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| Share Name | Share Symbol | Market | Type |
|---|---|---|---|
| ImageWare Systems Incorporated (CE) | USOTC:IWSY | OTCMarkets | Common Stock |
| Price Change | % Change | Share Price | Bid Price | Offer Price | High Price | Low Price | Open Price | Shares Traded | Last Trade | |
|---|---|---|---|---|---|---|---|---|---|---|
| 0.00 | 0.00% | 0.00001 | 0.00 | 00:00:00 |
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
|
☒ |
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2021
|
☐ |
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT |
For the transition period from _________ to _________
Commission file number 001-15757
|
IMAGEWARE SYSTEMS, INC. |
|
(Exact Name of Registrant as Specified in Its Charter) |
|
Delaware |
33-0224167 |
|
|
(State or Other Jurisdiction of Incorporation or Organization) |
(IRS Employer Identification No.) |
11440 West Bernardo Court, Suite 300
San Diego, CA 92127
(Address of Principal Executive Offices)
(858) 673-8600
(Registrant’s Telephone Number, Including Area Code)
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 preceding 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 pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act:
|
Large accelerated filer |
☐ |
Accelerated filer |
☐ |
|
Non-accelerated filer |
☒ |
Smaller reporting company |
☒ |
|
Emerging growth company |
☐ |
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. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-12 of the Exchange Act). Yes ☐ No ☒
Securities registered pursuant to Section 12(b) of the Act: None
The number of shares of common stock, par value $0.01 per share, outstanding on November 10, 2021 was 347,236,158.
INDEX
|
Page |
||||
|
ITEM 1. |
2 | |||
|
Condensed Consolidated Balance Sheets as of September 30, 2021 (unaudited) and December 31, 2020 |
2 | |||
| 3 | ||||
| 4 | ||||
| 5 | ||||
| 7 | ||||
|
Notes to unaudited Condensed Consolidated Financial Statements |
8 | |||
|
ITEM 2. |
Management’s Discussion and Analysis of Financial Condition and Results of Operations |
30 | ||
|
ITEM 3. |
43 | |||
|
ITEM 4. |
44 | |||
|
ITEM 1. |
45 | |||
|
ITEM1A. |
45 | |||
|
ITEM 2. |
57 | |||
|
ITEM 3. |
57 | |||
|
ITEM 4. |
57 | |||
|
ITEM 5. |
57 | |||
|
ITEM 6. |
57 | |||
| 58 | ||||
Forward-Looking Statements
This Quarterly Report on Form 10-Q (this "Quarterly Report") contains forward-looking statements. The words or phrases "would be," "will allow," "intends to," "will likely result," "are expected to," "will continue," "is anticipated," "estimate," "project," or similar expressions are intended to identify "forward-looking statements." Actual results could differ materially from those projected in the forward-looking statements as a result of a number of risks and uncertainties, including those risks factors contained in our Annual Report on Form 10-K for the year ended December 31, 2020, previously filed with the Securities and Exchange Commission ("SEC") on April 5, 2021 is incorporated herein by reference. Statements made herein are as of the date of the filing of this Report with the SEC and should not be relied upon as of any subsequent date. Unless otherwise required by applicable law, we do not undertake, and specifically disclaim any obligation, to update any forward-looking statements to reflect occurrences, developments, unanticipated events, or circumstances after the date of such statement.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Thousands, except for share and per share data)
|
September 30, |
December 31, |
|||||||
|
2021 |
2020 |
|||||||
|
(Unaudited) |
||||||||
|
ASSETS |
||||||||
|
Current Assets: |
||||||||
|
Cash and cash equivalents |
$ | 1,672 | $ | 8,345 | ||||
|
Accounts receivable, net of allowance for doubtful accounts of $5 at September 30, 2021 and December 31, 2020. |
443 | 577 | ||||||
|
Inventory |
85 | 40 | ||||||
|
Other current assets |
398 | 196 | ||||||
|
Total Current Assets |
2,598 | 9,158 | ||||||
|
Property and equipment, net |
87 | 155 | ||||||
|
Other assets |
162 | 458 | ||||||
|
Operating lease right-of-use assets |
1,278 | 1,557 | ||||||
|
Intangible assets, net of accumulated amortization |
49 | 58 | ||||||
|
Goodwill |
3,416 | 3,416 | ||||||
|
Total Assets |
$ | 7,590 | $ | 14,802 | ||||
|
LIABILITIES, MEZZANINE EQUITY AND SHAREHOLDERS’ DEFICIT |
||||||||
|
Current Liabilities: |
||||||||
|
Accounts payable |
$ | 691 | $ | 1,007 | ||||
|
Deferred revenue |
1,205 | 903 | ||||||
|
Accrued expense |
1,002 | 1,130 | ||||||
|
Operating lease liabilities, current portion |
494 | 421 | ||||||
|
Derivative liabilities |
7,486 | 24,128 | ||||||
|
Note payable, current portion |
— | 918 | ||||||
|
Total Current Liabilities |
10,878 | 28,507 | ||||||
|
Other long-term liabilities |
— | 65 | ||||||
|
Note payable, net of current portion |
— | 653 | ||||||
|
Lease liabilities, net of current portion |
915 | 1,297 | ||||||
|
Pension obligation |
2,572 | 2,531 | ||||||
|
Total Liabilities |
14,365 | 33,053 | ||||||
|
Mezzanine Equity: |
||||||||
|
Series D Convertible Redeemable Preferred Stock, $0.01 par value, designated 26,000 shares, 23,611 and 22,863 shares issued at September 30, 2021 (unaudited) and December 31, 2020, respectively and 22,965 and 22,863 shares outstanding at September 30, 2021 (unaudited) and December 31, 2020, respectively; liquidation preference $22,965 and $22,863 at September 30, 2021 (unaudited) and December 31, 2020, respectively. |
6,973 | 1,572 | ||||||
|
Shareholders’ Deficit: |
||||||||
|
Preferred stock, authorized 5,000,000 shares: |
||||||||
|
Series A Convertible Redeemable Preferred Stock, $0.01 par value; designated 38,000 shares, 37,467 shares issued at September 30, 2021 (unaudited) and December 31, 2020, and 0 and 14,911 shares outstanding at September 30, 2021 (unaudited) and December 31, 2020, respectively; liquidation preference $0 and $14,911 at September 30, 2021 (unaudited) and December 31, 2020, respectively. |
— | — | ||||||
|
Series A-1 Convertible Redeemable Preferred Stock, $0.01 par value; designated 38,000 shares, 37,467 shares issued at September 30, 2021 (unaudited) and December 31, 2020, and 0 and 14,782 shares outstanding at September 30, 2021 (unaudited) and December 31, 2020, respectively; liquidation preference $0 and $14,782 at September 30, 2021 (unaudited) and December 31, 2020, respectively. |
— | — | ||||||
|
Series B Convertible Redeemable Preferred Stock, $0.01 par value; designated 750,000 shares, 389,400 shares issued and 239,400 shares outstanding at September 30, 2021 (unaudited) and December 31, 2020, respectively; liquidation preference $620 at September 30, 2021 (unaudited) $608 at December 31, 2020, respectively. |
2 | 2 | ||||||
|
Common Stock, $0.01 par value, 2,000,000,000 shares authorized; 347,200,961 and 180,096,317 shares issued at September 30, 2021 (unaudited) and December 31, 2020, respectively, and 347,194,257 and 180,089,613 shares outstanding at September 30, 2021 (unaudited) and December 31, 2020, respectively. |
3,471 | 1,801 | ||||||
|
Additional paid-in capital |
188,404 | 193,652 | ||||||
|
Treasury stock, at cost 6,704 shares |
(64 |
) |
(64 |
) |
||||
|
Accumulated other comprehensive loss |
(1,925 |
) |
(1,989 |
) |
||||
|
Accumulated deficit |
(203,636 |
) |
(213,225 |
) |
||||
|
Total Shareholders’ Deficit |
(13,748 |
) |
(19,823 |
) |
||||
|
Total Liabilities, Mezzanine Equity and Shareholders’ Deficit |
$ | 7,590 | $ | 14,802 | ||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(In Thousands, except share and per share amounts)
(Unaudited)
The accompanying notes are an integral part of these condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In Thousands)
(Unaudited)
|
Three Months Ended September 30, |
Nine Months Ended September 30, |
|||||||||||||||
|
2021 |
2020 |
2021 |
2020 |
|||||||||||||
|
Net income (loss) |
$ | 490 | $ | (626 |
) |
$ | 9,871 | $ | (6,652 |
) |
||||||
|
Other comprehensive income (loss): |
||||||||||||||||
|
Foreign currency translation adjustment |
25 | (41 |
) |
64 | (74 |
) |
||||||||||
|
Comprehensive income (loss) |
$ | 515 | $ | (667 |
) |
$ | 9,935 | $ | (6,726 |
) |
||||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ DEFICIT
(In Thousands, except share amounts)
(Unaudited)
|
Series A Convertible, |
Series A-1 Convertible, |
Series B Convertible, |
Accumulated |
|||||||||||||||||||||||||||||||||||||||||||||||||||||
|
Redeemable |
Redeemable |
Redeemable |
Additional |
Other |
||||||||||||||||||||||||||||||||||||||||||||||||||||
|
Preferred |
Preferred |
Preferred |
Common Stock |
Treasury Stock |
Paid-In |
Comprehensive |
Accumulated |
|||||||||||||||||||||||||||||||||||||||||||||||||
|
Shares |
Amount |
Shares |
Amount |
Shares |
Amount |
Shares |
Amount |
Shares |
Amount |
Capital |
Loss |
Deficit |
Total |
|||||||||||||||||||||||||||||||||||||||||||
|
Balance at December 31, 2020 |
14,911 | $ | - | 14,782 | $ | - | 239,400 | $ | 2 | 180,096,317 | $ | 1,801 | (6,704 | ) | $ | (64 | ) | $ | 193,652 | $ | (1,989 | ) | $ | (213,225 | ) | $ | (19,823 | ) | ||||||||||||||||||||||||||||
|
Accretion of Preferred Stock discount |
- | - | - | - | - | - | - | - | - | - | (1,817 | ) | - | - | (1,817 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Stock-based compensation expense |
- | - | - | - | - | - | 161,168 | 2 | - | - | 76 | - | - | 78 | ||||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock in lieu of cash |
- | - | - | - | - | - | 242,647 | 2 | - | - | 19 | - | - | 21 | ||||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock pursuant to warrant exercise |
- | - | - | - | - | - | 400 | - | - | - | 0 | - | - | - | ||||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series A Preferred to Common Stock |
(8,762 | ) | - | - | - | - | - | 43,819,500 | 438 | - | - | (438 | ) | - | - | - | ||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series A-1 Preferred to Common Stock |
- | - | (8,860 | ) | 0 | - | - | 44,300,000 | 443 | - | - | (443 | ) | - | - | - | ||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series D Preferred to Common Stock |
- | - | - | - | - | - | 6,115,324 | 59 | - | - | 630 | - | (2 | ) | 687 | |||||||||||||||||||||||||||||||||||||||||
|
Foreign currency translation adjustment |
- | - | - | - | - | - | - | - | - | - | - | 54 | - | 54 | ||||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A preferred stock, $(10.50)/share |
- | - | - | - | - | - | 1,050,826 | 11 | - | - | 81 | - | (92 | ) | - | |||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A-1 preferred stock, $(9.75)/share |
- | - | - | - | - | - | 963,266 | 10 | - | - | 73 | - | (83 | ) | - | |||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series D Preferred stock, $(90.90)/share |
- | - | - | - | - | - | - | - | - | - | (248 | ) | - | - | (248 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Net loss |
- | - | - | - | - | - | - | - | - | - | - | - | (1,885 | ) | (1,885 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Balance at March 31, 2021 |
6,149 | - | 5,922 | - | 239,400 | 2 | 276,749,448 | 2,766 | (6,704 | ) | (64 | ) | 191,585 | (1,935 | ) | (215,287 | ) | (22,933 | ) | |||||||||||||||||||||||||||||||||||||
|
Accretion of Preferred Stock discount |
- | - | - | - | - | - | - | - | - | - | (1,732 | ) | - | - | (1,732 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Stock-based compensation expense and RSU issuance |
- | - | - | - | - | - | 656,410 | 7 | - | - | 301 | - | - | 308 | ||||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock in lieu of cash |
- | - | - | - | - | - | 1,000,000 | 10 | - | - | 90 | - | - | 100 | ||||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock as issuance costs |
- | - | - | - | - | - | 1,000,000 | 10 | - | - | 60 | - | - | 70 | ||||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series A Preferred to Common Stock |
(3,819 | ) | - | - | - | - | - | 19,095,500 | 191 | - | - | (191 | ) | - | - | - | ||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series A-1 Preferred to Common Stock |
- | - | (3,683 | ) | 0 | - | - | 18,416,000 | 184 | - | - | (184 | ) | - | - | - | ||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series D Preferred to Common Stock |
- | - | - | - | - | - | 858,291 | 8 | - | - | 51 | - | - | 59 | ||||||||||||||||||||||||||||||||||||||||||
|
Foreign currency translation adjustment |
- | - | - | - | - | - | - | - | - | - | - | (15 | ) | - | (15 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock in lieu of cash |
- | - | - | - | - | - | 178,571 | 2 | - | - | 11 | - | - | 13 | ||||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A preferred stock, $(8.32)/share |
- | - | - | - | - | - | 750,925 | 8 | - | - | 30 | - | (38 | ) | - | |||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A-1 preferred stock, $(8.32)/share |
- | - | - | - | - | - | 720,978 | 7 | - | - | 29 | - | (36 | ) | - | |||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series B Preferred stock, $(0.05)/share |
- | - | - | - | - | - | - | - | - | - | - | - | (25 | ) | (25 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series D Preferred stock, $(87.31)/share |
- | - | - | - | - | - | - | - | - | - | (251 | ) | - | - | (251 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Net income |
- | - | - | - | - | - | - | - | - | - | - | - | 11,266 | 11,266 | ||||||||||||||||||||||||||||||||||||||||||
|
Balance at June 30, 2021 |
2,330 | - | 2,239 | - | 239,400 | 2 | 319,426,123 | 3,193 | (6,704 | ) | (64 | ) | 189,799 | (1,950 | ) | (204,120 | ) | (13,140 | ) | |||||||||||||||||||||||||||||||||||||
|
Accretion of Preferred Stock discount |
- | - | - | - | - | - | - | - | - | - | (1,665 | ) | - | - | (1,665 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Stock-based compensation expense and RSU issuance |
- | - | - | - | - | - | 43,151 | 0 | - | - | 556 | - | - | 556 | ||||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series A Preferred to Common Stock |
(2,330 | ) | - | - | - | - | - | 11,647,000 | 116 | - | - | (116 | ) | - | - | - | ||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series A-1 Preferred to Common Stock |
- | - | (2,239 | ) | - | - | - | 11,194,000 | 112 | - | - | (112 | ) | - | - | - | ||||||||||||||||||||||||||||||||||||||||
|
Conversion of Series D Preferred to Common Stock |
- | - | - | - | - | - | 4,175,508 | 43 | - | - | 167 | - | - | 210 | ||||||||||||||||||||||||||||||||||||||||||
|
Foreign currency translation adjustment |
- | - | - | - | - | - | - | 0 | - | - | - | 25 | - | 25 | ||||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock in lieu of cash |
- | - | - | - | - | - | 500,000 | 5 | - | - | 20 | - | - | 25 | ||||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A preferred stock, $(0.52)/share |
- | - | - | - | - | - | 109,836 | 1 | - | - | 2 | - | (3 | ) | - | |||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A-1 preferred stock, $(0.52)/share |
- | - | - | - | - | - | 105,343 | 1 | - | - | 2 | - | (3 | ) | - | |||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series D Preferred stock, $(85.70)/share |
- | - | - | - | - | - | - | - | - | - | (249 | ) | - | - | (249 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Net income |
- | - | - | - | - | - | - | - | - | - | - | - | 490 | 490 | ||||||||||||||||||||||||||||||||||||||||||
|
Balance at September 30, 2021 |
- | - | - | - | 239,400 | 2 | 347,200,961 | 3,471 | (6,704 | ) | (64 | ) | 188,404 | (1,925 | ) | (203,636 | ) | (13,748 | ) | |||||||||||||||||||||||||||||||||||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ DEFICIT
(In Thousands, except share amounts)
(Unaudited)
|
Series A Convertible, Redeemable Preferred |
Series A-1 Convertible, Redeemable Preferred |
Series B Convertible, Redeemable Preferred |
Common Stock |
Treasury Stock |
Additional Paid-In |
Accumulated Other Comprehensive |
Accumulated |
|||||||||||||||||||||||||||||||||||||||||||||||||
|
Shares |
Amount |
Shares |
Amount |
Shares |
Amount |
Shares |
Amount |
Shares |
Amount |
Capital |
Loss |
Deficit |
Total |
|||||||||||||||||||||||||||||||||||||||||||
|
Balance at December 31, 2019 |
37,467 | $ | - | - | $ | - | 239,400 | $ | 2 | 113,353,176 | $ | 1,133 | (6,704 | ) | $ | (64 | ) | $ | 195,079 | $ | (1,741 | ) | $ | (203,171 | ) | $ | (8,762 | ) | ||||||||||||||||||||||||||||
|
Accretion of Preferred Stock discount |
- | - | - | - | - | - | - | - | - | - | (175 | ) | - | - | (175 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock net of financing costs |
- | - | - | - | - | - | 10,000,000 | 100 | - | - | 1,287 | - | - | 1,387 | ||||||||||||||||||||||||||||||||||||||||||
|
Stock-based compensation expense |
- | - | - | - | - | - | - | - | - | - | 124 | - | - | 124 | ||||||||||||||||||||||||||||||||||||||||||
|
Common stock issued in exchange for unexercised options |
- | - | - | - | - | - | 400,000 | 4 | - | - | 58 | - | - | 62 | ||||||||||||||||||||||||||||||||||||||||||
|
Foreign currency translation adjustment |
- | - | - | - | - | - | - | - | - | - | - | 31 | - | 31 | ||||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A preferred stock, $(25.01)/share |
- | - | - | - | - | - | - | - | - | - | - | - | (937 | ) | (937 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series C preferred stock, $(250.00)/share |
- | - | - | - | - | - | - | - | - | - | - | - | (250 | ) | (250 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Net loss |
- | - | - | - | - | - | - | - | - | - | - | - | (3,124 | ) | (3,124 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Balance at March 31, 2020 |
37,467 | - | - | - | 239,400 | 2 | 123,753,176 | 1,237 | (6,704 | ) | (64 | ) | 196,373 | (1,710 | ) | (207,482 | ) | (11,644 | ) | |||||||||||||||||||||||||||||||||||||
|
Accretion of Preferred Stock discount |
- | - | - | - | - | - | - | - | - | - | (172 | ) | - | - | (172 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock net of financing costs |
- | - | - | - | - | - | 2,500,000 | 25 | - | - | 215 | - | - | 240 | ||||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock for financing facility |
- | - | - | - | - | - | 2,500,000 | 25 | - | - | 375 | - | - | 400 | ||||||||||||||||||||||||||||||||||||||||||
|
Stock-based compensation expense |
- | - | - | - | - | - | - | - | - | - | 40 | - | - | 40 | ||||||||||||||||||||||||||||||||||||||||||
|
Common stock issued in exchange for unexercised options |
- | - | - | - | - | - | 288,695 | 3 | - | - | 93 | - | - | 96 | ||||||||||||||||||||||||||||||||||||||||||
|
Foreign currency translation adjustment |
