CAPC Capstone Companies Inc (QB)

UNITED STATES 

SECURITIES AND EXCHANGE COMMISSION

 Washington, D.C. 20549

FORM 10-Q

☒ QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2023

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _____________ to _____________

Commission File Number: 000-28831

CAPSTONE COMPANIES, INC.

 (Exact name of Registrant as specified in its charter)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ☒ Yes ☐ No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large, accelerated file, an accelerated filer, a non-accelerated filer, smaller reporting company, or emerging growth company. See the definitions of “large, accelerated filer, “accelerated filer, “smaller reporting company and “emerging growth company in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Securities registered pursuant to Section 12(b) of the Act:

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No

As of May 8, 2023, the Company had 48,826,864 shares of Common Stock issued and outstanding. The Common Stock is quoted on the OTCQB Venture Market of the OTC Markets Group, Inc. under the trading symbol “CAPC”.

Use of Certain Defined Terms. Except as otherwise indicated by the context, the following terms have the stated meanings.

As used in this Form 10-Q Quarterly Report for the fiscal period ending March 31, 20232 (“Form 10-Q Report” or “Form 10-Q”), “COVID-19” refers to Coronavirus/COVID-19 virus and all variants of that virus, a highly contagious novel virus that was declared a global pandemic by the World Health Organization or “WHO on March 11, 2020. “COVID-19 pandemic” refers to “global pandemic” (as defined by WHO) caused by COVID-19. “Company”, “Capstone”, “we, “our”, and “us” refers to Capstone Companies, Inc. and its subsidiaries, unless context indicates just Capstone Companies, Inc.

Additionally:

We may use “FY” to mean “fiscal year” and “Q” to mean fiscal quarter ended March 31, 2023.

CAPSTONE COMPANIES, INC. 

Quarterly Report on Form 10-Q

 Three Months Ended March 31, 2023

TABLE OF CONTENTS

CAPSTONE COMPANIES, INC., AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

CAPSTONE COMPANIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

CAPSTONE COMPANIES, INC., AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY (DEFICIT)

 FOR THE THREE MONTHS ENDED MARCH 31, 2023, AND MARCH 31, 2022

(Unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

CAPSTONE COMPANIES, INC., AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 (Unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

This summary of accounting policies for Capstone Companies, Inc. (“CAPC”, “Company”, “we”, “our” or “us”), a Florida corporation and its wholly owned subsidiaries is presented to assist in understanding the Company’s consolidated financial statements. The accounting policies conform to accounting principles generally accepted in the United States of America (“U.S. GAAP”) and have been consistently applied in the preparation of the consolidated financial statements.

Organization and Basis of Presentation

The condensed consolidated financial statements contained in this report are unaudited. In the opinion of management, the condensed consolidated financial statements include all adjustments, which are of a normal recurring nature, necessary to present fairly the Company’s financial position as of March 31, 2023, and results of operations, stockholders’ equity and cash flows for the three months ended March 31, 2023 and 2022. All material intercompany accounts and transactions are eliminated in consolidation. These condensed consolidated financial statements and notes are presented in accordance with the rules and regulations of the United States Securities and Exchange Commission (“SEC”) relating to interim financial statements and in conformity with U.S. GAAP. Certain information and note disclosures have been condensed or omitted in the condensed financial statements pursuant to SEC rules and regulations, although the Company believes that the disclosures made herein are adequate to make the information not misleading. The condensed unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and notes in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022 (the “2022 Annual Report”) filed with the SEC on March 31, 2023.

The operating results for any interim period are not necessarily indicative of the operating results to be expected for any other interim period or the full fiscal year.

From 2020 into 2022, the COVID-19 pandemic adversely impacted our Company at the same time as we were implementing a major shift in product line, from mature LED products to new Connected Surfaces products, amplified the financial impact of COVID-19 pandemic by disrupting development and production of new Connected Surfaces products in Thailand and China and resulting delay in the Company being able to promote, market and sell Connected Surfaces products. This delay in launching the new product line coupled with the decline in sales of the LED product line adversely impacted the Company and created uncertainty about the ongoing viability of the current product lines of the Company. The Company’s plan to orderly transition from LED lighting products to Connected Surfaces products as the primary source of revenues was undermined by these delays and disruptions. By the time that the Company was ready to fill bulk orders for Smart Mirrors, the traditional primary customers for Company products did not place orders and the Company’s e-commerce initiative did not generate any significant orders. This ‘perfect storm’ of events has left the Company without a current product line that is generating significant revenues. The Company is evaluating the best way for the Company to establish a product line or business line that provides a sufficient revenue source to fund working capital and growth needs of the Company, which evaluation includes new Connected Surfaces products, new industry focus for those products and potential new business lines.

Liquidity and Going Concern

The accompanying unaudited condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities and commitments in the normal course of business.

As of March 31, 2023, the Company had negative working capital of approximately $873,000, an accumulated deficit of approximately $9,567,000, a cash balance of $24,000, short- term notes payable of $852,000 and $1,481,000 of long-term liabilities for notes payable and deferred taxes. Further, during the three months ended March 31, 2023, the Company incurred a net loss of approximately $467,000 and used cash in operations of approximately $261,000.

These liquidity conditions raise substantial doubt about the Company’s ability to continue as a going concern. We are seeking alternative sources of liquidity, including but not limited to accessing the capital markets, or other alternative financing measures. However, instability in, or tightening of the capital markets, could adversely affect our ability to access the capital markets on terms acceptable to us. An economic recession or a slow recovery could adversely affect our business and liquidity.

Certain insiders and directors have provided necessary funding including a working capital line to support the Company’s cash needs through this period of revenue development. Unless the Company succeeds in raising additional capital or successfully increases cash generated from operations, management believes there is substantial doubt about the Company’s ability to continue as a going concern and meet its obligations over the next twelve months from the filing date of this report. 

Nature of Business

The Company has its principal executive offices in Deerfield Beach, Florida.

Since 2007, the Company, through CAPI, has been primarily engaged in the business of developing, marketing, and selling home LED products (“Lighting Products”) through national and regional retailers in North America and in certain overseas markets. The Lighting Products are targeted for applications such as home indoor and outdoor lighting and have different functionalities to meet consumer’s needs. Over the last few years there has been significant LED price erosion, which has commoditized LED consumer products. The LED category has matured and is no longer the innovative “must have” consumer product as in previous years. As such, the Company entered into another home goods product segment by developing a smart interactive mirror (“Smart Mirror”) for residential use. The Company planned for the Smart Mirror product launch in 2021, but its release to the retail market was delayed until March 2022 due to product development delays at the Company’s suppliers, resulting from the impact of COVID-19. The development of the Smart Mirrors is part of the Company’s strategic effort to find new product lines to replace the Lighting Products that are nearing or at the end of their product life cycle. These products are offered either under the Capstone brand or licensed brands but are not actively promoted in 2023 by the Company.

The Company’s products are typically manufactured in Thailand and China by contract manufacturing companies. As of the date of these condensed consolidated financial statements, the Company’s future product development effort is focused on the development of a “Connected Surfaces” portfolio. The Connected Surfaces portfolio is designed to tap into consumer’s ever-expanding Internet of Things, wireless connected lifestyles prevalent today, with the initial product launch of the Smart Mirror, an internet connected and interactive mirror. Subject to adequate funding, the Company’s current business strategy is to seek to expand the new line of Connected Surfaces in 2023 and 2024. The Company is finalizing a kitchen utility item, the “Connected Chef”, which is a product currently undergoing certification testing and expected to be ready for formal introduction in Q2 2023.

The Company’s operations consist of one reportable segment for financial reporting purposes: Consumer Home Goods.

 Inventories

The Company’s inventory, which consists of finished Thin Cast Smart Mirror products for resale to consumers by Capstone, is recorded at the lower of landed cost (first-in, first-out) or net realizable value. The Company writes down its inventory balances for estimates of excess and obsolete amounts. The Company reduces inventory on hand to its net realizable value on an item-by-item basis when the expected realizable value of a specific inventory item falls below its original cost. Management regularly reviews the Company’s investment in inventories for such declines in

During 2022, Management reviewed the valuation of inventory on hand as of the year ended December 31, 2022, and considered the need for a reserve for slow moving inventory due to sales not meeting projected forecasts during 2022. Management estimated a 50% reserve for inventory held in domestic warehouses and a 100% reserve for inventory held in international warehouses , which resulted in an increase in the inventory reserve of $533,254. The inventory reserve was revised for the period ended March 31, 2023 to reflect the Smart Mirrors sold or used in promotional events during the first quarter of 2023, for a revised ending balance of $524,994.

Goodwill

On September 13, 2006, the Company entered into a Stock Purchase Agreement with Capstone Industries, Inc., a Florida corporation (“CAPI”). Capstone was incorporated in Florida on May 15, 1996 and is engaged primarily in the business of wholesaling technology inspired consumer products to distributors and retailers in the United States. Under the Stock Purchase Agreement, the Company acquired 100% of the issued and outstanding shares of CAPI’s Common Stock, and recorded goodwill of $1,936,020. Goodwill acquired in business combinations is initially computed as the amount paid by the acquiring company in excess of the fair value of the net assets acquired. Goodwill is tested for impairment on December 31 of each year or more frequently if events or changes in circumstances indicate that the asset might be impaired. If the carrying amount exceeds its fair value, an impairment loss is recognized. Goodwill is not amortized. The Company estimates the fair value of its single reporting unit relative to the Company’s market capitalization. There was no impairment charge for the three months ended March 31, 2023 or December 31, 2022.

 Fair Value Measurement

The accounting guidance under Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC), “Fair Value Measurements and Disclosures (ASC 820-10) requires the Company to make disclosures about the fair value of certain of its assets and liabilities. ASC 820-10 clarifies the principle that fair value should be based on the assumptions market participants would use when pricing an asset or liability and establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. ASC 820-10 utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The three levels of the hierarchy are as follows:

Level 1: Observable inputs such as quoted prices in active markets for identical assets or liabilities.

Level 2: Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly.

Level 3: Significant unobservable inputs.

Earnings Per Common Share

Basic earnings per common share is computed by dividing net income(loss) by the weighted average number of shares of common stock outstanding as of March 31, 2023 and 2022. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. For calculation of the diluted earnings per share, the basic weighted average number of shares is increased by the dilutive effect of stock options and warrants using the treasury stock method. In periods where losses are reported, the weighted average number of common shares outstanding excludes common stock equivalents because their inclusion would be anti-dilutive. As of March 31, 2023 and 2022, the total number of potentially dilutive common stock equivalents excluded from the diluted earnings per share calculation was 608,288 options, 199,733 warrants and 15,000 of preferred B-1 stock convertible into 999,900 shares of common stock for 2023 and 880,000 options, 199,733 warrants and 15,000 of preferred B-1 stock convertible into 999,900 shares of common stock for 2022.

Revenue Recognition

The Company generates revenue from developing, marketing and selling consumer products through national and regional retailers. The Company’s products are targeted for applications such as home indoor and outdoor lighting as well as Internet-of-Thing devices and will have different functionalities. CAPI currently operates in the consumer electronic products category in the United States and in specific overseas markets. These products may be offered either under the CAPI brand or a private brand.

