makes sense to do so. Upon the sale of a business, we may use the resulting
proceeds to retire debt or retain proceeds for future acquisitions or general corporate purposes. Generally, we do not expect
to make special distributions at the time of a sale of one of our businesses; instead, we expect that we will seek to gradually
increase monthly common shareholder distributions over time.
There are several risks associated with our acquisition strategy,
including the following risks, which are described more fully in “Risk Factors—Risks Related to Our Business and Structure”:
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we may not be able to successfully fund future acquisitions
of new businesses due to the unavailability of debt or equity financing on acceptable
terms, which could impede the implementation of our acquisition strategy;
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we may experience difficulty as we evaluate, acquire
and integrate businesses that we may acquire, which could result in drains on our resources,
including the attention of our management, and disruptions of our on-going business;
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we face competition for businesses that fit our acquisition
strategy and, therefore, we may have to acquire targets at sub-optimal prices or, alternatively,
forego certain acquisition opportunities; and
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we may change our management and acquisition strategies
without the consent of our shareholders, which may result in a determination by us to
pursue riskier business activities.
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Strategic Advantages
Based on the experience of our manager and its ability to identify
and negotiate acquisitions, we expect to be strongly positioned to acquire additional businesses. Our manager has strong relationships
with business brokers, investment and commercial bankers, accountants, attorneys and other potential sources of acquisition opportunities.
In negotiating these acquisitions, we believe our manager will be able to successfully navigate complex situations surrounding
acquisitions, including corporate spin-offs, transitions of family-owned businesses, management buy-outs and reorganizations.
We expect that the flexibility, creativity, experience and
expertise of our manager in structuring transactions will provide us with strategic advantages by allowing us to consider non-traditional
and complex transactions tailored to fit a specific acquisition target.
Our manager also has a large network of deal intermediaries
who we expect to expose us to potential acquisitions. Through this network, we expect to have a substantial pipeline of potential
acquisition targets. Our manager also has a well-established network of contacts, including professional managers, attorneys,
accountants and other third-party consultants and advisors, who may be available to assist us in the performance of due diligence
and the negotiation of acquisitions, as well as the management and operation of our businesses once acquired.
Valuation and Due Diligence
When evaluating businesses or assets for acquisition, we will
perform a rigorous due diligence and financial evaluation process. In doing so, we will seek to evaluate the operations of the
target business as well as the outlook for the industry in which the target business operates. While valuation of a business is,
by definition, a subjective process, we will be defining valuations under a variety of analyses, including:
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discounted cash flow analyses;
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evaluation of trading values of comparable companies;
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expected value matrices;
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assessment of competitor, supplier and customer environments;
and
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examination of recent/precedent transactions.
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One outcome of this process is an effort to project the expected
cash flows from the target business as accurately as possible. A further outcome is an understanding of the types and levels of
risk associated with those projections. While future performance and projections are always uncertain, we believe that our detailed
due diligence review process allows us to more accurately estimate future cash flows and more effectively evaluate the prospects
for operating the business in the future. To assist us in identifying material risks and validating key assumptions in our financial
and operational analysis, in addition to our own analysis, we intend to engage third-party experts to review key risk areas, including
legal, tax, regulatory, accounting, insurance and environmental. We may also engage technical, operational or industry consultants,
as necessary.
A further critical component of the evaluation of potential
target businesses will be the assessment of the capability of the existing management team, including recent performance, expertise,
experience, culture and incentives to perform. Where necessary, and consistent with our management strategy, we will actively
seek to augment, supplement or replace existing members of management who we believe are not likely to execute the business plan
for the target business. Similarly, we will analyze and evaluate the financial and operational information systems of target businesses
and, where necessary, we will actively seek to enhance and improve those existing systems that are deemed to be inadequate or
insufficient to support our business plan for the target business.
Financing
We will finance future acquisitions primarily through additional
equity and debt financings. We believe that having the ability to finance most, if not all, acquisitions with the general capital
resources raised by our company, rather than financing relating to the acquisition of individual businesses, provides us with
an advantage in acquiring attractive businesses by minimizing delay and closing conditions that are often related to acquisition-specific
financings. In this respect, we believe that, at some point in the future, we may need to pursue additional debt or equity financings,
or offer equity in our company or target businesses to the sellers of such target businesses, in order to fund acquisitions.
Our Competitive Advantages
We believe that our manager’s collective investment experience
and approach to executing our investment strategy provide our company with several competitive advantages. These competitive advantages,
certain of which are discussed below, have enabled our management to generate very attractive risk- adjusted returns for investors
in their predecessor firms.
