Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Forward-Looking Statements
The following discussion and analysis should be read in conjunction with the condensed consolidated financial statements and notes thereto included in Item 1 of Part I of this report and the audited consolidated financial statements and related notes thereto and the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K for the fiscal year ended December 31, 2019. Some of the statements in this report may contain forward-looking statements that reflect management’s current view about future events, future business, industry and other conditions, our future performance, and our plans and expectations for future operations and actions. In some cases you can identify forward-looking statements by the use of words such as “anticipate,” “will,” “believe,” “estimate,” “expect,” “future,” “intend,” “plan” and similar expressions or the negative of these terms. Many of these forward-looking statements are located in this report under “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” but they may appear in other sections as well. The forward-looking statements in this report generally relate to: (i) our growth strategy and potential acquisition candidates; (ii) management’s expectations regarding market trends and competition in the vehicle fuels industry, gasoline, diesel, and natural gas prices, government tax credits and other incentives, and environmental and safety considerations; (iii) our beliefs regarding the sufficiency of working capital and cash flows, and our continued ability to renew or obtain financing on reasonable terms when necessary; (iv) the impact of recently issued accounting pronouncements; (v) our intentions and beliefs relating to our costs, business strategies, and future performance; (vi) our expected financial results; and (vii) our expectations concerning our primary capital and cash flow needs.
Forward-looking statements are based on information available to management at the time the statements are made and involve known and unknown risks, uncertainties and other factors that may cause our results, levels of activity, performance or achievements to be materially different from the information expressed or implied by the forward-looking statements. Such statements reflect the current view of management with respect to future events and are subject to risks, uncertainties, assumptions and other factors (including the risks contained in the section entitled “Risk Factors” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2019) relating to the Company’s industry, its operations and results of operations, and any businesses that may be acquired by it. These factors include, among other factors:
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Our ability to recruit and retain qualified drivers;
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Future equipment (including tractor and box truck) prices, our equipment purchasing plans, and our equipment turnover (including expected tractor trade-ins);
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The expected freight environment, including freight demand and volumes;
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Future third-party service provider relationships and availability;
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Future contracted pay rates with independent contractors and compensation arrangements with drivers;
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Future supply, demand, use and prices of crude oil, gasoline, diesel, natural gas and other vehicle fuels, such as electricity, hydrogen, renewable diesel, biodiesel and ethanol;
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Our expectations regarding the market’s perception of the benefits of conventional and renewable natural gas relative to gasoline and diesel and other alternative vehicle fuels and electronically powered vehicles, including with respect to factors such as supply, cost savings, environmental benefits and safety;
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The competitive environment in which we operate, and the nature and impact of competitive developments in our industry;
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Potential adoption of government policies or programs that favor vehicles or vehicle fuels other than natural gas, including long-standing support for gasoline and diesel-powered vehicles and growing support for electric and hydrogen-powered vehicles;
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The impact of, or potential for changes to, emissions requirements applicable to vehicles powered by gasoline, diesel, natural gas or other vehicle fuels, as well as emissions and other environmental regulations and pressures on crude oil and natural gas drilling, production, importing or transportation methods and fueling stations for these fuels;
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Developments in our products and services offering, including any new business activities we may pursue in the future;
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The success and importance of any acquisitions, divestitures, investments or other strategic relationships or transactions;
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The general strategies adopted by the USPS with respect to its third party surface transportation suppliers;
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The impacts of the COVID-19 global pandemic;
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General political, regulatory, economic and market conditions;
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Our need for and access to additional capital to fund our business or repay our debt, through selling assets or pursuing equity, debt or other types of financing; and
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The flexibility of our model to adapt to market conditions.
Although management believes that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Except as required by applicable law, including the securities laws of the United States, the Company does not intend to update any of the forward-looking statements to conform these statements to actual results. We qualify all of our forward-looking statements by these cautionary statements.
Background and Recent Developments
EVO Transportation & Energy Services, Inc. is a transportation provider serving the United States Postal Service (“USPS”) and other customers. We believe EVO is the second largest surface transportation company serving the USPS, with a diversified fleet of tractors, straight trucks, and other vehicles that currently operate on either diesel fuel or compressed natural gas (“CNG”). In certain markets, we fuel our vehicles at one of our three CNG stations that serve other customers as well. We are actively engaged in reducing CO2 emissions by operating on CNG, pursuing opportunities to use other alternative fuels, and by optimizing the routing efficiency of our operations to reduce fuel usage. We operate from our headquarters in Phoenix, Arizona and from 10 main terminals located throughout the United States.