A sales contract occurs when the customer-retailer submits a purchase order to buy a specific product, a specific quantity, at an agreed-fixed price, within a ship window, from a specific location and on agreed payment terms. The selling price in all of our customers’ orders has been previously negotiated and agreed to including any applicable discount prior to receiving the customer’s purchase order. The stated unit price in the customer’s order has already been determined and is fixed at the time of invoicing.

The Company recognizes lighting product revenue when the Company’s performance obligations as per the terms in the customers purchase order have been fully satisfied, specifically, when the specified product and quantity ordered has been manufactured and shipped pursuant to the customers requested ship window, when the sales price as detailed in the purchase order is fixed, when the product title and risk of loss for that order has passed to the customer, and collection of the invoice is reasonably assured. This means that the product ordered and to be shipped has gone through quality assurance inspection, customs and commercial documentation preparation, the goods have been delivered, title transferred to the customer and confirmed by a signed cargo receipt or bill of lading. Only at the time of shipment when all performance obligations have been satisfied will the judgement be made to invoice the customer and complete the sales contract.

Marketing allowances include the cost of underwriting an in-store instant rebate coupon or a target markdown allowance on a specific product. The Company retains these allowances for a period of 3 to 5 years in the event the customer chargebacks for a promotional allowance against an open invoice or submits an invoice for their claim. Cash discounts represent discounts offered to the retailer off outstanding accounts receivable in order to initiate early payment. These allowances are evaluated when our relationship with a customer is terminated, or we cease selling a specific product to a customer and may be released as other income if deemed not required.

Direct-to-consumer orders for the Connected Surfaces Smart Mirrors are sold initially through e-commerce platforms. The Company also sells the Connected Surfaces Smart Mirror program through independent retailers. The Company will only bill the customer and recognize revenue upon the customer obtaining control of the Smart Mirror order which generally occurs upon delivery.

The Company expenses license royalty fees and sales commissions when incurred and these expenses are recognized during the period the related sale is recorded. These costs are recorded within sales and marketing expenses.

The following table presents net revenue by geographic location which is recognized at a point in time:

Schedule of Net Revenue by Major Source

We provide our wholesale customers with limited rights of return for non-conforming product warranty claims. As a policy, the Company does not accept product returns from customers, however occasionally as part of a customers in store test for new product, we may receive back residual inventory.

Sales reductions for allowances and other promotional coupons are recognized during the period when the related revenue is recorded. The reduction of accrued allowances is included in net revenues and amounted to $10,174 and $1,000, for the three months ended March 31, 2023, and 2022, respectively.

Warranties

For the LED product line, the Company provides the end user with limited rights of return as a consumer assurance warranty on all products sold, stipulating that the product will function properly for the warranty period. The warranty period for all products is one year from the date of consumer purchase. Certain retail customers may receive an off invoice-based discount such as a defective/warranty allowance, that will automatically reduce the unit selling price at the time the order is invoiced. This allowance will be used by the retail customer to defray the cost of any returned units from consumers and therefore negate the need to ship defective units back to the Company. Such allowances are charged to cost of sales at the time the order is invoiced. For those customers that do not receive a discount off-invoice, the Company recognizes a charge to cost of sales for anticipated non-conforming returns based upon an analysis of historical product warranty claims and other relevant data. We evaluate our warranty reserves based on various factors including historical warranty claims assumptions about frequency of warranty claims, and assumptions about the frequency of product failures derived from our reliability estimates. Actual product failure rates that materially differ from our estimates could have a significant impact on our operating results. Product warranty reserves are reviewed each quarter and recognized at the time we recognize revenue.

For the new online Smart Mirror customers the product has a One Year Limited Warranty. The purchaser must register the product within 30 days from date of purchase with specific product information to activate the warranty. CAPI warrants the product to be free from defects in workmanship and materials for the warranty period. If the product fails during normal and proper use within the warranty period, CAPI at its discretion, will repair or replace the defective parts of the product, or the product itself.

Advertising and Promotion

Advertising and promotion costs, including advertising, public relations, and trade show expenses, are expensed as incurred and included in sales and marketing expenses. Advertising and promotion expense was $8,699 and $121,375 for the three months ended March 31, 2023 and 2022. Due to declining revenues, and the end of the LED product line as a revenue source, the Company reduced advertising and promotion expenses in 2023.

 Product Development

Our research and development team located in Thailand working with our designated factories, are responsible for the design, development, testing, and certification of new product releases. Our engineering efforts support product development across all products, as well as product testing for specific overseas markets. All research and development costs are charged to results of operations as incurred.

For the three months ended March 31, 2023 and 2022, product development expenses were $33,725 and $51,560, respectively. The first quarter 2023 expenses were related to the development of the Connected Chef, expanding the Connected Surfaces product portfolio. The first quarter 2022 expenses were related to the Smart Mirror development expenses.

Accounts Payable and Accrued Liabilities

The following table summarizes the components of accounts payable and accrued liabilities as of March 31, 2023, and December 31, 2022, respectively:

Schedule of Components of Accounts Payable and Accrued Liabilities

Income Taxes

The Company is subject to income taxes in the U.S. federal jurisdiction, various state jurisdictions and certain other jurisdictions.

The Company accounts for income taxes under the provisions of 740 Income Taxes. ASC 740 requires recognition of deferred income tax assets and liabilities for the expected future income tax consequences, based on enacted tax laws, of temporary differences between the financial reporting and tax bases of assets and liabilities. The Company and its U.S. subsidiaries file consolidated income tax returns.

The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such positions are then measured based on the largest benefit that has a greater than 50% likelihood of being realized upon settlement.

Tax regulations within each jurisdiction are subject to the interpretation of the relaxed tax laws and regulations and require significant judgement to apply. The Company is not subject to U.S. federal, state and local tax examinations by tax authorities generally for a period of 3 years from the later of each return due date or date filed.

If the Company were to subsequently record an unrecognized tax benefit, associated penalties and tax related interest expense would be recorded as a component of income tax expense.

Stock Based Compensation

The Company accounts for stock-based compensation under the provisions of ASC 718 Compensation- Stock Compensation, which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors, including employee stock options, based on estimated fair values. ASC 718 requires companies to estimate the fair value of share-based payment awards on the date of the grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expenses over the requisite service periods in the Company’s condensed consolidated statements of operations. Stock-based compensation expense recognized during the period is based on the value of the portion of share-based payment awards that is ultimately expected to vest during the period. In conjunction with the adoption of ASC 718, the Company adopted the straight-line single option method of attributing the value of stock-based compensation expense. The Company accounts for forfeitures as they occur.

Stock-based compensation expense recognized during the three months ended March 31, 2023, and 2022 was $0 and $3,362, respectively.

Use of Estimates

The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses and the disclosure of contingent assets and liabilities. The Company evaluates its estimates on an ongoing basis, including those related to revenue recognition, periodic impairment tests, product warranty obligations, valuation of inventories, tax related contingencies, valuation of stock-based compensation, other contingencies and litigation, among others. The Company generally bases its estimates on historical experience, agreed obligations, and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis of making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Historically, past changes to these estimates have not had a material impact on the Company’s financial statements. However, circumstances could change, and actual results could differ materially from those estimates.

Adoption of New Accounting Standards

In June 2016, the FASB issued Accounting Standards Update (“ASU) 2016-13, “Financial Instruments – Credit Losses. This ASU sets forth a current expected credit loss model which requires the Company to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions, and reasonable supportable forecasts. This replaces the existing incurred loss model and is applicable to the measurement of credit losses on financial assets measured at amortized cost and applies to some off-balance sheet credit exposures. In November 2019, the effective date of this ASU was deferred until fiscal years beginning after December 15, 2022, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASC 326 on January 1, 2023 and ASC 326 did not have a material impact on its condensed consolidated financial statements.

NOTE 2 - CONCENTRATIONS OF CREDIT RISK AND ECONOMIC DEPENDENCE

Financial instruments that potentially subject the Company to credit risk consist principally of cash and accounts receivable. The Company has no significant off-balance-sheet concentrations of credit risk such as foreign exchange contracts, options contracts or other foreign hedging arrangements.

Cash

The Company at times has cash with its financial institution in excess of Federal Deposit Insurance Corporation (“FDIC) insurance limits. The Company places its cash with high credit quality financial institutions which minimize the risk of loss. To date, the Company has not experienced any such losses. As of March 31, 2023 and December 31, 2022, the Company had approximately $0, respectively, in excess of FDIC insurance limits.

Accounts Receivable

The Company grants credit to its customers, located throughout the United States and their international locations. The Company typically does not require collateral from national retail customers. Credit risk is limited due to the financial strength of the customers comprising the Company’s customer base and their dispersion across different geographical regions. The Company monitors exposure of credit losses and maintains allowances for anticipated losses considered necessary under the circumstances. As the Company’s ecommerce revenue starts to increase the makeup of the accounts receivable will change significantly. Stripe is the company that processes online payments for our e-commerce website. We should receive payment from them within 3 days of the product shipment. If the product is shipped through Amazon online platform, it could take between 20 and 30 days for collection.

Financial instruments that potentially subject the Company to credit risk, consist principally of cash and accounts receivable. The Company has no significant off-balance-sheet concentrations of credit risk such as foreign exchange contracts, options contracts or other foreign hedging arrangements.

Major Customers

The Company did not have any major customers from the three months ended March 31, 2023. The Company had two customers who comprised 77% and 17%, respectively, of net revenue during the three months ended March 31, 2022. The lack of major customers is the result of the LED product line no longer being a revenue source and direct-to-consumer sales for the Smart Mirrors in first quarter of 2023.

As of December 31, 2022, approximately $7,716 thousand or 100% of accounts receivable was from two customers.

Major Vendors

The Company did not have any major vendors during the three months ended March 31, 2023. The Company had two vendors from which it purchased 72% and 23%, respectively, of merchandise during the three months ended March 31, 2022. As of December 31, 2022, approximately $3,200 or 8% of accounts payable was due to one vendor.

NOTE 3 – NOTES PAYABLE TO RELATED AND UNRELATED PARTIES

Purchase Funding Agreement with Directors and Unrelated Party

On July 2, 2021, the Board of Directors (“Board”) resolved that the Company required a purchase order funding facility to procure additional inventory to support the online Smart Mirror business. The Board resolved that certain Directors could negotiate the terms of a Purchase Order Funding Agreement for up to $1,020,000 with Directors S. Wallach and J. Postal and E. Fleisig, a natural person who is not affiliated with the Company. This agreement was finalized on October 18, 2021, and the Company has received the funding of $1,020,000 on October 18, 2021 with an original maturity of April 2023 which was extended an additional 12 months. Under this agreement the interest terms are 5% based on a 365- day year. The note payable is due on April 13, 2024. As of March 31, 2023, the principal outstanding and accrued interest is $1,020,000 and $73,916, respectively.