- | - | - | - | - | - | - | - | - | - | - | (64 | ) | - | (64 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Additional minimum pension liability |
- | - | - | - | - | - | - | - | - | - | - | - | - | - | ||||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A preferred stock, $(25.01)/share |
- | - | - | - | - | - | - | - | - | - | - | - | (937 | ) | (937 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series B preferred stock, $(0.11)/share |
- | - | - | - | - | - | - | - | - | - | - | - | (25 | ) | (25 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series C preferred stock, $(250.00)/share |
- | - | - | - | - | - | - | - | - | - | - | - | (250 | ) | (250 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Net loss |
- | - | - | - | - | - | - | - | - | - | - | - | (2,902 | ) | (2,902 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Balance at June 30, 2020 |
37,467 | - | - | - | 239,400 | 2 | 129,041,871 | 1,290 | (6,704 | ) | (64 | ) | 196,924 | (1,774 | ) | (211,596 | ) | (15,218 | ) | |||||||||||||||||||||||||||||||||||||
|
Accretion of Preferred Stock discount |
- | - | - | - | - | - | - | - | - | - | (170 | ) | - | - | (170 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Issuance of common stock net of financing costs |
- | - | - | - | - | - | 3,200,000 | 32 | - | - | 601 | - | - | 633 | ||||||||||||||||||||||||||||||||||||||||||
|
Modification of Series A Preferred Stock from issuance of Series A-1 Preferred Stock |
(18,550 | ) | - | 18,550 | - | - | - | - | - | - | - | 1,849 | - | - | 1,849 | |||||||||||||||||||||||||||||||||||||||||
|
Stock-based compensation expense |
- | - | - | - | - | - | 74,448 | 1 | - | - | 121 | - | - | 122 | ||||||||||||||||||||||||||||||||||||||||||
|
Common stock issued in exchange for unexercised options |
- | - | - | - | - | - | 12,750 | - | - | - | 5 | - | - | 5 | ||||||||||||||||||||||||||||||||||||||||||
|
Foreign currency translation adjustment |
- | - | - | - | - | - | - | - | - | - | - | (41 | ) | - | (41 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Conversion of Preferred Series A-1 to common stock |
- | - | (350 | ) | - | - | - | 538,452 | 5 | - | - | (5 | ) | - | - | - | ||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series A preferred stock, $(1.17)/share |
- | - | - | - | - | - | 219,374 | 2 | - | - | 22 | - | - | 24 | ||||||||||||||||||||||||||||||||||||||||||
|
Dividends on Series C preferred stock, $(75.00)/share |
- | - | - | - | - | - | 5,176,734 | 52 | - | - | 523 | - | (75 | ) | 500 | |||||||||||||||||||||||||||||||||||||||||
|
Net loss |
- | - | - | - | - | - | - | - | - | - | - | - | (626 | ) | (626 | ) | ||||||||||||||||||||||||||||||||||||||||
|
Balance at September 30, 2020 |
18,917 | $ | - | 18,200 | $ | - | 239,400 | $ | 2 | 138,263,629 | $ | 1,382 | (6,704 | ) | $ | (64 | ) | 199,870 | $ | (1,815 | ) | $ | (212,297 | ) | $ | (12,922 | ) | |||||||||||||||||||||||||||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
(Unaudited)
|
Nine Months Ended September 30, |
||||||||
|
2021 |
2020 |
|||||||
|
Cash flows from operating activities |
||||||||
|
Net income (loss) |
$ | 9,871 | $ | (6,652 |
) |
|||
|
Adjustments to reconcile net income (loss) to net cash used in operating activities: |
||||||||
|
Depreciation and amortization |
43 | 54 | ||||||
|
Loss on disposal of fixed assets |
82 | — | ||||||
|
Stock-based compensation |
942 | 449 | ||||||
|
Issuance of common stock as compensation in lieu of cash |
46 | — | ||||||
|
Deferred stock issuance costs |
364 | — | ||||||
|
Application of rent deposit in lieu of cash payments |
— | 89 | ||||||
|
Gain on extinguishment of debt and derivative liability, net |
(1,270 |
) |
— | |||||
|
Change in fair value of derivative liabilities |
(16,558 |
) |
(369 |
) |
||||
|
Change in assets and liabilities: |
||||||||
|
Accounts receivable |
133 | 184 | ||||||
|
Inventory |
(45 |
) |
593 | |||||
|
Other assets |
(264 |
) |
36 | |||||
|
Operating lease right-of-use assets |
(31 |
) |
(13 |
) |
||||
|
Accounts payable |
(304 |
) |
863 | |||||
|
Deferred revenue |
302 | (374 |
) |
|||||
|
Accrued expense |
(116 |
) |
37 | |||||
|
Pension obligation |
41 | 124 | ||||||
|
Net cash used in operating activities |
(6,764 |
) |
(4,979 |
) |
||||
|
Cash flows from investing activities |
||||||||
|
Purchase of property and equipment |
(48 |
) |
— | |||||
|
Net cash used in investing activities |
(48 |
) |
— | |||||
|
Cash flows from financing activities |
||||||||
|
Proceeds from issuance of Common Stock, net |
100 | 2,296 | ||||||
|
Proceeds from issuance of related party notes payable |
— | 900 | ||||||
|
Proceeds from issuance of note payable to bank |
— | 3,758 | ||||||
|
Dividends paid |
(25 |
) |
(25 |
) |
||||
|
Proceeds from exercised stock options |
— | — | ||||||
|
Net cash provided by financing activities |
75 | 6,929 | ||||||
|
Effect of exchange rate changes on cash and cash equivalents |
64 | (74 |
) |
|||||
|
Net increase (decrease) in cash and cash equivalents |
(6,673 |
) |
1,876 | |||||
|
Cash and cash equivalents at beginning of period |
8,345 | 1,030 | ||||||
|
Cash and cash equivalents at end of period |
$ | 1,672 | $ | 2,906 | ||||
|
Supplemental disclosure of cash flow information: |
||||||||
|
Cash paid for interest |
$ | — | $ | 35 | ||||
|
Cash paid for income taxes |
$ | — | $ | — | ||||
|
Summary of non-cash investing and financing activities: |
||||||||
|
Issuance of common stock for financing facility |
$ | 70 | $ | 400 | ||||
|
Stock dividends on Series A Convertible Preferred Stock |
$ | 150 | $ | 25 | ||||
|
Stock dividends on Series A-1 Convertible Preferred Stock |
$ | 108 | $ | — | ||||
|
Stock dividends on Series C Convertible Redeemable Preferred Stock |
$ | — | $ | 575 | ||||
|
Stock dividends on Series D Convertible Redeemable Preferred Stock |
$ | 748 | $ | — | ||||
|
Conversion of Series A-1 into Common Stock |
$ | — | $ | 5 | ||||
|
Accretion of discount on Series C Convertible Redeemable Preferred Stock |
$ | — | $ | 517 | ||||
|
Accretion of discount on Series D Convertible Redeemable Preferred Stock |
$ | 3,549 | $ | — | ||||
|
Preferred stock exchange |
$ | — | $ | 2,272 | ||||
|
Conversion of Series A Convertible Preferred Stock into Common Stock |
$ | 745 | $ | — | ||||
|
Conversion of Series A-1 Convertible Preferred Stock into Common Stock |
$ | 739 | $ | — | ||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1. DESCRIPTION OF BUSINESS AND OPERATIONS
Overview
As used in this Quarterly Report, “we”, “us”, “our”, “ImageWare”, “ImageWare Systems” or the “Company” refers to ImageWare Systems, Inc. and all of its subsidiaries. ImageWare Systems, Inc. is incorporated in the state of Delaware. The Company is a pioneer and leader in the emerging market for biometrically enabled software-based identity management solutions. Using those human characteristics that are unique to us all, the Company creates software that provides a highly reliable indication of a person’s identity. The Company’s “flagship” product is the patented IWS Biometric Engine®. The Company’s products are used to manage and issue secure credentials, including national IDs, passports, driver licenses and access control credentials. The Company’s products also provide law enforcement with integrated mug shot, fingerprint LiveScan and investigative capabilities. The Company also provides comprehensive authentication security software using biometrics to secure physical and logical access to facilities or computer networks or internet sites. Biometric technology is now an integral part of all markets the Company addresses, and all the products are integrated into the IWS Biometric Engine.
The Company's common stock, par value $0.01 per share (the "Common Stock"), trades under the symbol "IWSY" on the OTCQB Marketplace.
Recent Developments
As reported in the Company’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission (the "SEC") on August 23, 2021, on August 12, 2021, the Company retained an investment bank to initiate a review of available alternatives to maximize shareholder value, which may include, among other alternatives, (i) a merger, consolidation, or other business combination or a purchase involving all or a substantial amount of the business, securities or assets of the Company, and/or (ii) the private placement of securities to meet its working capital requirements or otherwise as necessary in connection with the consummation of any of the above transactions. No assurances can be given that the Company will be successful in consummating any or a combination of such alternatives. The consummation of a transaction will likely involve substantial dilution to the Company’s stockholders, and may result in the loss of your entire investment. In the event the Company is unable to consummate one or more transactions, the Company may not be able to continue as a going concern.
Going Concern and Management’s Plan
Historically, our principal sources of cash have included proceeds from the issuance of common and preferred stock and proceeds from the issuance of debt, and, to a lesser extent, customer payments from the sale of our products. Our principal uses of cash have included cash used in operations, product development, and payments relating to purchases of property and equipment. We expect that our principal uses of cash in the future will be for product development, including customization of identity management products for enterprise and consumer applications, further development of intellectual property, development of Software-as-a-Service (“SaaS”) capabilities for existing products as well as general working capital requirements. Management expects that, as our revenue grows, our sales and marketing and research and development expense will continue to grow, albeit at a slower rate and, as a result, we will need to generate significant net revenue to achieve and sustain positive cash flows from operations. Historically the Company has not been able to generate sufficient net revenue to achieve and sustain positive cash flows from operations. As a result, the Company has been dependent on equity and debt financings to satisfy its working capital requirements and continue as a going concern. Due to the Company’s deteriorating liquidity, management has determined that there is substantial doubt about the Company’s ability to continue as a going concern.
At September 30, 2021 and December 31, 2020, we had negative working capital of $8,280,000 and $19,349,000, respectively. Included in our negative working capital as of September 30, 2021 are $7,486,000 of derivative liabilities which are not required to be settled in cash except in the event of the consummation of a change of control or at any time after the fourth anniversary of the Series D Preferred issuance, at which time the holders of the Series D Preferred may require the Company to redeem in cash any or all of the holder’s outstanding Series D Preferred at an amount equal to the Series D Liquidation Preference Amount. At September 30, 2021 the Liquidation Preference Amount totaled $22,965. Considering the financings consummated in 2020 and 2021, as well as our projected cash requirements, and assuming we are unable to generate incremental revenue, our available cash will be insufficient to satisfy our cash requirements for the next twelve months from the date of this filing. At November 4, 2021, cash on hand approximated $1,243,000. Based on the Company’s rate of cash consumption in the first three quarters of 2021 and the last quarter of 2020, the Company estimates it will need additional capital in the first quarter of 2022 and its prospects for obtaining that capital are uncertain. As a result of the Company’s historical losses and financial condition, there is substantial doubt about the Company’s ability to continue as a going concern.
To address our working capital requirements, management has instituted several cost cutting measures and has utilized cash proceeds available under the purchase agreement with Lincoln Park Capital Fund, LLC (“Lincoln Park”) to satisfy its working capital requirements (“LPC Purchase Agreement”). In addition, as reported in the Company’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission (the "SEC") on August 23, 2021, on August 12, 2021, the Company retained an investment bank to initiate a review of available alternatives to maximize shareholder value, which may include, among other alternatives, (i) a merger, consolidation, or other business combination or a purchase involving all or a substantial amount of the business, securities or assets of the Company, and/or (ii) the private placement of securities to meet its working capital requirements or otherwise as necessary in connection with the consummation of any of the above transactions. Other than the LPC Purchase Agreement with Lincoln Park, there are currently no financing arrangements to support our projected cash shortfall, and available capital under the LPC Purchase Agreement will be insufficient to address our working capital needs. We currently have no other commitments to purchase additional debt and/or equity securities, or other agreements, and no assurances can be given that we will be successful in raising additional debt and/or equity securities, or entering into any other transaction that addresses our ability to continue as a going concern. The consummation of a transaction will likely involve substantial dilution to the Company’s stockholders.
In view of the matters described in the preceding paragraphs, recoverability of a major portion of the recorded asset amounts shown in the accompanying consolidated balance sheet is dependent upon continued operations of the Company, which, in turn, is dependent upon the Company’s ability to continue to raise capital, generate positive cash flows from operations, or otherwise consummate a transaction that addresses the Company’s working capital requirements. However, the Company operates in markets that are emerging and highly competitive. There is no assurance that the Company will be able to obtain additional capital, consummate a transaction that addresses its liquidity concerns, or operate at a profit or generate positive cash flows in the future. Therefore, management’s plans do not alleviate the substantial doubt of the Company’s ability to continue as a going concern.
The condensed consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts and classifications of liabilities that might be necessary should the Company be unable to continue as a going concern.
NOTE 2. SIGNIFICANT ACCOUNTING POLICIES AND BASIS OF PRESENTATION
Basis of Presentation
The accompanying condensed consolidated balance sheet as of December 31, 2020, which has been derived from audited financial statements, and the unaudited interim condensed consolidated financial statements have been prepared by the Company in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and the rules and regulations of the SEC related to a quarterly report on Form 10-Q. Certain information and note disclosures normally included in annual financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made are adequate to make the information not misleading. The interim financial statements reflect all adjustments, which, in the opinion of management, are necessary for a fair statement of the results for the periods presented. All such adjustments are of a normal and recurring nature. These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s audited financial statements for the year ended December 31, 2020, which are included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020 as filed with the SEC on April 5, 2021.
Operating results for the nine months ended September 30, 2021 are not necessarily indicative of the results that may be expected for the year ending December 31, 2021, or any other future periods.
Significant Accounting Policies
Principles of Consolidation
The condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. The Company’s wholly-owned subsidiaries are: XImage Corporation, a California Corporation; ImageWare Systems ID Group, Inc., a Delaware corporation (formerly Imaging Technology Corporation); I.W. Systems Canada Company, a Nova Scotia unlimited liability company; ImageWare Digital Photography Systems, LLC, a Nevada limited liability company (formerly Castleworks LLC); Digital Imaging International GmbH, a company formed under German laws; and Image Ware Mexico S de RL de CV, a company formed under Mexican laws. All significant intercompany transactions and balances have been eliminated.
Use of Estimates
The preparation of the condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements, and the reported amounts of revenue and expense during the reporting period. Significant estimates include the evaluation of our ability to continue as a going concern, the allowance for doubtful accounts receivable, assumptions used in the Black-Scholes model to calculate the fair value of share based payments, fair value of financial instruments issued with and affected by the Series D Preferred Financing, assumptions used in the application of revenue recognition policies, and assumptions used in the application of fair value methodologies to calculate the fair value of pension assets and obligations. Actual results could differ from estimates.
Accounts Receivable
In the normal course of business, the Company extends credit without collateral requirements to its customers that satisfy pre-defined credit criteria. Accounts receivable are recorded net of an allowance for doubtful accounts. Accounts receivable are considered delinquent when the due date on the invoice has passed. The Company records its allowance for doubtful accounts based upon its assessment of various factors. The Company considers historical experience, the age of the accounts receivable balances, the credit quality of its customers, current economic conditions and other factors that may affect customers’ ability to pay to determine the level of allowance required. Accounts receivable are written off against the allowance for doubtful accounts when all collection efforts by the Company have been unsuccessful.
Inventories
Finished goods inventories are stated at the lower of cost, determined using the average cost method, or net realizable value. See Note 4.
Fair Value of Financial Instruments
For certain of the Company’s financial instruments, including accounts receivable, accounts payable, accrued expense, and deferred revenue, the carrying amounts approximate fair value due to their relatively short maturities.