EVO has grown primarily through acquisitions, and we have completed seven acquisitions since our initial business combination in 2016. We have also grown organically by obtaining new contracts from the USPS and other customers. During the six months ended June 30, 2020, we generated $93.5 million in revenues from the USPS. We have been actively integrating the acquisitions we have made under common leadership and technology and are now operating under a single umbrella brand.
Sources of Revenue
Our USPS trucking operations generates revenue for our trucking segment from transportation services under multi-year contracts with the USPS, generally on a rate per mile basis that adjusts monthly for fuel pricing indexes.
Our freight trucking operations generates revenue for our trucking segment by providing both irregular and dedicated route and cross-border transportation services of various products, goods, and materials for a diverse customer base.
Our CNG station revenue is derived predominately pursuant to contractual fuel purchase commitments. These contracts typically include a stand-ready obligation to supply natural gas daily. The CNG stations are also open to individual consumers. In addition to revenue earned from our customers, we may also earn alternative fuel tax credits through certain federal programs. These programs are generally short-term in nature and require legislation to be passed extending the term.
Results from Operations
Three Months Ended June 30, 2020, as compared with the Three Months Ended June 30, 2019
Trucking Segment
Trucking revenue: The $15.6 million, or 43.2%, increase in Trucking revenue from the three months ended June 30, 2019 to the three months ended June 30, 2020 is primarily due to the three months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the three months ended June 30, 2019 does not. The majority of Trucking revenue is derived from the USPS. The remainder of the revenue is derived from corporate freight hauling. The USPS contracts are typically four years in duration and are priced on a rate per mile basis which varies by contract. The USPS contracts also include a monthly fuel adjustment.
Payroll, benefits and related: The $8.9 million, or 54.9%, increase in payroll, benefits and related expenses from the three months ended June 30, 2019 to the three months ended June 30, 2020, is primarily due to the three months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the three months ended June 30, 2019 does not. Driver wages are fixed per contract with USPS and are eligible for renegotiation with USPS on a bi-annual basis. In addition to an hourly wage that is set by the Department of Labor, drivers also earn an incremental hourly rate for benefits.
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Purchased transportation: The $0.6 million, or 7.1%, decrease in purchased transportation expenses from the three months ended June 30, 2019 to the three months ended June 30, 2020 is primarily due to the increased use of drivers versus purchased transportation to support the 43.2% increase in Trucking revenue, which is evidenced by the 54.9% increase in payroll, benefits and related expenses exceeding the 43.2% increase in Trucking revenue. Purchased transportation represents payments to subcontracted third-party companies. These contracts are negotiated on a rate per mile basis and the subcontracting company is responsible for supplying all resources to perform the service including, but not limited to, labor, equipment, fuel and associated expenses.
Fuel: Despite the $15.6 million, or 43.2%, increase in Trucking revenue from the three months ended June 30, 2019 to the three months ended June 30, 2020, fuel expense decreased 3.1%. This is due primarily to a decrease in the average DOE fuel price to $2.44 per gallon for the three months ended June 30, 2020 from $3.12 per gallon for the three months ended June 30, 2019. Fuel expense is comprised of diesel and CNG fuel required to operate the truck fleet. The Company manages fuel cost by negotiating volume discounts from rack fuel rates with select vendors.
Equipment rent: Despite the $15.6 million, or 43.2%, increase in Trucking revenue from the three months ended June 30, 2019 to the three months ended June 30, 2020, equipment rent expense decreased $0.9 million, or 28.1%. This is due primarily to a significant reduction in the use of short-term rental arrangements and increased use of equipment under long-term lease arrangements and company-owned assets. The Company rents and leases the majority of its trucks and trailers through a combination of short and long-term arrangements. Efforts are currently underway to rebalance the fleet towards having more company-owned assets, subject to financing availability.
Maintenance and Supplies: Despite the $15.6 million, or 43.2%, increase in Trucking revenue from the three months ended June 30, 2019 to the three months ended June 30, 2020, maintenance and supplies expense decreased 1.4%. This is due primarily to reduced maintenance spend on existing equipment in advance of the planned refreshing of our fleet with newer equipment. Maintenance and supplies expense primarily includes the costs to maintain the fleet.
Operating supplies and expenses: The $2.4 million, or 133.4%, increase in operating supplies and expenses from the three months ended June 30, 2019 to the three months ended June 30, 2020 is primarily due to the three months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the three months ended June 30, 2019 does not. Operating and supplies expense includes all other direct costs in the Trucking segment.