Working Capital Loan with Directors and Unrelated Party

On May 1, 2022, the Company negotiated three $200,000 working capital funding agreements, to provide $600,000 in funding for daily operations. The Board resolved that certain Directors could negotiate the terms of a Working Capital Funding Agreement for up to a total of $600,000, with Directors S. Wallach (through Group Nexus, a company controlled by Mr. Wallach), J. Postal and Mouhaned Khoury, a natural person. The term of each agreement is 18 months with principal accruing a simple interest rate of 5 percent per annum, maturing November 1, 2023. These loans may be prepaid in full or partially without any penalty. As of March 31, 2023, the principal outstanding and accrued interest is $600,000 and $27,534, respectively.

On October 13, 2022, the Company negotiated a $50,000 Working Capital Funding agreement with Jeffrey Postal, a director, to provide funding for daily operations. The term of this agreement is 18 months and principal accrues simple interest at a rate of 5 percent per annum, maturing April 13, 2024. As of March 31, 2023, the principal outstanding and accrued interest is $50,000 and $1,158, respectively.

On December 1, 2022, the Company negotiated a $50,000 Working Capital Funding agreement with Jeffrey Postal, a director, to provide funding for daily operations. The term of this agreement is 18 months and principal accrues simple interest at a rate of 5 percent per annum, maturing June 1, 2024. The loan may be prepaid in full or partially without any penalty. As of March 31, 2023, the principal outstanding and accrued interest is $50,000 and $829, respectively.

On January 3, 2023, the Company negotiated a $40,000 Working Capital Funding agreement with Director S. Wallach (through Group Nexus, a company controlled by Mr. Wallach), to provide funding for daily operations. Principal accrues simple interest at a rate of 5 percent per annum, maturing August 31, 2023. The loan may be prepaid in full or partially without any penalty. As of March 31, 2023, the principal outstanding and accrued interest is $40,000 and $477, respectively.

On March 27, 2023, the Company negotiated a Working Capital Funding agreement with Director S. Wallach to provide funding for daily operations. Total funding under the agreement amounted to $184,150 as of March 31, 2023. Principal accrues simple interest at a rate of 5 percent per annum, maturing June 27, 2023. The loan may be prepaid in full or partially without any penalty. See Note 6. As of March 31, 2023, the principal outstanding and accrued interest is $184,150 and $101, respectively.

As of March 31, 2023 and December 31, 2022, the Company had a total of $2,048,165 and $1,802,230, of outstanding principal respectively, on the above referenced funding agreements, which includes accrued interest of $104,015 and $82,230, respectively. The outstanding principal balances and accrued interest has been presented on the condensed and consolidated balance sheet as follows:

NOTES PAYABLE TO RELATED PARTIES

Management believes that without additional capital or increased cash generated from operations, there is substantial doubt about the Company’s ability to continue as a going concern and meet its obligations over the next twelve months from the filing date of this report.

NOTE 4– COMMITMENTS AND CONTINGENCIES

Operating Leases

The Company had operating lease agreements for its principal executive offices in Fort Lauderdale, Florida expiring at June 2023. The Company’s principal executive office is located at 431 Fairway Drive, Suite 200, Deerfield Beach, Florida 33441. The Company is currently reviewing executive office leasing opportunities as we do not plan to renew the expiring lease.

Effective November 1, 2019, the Company entered a prime operating lease with the landlord, 431 Fairway Associates, LLC, ending June 30, 2023, for the Company’s executive offices located at 431 Fairway Drive, Suite 200, Deerfield Beach, Florida 33441 with an annualized base rent of $70,104 and with a base rental adjustment of 3% commencing July 1, 2020 and on July 1^st of each subsequent year during the term. Under the lease agreement, CAPI is also responsible for approximately 4,694 square feet of common area maintenance charges (“CAM”), respectively in the leased premises which has been estimated at $12.00 per square foot or approximately $56,000 on an annualized basis. The CAM charges are expensed monthly as incurred and excluded from the recorded lease liability. On an annual basis, the leasing agent may request payment for additional CAM expenses incurred but not included in the estimated monthly CAM pro-rata square foot charges. The Company will record these additional expenses upon receiving the CAM adjustment from the landlord. As of March 31, 2023, accrued expenses include additional CAM charges of $17,124 that will be paid in a subsequent period related to the 2022 operating lease year.

The Company’s rent expense is recorded on a straight-line basis over the term of the lease. The rent expense for the three months ended March 31, 2023 and 2022, amounted to $54,866 and $38,898, respectively, including the monthly CAM charges and additional CAM charges included in accrued expenses.

Schedule of Right Of Use Asset and Lease Liability

Scheduled maturities of operating lease liabilities outstanding as of March 31, 2023 are as follows:

 Scheduled Maturities of Operating Lease Liabilities Outstanding

Employment Agreements

On February 5, 2023, the Company entered into a new Employment Agreement with Stewart Wallach, whereby Mr. Wallach will be paid $301,521 per annum. The initial term of this new agreement began February 5, 2023 and ends February 5, 2025. The parties may extend the employment period of this agreement by mutual consent with approval of the Company’s Board of Directors, but the extension may not exceed two years in length.

On February 5, 2020, the Company entered into an Employment Agreement with James McClinton, whereby Mr. McClinton will be paid $191,442 per annum. The term of agreement began February 5, 2020 and ended February 5, 2022. On February 6, 2022, the Company entered into an Employment Agreement with James McClinton (Chief Financial Officer and Director), whereby Mr. McClinton was paid $736 per day. On November 30, 2022, Mr. McClinton retired from all positions with the Company.

Beginning in 2020 and through 2023, executive salaries and consulting fees have been deferred from time to time to conserve cash flow. Deferrals amounted to approximately $386,000 and $252,000, as of March 31, 2023 and December 31, 2022, respectively, and are included in accounts payable and accrued liabilities.

There is a provision in Mr. Wallach’s employment agreement, if the officer’s employment is terminated by death or disability or without cause, the Company is obligated to pay to the officer’s estate or the officer, an amount equal to accrued and unpaid base salary as well as all accrued but unused vacation days through the date of termination. The Company will also pay sum payments equal to: the sum of twelve (12) months base salary at the rate the Executive was earning as of the date of termination and (b) the sum of “merit” based bonuses earned by the Executive during the prior calendar year of his termination. Any payments owed by the Company shall be paid from a normal payroll account on a bi-weekly basis in accordance with the normal payroll policies of the Company. The amount owed by the Company to the Executive, from the effective Termination date, will be payout bi-weekly over the course of the year but at no time will be no more than twenty (26) installments. The Company will also continue to pay the Executive’s health and dental insurance benefits for 6 months starting at the Executives date of termination. If the Executive had family health coverage at the time of termination, the additional family premium obligation would remain theirs and will be reduced against the Executive’s severance package. The employment agreements have an anti-competition provision for 18 months after the end of employment.

The following table summarizes potential payments upon termination of employment :

Summary of Potential Payments upon Termination of Employment

Directors Compensation

On July 5, 2022, The Board of Directors voted to suspend granting compensation to the independent directors for the remainder of the fiscal year 2022. There have been no payments to the Board of Directors during the period ended March 31, 2023.

 NOTE 5 - STOCK TRANSACTIONS

Stock Purchase Agreements

On April 5, 2021, the Company entered into a Private Equity Placement with five separate securities purchase agreements (“SPAs”) whereby the Company privately placed an aggregate of 2,496,667 shares (“Shares”) of its common stock, $0.0001 par value per share, (“common stock”) for an aggregate purchase price $1,498,000. The five unrelated investors in the Private Placement consisted of four private equity funds and one individual – all being “accredited investors” (under Rule 501(a) of Regulation D under the Securities Act of 1933, as amended, (“Securities Act”). The $1,498,000 in proceeds from the Private Placement was used to purchase start up inventory for the Company’s Smart Mirror product line, as well as for advertising and working capital. Under the SPA, each investor is granted five-year piggyback, ‘best efforts’ registration rights with no penalties. The Shares are ‘restricted securities” under Rule 144 of the Securities Act and are subject to a minimum six month hold period. Based on representations made to the Company, the five investors do not constitute a “group” under 17 C.F.R. 240.13d-3 and have purchased the Shares solely as an investment for each investor’s own account. No individual investor owns more than 2% of the issued and outstanding shares of common stock.

 Warrants

On April 28, 2021, Company issued common stock warrants to purchase 199,733 shares of common stock at an exercise price of $0.66 and exercisable for five years from the issuance date. The warrants were issued to Wilmington Capital Securities, LLC, a FINRA and SEC registered broker under a financial services and placement agreement with a broker dealer in connection with the Company’s placement of $1.4 million of restricted shares of common stock to five investors on April 5, 2021. The issuance of these warrants were made an exemption from registration under Section 4(a)(2) and Rule 506(b) of Regulation D under the Securities Act.

As of March 31, 2023 and December 31, 2022, the Company had 199,733 warrants outstanding.

Series B-1 Preferred Stock

On June 7, 2016, the Company authorized 3,333,333 of the B-1 preferred stock(“B-1”). The B-1 preferred stock are convertible into common shares, at a rate of 66.66 of common stock for each share of B-1 convertible preferred stock. The par value of the B-1 preferred shares is $0.0001. The B-1 shares shall not be entitled to any dividends and have no voting rights. In the event of a liquidation, the B-1 holders are entitled to distribution prior to common stockholders but not before any other preferred stockholders.

On January 4, 2021, the Company entered a $750,000 working capital loan agreement with Directors, Stewart Wallach and Jeffrey Postal (“Lenders”). In consideration for the Lenders allowing for loan advances under the loan agreement, a below market rate of interest and the loan made on an unsecured basis, as payment of a finance fee for the loan, the Company issued a total of 7,500 shares of B-1 Convertible Preferred Stock to each of the Lenders. Each preferred share converts into 66.66 shares of common stock at option of Lender. The Preferred Shares and any shares of common stock issued under the loan agreement are “restricted” securities under Rule 144 of the Securities Act of 1933, as amended.

The B-1 shares have a liquidation preference of $1.0 per share or $15,000 as of March 31, 2023.

Options

In 2005, the Company authorized the 2005 Equity Plan that made available shares of common stock for issuance through awards of options, restricted stock, stock bonuses, stock appreciation rights and restricted stock units.

As of March 31, 2023, there were 608,288 stock options outstanding and vested held by directors of the Company. The stock options have a weighted average exercise price of $0.449 and have a weighted average contractual term remaining of 1.38 years. During the three months ended March 31, 2023, there were no stock option grants, exercises, or forfeitures,

Stock options were issued under Section 4(a)(2) and Rule 506(b) of Regulation D under the Securities Act of 1933.

For the three months ended March 31, 2023 and 2022, the Company recognized stock-based compensation expense of $0 and $3,362, respectively, related to these stock options. Such amounts are included in compensation expense in the accompanying condensed and consolidated statements of operations.

Adoption of Stock Repurchase Plan

On August 23, 2016, the Company’s Board of Directors authorized the Company to implement a stock repurchase plan for up outstanding common stock. The stock purchases can be made in the open market, structured repurchase programs, or in privately negotiated transactions. The Company has no obligation to repurchase shares under the authorization, and the timing, actual number and value of the shares which are repurchased will be at the discretion of management and will depend on several factors including the price of the Company’s common stock, market conditions, corporate developments, and the Company’s financial condition. The repurchase plan may be discontinued at any time at the Company’s discretion.