Lease Liabilities and Operating Lease Right-of-Use Assets
The Company is a party to certain contractual arrangements for office space which meet the definition of leases under Accounting Standards Codification (“ASC”) Topic 842 - Leases (“ASC 842”). In accordance with ASC 842, the Company has determined that such arrangements are operating leases and accordingly the Company has, as of January 1, 2019, initially recorded operating lease right-of-use assets and related lease liability for the present value of the lease payments over the lease terms using the Company’s estimated weighted-average incremental borrowing rate of approximately 14.5% using a capital asset pricing model. The Company has utilized the practical expedient regarding lease and nonlease components and has combined such items into a single combined component. The Company has also utilized the practical expedient regarding leases of twelve months or less and has excluded such leases from its computation of lease liability and related right-of-use assets.
Revenue Recognition
In accordance with ASC 606, revenue is recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services.
The core principle of the standard is that we should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. To achieve that core principle, we apply the following five step model:
|
1. |
Identify the contract with the customer; |
| 2. |
Identify the performance obligation in the contract; |
| 3. |
Determine the transaction price; |
| 4. |
Allocate the transaction price to the performance obligations in the contract; and |
| 5. |
Recognize revenue when (or as) each performance obligation is satisfied. |
At contract inception, we assess the goods and services promised in a contract with a customer and identify as a performance obligation each promise to transfer to the customer either: (i) a good or service (or a bundle of goods or services) that is distinct, or (ii) a series of distinct goods or services that are substantially the same and that have the same pattern of transfer to the customer. We recognize revenue only when we satisfy a performance obligation by transferring a promised good or service to a customer.
Determining the timing of the satisfaction of performance obligations as well as the transaction price and the amounts allocated to performance obligations requires judgement.
We disclose disaggregation of our customer revenue by classes of similar products and services as follows:
|
• |
Software licensing and royalties; |
|
• |
Sales of computer hardware and identification media; |
|
• |
Services; and |
|
• |
Post-contract customer support. |
Software Licensing and Royalties
Software licenses consist of revenue from the sale of software for identity management applications. Our software licenses are functional intellectual property and typically provide customers with the right to use our software in perpetuity as it exists when made available to the customer. We recognize revenue from software licensing at a point in time upon delivery, provided all other revenue recognition criteria are met.
Royalties consist of revenue from usage-based arrangements and guaranteed minimum-based arrangements. We recognize revenue for royalty arrangements at the later of (i) when the related sales occur, or (ii) when the performance obligation to which some or all of the royalty has been allocated has been satisfied.
Computer Hardware and Identification Media
We generate revenue from the sale of computer hardware and identification media. Revenue for these items is recognized upon delivery of these products to the customer, provided all other revenue recognition criteria are met.
Services
Services revenue is comprised primarily of software customization services, software integration services, system installation services and customer training. Revenue is generally recognized upon completion of services and customer acceptance provided all other revenue recognition criteria are met.
Post-Contract Customer Support (“PCS”)
Post contract customer support consists of maintenance on software and hardware for our identity management solutions. We recognize PCS revenue from periodic maintenance agreements. Revenue is generally recognized ratably over the respective maintenance periods provided no significant obligations remain. Costs related to such contracts are expensed as incurred.
Arrangements with Multiple Performance Obligations
A performance obligation is a promise in a contract to transfer a distinct good or service to the customer. In addition to selling software licenses, hardware and identification media, services and post-contract customer support on a standalone basis, certain contracts include multiple performance obligations. For such arrangements, we allocate revenue to each performance obligation based on our best estimate of the relative standalone selling price. The standalone selling price for a performance obligation is the price at which we would sell a promised good or service separately to a customer. The primary methods used to estimate standalone selling price are as follows: (i) the expected cost-plus margin approach, under which we forecast our expected costs of satisfying a performance obligation and then add an appropriate margin for that distinct good or service, and (ii) the percent discount off of list price approach.
Contract Costs
We recognize an asset for the incremental costs of obtaining a contract with a customer if we expect the benefit of those costs to be longer than one year. We apply a practical expedient to expense costs as incurred for costs to obtain a contract when the amortization period is one year or less. At September 30, 2021 and December 31, 2020, we had capitalized incremental costs of obtaining a contract with a customer of approximately $0 and $65,000, respectively. We recorded no additional contract costs during the three and nine months ended September 30, 2021. Additionally, we recognized approximately $121,000 and $366,000 in revenue during the three and nine months ended September 30, 2021, respectfully, that was related to contract costs at the beginning of the period.
Other Items
We do not offer rights of return for our products and services in the normal course of business.
Sales tax collected from customers is excluded from revenue.
The following table sets forth our disaggregated revenue for the three and nine months ended September 30, 2021 and 2020:
| Net Revenue |
Three Months Ended September 30, |
Nine Months Ended September 30, |
||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
2021 |
2020 |
||||||||||||
|
Software and royalties |
$ | 40 | $ | 587 | $ | 301 | $ | 780 | ||||||||
|
Hardware and consumables |
20 | 13 | 76 | 75 | ||||||||||||
|
Services |
85 | 1,258 | 98 | 1,274 | ||||||||||||
|
Maintenance |
633 | 613 | 1,977 | 1,870 | ||||||||||||
|
Total revenue |
$ | 778 | $ | 2,471 | $ | 2,452 | $ | 3,999 | ||||||||
Customer Concentration
For the three months ended September 30, 2021, two customers accounted for approximately 53% or $411,000 of our total revenue and had trade receivables at September 30, 2021 of $93,000. For the nine months ended September 30, 2021, two customers accounted for approximately 44% or $1,078,000 of our total revenue and had trade receivables at September 30, 2021 of $223,000.
For the three months ended September 30, 2020, two customers accounted for approximately 82% or $2,037,000 of our total revenue and had trade receivables at September 30, 2020 of $193,000. For the nine months ended September 30, 2020, two customers accounted for approximately 65% or $2,588,000 of our total revenue and had trade receivables at September 30, 2020 of $193,000.
Recently Issued Accounting Standards
From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (“FASB”), or other standard setting bodies, which are adopted by us as of the specified effective date. Unless otherwise discussed, the Company’s management believes the impact of recently issued standards not yet effective will not have a material impact on the Company’s consolidated financial statements upon adoption.
FASB Accounting Standards Update (“ASU”) No. 2020-06. In August 2020, the FASB issued ASU 2020-06 “Debt-Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging- Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity”. This ASU simplifies accounting for convertible instruments by removing major separation models required under current U.S. GAAP. Consequently, more convertible debt instruments will be reported as a single liability instrument and more convertible preferred stock as a single equity instrument with no separate accounting for embedded conversion features. The ASU removes certain settlement conditions that are required for equity contracts to qualify for the derivative scope exception, which will permit more equity contracts to qualify for it. The ASU also simplifies the diluted earnings per share (EPS) calculation in certain areas. This ASU is effective for public business entities, excluding entities eligible to be smaller reporting companies, for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years. For all other entities, the standard will be effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption will be permitted. The Company is currently evaluating the impact ASU 2020-06 will have on its consolidated financial statements.
NOTE 3. NET INCOME (LOSS) PER COMMON SHARE
Basic income (loss) per common share is calculated by dividing net income (loss) available to common shareholders for the period by the weighted-average number of common shares outstanding during the period. Diluted income (loss) per common share is calculated by dividing net loss available to common shareholders for the period by the weighted-average number of common shares outstanding during the period, adjusted to include, if dilutive, potential dilutive shares consisting of convertible preferred stock, stock options and warrants, calculated using the treasury stock and if-converted methods. For diluted income (loss) per share calculation purposes, the net income (loss) available to common shareholders is adjusted to add back any preferred stock dividends and any interest on convertible debt reflected in the condensed consolidated statement of income (loss) for the respective periods.
The table below presents the computation of basic and diluted income (loss) per share:
|
(Amounts in thousands except share and per share amounts) |
Three Months Ended September 30, |
Nine Months Ended September 30, |
||||||||||||||
|
2021 |
2020 |
2021 |
2020 |
|||||||||||||
|
Numerator for basic and diluted income (loss) per share: |
||||||||||||||||
|
Net income (loss) |
$ | 490 | $ | (626 |
) |
$ | 9,871 | $ | (6,652 | ) | ||||||
|
Preferred dividends, deemed dividends and accretion |
(1,935 |
) |
(2,529 |
) |
(6,260 |
) |
(5,275 | ) | ||||||||
|
Net income (loss)available to common shareholders |
$ | (1,445 |
) |
$ | (3,155 |
) |
$ | 3,611 | $ | (11,927 | ) | |||||
|
Effective of dilutive securities: |
||||||||||||||||
|
Preferred dividends, deemed dividends and accretion |
— | — | — | — | ||||||||||||
|
Net income (loss) available to common shareholders after assumed conversions |
(1,445 | ) | (3,155 | ) | 3,611 | (11,927 | ) | |||||||||
|
Denominator for basic income (loss) per share – weighted-average shares outstanding |
340,384,468 | 133,341,134 | 326,458,778 | 125,558,524 | ||||||||||||
|
Effect of dilutive securities: |
||||||||||||||||
|
Options |
— | — | 82,942,500 | — | ||||||||||||
|
Warrants |
— | — | 2,919,631 | — | ||||||||||||
|
Convertible preferred stock |
— | — | — | — | ||||||||||||
|
Denominator for diluted income (loss) – adjusted weighted average shares and assumed conversions |
340,384,468 | 133,341,134 | 412,320,909 | 125,558,524 | ||||||||||||
|
Basic income (loss) per share available to common shareholders |
$ | (0.00 |
) |
$ | (0.02 |
) |
$ | 0.01 | $ | (0.09 | ) | |||||
|
Diluted income (loss) per share available to common shareholders |
$ | (0.00 |
) |
$ | (0.02 |
) |
$ | 0.01 | $ | (0.09 | ) | |||||
The following table sets forth Common share equivalents at September 30, 2021 and December 31, 2020:
|
Potential Dilutive Securities: |
Common Share Equivalents at September 30, 2021 |
Common Share Equivalents at December 31, 2020 |
||||||
|
Convertible redeemable preferred stock - Series A |
- | 74,555,000 | ||||||
|
Convertible redeemable preferred stock - Series A-1 |
- | 73,910,000 | ||||||
|
Convertible redeemable preferred stock - Series B |
47,001 | 46,029 | ||||||
|
Convertible redeemable preferred stock - Series D |
393,917,667 | 392,166,023 | ||||||
|
Stock options |
83,144,875 | 2,585,500 | ||||||
|
Restricted stock units (RSUs) |
83,802 | 845,106 | ||||||
|
Warrants |
3,150,000 | 753,775 | ||||||
|
Total Potential Dilutive Securities |
480,343,345 | 544,861,433 | ||||||
NOTE 4. SELECT BALANCE SHEET DETAILS
Inventory
Inventories of $85,000 as of September 30, 2021 were comprised of work in process of $27,000, representing direct labor costs on in-process projects and finished goods of $58,000 net of reserves for obsolete and slow-moving items of $3,000.
Inventories of $40,000 as of December 31, 2020 were comprised of work in process of $26,000, representing direct labor costs on in-process projects and finished goods of $14,000 net of reserves for obsolete and slow-moving items of $3,000.
Appropriate consideration is given to obsolescence, excessive levels, deterioration and other factors in evaluating net realizable value and required reserve levels.
Intangible Assets
The carrying amounts of the Company’s patent intangible assets were $49,000 and $58,000 as of September 30, 2021 and December 31, 2020, respectively, which includes accumulated amortization of $610,000 and $601,000 as of September 30, 2021 and December 31, 2020, respectively. Amortization expense for patent intangible assets was $3,000 and $9,000 for the three and nine months ended September 30, 2021 and 2020, respectively. Patent intangible assets are being amortized on a straight-line basis over their remaining life of approximately 4.08 years. There was no impairment of the Company’s intangible assets during the three and nine months ended September 30, 2021 and 2020.
The estimated intangible amortization expense for the next five fiscal years is as follows:
|
Fiscal Year Ended December 31, |
Estimated Amortization Expense ($ in thousands) |
|||
|
2021 (three months) |
$ | 3 | ||
|
2022 |
12 | |||
|
2023 |
12 | |||
|
2024 |
12 | |||
|
2025 |
10 | |||
|
Total |
$ | 49 | ||
Goodwill
The Company annually, or more frequently if events or circumstances indicate a need, tests the carrying amount of goodwill for impairment. The Company performs its annual impairment test in the fourth quarter of each year. In December 2018, the Company adopted the provisions of ASU 2017-04, "Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment". The provisions of ASU 2017-04 eliminate the requirement to calculate the implied fair value of goodwill to measure a goodwill impairment charge. Instead, entities will record an impairment charge based on the excess of a reporting unit's carrying amount over its fair value. Entities that have reporting units with zero or negative carrying amounts, will no longer be required to perform a qualitative assessment assuming they pass the simplified impairment test. The Company continues to have only one reporting unit, Identity Management which, at September 30, 2021, had a negative carrying amount of approximately $13,748,000. Based on the results of the Company's impairment testing, the Company determined that its goodwill was not impaired as of September 30, 2021 and December 31, 2020.
Other Assets
In conjunction with the 2021 LPC Purchase Agreement, the Company issued to Lincoln Park, in May 2021, 1,000,000 shares of Common Stock as consideration for entering into the Purchase Agreement. Pursuant to this issuance, the Company recorded $70,000 as a deferred stock issuance cost. Such deferred stock issuance costs will be recognized as a charge against paid in capital in proportion to securities sold under this Purchase Agreement. At September 30, 2021, the Company had approximately $70,000 in deferred stock issuance costs included in the caption “Other assets” in its condensed consolidated balance sheets. During the three and nine months ended September 30, 2021, there were 0 shares and 1,000,000 shares of Common Stock sold by the Company under the 2021 LPC Purchase Agreement. The 2021 LPC Purchase Agreement supersedes and terminates the previous agreement between the Company and Lincoln Park entered into on June 11, 2020.
In conjunction with a securities purchase agreement entered into with 2020 LPC Purchase Agreement, the Company issued to Lincoln Park, in May 2020, 2,500,000 shares of Common Stock as consideration for entering into the 2020 LPC Purchase Agreement. Pursuant to this issuance, the Company recorded $400,000 as a deferred stock issuance cost. Such deferred stock issuance costs will be recognized as a charge against paid in capital in proportion to securities sold under the 2020 LPC Purchase Agreement.
Due to the termination of the 2020 LPC Purchase Agreement, effectuated by the consummation of the 2021 LPC Purchase Agreement, the Company wrote-off and recorded operating expense of approximately $364,000 representing the unamortized capitalized deferred stock issuance costs remaining under the 2020 LPC Purchase Agreement during the nine months ended September 30, 2021.
NOTE 5. LEASES
The Company is a party to certain contractual arrangements for office space which meet the definition of leases under ASC 842 - Leases. In accordance with ASC 842, the Company has determined that such arrangements are operating leases and accordingly the Company has, as of January 1, 2019, initially recorded operating lease right-of-use assets and related lease liability for the present value of the lease payments over the lease terms using the Company’s estimated weighted-average incremental borrowing rate of approximately 14.5% as the discount rates implicit in the Company’s leases cannot be readily determined. At December 31, 2020, such assets and liabilities aggregated approximately $1,557,000 and $1,718,000, respectively. At September 30, 2021, such assets and liabilities aggregated approximately $1,278,000 and $1,409,000, respectively. The Company determined that it had no arrangements representing finance leases.
Our corporate headquarters is located in San Diego, California, where we now occupy approximately 500 square feet of office space at a cost of approximately $2,000 per month. We entered into this facility’s lease in February 2021, with the new lease commencing on March 1, 2021 on a month-to-month basis. In addition to our corporate headquarters, we also occupied the following spaces at September 30, 2021:
|
● |
9,720 square feet in Portland, Oregon, at a cost of approximately $23,000 per month until the expiration of the lease on February 28, 2023. |
Prior to entering into our current lease agreement in January 2021 and moving our corporate headquarters to a new location, we occupied 8,511 square feet of office space in San Diego, at a cost of approximately $28,000 per month. In January 2021, we entered in a subleasing agreement for our previously occupied corporate headquarters located in San Diego, California. The term of the sublease commenced on April 1, 2021 and expires on April 30, 2025 coterminous with the expiration of the Company’s master lease. Sublease payments due the Company approximate $26,000 per month over the term of the sublease.
The above leases contain no residual value guarantees provided by the Company and there are no options to either extend or terminate the leases.
For the three months ended September 30, 2021 and 2020, the Company recorded approximately $162,000 and $169,000, respectively, in lease expense using the straight-line method. For the nine months ended September 30, 2021 and 2020, the Company recorded approximately $492,000 and $508,000 respectively, in lease expense using the straight-line method. Under the provisions of ASC 842, lease expense is comprised of the total lease payments under the lease plus any initial direct costs incurred less any lease incentives received by the lessor amortized ratably using the straight-line method over the lease term. The weighted-average remaining lease term of the Company’s operating leases as of September 30, 2021 is 1.7 years. Cash payments under operating leases aggregated approximately $165,000 and $504,000, respectively, for the three and nine months ended September 30, 2021 and $162,000 and $485,000, respectively, for the comparable periods in 2020, and are included in operating cash flows.
The Company’s lease liability was computed using the present value of future lease payments. The Company has utilized the practical expedient regarding lease and non-lease components and combined such components into a single combined component in the determination of the lease liability. The Company has excluded the lease of its office space in Mexico City, Mexico in the determination of the lease liability as its term is less than 12 months.