Insurance and claims: The $1.5 million, or 102.8%, increase in insurance and claims expenses from three months ended June 30, 2019 to the three months ended June 30, 2020 is primarily due to the three months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the three months ended June 30, 2019 does not. Insurance and claims is comprised of auto liability and physical damage and workers compensation expense related to the trucking segment of the business.
CNG Fueling Stations Segment
CNG revenue: Revenue for the CNG stations was $0.2 million and $0.3 million for the three months ended June 30, 2020 and 2019, respectively.
CNG operating expenses: CNG operating expense is comprised of natural gas, electricity, federal excise tax, vendor use fuel tax and credit card fees.
EVO Consolidated
General and administrative: General and administrative expense was $4.3 million and $1.9 million for the three months ended June 30, 2020 and 2019, respectively. The increase in general and administrative expense is due primarily to the three months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the three months ended June 30, 2019 does not.
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Depreciation and amortization: Depreciation and amortization expense was $3.6 million and $1.5 million for the three months ended June 30, 2020 and 2019, respectively. The increase in depreciation and amortization expense is due primarily to the three months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the three months ended June 30, 2019 does not.
Interest expense: Interest expense increased to $3.4 million for the three months ended June 30, 2020 from $1.4 million for the three months ended June 30, 2019. The increase in interest expense is due primarily to: (1) the incurrence of interest expense during the three months ended June 30, 2020 on debt obligations used to finance all of the Company’s 2019 acquisitions, including the Antara Financing Agreement, as well as the debt obligations assumed in connection with such acquisitions; and (2) the various debt financing activities undertaken during the three months ended March 31, 2020 relating to the Antara Financing Agreement. Refer to Note 7, Debt, for a description of these activities.
Change in fair value of embedded derivative liability: The Antara Financing Agreement contains a mandatory prepayment feature that was determined to be an embedded derivative, requiring bifurcation and fair value recognition for the derivative liability. The fair value of this derivative liability is remeasured at each reporting period, with changes in fair value recognized in the consolidated statement of operations. Refer to Note 7, Debt, and Note 9, Fair Value Measurements, for further discussion.
Change in fair value of warrant liabilities: During 2019 and the six months ended June 30, 2020, the Company issued certain warrants that are not considered indexed to the Company's common stock and, therefore, are required to be classified as liabilities and measured at fair value at each reporting date with the change in fair value being recognized in the Company's results of operations during each reporting period. Refer to Note 8, Stockholders' Deficit and Warrants, and Note 9, Fair Value Measurements, for further discussion.
Six Months Ended June 30, 2020, as compared with the Six Months Ended June 30, 2019
Trucking Segment
Trucking revenue: The $42.9 million, or 66.8%, increase in Trucking revenue from the six months ended June 30, 2019 to the six months ended June 30, 2020 is primarily due to the six months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the six months ended June 30, 2019 does not. The majority of Trucking revenue is derived from the USPS. The remainder of the revenue is derived from corporate freight hauling. The USPS contracts are typically four years in duration with pricing varying by contract. The vast majority of the USPS contracts include a monthly fuel adjustment.
Payroll, benefits and related: The $23.5 million, or 80.2%, increase in payroll, benefits and related expenses from the six months ended June 30, 2019 to the six months ended June 30, 2020 is primarily due to the six months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the six months ended June 30, 2019 does not. Driver wages are fixed per contract with the USPS and are eligible for renegotiation with the USPS on a bi-annual basis. In addition to an hourly wage that is set by the Department of Labor, drivers also earn an incremental hourly rate for benefits.
Purchased transportation: The $1.3 million, or 9.4%, increase in purchased transportation expenses from the six months ended June 30, 2019 to the six months ended June 30, 2020 is primarily due to the increased use of drivers versus purchased transportation to support the 66.8% increase in Trucking revenue, which is evidenced by the 80.2% increase in payroll, benefits and related expenses exceeding the 66.8% increase in Trucking revenue. Purchased transportation represents payments to subcontracted third-party companies. These contracts are negotiated on a rate per mile basis and the subcontracting company is responsible for supplying all resources to perform the service including, but not limited to labor, equipment, fuel and associated expenses.
Fuel: Despite the $42.9 million, or 66.8%, increase in Trucking revenue from the six months ended June 30, 2019 to the six months ended June 30, 2020, fuel expense increased only $3.2 million, or 37.2%. This is due primarily to a decrease in the average DOE fuel price to $2.67 per gallon for the six months ended June 30, 2020 from $3.07 per gallon for the six months ended June 30, 2019. Fuel expense is comprised of diesel and CNG fuel required to operate the truck fleet. The Company manages fuel cost by negotiating volume discounts from rack fuel rates with select vendors.