On December 19, 2018, Company entered a Purchase Plan pursuant to Rule 10b5-1 under the Exchange Act, with Wilson Davis & Co., Inc., a registered broker-dealer. Under the Purchase Plan, Wilson Davis & Co., Inc will make periodic purchases of shares at prevailing market prices, subject to the terms of the Purchase Plan.

On May 31, 2019, the Company’s Board of Directors approved a further extension of the Company’s stock repurchase plan through August 31, 2020. The Board of Directors also approved that the maximum amount of aggregate funding available for possible stock repurchases under the stock repurchase program remained at $1,000,000 during the renewal period.

On May 6, 2021, the Company’s Board of Directors approved a further extension of Rule 10b-5, the Company’s stock purchase agreement with Wilson-Davis & Company, Inc. through August 31, 2022.

During May and June 2022, the Company repurchased 66,167 shares of the Company’s outstanding common stock in the open market. The total purchase cost was $11,662.

On July 7, 2022, the Board of Directors resolved to discontinue the stock purchase agreement.

As of March 31, 2023 a total of 816,167 shares of the Company’s common stock has been repurchased since the plan was incepted at a total cost of $119,402. The cost of the repurchased shares were recorded as a reduction of additional paid-in capital.

NOTE 6 -  SUBSEQUENT EVENTS

Working Capital Loan with Directors

Subsequent to March 31, 2023 and through the date of this filing, the Company has received an additional $130,000 in working capital note payable proceeds from Chief Executive Officer and Director Stewart Wallach. The total principle outstanding under this note payable is $314,150 as of the date of this filing. Principal accrues simple interest at a rate of 5 percent per annum, maturing June 26, 2023 with the ability for the Company to request a 90-day extension. The loan may be prepaid in full or partially without any penalty.

Operating Leases

Subsequent to March 31, 2023, the Company notified the landlord they would not renew the executive office lease set to expire on June 30, 2023 (see Note 4). On April 26, 2023, the landlord amended the terms for the operating lease and related common area management expenses (“CAM”) owed by the Company for its principal executive office to extend the payment terms for the remaining three months of the lease term over the following nine months through December 31, 2023. In addition to the monthly rent expense, the landlord included an estimate for additional CAM charges for the 2023 operating lease year of $5,435 and $17,124 for additional CAM charges for the 2022 operating lease year. The Company will pay a total of $58,500 with monthly payments of $6,500 per month for nine months commencing April 1, 2023 and ending December 31, 2023, to satisfy the aforementioned operating lease liabilities for the executive office lease.

Increase in Authorized Shares

On May 9, 2023, by way of written consent of Common Stock shareholders of the Company with the requisite voting power to amend the Company’s Amended and Restate Articles of Incorporation, those shareholders consented to amend Article 1 of the Corporation’s Amended and Restated Articles of Incorporation to increase the authorized shares of capital stock from 60,000,000 to 300,000,000 shares of capital stock authorized, of which 295,000,000 shares shall be Common Stock, par value of $0.0001 per share, and 5,000,000 shares of Preferred Stock. The effectiveness of this increase in authorized shares of the capital stock will not occur until: the filing of a Definitive 14C information statement with the SEC, expiration of twenty days after that filing, and then the filing with, and acceptance of Amendment to the Amended and Restated Articles of Incorporation by, the Secretary of State of the State of Florida.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

This discussion should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations in the Company’s 2022 Annual Report.

Cautionary Statement Regarding Forward-Looking Statements

This Form 10-Q Report contains forward-looking statements that are contained principally in the sections describing our business as well as in “Risk Factors, and in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”. These statements involve known and unknown risks, uncertainties and other factors which may cause our actual results, performance, or achievements to be materially different from any future results, performances or achievements expressed or implied by the forward-looking statements. All statements other than statements of historical facts contained, or incorporated by reference, in this Form 10-Q Report, including, without limitation, those regarding our business strategy, financial position, results of operations, plans, prospects, actions taken or strategies being considered with respect to our liquidity position, valuation and appraisals of our assets and objectives of management for future operations, our ability to weather the impacts of the COVID-19 pandemic (including variant viruses), financing opportunities, and future cost mitigation and cash conservation efforts and efforts to reduce operating expenses and capital expenditures are forward-looking statements. These risks and uncertainties include, but are not limited to, the factors described in the section captioned “Risk Factors” in our latest 2022 Annual Report. In some cases, you can identify forward-looking statements by terms such as “anticipates, “believes, “could, “estimates, “expects, “intends, “may, “plans, “potential, “predicts, “projects, “should, “would and similar expressions (including the negative and variants of such words). Forward-looking statements reflect our current views with respect to future events and are based on assumptions and are subject to various risks and uncertainties. Given these uncertainties, a reader of this Form 10-Q Report should not place undue reliance on these forward-looking statements. The forward-looking statements contained in this Form 10-Q Report are made as of the date of filing this Form 10-Q Report. You should not rely upon forward-looking statements as predictions of future events. The Company assumes no obligation to revise or update any forward-looking statements for any reason, except as required by law. Examples of these risks, uncertainties and other factors include, but are not limited, to the impact of:

It is not possible to predict or identify all such risks. There may be additional risks that we consider immaterial, or which are unknown as of the date of the filing of this Form 10-Q.

The challenge facing the Company is to establish a new profitable product line, whether the Connected Surfaces or another product line, before the cost of marketing and penetrating a new product market company impose unsustainable financial burdens and losses on the Company.

The Company is a “penny stock” company under Commission rules and the public stock market price for our common stock is impacted by the lack of significant institutional investor and primary market maker support. Investment in our common stock is highly risky and should only be considered by investors who can afford to lose their investment and do not require on demand liquidity. Potential investors should carefully consider risk factors in our SEC filings. The Company’s common stock lacks the primary market maker and institutional investor support to protect the public market from being unpredictable and volatile. Investors may not have liquidity or desired liquidity in our common stock as an investment.

The above examples are not exhaustive and new risks emerge from time to time. Such forward-looking statements are based on our current beliefs, assumptions, expectations, estimates and projections regarding our present and future business strategies and the environment in which we expect to operate in the future. These forward-looking statements speak only as of the date made. We expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statement to reflect any change in our expectations with regard thereto or any change of events, conditions, or circumstances on which any such statement was based, except as required by law.

Overview of Our Business

Capstone Companies, Inc. (“Company” or “CAPC”) is a public holding company organized under the laws of the State of Florida. The Company is a designer, manufacturer and marketer of consumer inspired products that bridge technological innovations. The primary operating subsidiary is Capstone Industries, Inc., a Florida corporation located in the principal executive offices of the Company, (“CAPI”). Capstone International Hong Kong, Ltd., or “CIHK”, was established to expand the Company’s product development, engineering, and factory resource capabilities. With the 2021 shift of manufacturing to Thailand from China, the CIHK operation was downsized and put in dormant status in March 2022. Our products are made by third party original manufacturers who work closely with the Company on design, finish, functions, quality and pricing. We may seek production of products in Mexico in order to shorten and reduce cost and complexity of shipment of products to U.S.

The Company’s focus through 2017 was the integration of LEDs into most commonly used consumer lighting products in today’s home. Over the last few years there has been significant LED price erosion, which has commoditized LED consumer products. The LED category has matured and is no longer the innovative “must have” consumer product as in previous years, as such, revenues for the LED product line have declined significantly in 2022. The Connected Surfaces is the Company’s effort to establish business in an emerging segment that is intended for future revenue growth. The smart home segment is the umbrella category in which we intend to participate with the Connected Surfaces program.

In late 2017, as management recognized that the LED category was maturing, it sought a business opportunity that would transition the Company’s revenue streams to an emerging new product category. While we currently continue to supply LED products on a limited basis, our strategic plan to develop and launch new innovative product lines, like Connected Surfaces’ Smart Mirrors, is believed to be essential for sustaining or growing revenues. However, we were unable to establish the Connected Surfaces’ Smart Mirrors as a product line to replace the LED product line and provide revenues sufficient to fully fund Company operations and overhead. The Smart Mirror product line continues to have limited sales for 2023, as of the date of this filing.

The Company began its foray into the electronics industry in 2019 with its Connected Surfaces initiative. We decided to enter the market as we identified the smart home category to be emerging with strong long-term growth potential. The Connected Surfaces portfolio is designed to tap into consumer’s ever-expanding Internet of Things, wireless connected lifestyles prevalent today. The Smart Mirrors have both touch and remote control interfacing and it’s casting capabilities offer voice control through one’s smartphone. Full access to the internet and an operating system capable of running downloadable applications makes the smart mirror customizable to one’s usage preferences. The average selling prices are comparable to that of tablets and smartphones, retailing between $799 - $999 per unit, with the goal to deliver cost-attractive products and consumer value to mainstream America. Whereas, during the day your smartphone/tablet keeps you connected, whether it is work or personal, now when entering your home, CAPI’s new Connected Surfaces products are intended to enable users the same level of connectivity in a more relaxed manner that does not require being tethered to these devices.

The Company will require third party funding to cover operating overhead and to resume efforts to fund its marketing and product launch campaigns. The future growth will be directly impacted by the level of exposure, messaging and distribution capabilities. Certain members of the Company’s management (“Corporate Insiders and Directors”) have provided short-term funding to support the Company’s basic operational funding needs, but there is no guarantee that this funding will continue or be adequate to fund operations or Connected Surfaces program marketing and inventory as well as possible enhancements in functions demanded by the consumers. The Company will require third party funding to sustain basic operations and continue efforts to market the Connected Surfaces’ Smart Mirror product line.

The Company’s financial initiatives are driven by its entry into new distribution channels and calls for an increased emphasis on an e-commerce business model. As a result of the COVID-19 pandemic, retail foot traffic has diminished, and e-commerce platforms have advanced with consumers across all product lines. The COVID-19 pandemic accelerated an existing trend of consumers purchasing more products online. The Connected Surfaces category is intended to find its way to retail shelves after it has been established through its direct-to-consumer e-commerce platform. The Company does not have prior experience in operating and promoting its own e-commerce website. The Company’s e-commerce marketing and sales strategy sought to shift our historic reliance on ‘Big Box, brick and mortar retailers’ to an emphasis on e-commerce marketing and sales. This initiative has not produced significant revenues as of the first quarter of 2023. If Connected Surfaces is successful, the Company believes the gross margins generated by Connected Surfaces products, especially if sold through the e-commerce model should be greater than LED consumer lighting products. This assumption is subject to the Company establishing a viable e-commerce presence on an affordable basis and establishing the Connected Surfaces product line as a viable revenue source. The Company will require additional funding to build its marketing effort, inventory levels and service levels, which funding must be timely and affordable to fund the desired marketing and product launch. The future growth will be directly impacted by the level of exposure, messaging and distribution capabilities. Certain members of the Company’s management (“Corporate Insiders and Directors”) have provided funding from time to time to support the Company’s basic operational funding needs, but there is no guarantee that this funding will continue or be adequate to fund and sustain operations or to fund the Smart Mirror program marketing and inventory as well as possible enhancements or an expansion of the portfolio with additional items.