At September 30, 2021, future minimum undiscounted lease payments are as follows:
|
($ in thousands) |
||||
|
2021 (three months) |
$ | 161 | ||
|
2022 |
652 | |||
|
2023 |
424 | |||
|
2024 |
387 | |||
|
2025 |
132 | |||
|
Total |
1,756 | |||
|
Present Value effect on future minimum undiscounted lease payments at September 30, 2021 |
(347 |
) |
||
|
Lease liability at September 30, 2021 |
1,409 | |||
|
Less current portion |
(494 |
) |
||
|
Non-current lease liability at September 30, 2021 |
$ | 915 |
NOTE 6. MEZZANINE EQUITY
Series C Convertible Redeemable Preferred Stock
On September 18, 2018, the Company filed the Series C Certificate with the Secretary of State for the State of Delaware designating 1,000 shares of the Company’s preferred stock, par value $0.01 per shares, as Series C Preferred, each share with a stated value of $10,000 per share. The Company noted that the Series C Preferred instruments were hybrid instruments that contained several embedded features. The Company evaluated the identified embedded features of the Series C Preferred host instrument and determined that certain features met the definition of and contained the characteristics of derivative financial instruments requiring bifurcation at fair value from the host instrument. The Company has bifurcated from the Series C Preferred host instrument the conversion options, redemption option and participating dividend feature in accordance with the guidance in ASC 815. These bifurcated features aggregated approximately $833,000 at issuance and were recorded by the Company as a discount to the Series C Preferred.
For the three and nine months ended September 30, 2020, the Company recorded the accretion of debt issuance costs and derivative liabilities aggregating approximately $170,000 and $517,000, respectively. Concurrently with the issuance of Series D Convertible Redeemable Preferred Stock (described below), all holders of Series C exchanged their shares for shares of Series D Preferred.
Series D Convertible Redeemable Preferred Stock
On November 12, 2020, the Company filed the Series D Certificate with the Secretary of State for the State of Delaware. Pursuant to the Series D Certificate, the Series D Preferred ranks senior to all Common Stock and all other present and future classes or series of capital stock, except for Series B Preferred, and upon liquidation will be entitled to receive the Liquidation Preference Amount (as defined in the Series D Certificate) plus any accrued and unpaid dividends, before the payment or distribution of the Company’s assets or the proceeds thereof is made to the holders of any junior securities. Additionally, dividends on shares of Series D Preferred will be paid prior to any junior securities, and are to be paid at the rate of 4% of the Stated Value (as defined in the Series D Certificate) per share per annum in the form of shares of Series D Preferred. Holders of Series D Preferred shall vote together with holders of Common Stock on an as-converted basis, and not as a separate class, except (i) the holders of Series D Preferred, voting as a separate class, shall be entitled to elect two directors, (ii) the holders of Series D Preferred have the right to vote as a separate class regarding the waiver of certain protective provisions set forth in the Series D Certificate, and (iii) as otherwise required by law.
The holders of Series D Preferred may voluntarily convert their shares of Series D Preferred into Common Stock at any time that is at least ninety days following the issuance date, at the conversion price calculated by dividing the Stated Value by the conversion price of $0.0583 per share of Common Stock, subject to adjustments as set forth in Section 5(e) of the Series D Certificate. The shares of Common Stock issuable upon conversion of the Series D Preferred shall be subject to the following registration rights: (i) one demand registration starting three months after the Closing, (ii) two demand registrations starting one year after the Closing, and (iii) unlimited piggy-back and Form S-3 registration rights with reasonable and customary terms.
If, on any date that is at least five (5) years following the Issuance Date, (i) the Common Stock is registered pursuant to Section 12(b) or (g) under the Exchange Act; (ii) there are sufficient authorized but unissued shares of Common Stock (which have not otherwise been reserved or committed for issuance) to permit the issuance of all Common Shares issuable upon conversion of all outstanding shares of Series D Preferred; (iii) upon issuance, the Common Shares will be either (A) covered by an effective registration statement under the Securities Act, which is then available for the immediate resale of such Common Shares by the recipients thereof, and the Board reasonably believes that such effectiveness will continue uninterrupted for the foreseeable future, or (B) freely tradable without restriction pursuant to Rule l44 promulgated under the Securities Act without volume or manner-of-sale restrictions or current public information requirements, as determined by the counsel to the Company as set forth in a written opinion letter to such effect, addressed and acceptable to the Transfer Agent and the affected holders; and (iv) the VWAP of a share of Common Stock is greater than 300% of the Conversion Price (as defined in Section 5(d) below) then in effect for a period of at least twenty (20) Trading Days in any period of thirty (30) consecutive Trading Days, then the Company shall have the right, subject to the terms and conditions, to convert (a “Mandatory Conversion”) all, but not less than all, of the issued and outstanding shares of Series D Preferred into Common Stock.
On the fourth anniversary of the Issuance Date, or in the event of the consummation of a Change of Control, if any shares of Series D Preferred are outstanding, then each holder of Series D Preferred shall have the right (the “Holder Redemption Right”), at such holder’s option, to require the Company to redeem all or any portion of such holder’s shares of Series D Preferred at the Liquidation Preference Amount per share of Series D Preferred plus an amount equal to all accrued but unpaid dividends, if any, (such price, the “Holder Redemption Price”), which Holder Redemption Price shall be paid in cash.
On November 12, 2020 (“Closing Date”), the Company consummated the Series D Financing, resulting in the sale of 11,560 shares of its Series D Preferred, resulting in gross proceeds to the Company of $11.56 million, less fees and expenses. The gross proceeds include approximately $2.2 million in principal amount due and payable under the terms of certain term loans issued by the Company on September 29, 2020 (“Bridge Note”), which Bridge Notes were converted into Series D Preferred at Closing (the “Conversion”). The issuance and sale of the Series D Preferred was made pursuant to that certain Securities Purchase Agreement, dated September 28, 2020 (the "Series D Purchase Agreement"), by and between the Company and the Investors, for the purchase price of $1,000 per share of Series D Preferred. The Conversion and Series D Financing was undertaken pursuant to Section 3(a)(9) and/or Rule 506 promulgated under the Securities Act of 1933, as amended (the "Securities Act"). On December 23, 2020, the Company sold an additional 500 shares of Series D Preferred resulting in gross proceeds to the Company of $500,000 less fees and expenses.
On the Closing Date, the Company exchanged approximately $661,000 of liabilities of the Company for 6613 shares of Series D Preferred, and received notice from the holders of a majority of the Series C Preferred (the “Series C Exchange Notice”) of their election to convert all of their shares of Series C Preferred into Series D Preferred, and further exercising their right to require all other holders of Series C Preferred to convert their shares of Series C Preferred into Series D Preferred (the “Series C Exchange”). Upon the consummation of the Series C Exchange in accordance with the terms of the Series C Exchange Notice, the Company issued an additional 10,000 shares of Series D Preferred in exchange for all 1,000 issued and outstanding shares of the Company’s Series C Preferred.
On December 31, 2020, the Company issued 142 shares of Series D Preferred Stock as payment of dividends due to the Series D Preferred stockholders. During the nine months ended September 30, 2021, the Company issued 748 shares of Series D Preferred Stock as payment of dividends due to the Series D Preferred stockholders. During the nine months ended September 30, 2021, certain holders of Series D Preferred converted 646 shares of Series D into 11,149,123 shares of Common Stock which includes 70,221 shares of common stock issued for dividends up to the date of conversion.
Guidance for accounting for freestanding financial instruments that contain characteristics of both liabilities and equity are contained in ASC 480, Distinguishing Liabilities From Equity and Accounting Series Release 268 (“ASR 268”) Redeemable Preferred Stocks. The Company evaluated the provisions of the Series D Preferred and determined that the provisions of the Series D Preferred grant the holders of the Series D Preferred a redemption right whereby the holders of the Series D Preferred may, at any time after the fourth anniversary of the Series D Preferred issuance, require the Company to redeem in cash any or all of the holder’s outstanding Series D Preferred at an amount equal to the Liquidation Preference Amount (“Liquidation Preference Amount”). The Liquidation Preference Amount is defined as the greater of the stated value of the Series D Preferred plus any accrued unpaid interest or such amount per share as would have been payable had each such share been converted into Common Stock. In the event of a Change of Control, the holders of Series D Preferred shall have the right to require the Company to redeem in cash all or any portion of such holder’s shares at the Liquidation Preference Amount. The Company has concluded that because the redemption features of the Series D Preferred are outside of the control of the Company, the instrument is to be recorded as temporary or mezzanine equity in accordance with the provisions of ASR 268.
The Company noted that the Series D Preferred instruments were hybrid instruments that contain several embedded features. In November 2014, the FASB issued ASU 2014-16 to amend ASC 815, “Derivatives and Hedging”, (“ASC 815”) and require the use of the whole instrument approach (described below) to determine whether the nature of the host contract in a hybrid instrument issued in the form of a share is more akin to debt or to equity.
The whole instrument approach requires an issuer or investor to consider the economic characteristics and risks of the entire hybrid instrument, including all of its stated and implied substantive terms and features. Under this approach, all stated and implied features, including the embedded feature being evaluated for bifurcation, must be considered. Each term and feature should be weighed based on the relevant facts and circumstances to determine the nature of the host contract. This approach results in a single, consistent determination of the nature of the host contract, which is then used to evaluate each embedded feature for bifurcation. That is, the host contract does not change as each feature is evaluated.
The revised guidance further clarifies that the existence or omission of any single feature, including an investor-held, fixed-price, noncontingent redemption option, does not determine the economic characteristics and risks of the host contract. Instead, an entity must base that determination on an evaluation of the entire hybrid instrument, including all substantive terms and features.
However, an individual term or feature may be weighed more heavily in the evaluation based on facts and circumstances. An evaluation of all relevant terms and features, including the circumstances surrounding the issuance or acquisition of the equity share, as well as the likelihood that an issuer or investor is expected to exercise any options within the host contract, to determine the nature of the host contract, requires judgement.
Using the whole instrument approach, the Company concluded that the host instrument of the Series D Preferred was more akin to debt than equity as the majority of identified features contain more characteristics of debt.
The Company evaluated the identified embedded features of the Series D Preferred host instrument and determined that certain features meet the definition of and contained the characteristics of derivative financial instruments requiring bifurcation at fair value from the host instrument.
The Company has bifurcated from the Series D Preferred host instrument the conversion options, redemption option and participating dividend feature in accordance with the guidance in ASC 815. These bifurcated features aggregated approximately $26,011,000 at issuance and have been recorded as a discount to the Series D. During the three and nine months ended September 30, 2021, the Company recorded the accretion of debt issuance costs and derivative liabilities aggregating approximately $1,665,000 and $5,214,000, respectfully, using the effective interest rate method as a deemed dividend.
The following table summarizes the share activity of Series D Preferred for the three months ended March 31, 2021, three months ended June 30, 2021 and the three months ended September 30, 2021:
|
Series D Convertible Redeemable Preferred |
||||
|
Total shares of Series D Preferred Stock - December 31, 2020 |
22,863 | |||
|
Conversion of Series D Preferred into Common Stock |
(354 |
) |
||
|
Issuance of Series D Preferred as payment of dividends due |
248 | |||
|
Total shares of Series D Preferred Stock - March 31, 2021 |
22,757 | |||
|
Conversion of Series D Preferred into Common Stock |
(50 |
) |
||
|
Issuance of Series D Preferred as payment of dividends due |
251 | |||
|
Total shares of Series D Preferred Stock - June 30, 2021 |
22,958 | |||
|
Conversion of Series D Preferred into Common Stock |
(242 |
) |
||
|
Issuance of Series D Preferred as payment of dividends due |
249 | |||
|
Total shares of Series D Preferred Stock - September 30, 2021 |
22,965 | |||
The carrying value of the Company’s Series D Preferred was approximately $6,973,000 and $1,572,000 net of discount of approximately $15,992,000 and $21,291,000 as of September 30, 2021 and December 31, 2020, respectively.
NOTE 7. DERIVATIVE LIABILITIES
The Company accounts for its derivative instruments under the provisions of ASC 815, “Derivatives and Hedging”. Under the provisions of ASC 815, the Company identified embedded features within the Series D Preferred host contracts that qualify as derivative instruments and require bifurcation.
The Company determined that the conversion option, redemption option and participating dividend feature contained in the Series D Preferred host instrument required bifurcation. The Company valued the bifurcatable features at fair value. Such liabilities aggregated approximately $7,486,000 and $24,128,000 at September 30, 2021 and December 31, 2020, respectively, and are classified as current liabilities on the Company’s condensed consolidated balance sheets under the caption “Derivative liabilities”. The Company will revalue these features at each balance sheet date and record any change in fair value in the determination of period net income or loss.
The change in fair value of such amounts are recorded in the caption “Change in fair value of derivative liabilities” in the Company’s condensed consolidated statements of income (loss). For the three and nine months ended September 30, 2021, the Company recorded a decrease to its derivative liabilities using fair value methodologies of approximately $1,342,000 and $16,558,000 related to Series D embedded derivatives. In conjunction with the conversion of 242 shares of Series D Preferred during the three months ended September 30, 2021, the Company recognized a gain of approximately $34,000. In conjunction with the conversion of 646 shares of Series D Preferred during the nine months ended September 30, 2021, the Company recognized a loss on the extinguishment of derivative liabilities of approximately $311,000.
The Company determined that the conversion option, redemption option and participating dividend feature contained in the Series C Preferred host instrument required bifurcation. The Company valued these bifurcatable features at fair value and such liabilities aggregated approximately $0 at September 30, 2020. There is no Series C Preferred outstanding at September 30, 2021. The change in fair value of such amounts are recorded in the caption “Change in fair value of derivative liabilities” in the Company’s condensed consolidated statements of operations. During the three and nine months ended September 30, 2020, the Company recorded a decrease to these derivative liabilities using fair value methodologies of approximately $535,000 and $369,000, respectively.
NOTE 8. NOTES PAYABLE
On May 4, 2020, the Company entered into a loan agreement (the “PPP Loan”) with Comerica Bank (“Comerica”) under the Paycheck Protection Program (the “PPP”), which is part of the CARES Act administered by the United States Small Business Administration (“SBA”). As part of the application for these funds, the Company in good faith, has certified that the current economic uncertainty made the loan request necessary to support the ongoing operations of the Company. This certification further requires the Company to take into account our current business activity and our ability to access other sources of liquidity sufficient to support ongoing operations in a manner that is not significantly detrimental to the business. Under the PPP, the Company received proceeds of approximately $1,571,000. In accordance with the requirements of the PPP, the Company utilized the proceeds from the PPP Loan primarily for payroll costs, rent and utilities. The PPP Loan has a 1.00% interest rate per annum, matures on May 4, 2022 and is subject to the terms and conditions applicable to loans administered by the SBA under the PPP. Under the terms of PPP, all or certain amounts of the PPP Loan may be forgiven if they are used for qualifying expenses as described in the CARES Act. In July 2021, the Company filed an application with the SBA requesting loan forgiveness. In September 2021, the Company received notification that the PPP Loan was forgiven in its entirety. Accordingly, the Company recorded a gain on debt extinguishment for the amount of the PPP Loan of $1,571,000 plus approximately $10,000 in accrued unpaid interest. Such amounts are recorded under the caption “(Gain) on extinguishment of derivative liabilities and debt” in the Company’s Condensed Consolidated Statements of Income (Loss) for the three and nine months ended September 30, 2021.
At December 31, 2020, the Company has recorded the current portion of the PPP Loan of approximately $918,000 as a current liability under the caption “Notes payable, current portion” in its condensed consolidated December 31, 2020 balance sheet. The remaining portion of approximately $653,000 is recorded as a long-term liability under the caption “Note payable, net of current portion” in its condensed consolidated December 31, 2020 balance sheet.
NOTE 9. EQUITY
The Company’s Certificate of Incorporation authorizes the issuance of two classes of stock to be designated “Common Stock” and “Preferred Stock”. The Preferred Stock may be divided into such number of series and with the rights, preferences, privileges and restrictions as the Board of Directors may determine.
On June 9, 2020, the Company amended its Certificate of Incorporation to increase the number of shares of the Company’s Common Stock and the number of shares of the Company’s Preferred Stock authorized thereunder from an aggregate of 179 million to 350 million, consisting of 345 million shares of Common Stock and 5 million shares of Preferred Stock. On September 28, 2020, the Company received executed written consents from the requisite holders of the Company's voting securities, voting on an as-converted basis, approving an increase in the authorized number of shares of Common Stock from 345 million shares to 1.0 billion shares, with no change to the number of authorized shares of Preferred Stock, which action became effective October 13, 2020. On February 16, 2021, the Company received executed written consents from the requisite holders of the Company's voting securities, voting on an as-converted basis, approving an increase in the authorized number of shares of Common Stock from 1.0 billion shares to 2.0 billion shares, with no change to the number of authorized shares of Preferred Stock, which action became effective April 21, 2021.
Series A Convertible Preferred Stock
On September 15, 2017, the Company filed the Certificate of Designations of the Series A Preferred with the Delaware Secretary of State (the “Series A Certificate”), designating 38,000 shares of the Company’s preferred stock, par value $0.01 per share, as Series A Preferred. The Company had 37,467 shares of Series A Preferred outstanding as of December 31, 2019.
During July 2020, the Company entered into the Series A Exchange Agreement with the Series A Holders, pursuant to which such Series A Holders exchanged 18,828 shares of Series A Preferred for an equivalent number of Series A-1 Preferred in consideration for their waiver of approximately $1,849,000 in dividends payable.
On September 28, 2020, the Company received executed written consents from (i) the requisite holders of the Company’s voting securities, voting on an as-converted basis, and (ii) the requisite holders of Series A Preferred, voting as a separate class, approving the Amended Series A Certificate, which, among other things, provides for (a) the automatic conversion of all Series A Preferred into Common Stock at a rate of 10% per month following the Closing of the Series D Financing, with the conversion price for such conversion reduced from $1.15 per share of Common Stock, to $0.20 per share of Common Stock, and (b) a reduction of the dividend rate from 8% of the stated Series A Liquidation Preference Amount if paid in cash and 10% of the stated Series A Liquidation Preference Amount if paid in Common Stock, to 4% of the Series A Liquidation Preference Amount, with the dividends being paid only in shares of Common Stock.