Equipment rent: Despite the $42.9 million, or 66.8%, increase in Trucking revenue from the six months ended June 30, 2019 to the six months ended June 30, 2020, equipment rent expense decreased $0.6 million, or 8.9%. This is due primarily to a significant reduction in the use of short-term rental arrangements and increased use of equipment under long-term lease arrangements and company-owned assets. The Company rents and leases a portion of its trucks and trailers through a combination of short and long-term arrangements. Efforts are currently underway to rebalance the fleet towards having more company-owned assets, subject to financing availability.
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Maintenance and Supplies: Despite the $42.9 million, or 66.8%, increase in Trucking revenue from the six months ended June 30, 2019 to the six months ended June 30, 2020, maintenance and supplies expense increased only $0.8 million, or 16.8%. This is due primarily to reduced maintenance spend on existing equipment in advance of the planned refreshing of our fleet with newer equipment. Maintenance and supplies expense primarily includes the costs to maintain the fleet.
Operating supplies and expenses: The $4.5 million, or 127.3%, increase in operating supplies and expenses from the six months ended June 30, 2019 to the six months ended June 30, 2020 is primarily due to the six months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the six months ended June 30, 2019 does not. Operating and supplies expense includes all other direct costs in the Trucking segment.
Insurance and claims: The $2.9 million, or 112.1%, increase in insurance and claims expenses from the six months ended June 30, 2019 to the six months ended June 30, 2020 is primarily due to the six months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the six months ended June 30, 2019 does not. Insurance and claims is comprised of auto liability and physical damage and workers compensation expense related to the trucking segment of the business.
CNG Fueling Stations Segment
CNG revenue: Revenue for the CNG stations was $0.6 million and $0.6 million for the six months ended June 30, 2020 and 2019, respectively.
CNG operating expenses: CNG operating expense is comprised of natural gas, electricity, federal excise tax, vendor use fuel tax and credit card fees.
EVO Consolidated
General and administrative: General and administrative expense was $9.2 million and $4.1 million for the six months ended June 30, 2020 and 2019, respectively. The increase in general and administrative expense is due primarily to the six months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the six months ended June 30, 2019 does not.
Depreciation and amortization: Depreciation and amortization expense was $7.1 million and $2.8 million for the six months ended June 30, 2020 and 2019, respectively. The increase in depreciation and amortization expense is due primarily to the six months ended June 30, 2020 including the results of operations for Finkle, Courtlandt and the Ritter Companies, which are businesses acquired during July and September 2019, while the six months ended June 30, 2019 does not.
Interest expense: Interest expense increased to $7.1 million for the six months ended June 30, 2020 from $2.5 million for the six months ended June 30, 2019. The increase in interest expense is due primarily to: (1) the incurrence of interest expense during the six months ended June 30, 2020 on debt obligations used to finance all of the Company’s 2019 acquisitions, including the Antara Financing Agreement, as well as the debt obligations assumed in connection with such acquisitions; and (2) the various debt financing activities undertaken during the six months ended June 30, 2020 relating to the Antara Financing Agreement. Refer to Note 7, Debt, for a description of these activities.
Loss on extinguishment of debt: The $10.1 million loss on extinguishment of debt during the six months ended June 30, 2020 is due to the Company's March 31, 2020 Waiver and Agreement to Issue Warrant (the “Waiver Agreement”) with Antara Capital and the collateral agent. The Waiver Agreement modified a certain affirmative covenant and waived another affirmative covenant in the Antara Financing Agreement and, in exchange, the Company agreed to issue to Antara Capital a warrant to purchase up to 3,250,000 shares of the Company’s Common Stock at an exercise price of $2.50 per share as an incentive. Refer to Note 7, Debt, for further discussion.
Change in fair value of embedded derivative liability: The Antara Financing Agreement contains a mandatory prepayment feature that was determined to be an embedded derivative, requiring bifurcation and fair value recognition for the derivative liability. The fair value of this derivative liability is remeasured at each reporting period, with changes in fair value recognized in the consolidated statement of operations. Refer to Note 7, Debt, and Note 9, Fair Value Measurements, for further discussion.
Change in fair value of warrant liabilities: During 2019 and the six months ended June 30, 2020 the Company issued certain warrants that are not considered indexed to the Company's common stock and, therefore, are required to be classified as liabilities and measured
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at fair value at each reporting date with the change in fair value being recognized in the Company's results of operations during each reporting period. Refer to Note 8, Stockholders' Deficit and Warrants, and Note 9, Fair Value Measurements, for further discussion.