 Goodwill Impairment

As a result of the economic uncertainties caused by the resurgence of the COVID-19 pandemic and poor performance of the Connect Surfaces Smart Mirror sales, management determined sufficient indicators existed to trigger the performance of interim goodwill impairment analysis during 2022. The Company will continue to complete a goodwill impairment analysis at each reporting period. The analysis concluded that the Company’s fair value exceeded the carrying value of its single reporting unit and a goodwill impairment charge was not required.

Liquidity and Going Concern

The accompanying condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities and commitments in the normal course of business.

Our business operations and financial performance for the three months ended March 31, 2023 continued to be adversely impacted the poor sales of the Smart Mirrors. For the three months ended March 31, 2023 and 2022, the Company reported a $257,000 or 98% decrease in net revenue from $263,000 in 2022 to $5,500 thousand in 2023. The net loss for the three months ended March 31, 2023 and 2022 was approximately $467,000 as compared to approximately $461,000 in 2022. During the three months ended March 31, 2023 and 2022 the Company used in operating activities approximately $260,000 of cash in 2023 and $653,000 in 2022. The decrease in net cash used in operations primarily relates to inventory purchased first quarter of 2022 of approximately $526,000 versus no purchases of inventory during first quarter of 2023.

As of March 31, 2023, the Company has negative working capital of approximately $873,000 and an accumulated deficit of $9,567,000. The Company’s cash balance decreased by approximately $37,000 from $61,000 as of December 31, 2022 to $24,000 as of March 31, 2023. These conditions raise substantial doubt about the Company’s ability to continue as a going concern.

As discussed above, the overall impact of the COVID-19 pandemic to our business, financial condition, cash flow and results of operations remains uncertain. If the Connected Surfaces program is not accepted by consumers, then the revenue could further decline, which could have a material adverse effect on our business, financial condition, results of operations and liquidity.

The Company is actively seeking alternative sources of liquidity, including but not limited to accessing the capital markets, or other alternative financing measures. However, instability in, or tightening of the capital markets, could adversely affect our ability to access the capital markets on terms acceptable to us. An economic recession or a slow recovery could adversely affect our business and liquidity.

As part of its traditional strategic planning, the Company reviews alternatives to its current business approach, including, without limitation, the currently on-going development of the new Connected Chef product to expand the Connected Surfaces portfolio, sale of the public company or merger of the Company with a private operating company and other common strategic alternatives to a company facing business and financial challenges and uncertainties such as ours. Management is closely monitoring its operations, liquidity, and capital resources and is actively working to minimize the current and future impact of this unprecedented situation.

Director and Chief Executive Officer, Stewart Wallach, has funded working capital since 2022 as the Company navigates these challenges. Total working capital note proceeds received as of the date of this filing are $314,150. The note payable accrues simple interest at a rate of 5 percent per annum, matures June 26, 2023, with the ability for the Company to request a 90-day extension.

Our Growth Strategy

The Company’s existing looking forward strategy requires continued expansion of its product development and engineering, manufacturing base marketing and distribution of a broadened portfolio of consumer electronic products. Subject to available working capital, the Company intends to pursue new revenue opportunities through the introduction and expansion of its “Connected Surfaces” portfolio into alternate distribution channels that the Company has not previously focused on. In the event of new revenue opportunities, the Company’s approach is typically to leverage its existing valuable customer base to achieve organic growth initiatives within a new category with sufficient market acceptance. These efforts will depend on having adequate working capital from funding and cash flow from product sales. We may be unable to achieve sufficient working capital when and, in the amounts, required to meet operational needs and overhead or pursue or establish new product lines.

CAPI’s past success has been in its ability to identify emerging product categories where CAPI’s management experience can be fully leveraged. We demonstrated this when the Company entered the LED lighting category. Our branding and product strategies delivered the Company to a well-respected market position. The Company’s low-cost OEM manufacturing and operations have typically, in the past, provided an advantage in delivering great products affordably. Subject to adequate working capital and a product line with sufficient orders, the Company intends to expand its product manufacturing sources to include Mexico in 2023. The quicker turnaround time, reduced transit costs and easier access make this a practical option.

With respect to the Connected Surfaces portfolio, our expectation is that the new product portfolio appeals to a much larger audience than our traditional LED lighting product line. The new Connected Surfaces portfolio is designed to tap into consumers ever-expanding connected lifestyles prevalent today. The products have both touch screen and voice interfacing, internet access and an operating system capable of running downloadable applications. The average selling prices will be comparable to that of tablets and smartphones, expected MSRP retail to start at $899.00, with the goal to deliver exceptional consumer value to mainstream America. Connected Surfaces products will enable users the same level of connectivity as smartphones in a more relaxed manner that does not require being tethered to these devices.

The Company competes In emerging, highly competitive consumer market channels that can be affected by volatility from a number of general business and economic factors such as, consumer confidence, employment levels, credit availability and commodity costs. Demand for the Company’s products is highly dependent on economic drivers such as consumer spending and discretionary income as well as providing a product line that is in demand when offered to consumers.

In 2022, the Company expanded its investment and commitment in social media marketing. Based on the results from the Smart Mirrors product rollout and related e-commerce promotion efforts, the Company’s social media marketing efforts and e-commerce platform have not succeeded as of the first quarter of 2023 in generating significant revenues. Due to working capital constraints, the Company is not investing any significant funds in e-commerce marketing and promotion efforts in the first quarter of 2023 and is re-evaluating the potential of e-commerce efforts to generate significant revenues.

Organic Growth Strategy

Subject to adequate funding and favorable cash flow from Connected Surfaces products, which has not been achieved, the Company is exploring various potential initiatives to execute its traditional organic growth strategy, which is designed to enhance its market presence, expand its customer base and maintain its recognition as an industry leader in new product development, and also alternative business lines and new product lines. Key elements of our traditional organic growth strategy include:

Connected Surfaces. Historically, LED lighting products have been our core business. While consistently launching successful lighting programs in years prior to 2022, the Company determined that it needed to develop a new product line with greater profit margin potential than LED Lighting and as a replacement revenue generating source. The Company refocused its development and marketing initiatives and is focused on developing the Connected Surfaces products as its primary business line to replace the LED lighting business, which is no longer being actively promoted by the Company. The failure of the LED lighting product line was due in part to gross margin reductions as a result of increased tariffs and declining consumer interest. The Company’s existing product roadmap outline a plan for an additional product launch in 2023, branded Connected Chef, a kitchen utility item. The Company believes this program will leverage existing relationships with its current retail partners and collectively contribute organic growth for the Company. Assuming the Company does not elect to pursue a new business line or new product concept in 2023, the ability of the Company to promote any of its Connected Surface products and any new, related “connected” consumer products will depend on securing adequate, affordable and timely funding from lenders and investors. As of the date of the filing of this Form 10-Q, the Company has not secured that funding. A Director and senior officer has been providing interim financing while the Company pursues other financing options.

We are also considering other industries in which our ability to develop connected products may have the potential for market penetration and a significant revenue source. None of these alternative markets have produced any orders as of the first quarter of 2023.

The Company acknowledges that smart homes will become more mainstream over the next several years and will present significant growth opportunities for the Company and its Connected Surfaces portfolio.

While our focus of Connected Surface products is the smart home market, smart mirrors are being employed by retailers like Ralph Lauren and Neiman Marcus to allow customers to compare outfits on fitting room smart mirrors. Further, single application smart mirrors are emerging in the fitness industry for interactive workouts at home as a result of the global pandemic. These other markets are not a focus of our company but show the scope of applications and appeal of smart mirrors.

 Perceived or Essential Strengths

Capstone believes that the following competitive strengths serve to support its business strategies.

In North America, the Company has been recognized for more than a decade as an innovator and highly efficient, low-cost manufacturer in several product niches. Capstone believes that its insight into the needs of retail programming and its proven execution track record with noted retailers globally positions it well for future growth.

Capstones core executive team has been working together for over three decades and has successfully built and managed other consumer product companies.

Operating Managements experience in hardline product manufacturing has prepared the Company for successful entries into various consumer product markets, especially its experience in using foreign OEMs to provide capabilities not possessed internally by our company.

Product Quality: Through a combination of sourcing quality components, stringent manufacturing quality control and conducting rigorous third-party testing, product experiences by consumers are of the highest ranking. To deliver cost-competitive products without compromising quality standards, we leverage purchasing volume and capitalize on strategic vendor relationships.

Perceived Weaknesses : The Company does not possess the business, marketing, and financial resources of larger competitors or the brand recognition or international markets of some of the larger competitors. The declining financial performance of the Company due to discontinuation of the LED lighting product line has placed the Company in a weakened financial position, which in turn increases the need for working capital funding from investors or lenders. The Company lacks a credit line for long term general working capital or growth The Company lacks the hard assets for affordable, sufficient debt financing and the low market price of its Common Stock makes equity funding difficult in terms of finding suitable investors who will provide adequate, affordable, timely working capital funding.

The product launch of the Smart Mirrors did not meet projected sales forecasts for 2022 or first quarter 2023. Customer acquisition costs of the e-commerce marketplace were high while producing low conversion into sales.

The plan to expand the Company’s product portfolio through Connected Surfaces involves the inherent risk of increased operating and marketing costs without a corresponding increase in operational revenues and profits. Expense categories including molds, prototyping, engineering, advertising, public relations, tradeshows and social media platforms will continue to be incurred for a period before revenues occur.

The Company does not have the large internal research and development capability of its larger competitors. Capstone operates with a limited number of employees whose functions are dedicated to executive management, sales and marketing or administrative support. The limited number of employees may hinder or delay the ability of the Company to identify or respond to consumer preferences or new technology developments in a product line. Hiring may be required with any growth and qualified personnel may not be readily available. We cannot match the compensation packages to prospective employees that many larger competitors may offer, and we lack the funding and other resources to change our operational model and its reliance on contractors for many functions and capabilities, including development, production, shipping, warehousing and distribution of products.

As a smaller reporting company, we are more vulnerable to events like COVID-19 pandemic, production and shipping delays, travel and operational disruptions and restrictions and an accelerated shift to e-commerce from reliance on brick-and-mortar retail sales. We lack the staff, money, internal capabilities and resources and operational experience to significantly or timely respond to significant challenges and adverse changes in business and financial requirements.

The Company relies on OEM’s located in Thailand and China, which have been periodically impacted by the COVID-19 pandemic in meeting development, production and shipping deadlines. The extent of the continuing economic impact of the COVID-19 pandemic and resulting logistical delays is uncertain as of the date of this Form 10-Q.

CAPI’s international purchases can become more expensive if the U.S. Dollar weakens against the foreign currencies. Should the increased U.S. tariffs imposed on Chinese manufactured goods remain it may increase the cost of electronic components used in our products.

While we have established new production capacity in Thailand, there is no final resolution of the U.S. / China trade dispute from which specific components are sourced. Developing a new, efficient OEM relationship in a new country takes time and effort to reach acceptable production efficiencies. We have only a short operational experience with Thai OEMs and cannot predict long term effectiveness of the relationship.