The Company had 0 and 14,911 shares of Series A Preferred outstanding as of September 30, 2021 and December 31, 2020, respectively. At September 30, 2021 and December 31, 2020, the Company had cumulative undeclared dividends of $0. During the three months ended September 30, 2021, the Company issued the holders of Series A Preferred 109,836 shares of Common Stock as payment of dividends due. During the nine months ended September 30, 2021, the Company issued the holders of Series A Preferred 1,789,587 shares of Common Stock as payment of dividends due.
During the three months ended September 30, 2021, the Company issued 11,647,000 shares of Common Stock upon the conversion of 2,330 shares of Series A Preferred Stock. During the nine months ended September 30, 2021 the Company issued 74,562,000 shares of Common Stock upon the conversion of 14,911 shares of Series A Preferred Stock.
Series A-1 Convertible Preferred Stock
In July 2020, the Company filed the Series A-1 Certificate with the Secretary of State for the State of Delaware - Division of Corporations, designating 31,021 shares of the Company’s Preferred Stock as Series A-1 Preferred. Shares of Series A-1 Preferred accrue cumulative dividends and are payable quarterly beginning September 30, 2021 at a rate of 8% per annum if paid in cash, or 10% per annum if paid by the issuance of shares of the Company’s Common Stock.
Shares of Series A-1 Preferred rank senior to the Company’s Common Stock, pari-passu to the Company's Series A Preferred, and are subordinate and rank junior to Series B Preferred and Series D Preferred.
Each share of Series A-1 Preferred has a liquidation preference equal to the greater of (i) $1000 per share plus all accrued and unpaid dividends, or (ii) such amount per share as would have been payable had each such share been converted into Common Stock immediately prior to such liquidation, dissolution or winding up (the amount payable pursuant to the foregoing is referred to herein as the “Series A-1 Liquidation Preference Amount”) before any payment shall be made or any assets distributed to the holders of the Common Stock or any other classes and series of equity securities of the Company which by their terms rank junior to the Series A-1 Preferred.
Each share of Series A-1 Preferred was convertible into that number of shares of the Company’s Common Stock (“Series A-1 Conversion Shares”) equal to that number of shares of Series A-1 Preferred being converted multiplied by $1,000, divided by $0.65, or the conversion price as defined in the Series A-1 Certificate in effect as of the date the holder delivers to the Company their notice of election to convert. Holders of Series A-1 Preferred may elect to convert shares of Series A-1 Preferred into Common Stock at any time. In addition to the aforementioned holder conversion option, if the volume weighted average closing price ("VWAP") of the Company’s Common Stock is at least $1.00 per share for 20 consecutive trading days, then the Company has the right to convert one-half of the issued and outstanding shares of Series A-1 Preferred into Common Stock. In the event of a Change of Control, the Company will have the option to redeem all issued and outstanding shares of Series A-1 Preferred for 115% of the Liquidation Preference per share.
During July 2020, the Company entered into an Exchange Agreement, Consent and Waiver (“Exchange Agreement”) with certain holders of its Series A Preferred (the "Series A Holders"), pursuant to which such Series A Holders exchanged 18,828 shares of Series A Preferred for an equivalent number of Series A-1 Preferred.
On September 28, 2020, the Company's holders of Common Stock and Preferred Stock voted to revise the Series A-1 Certificate by amending and restating the Series A-1 Certificate to, without limitation, provide for (i) the voluntary conversion of all outstanding shares of the Company's Series A-1 Preferred into shares of the Company’s Common Stock at a reduced conversion price of $0.20 per share of Common Stock, and (ii) the automatic conversion of all issued and outstanding shares of Series A Preferred and Series A-1 Preferred into shares of Common Stock at a rate of 10% per month, beginning on November 1, 2020, and ending on August 1, 2021, at the reduced conversion price of $0.20 per share of Common Stock.
The Company had 0 and 14,782 shares of Series A-1 Preferred outstanding as of September 30, 2021 and December 31, 2020, respectively. During the three months ended September 30, 2021, the Company issued the holders of Series A-1 Preferred 105,343 shares of Common Stock as payment of dividends due. During the nine months ended September 30, 2021, the Company issued the holders of Series A-1 Preferred 1,789,587 shares of Common Stock as payment of dividends due.
During the three months ended September 30, 2021, the Company issued 11,194,000 shares of Common Stock upon the conversion of 2,239 shares of Series A-1 Preferred. During the nine months ended September 30, 2021, the Company issued 73,910,000 shares of Common Stock upon the conversion of 14,782 shares of Series A-1 Preferred.
Series B Convertible Redeemable Preferred Stock
The Company had 239,400 shares of Series B Convertible Preferred Stock (“Series B Preferred”) outstanding as of September 30, 2021 and December 31, 2020. At September 30, 2021 and December 31, 2020, the Company had cumulative undeclared dividends of approximately $8,000. There were no conversions of Series B Preferred into Common Stock during the three and nine months ended September 30, 2021 and 2020.
Common Stock
As of September 30, 2021, we had 347,200,961 and 347,194,257 shares of Common Stock issued and outstanding, respectively. Our authorized but unissued shares of Common Stock are available for issuance without action by our shareholders.
The following table summarizes outstanding Common Stock activity during the nine months ended September 30, 2021:
|
Common Stock |
||||
|
Shares outstanding at December 31, 2020 |
180,089,613 | |||
|
Shares issued pursuant to payment of stock dividend on Series A Preferred |
1,911,587 | |||
|
Shares issued pursuant to payment of stock dividend on Series A-1 Preferred |
1,789,587 | |||
|
Shares issued pursuant to Series D conversion to Common Stock |
11,149,123 | |||
|
Shares issued pursuant to Series A conversion to Common Stock |
74,562,000 | |||
|
Shares issued pursuant to Series A-1 conversion to Common Stock |
73,910,000 | |||
|
Shares issued pursuant to warrant exercises |
400 | |||
|
Shares issued to secure financing facility |
1,000,000 | |||
|
Shares issued for cash |
1,000,000 | |||
|
Shares issued as compensation in lieu of cash |
921,218 | |||
|
Shares issued pursuant to RSU vesting |
860,729 | |||
|
Shares outstanding at September 30, 2021 |
347,194,257 | |||
During the nine months ended September 30, 2021, the Company sold 1,000,000 shares of its Common Stock to Lincoln Park pursuant to the 2021 LPC Purchase Agreement for $0.10 per share resulting in proceeds to the Company of $100,000. Also in May 2021, the Company issued to Lincoln Park 1,000,000 shares of its Common Stock as consideration for entering into the Purchase Agreement. The Company has recorded this issuance as a deferred stock issuance cost in the amount of $70,000. Such deferred stock issuance costs will be recognized as a charge against paid in capital in proportion to securities sold under this Purchase Agreement.
Warrants
As of September 30, 2021, warrants to purchase 3,904,470 shares of Common Stock at prices ranging from $0.01 to $0.80 were outstanding. All warrants expiring on September 19, 2028 were cancelled with the final Series A conversions to common on August 1, 2021. There are 600,000 warrants whose expiration date is April 15, 2028 and150,000 warrants whose expiration date is 3 years from initial vesting, such vesting based on certain events. There are also 400,000 warrants whose expiration date is July 11, 2028, 200,000 warrants whose expiration is August 3, 2028, and 1,800,000 warrants whose expiration is August 4, 2026. The intrinsic value of warrants outstanding at September 30, 2021 was $0.
The following table summarizes warrant activity for the following periods:
|
Warrants |
Weighted-Average Exercise Price |
|||||||
|
Balance at December 31, 2020 |
753,775 | $ | 0.17 | |||||
|
Granted |
3,000,000 | $ | 0.07 | |||||
|
Expired / Canceled |
(603,375 | ) | $ | 0.01 | ||||
|
Exercised |
(400 |
) |
$ | 0.01 | ||||
|
Balance at September 30, 2021 |
3,150,000 | $ | 0.10 | |||||
In April 2021, the Company created an advisory board to the Board of Directors comprised of 3 individuals. As compensation for advisory board services, the Company granted each member warrants to purchase 200,000 shares of the Company’s Common Stock. Such warrants have an exercise price of $0.07 per share and will vest over a one-year period beginning on April 19, 2021. In July 2021, the Company issued 400,000 warrants to our Chief Financial Officer. Such warrants have an exercise price of $0.06 per share and fully vested over a two-month period. In August 2021, the Company issued 200,000 and 1,800,000 warrants to a new advisory board member. Such warrants have an exercise price of $0.048 per share and $0.07 per share, respectively, and will vest over a one-year period beginning on August 5, 2021. During the three and nine months ended September 30, 2021, the Company recorded approximately $15,636 and $25,636 in expense related to the vesting of these warrants.
During the nine months ended September 30, 2021, 603,375 warrants were cancelled pursuant to the mandatory conversion of Series A Preferred Stock into Common Stock and 400 warrants were exercised at $0.01 per warrant.
NOTE 10. STOCK-BASED COMPENSATION
Stock Options
As of September 30, 2021, the Company had one active stock-based compensation plan: the 2020 Omnibus Stock Incentive Plan (the “2020 Plan”).
2020 Omnibus Stock Incentive Plan
On June 9, 2020, pursuant to authorization obtained from the Company’s stockholders, the Company adopted the 2020 Omnibus Stock Incentive Plan (the “2020 Plan”). Such plan had been previously unanimously approved by the Company’s Board. The purposes of our 2020 Plan are to enhance our ability to attract and retain highly qualified officers, non-employee directors, key employees and consultants, and to motivate those service providers to serve the Company and to expend maximum effort to improve our business results by providing to those service providers an opportunity to acquire or increase a direct proprietary interest in our operations and future success. The 2020 Plan also will allow us to promote greater ownership in our Company by the service providers in order to align the service providers’ interests more closely with the interests of our stockholders. Awards granted under the 2020 Plan are designed to qualify for special tax treatment under Section 422 of the Code.
Pursuant to the adoption of the 2020 Plan, such plan will supersede and replace the Company’s 1999 Plan and no new awards will be granted under the 1999 Plan thereafter. Any awards outstanding under the 1999 Plan on the date of approval of the 2020 Plan will remain subject to the 1999 Plan. Upon approval of our 2020 Plan, all shares of Common Stock remaining authorized and available for issuance under the 1999 Plan and any shares subject to outstanding awards under the 1999 Plan that subsequently expire, terminate, or are surrendered or forfeited for any reason without issuance of shares will automatically become available for issuance under our 2020 Plan. The Company amended the 2020 Plan to increase the number of shares of Common Stock available for issuance to 145.0 million shares. Such amendment became effective on April 21, 2021. As of September 30, 2021, there were 66,363,578 shares available for issuance under the 2020 Plan.
The Company estimates the fair value of its stock options using a Black-Scholes option-pricing model, consistent with the provisions of ASC 718, “Compensation - Stock Compensation”. The fair value of stock options granted is recognized to expense over the requisite service period. Stock-based compensation expense for all share-based payment awards is recognized using the straight-line single-option method. Stock-based compensation expense is reported in operating expense based upon the departments to which substantially all the associated employees report and credited to additional paid-in-capital.
ASC 718 requires the use of a valuation model to calculate the fair value of stock-based awards. The Company has elected to use the Black-Scholes option-pricing model, which incorporates various assumptions including volatility, expected life, and interest rates. The Company is required to make various assumptions in the application of the Black-Scholes option-pricing model. The Company has determined that the best measure of expected volatility is based on the historical weekly volatility of the Company’s Common Stock. The Company has elected to estimate the expected life of an award based upon the SEC approved “simplified method” noted under the provisions of Staff Accounting Bulletin Topic 14.
In addition to the key assumptions used in the Black-Scholes model, the estimated forfeiture rate at the time of valuation is a critical assumption. The Company has adopted the provisions of ASU 2016-09 and will continue to use an estimated annualized forfeiture rate. The Company utilized estimated forfeiture rate of 25% for options granted during the three months ended September 30, 2021. Company is currently in the process of reviewing the expected forfeiture rate to determine if that percent is still reasonable based on recent historical experience.
A summary of the activity under the Company’s stock option plans is as follows:
|
Options |
Weighted-Average Exercise Price |
Weighted-Average Remaining Contractual Term (Years) |
||||||||||
|
Balance at December 31, 2020 |
2,585,500 | $ | 0.19 | 9.2 | ||||||||
|
Granted |
99,260,000 | $ | 0.06 | |||||||||
|
Expired/Cancelled |
(18,700,625 |
) |
$ | 0.07 | ||||||||
|
Exercised |
- | - | ||||||||||
|
Balance at September 30, 2021 |
83,144,875 | $ | 0.06 | 6.7 | ||||||||
During the three months ended September 30, 2021, the Company granted an aggregate of 33,540,000 options to purchase shares of Common Stock including 17,000,000 to certain officers and employees and 0 to certain members of the Company’s Board of Directors. Such options have an exercise price ranging from $0.048 to $0.06 and vest at various times through August 1, 2024.
During the nine months ended September 30, 2021, an aggregate of 18,700,625 options expired unexercised.
At September 30, 2021, a total of 83,144,875 options were outstanding, of which 15,424,688 were exercisable at a weighted average price of $0.06 per share with a remaining weighted average contractual term of 6.7 years. The Company expects that, in addition to the 15,424,688 options that were exercisable as of September 30, 2021, another 67,720,187 will ultimately vest resulting in a combined total of 83,144,875. Those 67,720,187 shares have a weighted average exercise price of $0.06 and an aggregate intrinsic value of approximately $0 as of September 30, 2021. Stock-based compensation expense related to equity options was approximately $794,411 for the nine months ended September 30, 2021.
The intrinsic value of options exercisable and outstanding at September 30, 2020 was $0. The aggregate intrinsic value for all options outstanding as of September 30, 2020 was $0. The weighted-average grant-date per share fair value of options granted during the nine months ended September 30, 2020 was $0.09. At September 30, 2020, the total remaining unrecognized compensation cost related to unvested stock options amounted to approximately $2,784,000, which will be recognized over a weighted-average period of 1.6 years.
The Company periodically issues Restricted Stock Units (“RSUs”) to certain employees which vest over time. When vested, each RSU represents the right to that number of shares of Common Stock equal to the number of RSUs granted. The grant date fair value for RSU’s is based upon the market price of the Company's Common Stock on the date of the grant. The fair value is then amortized to compensation expense over the requisite service period or vesting term.
A summary of the activity related to RSUs is as follows:
|
RSU’s |
Weighted-Average Issuance Price |
|||||||
|
Balance at December 31, 2020 |
845,106 | $ | 0.14 | |||||
|
Granted |
- | $ | - | |||||
|
Expired/Cancelled |
(540,576 | ) | $ | 0.13 | ||||
|
Vested |
(220,728 | ) | $ | 0.09 | ||||
|
Balance at September 30, 2021 |
83,802 | $ | 0.13 | |||||
There were no RSUs granted to employees during the nine months ended September 30, 2021. During the nine months ended September 30, 2021, 220,728 RSUs vested with the remainder of outstanding RSUs vesting at various times through February 8, 2022.
During the three and nine months ended September 30, 2021, the Company recorded compensation expense of approximately $30,000 and $99,000, respectively related to RSUs. During the three and nine months ended September 30, 2020, the Company recorded compensation expense of approximately and $82,000 and $154,000, respectively related to RSUs. During the nine months ended September 30, 2021 and 2020, the Company issued 860,729 and 546,016 shares of its Common Stock pursuant to the vesting of RSUs. As part of the RSUs issued during the nine months ended September 30, 2021, were 555,000 shares of Common Stock pursuant to RSUs that vested in 2020 for which shares were not previously issued.
Stock-Based Compensation
Stock-based compensation related to equity options, RSUs and warrants has been classified as follows in the accompanying consolidated statements of income (loss) (in thousands):
|
Three Months Ended September 30, |
Nine Months Ended September 30, |
|||||||||||||||
|
2021 |
2020 |
2021 |
2020 |
|||||||||||||
|
Cost of revenue |
$ | 11 | $ | 2 | $ | 18 | $ | 6 | ||||||||
|
General and administrative |
303 | 83 | 511 | 240 | ||||||||||||
|
Sales and marketing |
122 | 19 | 214 | 120 | ||||||||||||
|
Research and development |
121 | 23 | 199 | 83 | ||||||||||||
|
Total |
$ | 557 | $ | 127 | $ | 942 | $ | 449 | ||||||||
NOTE 11. FAIR VALUE ACCOUNTING
The Company accounts for fair value measurements in accordance with ASC 820, “Fair Value Measurements and Disclosures”, which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements.
ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under ASC 820 are described below:
|
Level 1 |
Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. |
|
|
Level 2 |
Applies to assets or liabilities for which there are inputs other than quoted prices included within Level 1 that are observable for the asset or liability such as quoted prices for similar assets or liabilities in active markets; quoted prices for identical assets or liabilities in markets with insufficient volume or infrequent transactions (less active markets); or model-derived valuations in which significant inputs are observable or can be derived principally from, or corroborated by, observable market data. |
|
|
Level 3 |
Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (supported by little or no market activity). |
The following table sets forth the Company’s financial assets and liabilities measured at fair value by level within the fair value hierarchy. As required by ASC 820, assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.
|
Fair Value at September 30, 2021 |
||||||||||||||||
|
($ in thousands) |
Total |
Level 1 |
Level 2 |
Level 3 |
||||||||||||
|
Assets: |
||||||||||||||||
|
Pension assets |
$ | 1,780 | $ | - | $ | - | $ | 1,780 | ||||||||
|
Totals |
$ | 1,780 | $ | - | $ | - | $ | 1,780 | ||||||||
|
Liabilities: |
||||||||||||||||
|
Derivative liabilities |
$ | 7,486 | $ | - | $ | - | $ | 7,486 | ||||||||
|
Totals |
$ | 7,486 | $ | - | $ | - | $ | 7,486 | ||||||||
|
Fair Value at December 31, 2020 |
||||||||||||||||
|
($ in thousands) |
Total |
Level 1 |
Level 2 |
Level 3 |
||||||||||||
|
Assets: |
||||||||||||||||
|
Pension assets |
$ | 1,881 | $ | - | $ | - | $ | 1,881 | ||||||||
|
Totals |
$ | 1,881 | $ | - | $ | - | $ | 1,881 | ||||||||
|
Liabilities: |
||||||||||||||||
|
Derivative liabilities |
$ | 24,128 | $ | - | $ | - | $ | 24,128 | ||||||||
|
Totals |
$ | 24,128 | $ | - | $ | - | $ | 24,128 | ||||||||
The Company’s German pension plan is funded by insurance contract policies whereby the insurance company guarantees a fixed minimum return. The Company has determined that the pension assets are appropriately classified within Level 3 of the fair value hierarchy because they are valued using actuarial valuation methodologies which approximate cash surrender value that cannot be corroborated with observable market data. All plan assets are managed in a policyholder pool in Germany by outside investment managers. The investment manager is responsible for the investment strategy of the insurance premiums that Company submits and does not hold individual assets per participating employer. The German Federal Financial Supervisory oversees and supervises the insurance contracts.
As of September 30, 2021, the Company had embedded features contained in the Series D Preferred host instrument that qualified for derivative liability treatment. The recorded fair market value of these features was approximately $7,486,000 and $24,128,000 at September 30, 2021 and December 31, 2020, respectively, and are classified as a current liability in the condensed consolidated balance sheets as of September 30, 2021 and December 31, 2020. The fair value of the Company’s derivative liabilities is classified within Level 3 of the fair value hierarchy because they are valued using pricing models that incorporate management assumptions that cannot be corroborated with observable market data. The Company uses Monte-Carlo simulations in the determination of the fair value of derivative liabilities.
Some of the aforementioned fair value methodologies are affected by the Company’s stock price as well as assumptions regarding the expected stock price volatility over the term of the derivative liabilities in addition to the probability of future events. Significant assumptions used in the fair value methodologies during the nine months ended September 30, 2021 are a risk-free rate of 0.58%, equity volatility of 112.9%, effective life of 3.25 years and a preferred stock dividend rate of 4.0%. These assumptions incorporate management’s estimate of the probability of future financings (Series D Financing) and the timing of potential change of control events. The primary assumptions impacted by Series D Financing were the effective life of 3.25 years and equity volatility.
The Company monitors the activity within each level and any changes with the underlying valuation techniques or inputs utilized to recognize if any transfers between levels are necessary. That determination is made, in part, by working with outside valuation experts for Level 3 instruments and monitoring market related data and other valuation inputs for Level 1 and Level 2 instruments.
The reconciliations of Level 3 pension assets measured at fair value during the three and nine months ended September 30, 2021 and 2020 are presented below:
|
($ in thousands) |
Three months ended September 30, 2021 |
Three months ended September 30, 2020 |
Nine months ended September 30, 2021 |
Nine months ended September 30, 2020 |
||||||||||||
|
Pension assets: |
||||||||||||||||
|
Fair value at beginning of period |
$ | 1,819 | $ | 1,711 | $ | 1,881 | $ | 1,713 | ||||||||
|
Return on plan assets |
21 | 19 | 51 | 49 | ||||||||||||
|
Company contributions and benefits paid, net |
(14 |
) |
(28 |
) |
(31 |
) |
(61 | ) | ||||||||
|
Effect of exchange rate changes |
(46 |
) |
83 | (121 |
) |
84 | ||||||||||
|
Fair value at end of period |
$ | 1,780 | $ | 1,785 | $ | 1,780 | $ | 1,785 | ||||||||
The reconciliations of Level 3 derivative liabilities measured at fair value for Series D Preferred Stock and for Series C Preferred Stock during the three and nine months ended September 30, 2021 is presented below:
|
($ in thousands) |
Three months ended September 30, 2021 |
Three months ended September 30, 2020 |
Nine months ended September 30, 2021 |
Nine months ended September 30, 2020 |
||||||||||||
|
Derivative liabilities: |
||||||||||||||||
|
Fair value at beginning of period |
$ | 8,925 | $ | 535 | $ | 24,128 | $ | 369 | ||||||||
|
Derivative liability from issuance of Preferred Series C |
- | - | - | - | ||||||||||||
|
Decrease in derivative liability from conversions of Preferred Series C |
- | - | - | - | ||||||||||||
|
Derivative liability from issuance of Preferred Series D |
84 | - | 500 | - | ||||||||||||
|
Decrease in derivative liability from conversions of Preferred Series D |
(181 |
) |
- | (584 |
) |
- | ||||||||||
|
Change in fair value included in earnings |
(1,342 |
) |
(535 |
) |
(16,558 |
) |
(369 |
) |
||||||||
|
Fair value at end of period |
$ | 7,486 | $ | - | $ | 7,486 | $ | - | ||||||||
NOTE 12. RELATED PARTY TRANSACTIONS
Professional Services Agreement
During the year ended December 31, 2020, the Company entered into professional services agreement with a firm affiliated with a member of the Company’s Board of Directors at the time the parties entered into the agreement. The Company made no payments pursuant to this agreement during the twelve months ended December 31, 2020 and made payment of approximately $34,000 during nine months ended September 30, 2021. The Company has the right to terminate the agreement on thirty days written notice at any time.
NOTE 13. CONTINGENT LIABILITIES
Employment Agreements
The Company has an employment agreement with its Chief Executive Officer, which expires on March 2, 2024. The Company may terminate the agreement with or without cause. Subject to the conditions and other limitations set forth in the employment agreement, the executive will be entitled to the following severance benefits if the Company terminates the executive’s employment without cause or in the event of an involuntary termination (as defined in the employment agreement) by the Company or by the executive:
Under the terms of the agreement, if employment is terminated by the Company without cause or there is a change of control, then the Executive shall be entitled to severance payments equal to the Executive’s annual salary and shall remain enrolled in the Company’s health, dental, and life insurance plans for the lesser of twelve (12) months or the remaining period prior to expiration of the Employment Period plus the Executive shall be entitled to any bonus due as of the effective date of such termination.
Litigation
There is no action, suit, proceeding, inquiry or investigation before or by any court, public board, government agency, self-regulatory organization or body pending or, to the knowledge of the executive officers of the Company or any of our subsidiaries, threatened against or affecting the Company, our Common Stock, any of our subsidiaries or of the Company’s or our subsidiaries’ officers or directors in their capacities as such, in which an adverse decision could have a material adverse effect.
NOTE 14. SUBSEQUENT EVENTS
During the period October 1, 2021 through November 10, 2021, the Company issued an aggregate 41,901 shares of its Common Stock pursuant to RSUs vesting.
Subsequent to September 30, 2021, the Company offered to exchange with its employees, contractors, and Board members approximately 80 million options granted under the 2020 Omnibus Stock Option Plan for an equivalent number of RSUs effective 10/1/2021. The RSUs are scheduled to vest 50% on April 1, 2022 with the remainder vesting ratably over an 18-month period ending October 1, 2023. The Company anticipates a large majority of these individuals to participate in the exchange.
Effective October 1, 2021, three Board members were each granted 1,500,000 RSUs and these are scheduled to vest over the same period described above.
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
This Quarterly Report on Form 10-Q (this "Quarterly Report") contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). All forward-looking statements included in this report are based on information available to us as of the date hereof and we assume no obligation to update any forward-looking statements. Forward-looking statements involve known or unknown risks, uncertainties and other factors, which may cause our actual results, performance or achievements, or industry results to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include but are not limited to those items discussed under “Risk Factors” in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2020, and in Item 1A of Part II of this Quarterly Report.
The following discussion of the financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements included elsewhere within this Quarterly Report. Fluctuations in annual and quarterly results may occur as a result of factors affecting demand for our products, such as the timing of new product introductions by us and by our competitors and our customers’ political and budgetary constraints. Due to such fluctuations, historical results and percentage relationships are not necessarily indicative of the operating results for any future period. As used in this Quarterly Report, “we”, “us”, “our”, “ImageWare”, “ImageWare Systems”, "IWS", or the “Company” refers to ImageWare Systems, Inc., a Delaware corporation, and all of its subsidiaries.
Overview
The Company is a pioneer and leader in biometric identification and authentication software. Using human characteristics that are unique to us all, the Company creates software that provides a highly reliable indication of a person’s identity. The Company’s products are used to manage and issue secure credentials, including national IDs, passports, driver licenses and access control credentials. The Company’s products also provide law enforcement with integrated mugshot, fingerprint LiveScan and investigative capabilities. The Company also provides comprehensive authentication security software using biometrics to secure physical and logical access to facilities or computer networks or Internet sites. Biometric technology is now an integral part of all markets the Company addresses, and all the products leveraged by our patented IWS Biometric Engine®.
Critical Accounting Policies and Estimates
The discussion and analysis of our consolidated financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of these consolidated financial statements in accordance with GAAP requires us to utilize accounting policies and make certain estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingencies as of the date of the consolidated financial statements and the reported amounts of revenue and expense during a fiscal period. The Securities and Exchange Commission (“SEC”) considers an accounting policy to be critical if it is important to a company’s financial condition and results of operations, and if it requires significant judgment and estimates on the part of management in its application.
The preparation of the condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements, and the reported amounts of revenue and expense during the reporting period. Significant estimates include the evaluation of our ability to continue as a going concern, the allowance for doubtful accounts receivable, assumptions used in the Black-Scholes model to calculate the fair value of share based payments, fair value of financial instruments issued with and affected by the Series D Preferred Financing, assumptions used in the application of revenue recognition policies, and assumptions used in the application of fair value methodologies to calculate the fair value of pension assets and obligations.
Critical accounting policies are those that, in management’s view, are most important in the portrayal of our financial condition and results of operations. Management believes there have been no material changes during the three months ended September 30, 2021 to the critical accounting policies discussed in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the year ended December 31, 2020.
Results of Operations
This management’s discussion and analysis of financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements and related notes contained elsewhere in this Quarterly Report.
Comparison of the Three Months Ended September 30, 2021 to the Three Months Ended September 30, 2020
| Net Product Revenue |
Three Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Software and royalties |
$ | 40 | $ | 587 | $ | (547 |
) |
(93 |
)% |
|||||||
|
Percentage of total net product revenue |
28 |
% |
32 |
% |
||||||||||||
|
Hardware and consumables |
$ | 20 | $ | 13 | $ | 7 | 54 |
% |
||||||||
|
Percentage of total net product revenue |
14 |
% |
0 |
% |
||||||||||||
|
Services |
$ | 85 | $ | 1,258 | $ | (1,173 |
) |
(93 |
)% |
|||||||
|
Percentage of total net product revenue |
58 |
% |
68 |
% |
||||||||||||
|
Total net product revenue |
$ | 145 | $ | 1,858 | $ | (1,713 |
) |
(92 |
)% |
|||||||
Software and royalty revenue decreased approximately $547,000 during the three months ended September 30, 2021 as compared to the corresponding period in 2020. This decrease is attributable to lower identification project related revenue of approximately $529,000, lower law enforcement software revenue of approximately $5,000, lower identification royalties of approximately $19,000, offset by higher sales of boxed identity management software sold through our distribution channel of approximately $6,000
Revenue from the sale of hardware and consumables increased approximately $7,000 during the three months ended September 30, 2021 as compared to the corresponding period in 2020 due to an increase in consumables procurement by our law enforcement customers.
Services revenue is comprised primarily of software integration services, system installation services and customer training. Such revenue decreased approximately $1,173,000 during the three months ended September 30, 2021 as compared to the corresponding period of 2020 due to a decrease in the service element of project related work completed during the three months ended September 30, 2021.
We believe that the period-to-period fluctuations of identity management software revenue in project-oriented solutions are largely due to the timing of government procurement with respect to the various programs we are pursuing. Although no assurances can be given, based on management’s current visibility into the timing of potential government procurements and potential partnerships and current pilot programs, we believe that we will see an increase in government procurement and implementations with respect to identity management initiatives; however, government procurement initiatives, implementations and pilots are frequently delayed and extended and we cannot predict the timing of such initiatives.
As discussed more fully elsewhere in this Quarterly Report, the full extent of COVID-19’s impact on our operations and financial performance depends on future developments that are uncertain and unpredictable, including the duration and spread of the pandemic, its impact on capital and financial markets and any new information that may emerge concerning the severity of the virus, its spread to other regions as well as the actions taken to contain it, among others.
During the three months ended September 30, 2021, we have focused on strategically updating our products with the latest mobile and Cloud technology, prioritized by market opportunities. The first major update is the launch of the first module of the Law Enforcement 2.0 (LE 2.0) Platform, Imageware Capture, in September. We modernized the UI for law enforcement professionals, building the solution as a web-based Software as a Service (SaaS) product with a reactive design that can be accessed from any device anywhere. In addition, we have integrated Imageware Authenticate formerly GoVerify ID® into the LE 2.0 platform. This update is already resulting in additional customers implementing our Authenticate solution.
We have focused on integrating the suite of products that comprise the Imageware Identity Platform – this includes simplifying our portfolio overview, positioning, and branding. In addition, we plan to continue enhancing our Identity Platform products through 2022. This effort includes modernizing our Credential product (formerly EPI) for biometric smart badges. Management believes that these initiatives will result in the expansion of our solutions into both state/local law enforcement and federal agencies in addition to non-governmental sectors, including banking/financial services, insurance, telecommunications, healthcare, hospitality, and others.
|
Maintenance Revenue |
Three Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Total maintenance revenue |
$ | 633 | $ | 613 | $ | 20 | 3 | % | ||||||||
Maintenance revenue was approximately $633,000 for the three months ended September 30, 2021, as compared to approximately $613,000 for the corresponding period in 2020. Identity management maintenance revenue generated from identification software solutions was approximately $334,000 for the three months ended September 30, 2021 as compared to approximately $290,000 during the comparable period in 2020. Law enforcement maintenance revenue was approximately $299,000 and $323,000 for the three months ended September 30, 2021 and 2020, respectively. The decrease of $24,000 in law enforcement software maintenance revenue for the three months ended September 30, 2021 as compared to the corresponding period of 2020 is reflective of the expiration of certain maintenance contracts. The increase in our Identity Management maintenance revenue of approximately $44,000 reflects the expansion of our installed base.
We anticipate growth of our maintenance revenue through the retention of existing customers combined with the expansion of our installed base resulting from the completion of project-oriented work; however, we cannot predict the timing of this anticipated growth.
|
Cost of Product Revenue |
Three Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Software and royalties |
$ | - | $ | 13 | $ | (13 |
) |
(100 | )% | |||||||
|
Percentage of software and royalty product revenue |
0 |
% |
2 |
% |
||||||||||||
|
Hardware and consumables |
$ | 11 | $ | 9 | $ | 2 | 22 |
% |
||||||||
|
Percentage of hardware and consumables product revenue |
55 |
% |
69 |
% |
||||||||||||
|
Services |
$ | 58 | $ | 693 | $ | (635 |
) |
(92 |
)% |
|||||||
|
Percentage of services product revenue |
68 |
% |
55 |
% |
||||||||||||
|
Total product cost of revenue |
$ | 69 | $ | 715 | $ | (646 |
) |
(90 |
)% |
|||||||
|
Percentage of total product revenue |
48 |
% |
38 |
% |
||||||||||||
The cost of software and royalty product revenue decreased approximately $13,000 due primarily to lower software and royalty revenue for the three months ended September 30, 2021 of approximately $547,000. The cost of software and royalty product revenue as a percentage of software and royalty revenue decreased to 0% during the three months ended September 30, 2021 as compared to 2% for the corresponding 2020 period as the 2021 period contained revenue being comprised of solutions containing no third-party software costs or software customization. In addition to changes in costs of software and royalty product revenue caused by revenue level fluctuations, costs of products can vary as a percentage of product revenue from period to period depending upon level of software customization and third-party software license content included in product sales during a given period.
The cost of revenue for our hardware and consumables sales increased by approximately $2,000 for the three months ended September 30, 2021 as compared to the corresponding period in 2020 due to higher hardware and consumable revenue of $7,000.
The cost of services revenue decreased approximately $635,000 during the three months ended September 30, 2021 as compared to the corresponding period in 2020 due to lower services revenue of $1,173,000. In addition to changes in costs of services product revenue caused by revenue level fluctuations, costs of services can vary as a percentage of service revenue from period to period depending upon both the level and complexity of professional services resources utilized in the completion of the service element.
|
Maintenance Cost of Revenue |
Three Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Total maintenance cost of revenue |
$ | 87 | $ | 123 | $ | (36 |
) |
(29 |
)% |
|||||||
| 14 |
% |
20 |
% |
|||||||||||||
Cost of maintenance revenue decreased approximately $36,000 during the three months ended September 30, 2021 as compared to the corresponding period in 2020 due to reductions in fixed maintenance costs through headcount reductions.
|
Product Gross Profit |
Three Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Software and royalties |
$ | 40 | $ | 574 | $ | (534 |
) |
(93 |
)% |
|||||||
|
Percentage of software and royalty product revenue |
100 |
% |
98 |
% |
||||||||||||
|
Hardware and consumables |
$ | 9 | $ | 4 | $ | 5 | 125 |
% |
||||||||
|
Percentage of hardware and consumables product revenue |
45 |
% |
31 |
% |
||||||||||||
|
Services |
$ | 27 | $ | 565 | $ | (538 |
) |
(95 |
)% |
|||||||
|
Percentage of services product revenue |
32 |
% |
45 |
% |
||||||||||||
|
Total product gross profit |
$ | 76 | $ | 1,143 | $ | (1,067 |
) |
(93 |
)% |
|||||||
|
Percentage of total product revenue |
52 |
% |
62 |
% |
||||||||||||
Software and royalty gross profit decreased approximately $534,000 for the three months ended September 30, 2021 from the corresponding period in 2020 due primarily to lower software and royalty revenue of approximately $547,000. In addition to changes in costs of software and royalty product revenue caused by revenue level fluctuations, costs of products can vary as a percentage of product revenue from period to period depending upon level of software customization and third-party software license content included in product sales during a given period.