Liquidity and Capital Resources
Six Months Ended June 30, 2020, as compared with the Six Months Ended June 30, 2019
Changes in Liquidity
Cash and Cash Equivalents. Cash and cash equivalents were $5.5 million and $3.3 million at June 30, 2020 and December 31, 2019, respectively. The increase is attributable to financing activities during the six months ended June 30, 2020.
Operating Activities. Net cash used in operations was $18.4 million and $14.6 million during the six months ended June 30, 2020 and 2019, respectively. For the six months ended June 30, 2020 and 2019, the Company had a net loss of $24.2 million and $14.4 million, respectively.
For six months ended June 30, 2020, the net loss was partially offset by $15.4 million in adjustments for non-cash items and further reduced by $9.6 million of cash used for changes in working capital. Non-cash items primarily consisted of $7.1 million in depreciation and amortization, loss on extinguishment of debt of $10.1 million, $1.3 million in non-cash interest expense, non-cash lease expense of $2.1 million, stock option and warrant-based compensation expense of $0.4 million, and amortization of debt discount and debt issuance costs of $1.4 million, partially offset by a $7.3 million change in fair value of warrant liabilities.
For the six months ended June 30, 2019, the net loss was partially offset by $4.9 million in adjustments for non-cash items and further reduced by $5.0 million of cash used for changes in working capital. Non-cash items primarily consisted of $2.8 million in depreciation and amortization, , non-cash lease expense of $1.3 million, stock option and warrant-based compensation expense of $0.2 million, and amortization of debt discount and debt issuance costs of $0.5 million.
Investing Activities. Net cash used in investing activities was $0.1 million for the six months ended June 30, 2020, and net cash provided by investing activities was $1.0 million for the six months ended June 30, 2019. The net cash used in investing activities during the six months ended June 30, 2020 is related to purchases of fixed assets. The net cash provided by investing activities during the six months ended June 30, 2019 is primarily related to the $3.7 million of cash assumed in the acquisition of businesses exceeding the $2.5 million of cash paid for the acquisition of businesses.
Financing Activities. Net cash provided by financing activities was $20.6 million and $19.5 million for the six months ended June 30, 2020 and 2019, respectively. The cash provided by financing activities during the six months ended June 30, 2020 primarily consisted of $3.4 million in net advances from factoring receivables, proceeds of $16.2 million from the issuance of debt, and $6.2 million in proceeds from the sale of common stock, preferred stock and warrants, partially offset by $3.4 million in payments of debt principal, and $1.4 million in payments on finance lease liabilities. The cash provided by financing activities during the six months ended June 30, 2019 primarily consisted of $9.4 million in net advances from factoring receivables, proceeds of $5.3 million from the issuance of debt, and $11.4 million in proceeds from the sale of common stock, preferred stock and warrants, partially offset by $6.1 million in payments of debt principal.
Sources of Liquidity
Our primary historical and future sources of liquidity are cash on hand ($5.5 million at June 30, 2020), the incurrence of additional indebtedness, the sale of the Company’s common stock or preferred stock, and advances under our accounts receivable factoring arrangements. However, there can be no assurance that we will be able to obtain additional financing in the future via the incurrence of additional indebtedness or the sale of the Company’s common stock or preferred stock.
Uses of Liquidity
Our business requires substantial amounts of cash for operating activities, including salaries and wages paid to our employees, contract payments to independent contractors, and payments for fuel, maintenance and supplies, and other expenses. We also use large amounts of cash and credit for principal and interest payments, as well as operating and finance lease liabilities and capital expenditures to fund the replacement and/or growth in our tractor and trailer fleet.
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Going Concern
As of June 30, 2020, the Company had a cash balance of $5.5 million, a working capital deficit of $97.2 million, stockholders’ deficit of $44.8 million, and material debt and lease obligations of $134.8 million, which include term loan borrowings under a financing agreement with Antara Capital. During the six months ended June 30, 2020 the Company reported cash used in operating activities of $18.4 million and reported a net loss of $24.2 million.