Like many companies, the Company conducts periodic strategic reviews where the feasibility of significant corporate transactions are considered, including mergers, asset purchases or sales and diversification or change in business lines. The financial condition of the Company has prompted an enhance consideration and search for a significant corporate transaction, including, without limitation, a possible merger and acquisition transaction or reorganization to sustain operations or to acquire a new business line that can support company operations. Like many companies, the Company conducts periodic strategic reviews where the feasibility of significant corporate transactions are considered, including mergers, asset purchases or sales and diversification or change in business lines. The Company lacks the financial resources of larger companies to withstand adverse, significant and sustained changes in business and financial condition. This vulnerability necessitates an ongoing consideration of alternatives to current operations. Due to the decline in financial performance of the Company since 2021, and the Company being in transition from a declining product line and not yet establishing a profitable product line, as well as the Company having its shares of Common Stock quoted on The OTC Markets Group, Inc. QB Venture Market and being a “penny stock”, the Company may be unable to consummate a corporate transaction that sustains operations.

Products and Customers

While the Company is expanding its product portfolio through the introduction of the CAPI Connected Surfaces program, it still offers a select number of LED lighting products under the “Capstone Lighting” brand for both the U.S. and overseas market. The product lines available as of the date of this Form 10-Q Report are as follows:

Connected Surfaces – Smart Mirrors

Standard Rectangular

Wardrobe/Fitness Mirror

LED Power Failure Handheld Lights

The plan to expand the Company’s product portfolio through Connected Surfaces involves the inherent risk of increased operating and marketing costs without a corresponding increase in operational revenues and profits. Expense categories including molds, prototyping, engineering, advertising, public relations, tradeshows and social media platforms will continue to be incurred for a period before revenues occur. Promotion of the Connected Surfaces product line was hampered in 2022 by the lack of adequate, long-term funding and declining revenues from product sales and a lack of bulk orders from brick-and-mortar retailers and e-commerce resellers for a discretionary purchase item like the Smart Mirrors.

Over the past ten years, the Company has established product distribution relationships with numerous leading international, national and regional retailers, including but not limited to: Amazon, Costco Wholesale, Sam’s Club-Walmart, the Container Store and Firefly Buys. These distribution channels may sell the Company’s products through the internet as well as through retail storefronts and catalogs/mail order. The Company believes it has developed the scale, manufacturing efficiencies, and design expertise that serves as the foundation for aggressive pursuit of niche product opportunities in our largest consumer domestic and international markets. The Company may have to pursue a different market segment if it cannot secure adequate orders from these traditional distribution channels.

The Company’s products are subject to general economic conditions that impact discretionary consumer spending on non-essential items. Such continued progress depends on a number of assumptions and factors, including ones mentioned in “Risk Factors” below. Critical to growth are economic conditions in the markets that foster greater consumer spending as well as success in the Company’s initiatives to distinguish its brands from competitors by design, quality, and scope of functions and new technology or features. The Company’s ability to fund the pursuit of our goals remains a constant, significant factor.

CAPI seeks to service the needs of a wide range of consumers by providing products to satisfy their different interests, preferences, and budgets. The Company believes in its strategy to offer consumers with an array of innovative connected products and quickly introduce additional products to continue to allow Capstone to further penetrate this developing market.

Tariffs. The previous U.S. administration implemented certain tariffs that directly affected the Company’s competitiveness. While all companies in certain industries are affected equally, the appeal for these products to consumers was negatively impacted when retail prices increased due to higher duty rates. The Company has seen promotional schedules cut back and retailers have requested pricing adjustments that would not be known to them in advance to products being shipped. CAPI’s business model insulates the Company from paying duties as its retail partners are the importers of record. The obvious unknown is the final impact of tariffs to the landed costs. Accordingly, retailers have demonstrated caution in their promotional planning schedules and will continue to do so until the administration has clarified its position enabling importers to calculate estimated landed costs.

Tariffs and trade restrictions imposed by the previous U.S. administration provoked trade and tariff retaliation by other countries. A “trade dispute of this nature or other governmental action related to tariffs or international trade agreements or policies has the potential to adversely impact demand for our products, our costs, customers, suppliers and/or the U.S. economy or certain sectors thereof and, thus, to adversely impact our businesses. As of the date of this Form 10-Q Report, the new U.S. administration is currently reviewing its future position on this issue and there has not been a resolution of the Chinese American trade dispute.

Sales and Marketing

We use direct sales by our Chief Executive Officer and sales agents to sell our products, which effort includes direct sales to Big Box and home-goods chain retailers. Company’s e-commerce initiatives have not provided significant sales as of first quarter of 2023.

Our sales within the U.S. are primarily made by our in-house sales team and our independent sales agencies. Our independent sales agencies are paid a commission based upon sales made in their respective territories. Our sales agencies are recruited, trained and monitored by us directly. We will utilize an agency as needed to help us provide service to our retail customers as required. The sales agency agreements are generally one (1) year agreements, which automatically renew on an annual basis, unless terminated by either party on 30 days’ prior notice. Our international sales to divisions of U.S. based retailers are made by our in-house sales team.

The Company has historically promoted its products to retailers and distributors at North American trade shows, such as the Consumer Electronics Show (“CES”) or the International Hardware Show, but also relied on the retail sales channels to advertise its products directly to the end user consumers through various promotional activities. Subject to adequate working capital, this traditional marketing effort will continue as a complement to the social media and e-commerce effort. Reliance will be on traditional direct sales to retailers and distributors and trade show promotion.

In the three months ended Marth 31, 2023, and 2022, the Company had two customers who comprised approximately 0 % and 94%, respectively, of net revenue. Through the LED lighting industry, we have maintained long-established relationships with our customers who were comprised of the Big Box retailers. With the current e-commerce, direct to consumer sales model for the Smart Mirrors, we currently do not have major customers.

Starting in late 2021, we have utilized social media platforms and online advertising campaigns to further grow the Company’s online presence. In addition to Facebook, Instagram, Pinterest and LinkedIn, CAPI has launched a You Tube channel to host Smart Mirror videos and established a Twitter account. Our Social Media marketing has not resulted in any significant sales of products in 2022. We have not and may not be able to effectively compete in e-commerce and Social Media marketing and sales. As such, in 2023 we are returning to marketing to the brick and mortar and Big Box retailers. The Company has a Social Media presence on the following Social Media platforms:

FACEBOOK¹: https://www.facebook.com/capstoneindustries and https://www.facebook.com/capstoneconnected

INSTAGRAM²: https://www.instagram.com/capstoneconnected

PINTEREST³: https://www.pinterest.com/capstoneconnected/

LINKEDIN⁴: https://www.linkedin.com/company/6251882

TWITTER⁵ https://twitter.com/CAPC_Capstone

YOUTUBE⁶ https://www.youtube.com/channel/UCMX5W8PV0Q59qoAdMxKcAig

¹ Facebook is a registered trademark of Facebook, Inc.

² Instagram is a registered trademark of Instagram.

³ Pinterest is a registered trademark of Pinterest.

⁴ LinkedIn is a registered trademark of LinkedIn Corporation.

⁵ Twitter is a registered trademark of Twitter Corporation.

⁶YouTube is a registered trademark of YouTube Corporation.

Competitive Conditions

The Company operates in a highly competitive environment, both in the United States and internationally, in the former LED lighting product segment and in the new Connected Surfaces internet of things product segments. The Company competes with large multinationals with global operations as well as numerous other smaller, specialized national or regional competitors who generally focus on narrower markets, products, or particular categories.

Other competitive factors include rapid technological changes, product availability, credit availability, speed of delivery, ability to tailor solutions to customer needs, quality and depth of product lines and training. Smart Mirrors and other Connected Surface products are an emerging industry, and the Company’s product line is innovative and does not require licensing of technologies, as the Connected Surfaces program is developed with open source resources. The Company is also under development of proprietary features that would further establish the Company as a market innovator. As such, applications have been filed. However, the Company may be unable to develop or license emerging new technologies that are dominant and demanded by consumers, retailers, distributors and resellers. Consumer tastes and preferences change and timing the product line with consumer demand is important in establishing a market for the product line.

Research, Product Development, and Manufacturing Activities

The Company’s research and development operations based in Florida and Thailand design and engineer many of the Company’s products, with collaboration from its third-party manufacturing partners, software developers and CAPI U.S. engineering advisers. The Company outsources the manufacture and assembly of our products to a select group of OEM manufacturers overseas. Our research and development focus includes efforts to:

The Company establishes strict engineering specifications and product testing protocols with the Company’s contract manufacturers and ensure that their factories adhere to all Regional Labor and Social Compliance Laws. These contract manufacturers purchase components that we specify and provide the necessary facilities and labor to manufacture our products. We leverage the strength of the contract manufacturers and allocate the manufacturing of specific products to the contract manufacturer best suited to the task. Quality control and product testing is conducted at the contract manufacturers facility and at their 3^rd party testing laboratories overseas.

CAPI uses its proprietary manufacturing expertise by maintaining control over all outsourced production and critical production molds. To ensure the quality and consistency of the Company’s products manufactured overseas, CAPI uses globally recognized certified testing laboratories such as United Laboratories (UL) or Intertek (ETL) to ensure all products are designed and tested to adhere to each country’s individual regulatory standards. The Company also hires quality control inspectors who examine and test products to CAPI’s specification(s) before shipments are released.

To successfully implement CAPI’s business strategy, the Company must continually improve its current products and develop new product segments with innovative imbedded technologies to meet consumer’s growing expectations. The Connected Surfaces product development is our current effort to achieve those expectations. The continuation of Company’s declining business and financial performance may significantly hinder or undermine efforts to establish a profitable Connected Surface product line capable of sustaining operations. Establishing the Connected Surfaces product line as a viable revenue source is essential to sustaining the Company as a consumer product company. The Company will need adequate funding in 2023 to sustain that business line and operations. Investments in technical and product development are expensed when incurred and are included in the operating expenses.

Raw Materials

The principal raw materials currently used by CAPI are sourced in Thailand and China, as the Company orders product exclusively through contract manufacturers in the region. These contract manufacturers purchase components based on the Company’s specifications and provide the necessary facilities and labor to manufacture the Company’s products. CAPI allocates the production of specific products to the contract manufacturer the Company believes is more experienced to produce the specific product and whose facility is located in the country that most benefits from the U.S. Tariff regulations. To ensure the consistent quality of CAPI’s products, quality control procedures have been incorporated at each stage of the manufacturing process, ranging from the inspection of raw materials through production and delivery to the customer. These procedures are additional to the manufacturers internal quality control procedures and performed by Quality Assurance personnel.

Raw materials used in manufacturing include plastic resin, copper, led bulbs, batteries, and corrugated paper. Prices of materials have remained competitive in the last year. CAPC believes that adequate supplies of raw materials required for its operations are available at the present time. CAPC cannot predict the future availability or prices of such materials. These raw materials are generally available from a number of different sources, and the prices of those raw materials are susceptible to currency fluctuations and price fluctuations due to transportation, government regulations, price controls, economic climate, or other unforeseen circumstances. In the past, CAPC has not experienced any significant interruption in availability of raw materials. We believe we have extensive experience in manufacturing and have taken positions to assure supply and to protect margins on anticipated sales volume.