Robust Network. Through their activities with
their predecessor firms and their comprehensive marketing capabilities, we believe that the management team of our manager has
established a “top of mind” position among investment bankers and business brokers targeting small businesses. By
employing an institutionalized, multi-platform marketing strategy, we believe our manager has established a robust national network
of personal relationships with intermediaries, seasoned operating executives, entrepreneurs and managers, thereby firmly establishing
our company’s presence and credibility in the small business market. In contrast to many other buyers of and investors in
small businesses, we believe that we can buy businesses at value-oriented multiples and through our asset management activities
with a group of professional, experienced and talented operating partners, create appreciable value. We believe our experience,
track record and consistent execution of our marketing and investment activities will allow us to maintain a leadership position
as the preferred partner for today’s small business market.
Disciplined Deal Sourcing. We employ an institutionalized,
multi-platform approach to sourcing new acquisition opportunities. Our deal sourcing efforts include leveraging relationships
with more than 3,000 qualified deal sources through regular calling, mail and e-mail campaigns, assignment of regional marketing
responsibilities, in-person visits and high-profile sponsorship of important conferences and industry events. We supplement these
activities by retaining selected intermediary firms to conduct targeted searches for opportunities in specific categories on an
opportunistic basis. As a result of the significant time and effort spent on these activities, we believe we established close
relationships and unique “top of mind” awareness with many of the most productive intermediary sources for small business
acquisition opportunities in the United States. While reinforcing our market leadership, this capability enables us to generate
a large number of attractive acquisition opportunities.
Differentiated Acquisition Capabilities in the Small
Business Market. We deploy a differentiated approach to acquiring businesses in the small business market. Our management
concentrates their efforts on mature companies with sustainable value propositions, which can be supported by our resources and
institutional expertise. Our evaluation of acquisition opportunities typically involves significant input from a seasoned operating
partner with relevant experience, which we believe enhances both our diligence and ongoing monitoring capabilities. In addition,
we approach every acquisition opportunity with creative structures, which we believe enables us to engineer mutually attractive
scenarios for sellers, whereas competing buyers may be limited by their rigid structural requirements. We believe our commitment
to conservative capital structures and valuation will enhance each acquired operating subsidiary’s ability to deliver consistent
levels of cash available for distribution, while additionally supporting reinvestment for growth.
Value Proposition for Business Owners. We employ
a creative, flexible approach by tailoring each acquisition structure to meet the specific liquidity needs and certain qualitative
objectives of the target’s owners and management team. In addition to serving as an exit pathway for sellers, we seek to
align our interests with the sellers by enabling them to retain and/or earn (through incentive compensation) a substantial economic
interest in their businesses following the acquisition and by typically allowing the incumbent management team to retain operating
control of the acquired operating subsidiary on a day-to-day basis. We believe that our company is an appealing buyer for small
business owners and managers due to our track record of capitalizing portfolio companies conservatively, enhancing our ability
to execute on its strategic initiatives and adding equity value. As a result, we believe business owners and managers will find
our company to be a dynamic, value-added buyer that brings considerable resources to achieve their strategic, capital and operating
needs, resulting in substantial value creation for the operating subsidiary.
Operating Partner. Our manager has consistently
worked with a strong network of seasoned operating partners - former entrepreneurs and executives with extensive experience building,
managing and optimizing successful small businesses across a range of industries. We believe that our operating partner model
will enable our company to make a significant improvement in the operating subsidiary, as compared to other buyers, such as traditional
private equity firms, which rely principally upon investment professionals to make acquisition/investment and monitoring decisions
regarding not only the business, financial and legal due diligence aspects of a business but also the more operational aspects
including industry dynamics, management strength and strategic growth initiatives. We typically engage an operating partner soon
after identifying a target business for acquisition, enhancing our acquisition judgment and building the acquisition team’s
relationship with the subsidiary’s management team. Operating partners usually serve as a member of the board of directors
of an operating subsidiary and spend two to four days per month working with the subsidiary’s management team. We leverage
the operating partner’s extensive experience to build the management team, improve operations and assist with strategic
growth initiatives, resulting in value creation.
Small Business Market Experience. We believe
the history and experience of our manager’s partnering with companies in the small business market allows us to identify
highly attractive acquisition opportunities and add significant value to our operating subsidiaries. Our manager’s investment
experience in the small business market prior to forming our company has further contributed to our institutional expertise in
the acquisition, strategic and operational decisions critical to the long-term success of small businesses. Since 2000, the management
team of our manager has collectively been presented with several thousand investment opportunities and actively worked with more
than 30 small businesses on all facets of their strategy, development and operations, which we have successfully translated into
unique, institutionalized capabilities directed towards creating value in small businesses.
Intellectual Property
Our manager owns certain intellectual property relating to
the term “1847.” Our manager has granted our company a license to use the term “1847” in its business.