The following significant transactions and events affecting the Company’s liquidity occurred during the six months ended June 30, 2020:
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During the first quarter of 2020, the Company entered into Forbearance Agreements and Incremental Amendments to the Financing Agreement with Antara Capital and obtained an additional $6.3 million in term loan commitments and the lenders agreed to forbear from exercising certain rights, remedies, powers, privileges, and defenses under the Financing Agreement during the forbearance period. These incremental borrowings were subject to the same terms as the Company’s existing term loan commitments with Antara Capital. During the fourth quarter of 2020, in connection with the Ritter Companies' borrowing under the Main Street Priority Loan Program (as subsequently described), the forbearance period related to the remaining Antara debt was terminated and all existing defaults and events of defaults were waived, and the maturity date of the remaining outstanding term loan balance under the Antara Financing Agreement was extended from September 16, 2022 to the earlier of the date that is ninety-one days after the fifth anniversary of the closing date of the Main Street Loan or the date that is ninety-one days after the date the Main Street Loan is paid in full.
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During the first quarter of 2020, the Company sold a total of 1,260,000 shares of its common stock and 1,000,000 shares of its Series B preferred stock to related parties for aggregate gross proceeds of $6.2 million pursuant to the terms of subscription agreements.
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During the second quarter of 2020, the Ritter Companies obtained a loan in the amount of $10.0 million under the Paycheck Protection Program (the “PPP”) of the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act. The Company used the entire loan amount for qualifying expenses, and the entire amount borrowed under the loan, including accrued interest, was forgiven by the United States Small Business Administration (“SBA”) in July 2021, which will be recognized as a gain on extinguishment of the PPP loan in the Company's 2021 financial statements.
The following significant transactions and events affecting the Company’s liquidity occurred following the six months ended June 30, 2020:
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During the fourth quarter of 2020, the Company borrowed $17.0 million under the Main Street Priority Loan Program authorized by Section 13(3) of the Federal Reserve Act (the “Main Street Loan”) and used all of the net proceeds to refinance a portion of the amount outstanding under the Antara Financing Agreement and to pay related prepayment premiums. The entire outstanding principal balance of the Main Street Loan, together with all accrued and unpaid interest, is due and payable in full on December 14, 2025.
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During the first quarter of 2021, the Company used the proceeds from its borrowings under the Main Street Priority Loan Program to pay down the aggregate principal amount due to Antara, including capitalized interest, from $31.7 million to $16.7 million.
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During the first quarter of 2021, the Company entered into agreements with the USPS to settle claims submitted by the Company seeking additional compensation for transportation services provided under certain Dynamic Route Optimization (“DRO”) contracts. The Company received a total of $28.4 million related to these claims and also renegotiated the contractual rates per mile for some of its DRO contracts on a prospective basis.
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During the first quarter of 2021, the Company entered into an agreement with its factoring lender (“Triumph”) related to the application of $17.5 million and $7.1 million of proceeds received from the USPS in February and January of 2021, respectively, arising out of the settlement agreements described above. Pursuant to the agreement, the parties acknowledged that Triumph previously applied approximately $1.6 of the $7.1 million of proceeds received in January 2021 plus approximately $0.6 million of funds held in reserve against a balance of $3.0 million for advances that Triumph made to the Company in September 2020 (the “Gross Purchase Advance Facility”) and agreed that Triumph would remit $11.0 million of net proceeds to the Company and that Triumph would retain approximately $6.9 million of net proceeds and apply that amount to reduce the outstanding principal amount of the Company’s factoring advances. The parties further agreed that the Company will repay the remaining balance of approximately $6.9 million due under the factoring arrangement in 48 equal monthly installments beginning January 1, 2022 and that Triumph would apply funds held in reserve against the approximately $0.8 million remaining balance of the Gross Purchase Advance Facility. The parties also agreed to work together to wind down their factoring relationship, including waiver of any applicable termination fees.
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During the first and second quarters of 2021, the Company entered into agreements with certain noteholders to purchase promissory notes previously issued by the Company in the principal amount of $0.6 million by paying $0.1 million in cash and issuing warrants to purchase an aggregate of up to 231,453 shares of the Company’s common stock at a price of $0.01 per share.
While these transactions and events resulted in an overall increase in the Company’s cash balance as of December 31, 2021, an overall reduction in the Company’s working capital deficit as of December 31, 2021, and an overall extension of the maturity dates for the Company’s debt obligations, the Company continues to have a working capital deficit and stockholders’ deficit as of December 31, 2021 and (after excluding the impacts of the USPS settlement agreements and the forgiveness of the PPP loan discussed above) continues to incur net losses during 2021. As a result of these circumstances, the Company believes its existing cash, together with any positive cash flows from operations, may not be sufficient to support working capital and capital expenditure requirements for the next 12 months, and the Company may be required to seek additional financing from outside sources.