 Section 1502 of Title XV of the Dodd-Frank Wall Street Reform and Consumer Protection Act requires SEC-reporting companies to disclose annually whether any conflict minerals are necessary to the functionality or production of a product. Based on our inquiries to our manufacturers, we do not believe as of the date of such inquiries that any conflict minerals are used in making our products.

Distribution and Fulfillment

Since January 2015, the Company has outsourced its U.S. domestic warehousing and distribution needs to a third-party warehousing facility situated in Anaheim, California. The warehouse operator provides full inventory storage, packaging and logistics services including direct to store and direct to consumer shipping capabilities that electronically interface to our existing operations software. The warehouse operator provides full ERP (Enterprise Resource Planning), Inventory Control and Warehouse Management Systems. These fulfillment services can be expanded to the east coast in Charleston, South Carolina, if the Company needed to establish an east coast distribution point. This relationship, if required, will allow us to fully expand our U.S. distribution capabilities and services. For the e-commerce and direct to consumer marketplace, the Company has developed a new website with full shopping cart capabilities. The Company has negotiated contracts for secured credit card processing capability, state sales tax compliance services and order fulfillment and logistics services, at a very competitive rate. The Company will also warehouse and supply its Smart Mirror program through Amazon fulfilment.

Seasonality

In general, sales for household products and electronics are seasonally influenced. Certain gift products cause consumers to increase purchases during key holiday winter season of the fourth quarter, which requires increases in retailer inventories during the third quarter. However, we do not have sufficient operational experience with Connected Surfaces to predict the seasonality of Connected Surfaces.

Intellectual Property

CAPC subsidiary, CAPI, has filed a number of U.S. trademarks and patents over the past decade. These include the following trademarks: Exclusive license and sub-license to Power Failure Technology; Capstone Power Control, Timely Reader, Pathway Lights, and 10 LED - Eco-i-Lite Power Failure Light, 5 LED - Eco-i-Lite Power Failure Light, 3 LED - Eco-i-Lite Power Failure Light, 3 LED Slim Line Eco-i-Lite Power Failure Light, LED Induction Charged Headlight. We also have a number of patents pending; Puck Light (cookie), Puck Light Base, Multi-Color Puck Lights, LED Dual Mode Solar Light, Integrated Light Bulb (Coach Light), LED Gooseneck Lantern, Spotlights, Security Motion Activated Lights, Under Cabinet Lighting and Bathroom Vanity Light. CAPC periodically prepares patent and trademark applications for filing in the United States and China. CAPC will also pursue foreign patent protection in foreign countries if deemed necessary to protect a patent and to the extent that we have the available cash to do so. CAPC’s ability to compete effectively in the Home Lighting categories depends in part, on its ability to maintain the proprietary nature of its technology and manufacturing processes through a combination of patent and trade secret protection, non-disclosure agreements, licensing, and cross-licensing agreements. CAPC owns a number of patents, trademarks, trademark and patent applications and other technology which CAPC believes are significant to its business. These intellectual property rights relate primarily to lighting device improvements and manufacturing processes.

While the Company may license third party technologies for its products, or may rely on other companies, especially OEMs, for design, engineering and testing, the Company believes that its oversight of design and function of its products and its marketing capabilities are significant factors in the ability of the Company to sell its products.

Value of Patents

The actual protection afforded by a patent, which can vary from country to country, depends upon the type of patent, the scope of its coverage and the availability of legal remedies in the country. Issued patents or patents based on pending patent applications or any future patent applications may not exclude competitors or may not provide a competitive advantage to us. In addition, patents issued or licensed to us may not be held valid if subsequently challenged and others may claim rights in or ownership of such patents. The validity and breadth of claims in technology patents involve complex legal and factual questions and, therefore, the extent of their enforceability and protection is highly uncertain.

Reverse engineering, unauthorized copying or other misappropriation of our technologies could enable third parties to benefit from our technologies without paying us. We cannot assure shareholders that our competitors have not developed or will not develop similar products, will not duplicate our products, or will not design around any patents issued to or licensed by us. We will assess any loss of these rights and determine whether to litigate to protect our intellectual property rights on a case by case basis.

We rely on trademark, trade secret, patent, and copyright laws to protect our intellectual property rights. We cannot be sure that these intellectual property rights will be effectively utilized or, if necessary, successfully asserted. There is a risk that we will not be able to obtain and perfect our own intellectual property rights, or, where appropriate, license intellectual property rights from others to support new product introductions. There can be no assurance that we can acquire licenses under patents belonging to others for technology potentially useful or necessary to us and there can be no assurance that such licenses will be available to us, if at all, on terms acceptable to us. Moreover, there can be no assurance that any patent issued to or licensed by us will not be infringed or circumvented by others or will not be successfully challenged by others in lawsuits. We do not have a reserve for litigation costs associated with intellectual property matters. The cost of litigating intellectual property rights claims may be beyond our financial ability to fund.

As is customary in the retail industry, many of our customer agreements requires us to indemnify our customers for third-party intellectual property infringement claims. Such claims could harm our relationships with customers and might deter future customers from doing business with us. With respect to any intellectual property rights claims against us or our customers, we may be required to cease manufacture of the infringing product, pay damages and expend significant Company resources to defend against the claim and or seek a license.

Information Technology

The efficient operation of our business is dependent on our information technology systems. We rely on those systems to manage our daily operations, communicate with our customers and maintain our financial and accounting records. In the normal course of business, we receive information regarding customers, associates, and vendors. Since we do not collect significant amounts of valuable personal data or sensitive business data from others, our internal computer systems are under a light to moderate level of risk from hackers or other individuals with malicious intent to gain unauthorized access to our computer systems. Cyberattacks are growing in number and sophistication and are an ongoing threat to business computer systems, which are used to operate the business on a day to day basis. Our computer systems could be vulnerable to security breaches, computer viruses, or other events. The failure of our information technology systems, our inability to successfully maintain our information or any compromise of the integrity or security of the data we generate from our systems or an event resulting in the unauthorized disclosure of confidential information or degradation of services provided by critical business systems, whether by us directly or our third-party service providers, could adversely affect our business operations, sales, reputation with current and potential customers, associates or vendors, results of operations, product development and make us unable or limit our ability to respond to customers’ demands.

We have incorporated into our data network various on and off-site data backup processes which should allow us to mitigate any data loss events, however our information technology systems are vulnerable to damage or interruption from:

Environmental Regulations

We believe that the Company is in compliance with environmental protection regulations and will not have a material impact on our financial position and results of operations.

 Critical Accounting Policies

We believe that there have been no significant changes to our critical accounting policies during the three months ended March 31, 2023, as compared to those we disclosed in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our 2022 Annual Report.

CONSOLIDATED OVERVIEW OF RESULTS OF OPERATIONS

Results of operations.

Net Revenues

Revenue is derived from sales of our Connected Surfaces Smart Mirrors. Previous to 2023, the Company derived revenue from consumer home LED lighting for both indoor and outdoor applications while the Smart Mirrors were sold directly to consumers via e-commerce efforts. We recognize revenue upon shipment of the order to the customer when all performance obligations have been completed and title has transferred to the customer and in accordance with the respective sale’s contractual arrangements. Each contract on acceptance will have a fixed unit price. The majority of our sales are to the U.S. market which in 2023 represented 100% of revenues and we expect to the U.S Market to continue to be the major source of revenue for the Company. Net revenue also includes the cost of instant rebate coupons, promotional coupons, and product support allowances provided to retailers to promote certain products. All of our revenue is denominated in U.S. dollars.

Cost of Goods Sold

Our cost of goods sold consists primarily of purchased products from contract manufacturers and when applicable associated duties and inbound freight. In addition, our cost of goods sold also includes reserves for potential warranty claims and freight allowances. We maintained Smart Mirror inventory on hand for direct to consumer shipment to fulfill sales orders.

Gross Profit

Our gross profit has and will continue to be affected by a variety of factors, including average sales price for our products, product mix, promotional allowances, our ability to reduce product costs and fluctuations in the cost of our purchased components.

Operating Expenses

Operating expenses include sales and marketing expenses, consisting of sales representative’s commissions, advertising and trade show expense and costs related to employee’s compensation. In addition, operating expense include charges relating to product development, office and warehousing, accounting, legal, insurance and stock-based compensation.

CONSOLIDATED RESULTS OF OPERATIONS AND OUTLOOK

Net Revenues

Our business operations and financial performance for the quarter ended March 31, 2023, reflected slow e-commerce sales for the Smart Mirror. Executive management are actively pursuing brick and mortar retailers for placement in large, home goods stores. Executive management has redesigned the packaging for in-store placement, versus warehouse storage for online retailers, for a more eye catching and informative package design with the goal to be in select stores by Q3 of 2023.

Net revenues for the three months ended March 31, 2023, were $5,000, a decrease of $257,000 or 98% from approximately $263,000 in the same period 2022. Much of the decrease, approximately $247,000, is due to the switch in product lines from the deteriorating LED lighting market to the Smart Mirror whereas there were no LED Lighting sales in the first quarter of 2023.

For the three months ended March 31, 2023, international sales were $0 or 0% of revenue as compared to $45 thousand or 17% of revenue in 2022.

The following tables disaggregates revenue by geographic area:

Gross Profit and Cost of Sales

Gross profit for the three months ended March 31, 2023, and 2022, was $3,200 and $76,000, respectively, a decrease of $73,000 thousand from the previous year. Gross Profit as a percent of revenue was 50% in the first quarter 2023 as compared to 29% in the same quarter 2022, due to a higher margin on the Smart Mirrors in 2023 versus the LED lighting products in 2022.

Operating Expenses and Other Income (Expenses)

The Company made concerted efforts to reduce operating expenses in the first quarter of 2023 in accordance with the low Smart Mirror e-commerce sales, as denoted further. Last year’s poor performance of e-commerce sales for the Smart Mirror proved to Executive Management that e-commerce was not the ideal market for the Smart Mirror product. Focus of sales and marketing efforts are now re-directed to placement in brick and mortar retail stores with the expectation of an enhanced consumer experience in person with the Smart Mirror.

Sales and Marketing Expenses

For the three months ended March 31, 2023, and 2022, sales and marketing expenses were approximately $18,000 and $133,000, respectively, a decrease of $114,000 or 86%. The Company made concerted efforts to reduce operating expenses in accordance with the low Smart Mirror e-commerce sales. The Consumer Electronics Show expense was $100,000 in January 2022 as compared to $0 in 2023. The Social Media expense was $3,000 in 2023 as compared to $20,000 in 2022 and the smart mirror inventory storage, shipping and handling charge was approximately $10,000 as compared to $7,000 in the same period 2022.

Compensation Expenses

For the three months ended March 31, 2023, and 2022, compensation expenses were approximately $138,000 and $197,000 respectively, a decrease of $59,000 or 30%. The Company’s CFO retired November 2022 and the Company hired a consultant as an Interim CFO which has reduced compensation expenses. In addition, the Company has reduced workforce to essential employees as it repositions the brand and Connected Surfaces product line for a brick and mortar launch.