Services gross profit decreased approximately $538,000 for the three months ended September 30, 2021 as compared to the corresponding period in 2020 due to lower service revenue of approximately $1,173,000 for the three months ended September 30, 2021 as compared to the corresponding period in 2020 combined with lower costs of service revenue of approximately $635,000 for the three months ended September 30, 2021 as compared to the corresponding period in 2020. In addition to changes in costs of services product revenue caused by revenue level fluctuations, costs of services can vary as a percentage of service revenue from period to period depending upon both the level and complexity of professional service resources utilized in the completion of the service element.
|
Maintenance Gross Profit |
Three Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Total maintenance gross profit |
$ | 546 | $ | 490 | $ | 56 | 11 | % | ||||||||
|
Percentage of total maintenance revenue |
86 |
% |
80 |
% |
||||||||||||
Gross profit related to maintenance revenue increased 11% or approximately $56,000 for the three months ended September 30, 2021 as compared to the corresponding period in 2020. This increase reflects higher maintenance revenue of approximately $20,000 combined with lower cost of maintenance revenue of approximately $36,000. Higher maintenance revenue reflects the expansion of our installed base and lower maintenance cost of revenue reflects reductions in fixed maintenance costs through headcount reductions. Maintenance gross profit can change from period to period depending upon both the level and complexity of engineering service resources utilized in the provision of maintenance services.
|
Operating Expense |
Three Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
General and administrative |
$ | 1,228 | $ | 953 | $ | 275 | 29 |
% |
||||||||
|
Percentage of total net revenue |
158 |
% |
39 |
% |
||||||||||||
|
Sales and marketing |
$ | 747 | $ | 615 | $ | 132 | 21 |
% |
||||||||
|
Percentage of total net revenue |
96 |
% |
25 |
% |
||||||||||||
|
Research and development |
$ | 1,073 | $ | 1,117 | $ | (44 |
) |
(4 |
)% |
|||||||
|
Percentage of total net revenue |
138 |
% |
45 |
% |
||||||||||||
|
Depreciation and amortization |
$ | 11 | $ | 18 | $ | (7 |
) |
(39 |
)% |
|||||||
|
Percentage of total net revenue |
1 |
% |
1 |
% |
||||||||||||
General and Administrative Expense
General and administrative expense is comprised primarily of salaries and other employee-related costs for executive, financial, and other infrastructure personnel. General legal, accounting and consulting services, insurance, occupancy and communication costs are also included with general and administrative expense. The dollar increase of approximately $275,000 during the three months ended September 30, 2021 as compared to the corresponding period in 2020 is comprised of the following major components:
|
● |
Decrease in personnel related expense of approximately $124,000; |
|
● |
Increase in professional services of approximately $119,000 from higher contract services of approximately $29,000, higher contractor fees and professional services of $79,000, and higher general corporate expense of $46,000, higher investor relations fees of approximately $28,000, higher audit related fees of approximately $14,000 offset by lower patent related expense of approximately $52,000 and lower legal fees of approximately $25,000; |
|
● |
Increase in licenses, dues and other costs of approximately $53,000; |
|
● |
Decrease in rent and office related expense of approximately $71,000 due to sublease of certain office facilities; |
|
● |
Increase in insurances costs of approximately $54,000; and |
|
● |
Increase in bad debt expense of approximately $25,000. |
We continue to focus our efforts on achieving additional future operating efficiencies by reviewing and improving upon existing business processes and evaluating our cost structure. We believe these efforts will allow us to continue to gradually decrease our level of general and administrative expense expressed as a percentage of total revenue.
Sales and Marketing
Sales and marketing expense consists primarily of the salaries, commissions, other incentive compensation, employee benefits and travel expense of our sales, marketing, and business development functions. The dollar increase of approximately $132,000 during the three months ended September 30, 2021 as compared to the corresponding period in 2020 is primarily comprised of the following major components:
|
● |
Decrease in personnel related expense of approximately $69,000, driven primarily by the effect of headcount reductions; |
|
● |
Increase in contractor and contract services of approximately $87,000 resulting from decreased utilization of certain sales contractors of approximately $19,000 offset by higher contract service expense including dues and subscriptions of approximately $106,000; |
|
● |
Increase in travel, trade show expense and office related expense including demo equipment of approximately $86,000; |
|
● |
Increase in stock-based compensation expense of approximately $103,000; and |
|
● |
Decrease in our Mexico sales office expense and other of approximately $75,000 due to headcount reductions at this location. |
Research and Development
Research and development expense consists primarily of salaries, employee benefits and outside contractors for new product development, product enhancements, custom integration work and related facility costs. Such expense decreased approximately $44,000 for the three months ended September 30, 2021 as compared to the corresponding period in 2020 due primarily to the following major components:
|
● |
Decrease in personnel related expense of approximately $265,000 driven primarily by the effect of headcount decreases; |
|
● |
Increase in contractor fees and contract services of approximately $67,000 resulting from the replacement of certain function with contract labor; |
|
● |
Increase in stock based-compensation expense of approximately $98,000; and |
|
● |
Increase in office related expense, engineering tools, supplies, communications (including internet) and travel of approximately $56,000. |
Depreciation and Amortization
During the three months ended September 30, 2021 and 2020, depreciation and amortization expense was approximately $11,000 and $18,000, respectively. The relatively small amount of depreciation and amortization reflects the relatively small property and equipment carrying value.
Interest Expense (Income), Net
For the three months ended September 30, 2021, we recognized net interest expense of $0. For the three months ended September 30, 2020, we recognized interest expense of $56,000 and interest income of approximately $0. Interest expense for the three months ended September 30, 2020 reflects interest incurred on a related party factoring agreement and certain related party notes payable.
Other (income) expense, net
During the three months ended September 30, 2021, we recognized other income of approximately $5,000 from the write-off of a deferred contract prepayment. During the three months ended September 30, 2020, we recognized other expense of approximately $3,000 from the recognition of a settlement fee on an outstanding obligation.
Change in Fair Value of Derivative Liabilities
For the three months ended September 30, 2021, we recognized income of approximately $1,342,000 from the decrease of derivative liabilities arising from the consummation of the Series D Financing in November 2020. Such decrease was determined by management using fair value methodologies and is included as income under the caption “(Gain) on change in fair value of derivative liabilities” in our condensed consolidated statement of income (loss) for three months ended September 30, 2021.
For the three months ended September 30, 2020, we recognized income of approximately $535,000 from the decrease of derivative liabilities arising from the consummation of the Series C Financing in September 2018. Such decrease was determined by management using fair value methodologies and is included as income under the caption “(Gain) on change in fair value of derivative liabilities” in our condensed consolidated statement of income (loss) for three months ended September 30, 2020.
(Gain) on Extinguishment of Derivative Liabilities and Debt
During the three months ended September 30, 2021, we recognized a gain on the extinguishment of derivative liabilities of approximately $35,000 pursuant to the conversion of 242 shares of Series D Preferred into Common Stock. Such gain is included in the caption “(Gain) on extinguishment of derivative liabilities and debt” in our condensed consolidated statement of income (loss) for three months ended September 30, 2021. During the three months ended September 30, 2021, we recognized a gain on debt extinguishment from the forgiveness of our PPP Loan. In September 2021, we received notification from the SBA that our PPP Loan of $1,571,000 was forgiven in its entirety along with accrued unpaid interest of approximately $10,000. Such gain is included in the caption “(Gain) on extinguishment of derivative liabilities and debt” in our condensed consolidated statement of income (loss) for three months ended September 30, 2021.
Comparison of the Nine Months Ended September 30, 2021 to the Nine Months Ended September 30, 2020
|
Net Product Revenue |
Nine Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Software and royalties |
$ | 301 | $ | 780 | $ | (479 |
) |
(61 |
)% |
|||||||
|
Percentage of total net product revenue |
63 |
% |
36 |
% |
||||||||||||
|
Hardware and consumables |
$ | 76 | $ | 75 | $ | 1 | 1 |
% |
||||||||
|
Percentage of total net product revenue |
16 |
% |
4 |
% |
||||||||||||
|
Services |
$ | 98 | $ | 1,274 | $ | (1,176 |
) |
(92 |
)% |
|||||||
|
Percentage of total net product revenue |
21 |
% |
60 |
% |
||||||||||||
|
Total net product revenue |
$ | 475 | $ | 2,129 | $ | (1,654 |
) |
(78 |
)% |
|||||||
Software and royalty revenue decreased approximately $479,000 during the nine months ended September 30, 2021 as compared to the corresponding period in 2020. This decrease is attributable to lower identification project related revenue of approximately $486,000, lower royalty revenue of approximately $54,000 and lower law enforcement software revenue of approximately $4,000 offset by higher sales of boxed identity management software sold through our distribution channel of approximately $65,000.The decrease in identification project related revenue is reflective of lower software licenses sold into identification projects during the nine months ended September 30, 2021 and the increase in boxed identity management software sold through our distribution channel reflects higher procurement from certain international customers. The decrease in royalty revenue results primarily from lower reported usage from certain customers.
Services revenue is comprised primarily of software integration services, system installation services and customer training. Such revenue decreased approximately $1,176,000 during the nine months ended September 30, 2021 as compared to the corresponding period of 2020 due to a decrease in the service element of project related work completed during the nine months ended September 30, 2021.
We believe that the period-to-period fluctuations of identity management software revenue in project-oriented solutions are largely due to the timing of government procurement with respect to the various programs we are pursuing. Although no assurances can be given, based on management’s current visibility into the timing of potential government procurements and potential partnerships and current pilot programs, we believe that we will see an increase in government procurement and implementations with respect to identity management initiatives during 2021; however, government procurement initiatives, implementations and pilots are frequently delayed and extended and we cannot predict the timing of such initiatives.
As discussed more fully elsewhere in this Quarterly Report, the full extent of COVID-19’s impact on our operations and financial performance depends on future developments that are uncertain and unpredictable, including the duration and spread of the pandemic, its impact on capital and financial markets and any new information that may emerge concerning the severity of the virus, its spread to other regions as well as the actions taken to contain it, among others.
During the nine months ended September 30, 2021, we have focused on strategically updating our products with the latest mobile and Cloud technology, prioritized by market opportunities.
We launched Authenticate (formerly GoVerify ID ®) in February 2021. This relaunch included a new container and microservices-based architecture and refreshed mobile and desktop clients for seamless and quick integrations to applications and services. In addition, the first major update is the launch of the first module of the Law Enforcement 2.0 (LE 2.0) Platform, Imageware Capture, in September. We modernized the UI for law enforcement professionals, building the solution as a web-based Software as a Service (SaaS) product with a reactive design that can be accessed from any device anywhere. In addition, we have integrated Imageware Authenticate into the LE 2.0 platform. This update is already resulting in additional customers implementing our Authenticate solution.
We have focused on integrating the suite of products that comprise the Imageware Identity Platform – this includes simplifying our portfolio overview, positioning, and branding. In addition, we plan to continue enhancing our Identity Platform products through 2022. This effort includes modernizing our Credential product (formerly EPI) for biometric smart badges. Management believes that these initiatives will result in the expansion of our solutions into both state/local law enforcement and federal agencies in addition to non-governmental sectors, including banking/financial services, insurance, telecommunications, healthcare, hospitality, and others.
|
Maintenance Revenue |
Nine Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Total maintenance revenue |
$ | 1,977 | $ | 1,870 | $ | 107 | 6 | % | ||||||||
Maintenance revenue was approximately $1,977,000 for the nine months ended September 30, 2021, as compared to approximately $1,870,000 for the corresponding period in 2020. Identity management maintenance revenue generated from identification software solutions was approximately $1,049,000 for the nine months ended September 30, 2021 as compared to approximately $898,000 during the comparable period in 2020. Law enforcement maintenance revenue was approximately $928,000 as compared to approximately $972,000 during the comparable period in 2020. The increase of $151,000 in identification software maintenance revenue for the nine months ended September 30, 2021 as compared to the corresponding period of 2020 is reflective of certain additional maintenance services provided by the Company during the nine months ended September 30, 2021. The decrease of approximately $44,000 in our law enforcement maintenance revenue reflects expiration of certain maintenance contracts.
We anticipate growth of our maintenance revenue through the retention of existing customers combined with the expansion of our installed base resulting from the completion of project-oriented work; however, we cannot predict the timing of this anticipated growth.
|
Cost of Product Revenue |
Nine Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Software and royalties |
$ | 20 | $ | 40 | $ | (20 |
) |
(50 |
)% |
|||||||
|
Percentage of software and royalty product revenue |
7 |
% |
5 |
% |
||||||||||||
|
Hardware and consumables |
$ | 52 | $ | 46 | $ | 6 | 13 |
% |
||||||||
|
Percentage of hardware and consumables product revenue |
68 |
% |
61 |
% |
||||||||||||
|
Services |
$ | 62 | $ | 695 | $ | (633 |
) |
(91 |
)% |
|||||||
|
Percentage of services product revenue |
63 |
% |
55 |
% |
||||||||||||
|
Total product cost of revenue |
$ | 134 | $ | 781 | $ | (647 | ) | (83 |
)% |
|||||||
|
Percentage of total product revenue |
28 |
% |
37 |
% |
||||||||||||
The cost of software and royalty product revenue decreased approximately $20,000 due primarily to lower software and royalty revenue for the nine months ended September 30, 2021 as compared to the corresponding period in 2020 due to the 2021 period containing uncharacteristically low third-party software license costs and minimal levels of software customization.
The cost of revenue for our hardware and consumables sales increased by approximately $6,000 for the nine months ended September 30, 2021 as compared to the corresponding period in 2020 due to the 2021 period containing hardware and consumables with slightly higher costs of revenue than the corresponding period in 2020.
The cost of services revenue decreased approximately $633,0000 during the nine months ended September 30, 2021 as compared to the corresponding period in 2020 due to lower services revenue of $1,176,000. In addition to changes in costs of services product revenue caused by revenue level fluctuations, costs of services can vary as a percentage of service revenue from period to period depending upon both the level and complexity of professional service resources utilized in the completion of the service element.
|
Maintenance Cost of Revenue |
Nine Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Total maintenance cost of revenue |
$ | 276 | $ | 328 | $ | (52 |
) |
(16 | )% | |||||||
|
Percentage of total maintenance revenue |
14 |
% |
18 |
% |
||||||||||||
Cost of maintenance revenue decreased approximately $52,000 during the nine months ended September 30, 2021 as compared to the corresponding period in 2020 despite higher maintenance revenue of $107,000. This decrease is reflective of lower maintenance labor costs incurred during the nine months ended September 30, 2021 as compared to the corresponding period in 2020 due primarily to the composition of engineering resources used in the provision of maintenance services and reductions in headcount in our customer support department.
|
Product Gross Profit |
Nine Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Software and royalties |
$ | 281 | $ | 740 | $ | (459 |
) |
(62 |
)% |
|||||||
|
Percentage of software and royalty product revenue |
93 |
% |
95 |
% |
||||||||||||
|
Hardware and consumables |
$ | 24 | $ | 29 | $ | (5 |
) |
(17 |
)% |
|||||||
|
Percentage of hardware and consumables product revenue |
32 |
% |
39 |
% |
||||||||||||
|
Services |
$ | 36 | $ | 579 | $ | (543 |
) |
(94 |
)% |
|||||||
|
Percentage of services product revenue |
37 |
% |
45 |
% |
||||||||||||
|
Total product gross profit |
$ | 341 | $ | 1,348 | $ | (1,007 |
) |
(75 |
)% |
|||||||
|
Percentage of total product revenue |
72 |
% |
63 |
% |
||||||||||||
Software and royalty gross profit decreased approximately $459,000 for the nine months ended September 30, 2021 from the corresponding period in 2020 due primarily to lower software and royalty revenue of approximately $479,000 combined with lower software and royalty cost of revenue of $20,000 for the same period. In addition to changes in costs of software and royalty product revenue caused by revenue level fluctuations, costs of products can vary as a percentage of product revenue from period to period depending upon level of software customization and third-party software license content included in product sales during a given period.
Hardware and consumable gross profit decreased approximately $5,000 for the nine months ended September 30, 2021 from the corresponding period in 2020 due primarily to lower hardware and consumable revenue of approximately $1,000 combined with higher cost of hardware and consumable revenue of approximately $6,000.