In evaluating the Company’s ability to continue as a going concern and its potential need to seek additional financing from outside sources, management also considered the following conditions:
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The counterparty to the Company’s accounts receivable factoring arrangement is not obligated to purchase the Company’s accounts receivable or make advances to the Company under such arrangement;
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The Company is currently in default on certain of its debt obligations (Refer to Note 7, Debt, for further discussion); and
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There can be no assurance that the Company will be able to obtain additional financing in the future via the incurrence of additional indebtedness or via the sale of the Company’s common stock or preferred stock.
As a result of the circumstances described above, the Company may not have sufficient liquidity to make the required payments on its debt, factoring or leasing obligations; to satisfy future operating expenses; to make capital expenditures; or to provide for other cash needs.
Management’s plans to mitigate the Company’s current conditions include:
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Negotiating with related parties and 3rd parties to refinance existing debt and lease obligations;
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Potential future public or private debt or equity offerings;
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Acquiring new profitable contracts and negotiating revised pricing for existing contracts;
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Profitably expanding trucking revenue;
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Cost reduction efforts, including eliminating redundant costs across the companies acquired during 2019 and 2018;
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Improvements to operations to gain driver efficiencies;
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Purchases of trucks and trailers to reduce purchased transportation and rental vehicles; and
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Replacement of older trucks with newer trucks to lower the overall cost of ownership and improve cash flow through reduced maintenance and fuel costs.
Notwithstanding management’s plans, there can be no assurance that the Company will be successful in its efforts to address its current liquidity and capital resource constraints. These conditions raise substantial doubt about the Company's ability to continue as a going concern for the next twelve months from the issuance of these consolidated financial statements. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classifications of liabilities that may result if the Company is unable to continue as a going concern.
Refer to Notes 6 and 7 to the unaudited condensed consolidated financial statements for further information regarding the Company’s debt and factoring obligations. Refer to Note 13 to the consolidated financial statements for further information regarding changes in the Company’s debt obligations and liquidity subsequent to June 30, 2020.
Off-Balance Sheet Arrangements
Refer to Note 11, Commitments and Contingencies – Captive Insurance.
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Critical Accounting Policies
Our critical accounting policies have not changed from the information reported in our Annual Report on Form 10-K for the year ended December 31, 2019.
Recently Adopted Accounting Changes and Recently Issued and Adopted Accounting Standards
See Note 1 to the unaudited condensed consolidated financial statements, included in Part 1, Item 1 of this Quarterly Report, incorporated by reference herein.
Seasonality
Discussion regarding the impact of seasonality on our business is included in Note 1 to the unaudited condensed consolidated financial statements, included in Part 1, Item 1 of this Quarterly Report, incorporated by reference herein.
Inflation
Inflation can have an impact on our operating costs. A prolonged period of inflation could cause interest rates, fuel, wages, and other costs to increase, which would adversely affect our results of operations unless freight and rates correspondingly increased.
Item 4. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
The Company’s management, with the participation of its principal executive and principal financial officers, is responsible for establishing and maintaining a system of disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) that is designed to ensure that information required to be disclosed by the Company in the reports that the Company files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to the issuer’s management, including its principal executive officer or officers and principal financial officer or officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
In accordance with Exchange Act rules 13a-15 and 15d-15, the Company performed an evaluation under the supervision and with the participation of the Company’s management, including the Company’s principal executive and financial officers regarding the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of June 30, 2020, the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, the Company’s management, including its principal executive and financial officers have concluded that our disclosure controls and procedures were not effective as of June 30, 2020, due to the material weaknesses in our internal control over financial reporting described below in “Evaluation of Internal Controls and Procedures” including limitations in management’s evaluation of internal controls as a result of insufficient documentation of internal controls under the standards of the Committee of Sponsoring Organizations of the Treadway Commission (COSO) (2013 Framework). In light of these material weaknesses, we performed additional analysis as deemed necessary to ensure that our financial statements were prepared in accordance with U.S. generally accepted accounting principles. Accordingly, management believes that the financial statements included in this Quarterly Report on Form 10-Q present fairly in all material respects our financial position, results of operations and cash flows for the period presented.
Evaluation of Internal Controls and Procedures
The Company’s management is also responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a set of processes designed by, or under the supervision of, a company’s principal executive designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.
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The Company’s internal control over financial reporting includes those policies and procedures that:
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Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company;
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Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of the Company’s management and directors; and
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Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. It should be noted that any system of internal control, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system will be met. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Based on the Company’s evaluation, it identified material weaknesses in internal control over financial reporting described below, and management concluded that our internal control over financial reporting was not effective as described below. The Company also took steps seeking to mitigate and remediate these material weaknesses as described under “Management’s Remediation Plan and Status of Remediation Efforts” below.