Professional Fees

For the three months ended March 31, 2023, and 2022, professional fees were approximately $142,000 and $156,000 respectively, a decrease of $14,000 or 9%.

 
Product Development Expenses

For the three months ended March 31, 2023, product development expenses were approximately $34,000 as compared to $52,000 in 2022, a reduction of $18,000 or 35%. During the first quarter 2022, fees were incurred for patent and trademarks related to the Connected Surfaces which were not incurred first quarter 2023. In addition, first quarter 2022 included costs for prototypes for the Smart Mirror which were not incurred first quarter 2023.

Other General and Administrative Expenses

For the three months ended March 31, 2023, other general and administrative expenses were approximately $115,000 as compared to $140,000 in 2022 for a reduction of $45,000 or 18%. Travel costs were reduced as part of the reduction in nonessential expenses and first quarter 2022 included an expense for a LED patent infringement legal settlement of $22,000 that was not incurred during first quarter 2023.

Total Operating Expenses

For the three months ended March 31, 2023, and 2022, total operating expenses were approximately $447,000 and $678,000, respectively, a decrease of approximately $230,000 or 34%.

Operating Loss

For the three months ended March 31, 2023 and 2022, the operating loss was approximately $444,000 and $602,000, respectively, a decreased loss of $157,000 or 26%.

Total Other Income (Expense), net

For the three months ended March 31, 2023, and 2022, other income (expense) was ($22,000), net as compared to $140,000 for 2022. The net other income for first quarter 2022 included $152,000 employee retention tax credit income received under Cares act 2020-2021.

Net Loss

For the three months ended March 31, 2023 the net loss was approximately $467,000 compared to a net loss of $461,000 in the same period 2022, a decreased loss of $26,000 of 6%. Management credits the reduction in net loss to its cost reduction efforts for operating expenses during the first quarter of 2022.

Off-Balance Sheet Arrangements

The Company does not have material off-balance sheet arrangements that have or are reasonably likely to have a material future effect on our results of operations or financial condition.

Contractual Obligations

There were no material changes to contractual obligations for the three months ended March 31, 2023.

Cash flow from operations are primarily dependent on our net income adjusted for non-cash expenses and the timing of collections of receivables, level of inventory and payments to suppliers. Cash as of March 31, 2023, and December 31, 2022, was approximately $24,000 and $61,000 respectively, a decrease of approximately $37,000.

As of March 31, 2023, the Company’s working capital deficit was approximately $873,000. Current assets were approximately $466,000 and current liabilities were approximately $1,339,000 and include:

Cash Flows used in Operating Activities

Cash used in operating activities in the three months ended March 31, 2023, and 2022 was approximately $261,000 and $654,000, respectively, a decrease of $393,000 compared to last year. The decrease in net cash used in operations primarily relates to inventory purchased in the first quarter of 2022 of approximately $526,000 versus no purchases of inventory during first quarter of 2023.

Cash Flows used in Investing Activities

Cash used in investing activities in the three months ended March 31, 2023, and 2022 was $0 and $0, respectively.

Cash Flows provided by Financing Activities

Cash provided by financing activities for the three months ended March 31, 2023 and 2022, was approximately $224,000 and $0, respectively.

As of March 31, 2023, and 2022, the Company had outstanding note payable $2,048,000 and $1,802,000 which includes accrued interest of $104,000 and $82,000, respectively.

Directors and Officers Insurance

The Company currently has Directors and Officers liability insurance, and the Company believes the coverage is adequate to cover likely liabilities under such a policy.

Exchange Rates

We sell all of our products in U.S. dollars and pay for all of our manufacturing costs in U.S. dollars. Our factories are located in mainland China and Thailand.

During 2023 the average exchange rate between the U.S. Dollar and Chinese Yuan have been relatively stable approximately RMB 6.86 to U.S. $1.00.

The average exchange rate between the U.S. Dollar and Thai Baht has been relatively stable at approximately Baht 34.00 to U.S. $1.00.

Operating expenses in Hong Kong are historically paid in either Hong Kong dollars or U.S. dollars. There were no expenses for Hong Kong operations during the first quarter of 2023.

While exchange rates have been stable for several years, we cannot assure you that the exchange rate between the United States, Hong Kong, Chinese and Thailand currencies will continue to be stable and exchange rate fluctuations may have a material effect on our business, financial condition or results of operations.

Country Risks: Changes in foreign, cultural, political, and financial market conditions could impair the Company’s international manufacturing operations and financial performance.

 The Company’s manufacturing is currently conducted in China and Thailand. Consequently, the Company is subject to a number of significant risks associated with manufacturing in overseas, including:

Currency: Currency fluctuations may significantly increase our expenses and affect the results of operations, especially where the currency is subject to intense political and other outside pressures.

Interest Rate Risk: The Company does not have significant interest rate risk during the three month period ended March 31, 2023. All outstanding loans have been disclosed including the agreed interest rates.

Credit Risk: The Company has not experienced significant credit risk. The e-commerce business requires customer credit approval prior to shipment and the payment is received by the Company between 5 and 20 days after shipment depending on which ordering platform is used by the consumer. To date we have not experienced any credit risk issues, but we will closely monitor the process to assess that this trend continues.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

Not applicable.

Item 4. Controls and Procedures

Evaluation of disclosure controls and procedures.

Because the Company is a smaller reporting company, this Form 10-Q Report does not include an attestation report of our independent registered public accounting firm regarding internal control over financial reporting. Managements report was not subject to attestation by our independent registered public accounting firm.

Evaluation of Disclosure Controls and Procedures

Based on an evaluation under the supervision and with the participation of the Company’s management, the Company’s principal executive officer and principal financial officer have concluded that the Company’s disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) were effective as of March 31, 2023, to provide reasonable assurance that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is (i) recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms and (ii) accumulated and communicated to the Company’s management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Controls over Financial Reporting.

There are no changes to our internal control over financial reporting during the first quarter of 2023, the period covered by this report, which were identified in connection with management’s evaluation required by paragraph (d) of Rules 13a-15 and 15d-15 under the Exchange Act, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

The certifications of our Chief Executive Officer and Interim Chief Financial Officer attached as Exhibits 31 and 32 and to this Form 10-Q Report include information concerning our disclosure controls and procedures and internal control over financial reporting.

Inherent Limitations on Effectiveness of Controls

Our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. Internal control over financial reporting, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of internal control are met. Further, the design of internal control must reflect the fact that there are resource constraints, and the benefits of the control must be considered relative to their costs. While our disclosure controls and procedures and internal control over financial reporting are designed to provide reasonable assurance of their effectiveness, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company, have been detected.

PART II — OTHER INFORMATION

Item 1. Legal Proceedings.

The Company is not a party to any other pending or threatened legal proceedings and, to the best our knowledge, no such action by or against us has been threatened. From time to time, we are subject to legal proceedings and claims that arise in the ordinary course of our business. Although occasional adverse decisions or settlements may occur in such routine lawsuits, we believe that the final disposition of such routine lawsuits will not have material adverse effect on its financial position, results of operations or status as a going concern.

Other Legal Matters. To the best of our knowledge, none of our directors, officers, or owners of record of more than five percent (5%) of the securities of the Company, or any associate of any such director, officer or security holder is a party adverse to us or has a material interest adverse to us in reference to pending litigation.

Item 1A. Risk Factors.

You should carefully consider the “Risk Factors” disclosed under “Item 1A. Risk Factors” in our 2022 Annual Report. You should be aware that these risk factors and other information may not describe every risk facing our Company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

The Company has insufficient revenues to support its basic operating overhead and relies on funding from a director and senior officer to pay basic operating overhead. The Company may be unable to sustain operations through 2023 without continued financial support from the directors and senior officer or investment or funding from a third party. There can be no assurance that the Company can obtain sufficient funding to sustain operations through 2023. The financial difficulties of the Company severely hamper the pursuit of Connected Surface products and any new business lines and new products.

There is substantial doubt about our ability to continue as a going concern, which may hinder our ability to obtain further financing. Our public auditor’s report for the 2022 Annual Report stated that the Company has incurred operating losses, has incurred negative cash flows from operations and has an accumulated deficit, and these and other factors raise substantial doubt about the Company’s ability to continue as a going concern. Our financial statements do not include any adjustments that may result from the outcome of this uncertainty.

If funding sources are not available or are inadequate or unwilling to fund operations, or the products at hand and under development are not capable of generating sustainable revenues in the future, we will be required to reduce operating costs even further, which could further jeopardize any future strategic initiatives and business plans. Furthermore, uncertainty concerning our ability to continue as a going concern may hinder our ability to obtain future financing. Continued operations and our ability to continue as a going concern are dependent on our ability to obtain additional funding in the near future and thereafter, and there are no assurances that such funding will be available to us at all or will be available in sufficient amounts or on reasonable terms.

There may be risks that are not presently material or known and not discussed in this Form 10-Q or other SEC filings. There are also risks within the economy, the industry, and the capital markets that could materially adversely affect the Company, including those associated with an economic recession, inflation, a global economic slowdown, political instability, war, government regulation (including tax regulation), employee attraction and retention, and customers inability or refusal to pay for the products and services provided by the Company. There are also risks associated with the occurrence of extraordinary events, such as COVID-19 pandemic re-emerging due to new virus variants, terrorist attacks or natural disasters (such as tsunamis, hurricanes, tornadoes, and floods). These factors affect businesses generally, including the Company, its customers and suppliers and, as a result, are not discussed in detail below, but are applicable to the Company. As a “penny stock” without primary market maker support, and due to the decline in financial performance of the Company in 2021 and 2022 and continuing into 2023, an investment in our common stock involves a very high degree of risk. You should carefully consider the risks described below, together with all of the other information included in this Form 10-Q Report and other SEC filings, before making an investment decision. If any of the following risks actually occurs or continues to impact our business, our business, financial condition or results of operations could worsen. In that case, the trading price of our common stock could decline, and you may lose all or part of your investment. You should read the section entitled “Cautionary Statement Regarding Forward-Looking Statements above for a discussion of what types of statements are forward-looking statements, as well as the significance of such statements in the context of this Form 10-Q Report.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

The Company did not issue any unregistered securities in the fiscal quarter ended March 31, 2023.

Item 3. Defaults Upon Senior Securities

None.

 Item 4. Mine Safety Disclosures

 Not Applicable.

Item 5. Other Information

The Company has no information to disclose that was required to be in a report on Form 8-K during the period covered by this report but was not reported. There have been no material changes to the procedures by which security holders may recommend nominees to our board of directors or make shareholder proposals.

Item 6. Exhibits

The following exhibits are filed as part of this Report on Form 10-Q or are incorporated herein by reference.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

Capstone Companies, Inc.

Dated: May 15, 2023

41

Capstone Companies (QB) (USOTC:CAPC)
Historical Stock Chart
From Sep 2023 to Oct 2023

Capstone Companies (QB) (USOTC:CAPC)
Historical Stock Chart
From Oct 2022 to Oct 2023