The matters involving internal controls and procedures that the Company’s management considered to be material weaknesses were:
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The Company had not fully implemented the necessary internal controls under the COSO (2013 Framework) to design, test and evaluate the operating effectiveness of its internal control over financial reporting;
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The Company’s management and board of directors had insufficient oversight of the design and operating effectiveness of the Company’s disclosure controls and internal control over financial reporting including the appropriate segregation of duties and effective controls over certain information technology general controls (“ITGCs”) for IT systems that are relevant to the preparation of the financial statements;
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The Company had insufficient written policies and procedures for accounting and financial reporting with respect to the requirements and application of GAAP and SEC disclosure requirements;
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The Company failed to maintain effective controls over the period-end financial reporting process, including controls with respect to identification of unrecorded liabilities; revenue reconciliations to ensure appropriate revenue recognition; accounting for leasing transactions; payroll reconciliations; preparation and disclosure of provision for income taxes; and account-level reconciliations in the general ledger, resulting in numerous adjusting entries identified by the Company and identified through audit procedures;
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The Company failed to maintain effective controls over the recording of business combinations to ensure purchase accounting was properly reconciled in the general ledger;
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The Company did not have sufficient internal personnel resources to review the financial statements and notes to the financial statements prepared by external consultants and professionals to ensure accuracy and completeness; and
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The Company failed to maintain effective controls over journal entries, both recurring and nonrecurring, and did not maintain proper segregation of duties. Journal entries were not always accompanied by sufficient supporting documentation and were not adequately reviewed and approved for validity, completeness and accuracy. In most instances, persons responsible for reviewing journal entries for validity, completeness and accuracy were also responsible for preparation.
Changes in Internal Control over Financial Reporting
There have been no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Management intends to implement the remediation steps discussed below to address the material weaknesses and to improve our internal control over financial reporting.
Management’s Remediation Plan
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In light of the control deficiencies identified at June 30, 2020, and described in the section titled “Evaluation of Internal Controls and Procedures,” we have designed and plan to implement the specific remediation initiatives described below:
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We have designed and implemented more robust corporate governance including: (1) direct oversight of our internal controls by the audit committee of our board of directors; (2) review of our Annual Report on Form 10-K and Quarterly Reports on Form 10-Q by our audit committee prior to filing with the SEC; and (3) communication of our Code of Business Conduct and Ethics to our employees and consultants.
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We have implemented procedures designed to ensure timely review of the consolidated financial statements, notes to our consolidated financial statements, and our Annual and Quarterly Reports on Forms 10-K and 10-Q by our chief executive officer, chief financial officer, our board of directors, and our audit committee, prior to filing with the SEC.
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We intend to develop and implement enhanced internal control review procedures and documentation standards aligned with the COSO 2013 Framework.
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We have designed and are in the process of implementing a formalized financial reporting process that includes balance sheet and other reconciliations, properly prepared, supported and reviewed journal entries, properly segregated duties, and properly completed and approved close checklist and calendar.
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We have purchased, designed and implemented a new technology platform (Netsuite) to support the formalized financial reporting process described above.
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We have hired additional experienced individuals to prepare and approve the consolidated financial statements and footnote disclosures in accordance with US GAAP.
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We have relied and will continue to rely upon outside professionals to assist with our external reporting requirements to ensure timely filing of our required reports with the SEC.
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We have initiated efforts to ensure our employees understand the continued importance of internal controls and compliance with corporate policies and procedures. We have implemented a reporting and certification process for management involved in the performance of internal controls and the preparation of the Company’s consolidated financial statements. This certification process will be conducted quarterly and managed by our internal audit consultant.
While the Company believes the steps taken to date and those planned for implementation will improve the effectiveness of its internal control over financial reporting, it has not completed all remediation efforts identified above. Accordingly, the Company has and will continue to perform additional procedures and employ additional tools and resources it determines necessary to ensure that its consolidated financial statements are fairly stated in all material respects.
The Company has engaged third party advisors to undertake, under management’s supervision, a comprehensive examination and analysis of the facts and circumstances giving rise to the material weaknesses as they relate to control activities. The Company will make further changes and improve its internal control over financial reporting following management’s review and development of the complete remediation plan that is responsive to the findings of the examination.
The Company believes the remediation measures will strengthen the Company’s internal control over financial reporting and remediate the material weaknesses identified. Management will continue to monitor the effectiveness of these remediation measures and will make changes and take other actions that are appropriate given the circumstances.
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