Services gross profit decreased approximately $543,000 for the nine months ended September 30, 2021 as compared to the corresponding period in 2020 due to lower service revenue of approximately $1,176,000 for the nine months ended September 30, 2021 as compared to the corresponding period in 2020 combined with lower costs of service revenue of approximately $633,000 for the nine months ended September 30, 2021 as compared to the corresponding period in 2020. In addition to changes in costs of services product revenue caused by revenue level fluctuations, costs of services can vary as a percentage of service revenue from period to period depending upon both the level and complexity of professional service resources utilized in the completion of the service element.
|
Maintenance Gross Profit |
Nine Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
Total maintenance gross profit |
$ | 1,701 | $ | 1,542 | $ | 159 | 10 | % | ||||||||
|
Percentage of total maintenance revenue |
86 |
% |
83 |
% |
||||||||||||
Gross profit related to maintenance revenue increased approximately $159,000 for the nine months ended September 30, 2021 as compared to the corresponding period in 2020. This increase reflects higher maintenance revenue of approximately $107,000 combined with lower cost of maintenance revenue of approximately $52,000 due to headcount reductions in our customer service department combined with lower maintenance labor costs incurred during the same period due to the composition of engineering resources used in the provision of maintenance services.
|
Operating Expense |
Nine Months Ended September 30, |
|||||||||||||||
|
(dollars in thousands) |
2021 |
2020 |
$ Change |
% Change |
||||||||||||
|
General and administrative |
$ | 4,147 | $ | 2,875 | $ | 1,272 | 44 |
% |
||||||||
|
Percentage of total net revenue |
169 |
% |
72 |
% |
||||||||||||
|
Sales and marketing |
$ | 2,217 | $ | 2,239 | $ | (22 |
) |
(1 |
)% |
|||||||
|
Percentage of total net revenue |
90 |
% |
56 |
% |
||||||||||||
|
Research and development |
$ | 3,456 | $ | 4,503 | $ | (1,047 |
) |
(23 |
)% |
|||||||
|
Percentage of total net revenue |
141 |
% |
113 |
% |
||||||||||||
|
Depreciation and amortization |
$ | 43 | $ | 54 | $ | (11 |
) |
(20 |
% |
|||||||
|
Percentage of total net revenue |
2 |
% |
1 |
% |
||||||||||||
General and Administrative Expense
General and administrative expense is comprised primarily of salaries and other employee-related costs for executive, financial, and other infrastructure personnel. General legal, accounting and consulting services, insurance, occupancy and communication costs are also included with general and administrative expense. The dollar increase of approximately $1,272,000 during the nine months ended September 30, 2021 as compared to the corresponding period in 2020 is comprised of the following major components:
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Decrease in personnel related expense of approximately $267,000; |
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Increases in professional and contract services of approximately $609,000 which includes Board fees of approximately $7,000, higher auditing fees of approximately $28,000, higher contract service expense of approximately $222,000, higher contractor fees of approximately $269,000, higher general corporate expense of approximately $55,000, higher professional service fees of $41,000 and higher legal fees of approximately $62,000 offset by lower investor relations fees of approximately $11,000 and lower patent-related fees of approximately $64,000; |
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Increase in travel, insurances, licenses, dues, rent, office related costs and other of approximately $304,000; |
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Increase in financing expense of approximately $329,000 primarily due to the write-off of unamortized deferred stock issuance costs; |
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Increase in stock-based compensation expense related to options and warrants of approximately $272,000; and |
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Increase in bad debt expense of approximately $25,000. |
We continue to focus our efforts on achieving additional future operating efficiencies by reviewing and improving upon existing business processes and evaluating our cost structure. We believe these efforts will allow us to continue to gradually decrease our level of general and administrative expense expressed as a percentage of total revenue.
Sales and Marketing
Sales and marketing expense consists primarily of the salaries, commissions, other incentive compensation, employee benefits and travel expense of our sales, marketing, and business development functions. The dollar decrease of approximately $22,000 during the nine months ended September 30, 2021 as compared to the corresponding period in 2020 is primarily comprised of the following major components:
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Decrease in personnel related expense of approximately $213,000 driven primarily by the effect of headcount reductions; |
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Increase in contractor and contract services of approximately $72,000 resulting from decreased utilization of certain sales consultants of approximately $145,000 offset by higher contract service expense of approximately $217,000; |
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Increase in travel, trade show expense and office related expense of approximately $84,000; |
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Increase in stock-based compensation expense of approximately $151,000; and |
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Decrease in our Mexico sales office expense and other of approximately $116,000. |
Research and Development
Research and development expense consists primarily of salaries, employee benefits and outside contractors for new product development, product enhancements, custom integration work and related facility costs. Such expense decreased approximately $1,047,000 for the nine months ended September 30, 2021 as compared to the corresponding period in 2020 due primarily to the following major components:
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Decrease in personnel related expense of approximately $1,137,000 due primarily to headcount reductions; |
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Decrease in contractor fees and contract services of approximately $47,000; |
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Increase in stock based-compensation expense of approximately $138,000; and |
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Decrease in rent, office related expense and engineering tools and supplies of approximately $1,000. |
Our level of expenditures in research and development reflects our belief that to maintain our competitive position in markets characterized by rapid rates of technological advancement, we must continue to invest significant resources in new systems and software development as well as continue to enhance existing products.
Depreciation and Amortization
During the nine months ended September 30, 2021 and 2020, depreciation and amortization expense was approximately $43,000 and $54,000, respectively. The relatively small amount of depreciation and amortization reflects the relatively small property and equipment carrying value.
Interest Expense, Net
For the nine months ended September 30, 2021, we recognized interest expense of approximately $0 and interest income of approximately $0. For the nine months ended September 30, 2020, we recognized interest expense of approximately $131,000 and interest income of approximately $0. Interest expense of approximately $131,000 for the nine months ended September 30, 2020 reflects interest incurred on a related party factoring agreement and related party notes payable.
Other (income) expense, net
During the nine months ended September 30, 2021, we recognized other income of approximately $5,000 from the write-off of a deferred contract prepayment. During the nine months ended September 30, 2020, we recognized other expense of approximately $3,000 from the recognition of a settlement fee on an outstanding obligation and $1,000 of miscellaneous expense.
Change in Fair Value of Derivative Liabilities
For the nine months ended September 30, 2021, we recognized income of approximately $16,558,000 from the decrease of derivative liabilities arising from the consummation of the Series D Financing in November 2020. Such decrease was determined by management using fair value methodologies and is included as income under the caption “(Gain) on change in fair value of derivative liabilities” in our condensed consolidated statement of income (loss) for nine months ended September 30, 2021.
For the nine months ended September 30, 2020, we recognized approximately $369,000 from the decrease of derivative liabilities arising from the consummation of the Series C Financing in September 2018. Such decrease was determined by management using fair value methodologies and is included as income under the caption “(Gain) on change in fair value of derivative liabilities” in our condensed consolidated statement of operations for nine months ended September 30, 2020. This decrease in derivative liabilities results primarily from the fair value methodologies including the high likelihood of the consummation of the Series D financing and conversion of the Series C host instrument containing the embedded derivatives.
(Gain) on Extinguishment of Derivative Liabilities and Debt
During the nine months ended September 30, 2021, we recognized a net loss on the extinguishment of derivative liabilities of approximately $311,000 pursuant to the conversion of 646 shares of Series D Preferred into Common Stock. Such loss is included in the caption “(Gain) on extinguishment of derivative liabilities and debt” in our condensed consolidated statement of income (loss) for nine months ended September 30, 2021. During the nine months ended September 30, 2021, we recognized a gain on debt extinguishment from the forgiveness of our PPP Loan. In September 2021, we received notification from the SBA that our PPP Loan of $1,571,000 was forgiven in its entirety along with accrued unpaid interest of approximately $10,000. Such gain is included in the caption “(Gain) on extinguishment of derivative liabilities and debt” in our condensed consolidated statement of income (loss) for nine months ended September 30, 2021.
LIQUIDITY, CAPITAL RESOURCES AND GOING CONCERN
Going Concern and Management’s Plans
Historically, our principal sources of cash have included proceeds from the issuance of common and preferred stock and proceeds from the issuance of debt, and, to a lesser extent, customer payments from the sale of our products. Our principal uses of cash have included cash used in operations, product development, and payments relating to purchases of property and equipment. We expect that our principal uses of cash in the future will be for product development, including customization of identity management products for enterprise and consumer applications, further development of intellectual property, development of Software-as-a-Service (“SaaS”) capabilities for existing products as well as general working capital requirements. Management expects that, as our revenue grows, our sales and marketing and research and development expense will continue to grow, albeit at a slower rate and, as a result, we will need to generate significant net revenue to achieve and sustain positive cash flows from operations. Historically the Company has not been able to generate sufficient net revenue to achieve and sustain positive cash flows from operations. As a result, the Company has been dependent on equity and debt financings to satisfy its working capital requirements and continue as a going concern. Due to the Company’s deteriorating liquidity, management has determined that there is substantial doubt about the Company’s ability to continue as a going concern.
At September 30, 2021 and December 31, 2020, we had negative working capital of $8,280,000 and $19,349,000, respectively. Included in our negative working capital as of September 30, 2021 are $7,486,000 of derivative liabilities which are not required to be settled in cash except in the event of the consummation of a change of control or at any time after the fourth anniversary of the Series D Preferred issuance, at which time the holders of the Series D Preferred may require the Company to redeem in cash any or all of the holder’s outstanding Series D Preferred at an amount equal to the Series D Liquidation Preference Amount. At September 30, 2021 the Liquidation Preference Amount totaled $22,965,000. Considering the financings consummated in 2020 and 2021, as well as our projected cash requirements, and assuming we are unable to generate incremental revenue, our available cash will be insufficient to satisfy our cash requirements for the next twelve months from the date of this filing. At November 10, 2021, cash on hand approximated $1,154,000. Based on the Company’s rate of cash consumption in the first three quarters of 2021 and the last quarter of 2020, the Company estimates it will need additional capital in the first quarter of 2022 and its prospects for obtaining that capital are uncertain. As a result of the Company’s historical losses and financial condition, there is substantial doubt about the Company’s ability to continue as a going concern.
To address our working capital requirements, management has instituted several cost cutting measures and has utilized cash proceeds available under the purchase agreement with Lincoln Park Capital Fund, LLC (“Lincoln Park”) to satisfy its working capital requirements (“LPC Purchase Agreement”). In addition, as reported in the Company’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission (the "SEC") on August 23, 2021, on August 12, 2021, the Company retained an investment bank to initiate a review of available alternatives to maximize shareholder value, which may include, among other alternatives, (i) a merger, consolidation, or other business combination or a purchase involving all or a substantial amount of the business, securities or assets of the Company, and/or (ii) the private placement of securities to meet its working capital requirements or otherwise as necessary in connection with the consummation of any of the above transactions. Other than the LPC Purchase Agreement with Lincoln Park, there are currently no financing arrangements to support our projected cash shortfall, and available capital under the LPC Purchase Agreement will be insufficient to address our working capital needs. We currently have no other commitments to purchase additional debt and/or equity securities, or other agreements, and no assurances can be given that we will be successful in raising additional debt and/or equity securities, or entering into any other transaction that addresses our ability to continue as a going concern. The consummation of a transaction will likely involve substantial dilution to the Company’s stockholders.
In view of the matters described in the preceding paragraphs, recoverability of a major portion of the recorded asset amounts shown in the accompanying consolidated balance sheet is dependent upon continued operations of the Company, which, in turn, is dependent upon the Company’s ability to continue to raise capital, generate positive cash flows from operations, or otherwise consummate a transaction that addresses the Company’s working capital requirements. However, the Company operates in markets that are emerging and highly competitive. There is no assurance that the Company will be able to obtain additional capital, consummate a transaction that addresses its liquidity concerns, or operate at a profit or generate positive cash flows in the future. Therefore, management’s plans do not alleviate the substantial doubt of the Company’s ability to continue as a going concern.
The condensed consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts and classifications of liabilities that might be necessary should the Company be unable to continue as a going concern.
Operating Activities
We used net cash of $6,764,000 in operating activities for the three months ended September 30, 2021 as compared to net cash used of $4,979,000 during the comparable period in 2020. During the nine months ended September 30, 2021, net cash used in operating activities consisted of net income of $9,871,000 and an increase in working capital and other assets and liabilities of $284,000. Those amounts are in addition to approximately $16,351,000 of non-cash income, including $16,558,000 in income from the change in fair value of derivative liabilities and $1,270,000 in income from the extinguishment of debt and derivative liabilities offset by $942,000 in stock-based compensation, $43,000 in depreciation and amortization, $82,000 in non-cash expense from the disposal of fixed assets, $364,000 in non-cash expense from the write-off of deferred stock issuance costs, and $46,000 from the issuance of common stock as compensation in lieu of cash. During the nine months ended September 30, 2021, we used cash of $176,000 from increases in current assets combined with $31,000 from decreases in our operating leases right-of-use assets and used cash of $77,000 through decreases in current liabilities and deferred revenue.
We used net cash of $4,979,000 in operating activities for the nine months ended September 30, 2020 as compared to net cash used of $8,007,000 during the comparable period in 2019. During the nine months ended September 30, 2020, net cash used in operating activities consisted of net loss of $6,652,000 and a decrease in working capital and other assets and liabilities of $1,450,000. Those amounts are in addition to approximately $223,000 of non-cash costs, including $449,000 in stock-based compensation, $54,000 in depreciation and amortization and $89,000 from the application of rent deposits offset by $369,000 in the change in fair value of derivative liabilities. During the nine months ended September 30, 2020, we generated cash of $813,000 from decreases in current assets offset by $13,000 from increases in our operating leases right-of-use assets and generated cash of $650,000 through increases in current liabilities and deferred revenue.
Investing Activities
Net cash used in investing activities during the nine months ended September 30, 2021 was $48,000 as compared to $19,000 for the corresponding period in 2020. For the nine months ended September 30, 2021, we used cash of $48,000 to fund capital expenditures of computer hardware.
Financing Activities
During the nine months ended September 30, 2021, we generated cash of approximately $100,000 from the sale of 1,000,000 shares of Common Stock for $0.10 per share and used cash of approximately $25,000 for the payment of dividends on our Series B Preferred Stock. During the nine months ended September 30, 2020, we generated cash of approximately $2,360,000 from the sale of 15,700,000 shares of Common Stock before recognition of approximately $64,000 in direct stock issuance costs. We generated cash of $900,000 from the issuance of related party notes payable and generated cash of $1,571,000 from the issuance of notes payable under the Paycheck Protection Program. We also generated cash of $2,187,000 from the issuance of notes payable pursuant to the Bridge Loan Financing portion of the Series D Financing. During the nine months ended September 30, 2020, we used cash of approximately $25,000 for the payment of dividends on our Series B Preferred Stock.
Inflation
We do not believe that inflation has had a material impact on our historical operations or profitability.
Off-Balance Sheet Arrangements
At September 30, 2021, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance, special purpose or variable interest entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we did not engage in trading activities involving non-exchange traded contracts. As a result, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships. We do not have relationships and transactions with persons or entities that derive benefits from their non-independent relationship with us or our related parties except as disclosed elsewhere in this Quarterly Report.
Recently Issued Accounting Standards
Please refer to the section “Recently Issued Accounting Standards” in Note 2 of our Notes to the unaudited Condensed Consolidated Financial Statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our business extends to countries outside the United States, and we intend to continue to expand our foreign operations. As a result, our revenue and results of operations are affected by fluctuations in currency exchange rates, interest rates, and other uncertainties inherent in doing business in more than one currency. In addition, our operations are exposed to risks that are associated with changes in social, political, and economic conditions in the foreign countries in which we operate, including changes in the laws and policies that govern foreign investment, as well as, to a lesser extent, changes in United States laws and regulations relating to foreign trade and investment.
Changes in currency exchange rates affect the relative prices at which we sell our products and purchase goods and services. Given the uncertainty of exchange rate fluctuations, we cannot estimate the effect of these fluctuations on our future business, product pricing, results of operations, or financial condition. We do not use foreign currency exchange contracts or derivative financial instruments for hedging or speculative purposes. To the extent foreign sales become a more significant part of our business in the future, we may seek to implement strategies which make use of these or other instruments in order to minimize the effects of foreign currency exchange on our business.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Disclosure Controls and Procedures
Our management, Chief Executive Officer and Principal Financial and Accounting Officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2021. The term "disclosure controls and procedures," as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by us in the reports that we file or submit 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 us in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer and Principal Financial and Accounting Officer, as appropriate, to allow timely decisions regarding required disclosure. Based on this evaluation, our Chief Executive Officer and Principal Financial and Accounting Officer concluded that our disclosure controls and procedures were not effective at the reasonable assurance level as of September 30, 2021. This conclusion was based on the material weaknesses in our internal control over financial reporting as further described below.
Material Weaknesses
During the second quarter of our fiscal year 2021, we identified material weaknesses in our internal control over financial reporting related to our financial statement close process and policies. We did not have adequate review policies and procedures in place to ensure the timely, effective review of the measurement of the fair value of certain derivative liabilities. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim consolidated financial statements will not be prevented or detected and corrected on a timely basis.
Remediation Efforts to Address Material Weaknesses
To remediate the material weaknesses described above, management is adding controls to further enhance and revise the design of the existing controls including:
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Establishing policies and procedures to ensure timely review, by qualified personnel, of inputs and assumptions used in measuring fair value of certain financial instruments as well as the journal entries to record the change in fair value. |
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Reassessing the design and operation of internal controls over financial reporting and review procedures over the preparation of our financial statements. |
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Maintaining adequate internal qualified personnel to properly supervise and review the information provided by the outside consulting technical experts to ensure certain significant complex transactions and technical matters were properly accounted for. |
This material weakness did not result in any restatements of our audited and unaudited consolidated financial statements or disclosures for any prior period previously reported by us.
Changes in Internal Controls Over Financial Reporting
During the three months ended September 30, 2021, the Company implemented additional review procedures to address the material weakness identified and discussed above. Other than the institution of additional review procedures, there was no change in our internal control over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
None.
Investing in our common stock involves a high degree of risk. You should carefully consider the risks in our Annual Report on Form 10-K for our fiscal year ended December 31, 2020, filed on April 5, 2021, in addition to the other information contained in this Quarterly Report, before making an investment decision. Our business, financial condition or results of operations could be harmed by any of these risks. As a result, you could lose some or all of your investment in our Common Stock. These risks and uncertainties are not the only ones we face. Additional risks not currently known to us or other factors not perceived by us to present significant risks to our business at this time also may impair our business operations.
RISKS RELATED TO OUR LIQUIDITY, BUSINESS AND INDUSTRY
Available cash resources will be insufficient to provide for our working capital needs for the next twelve months. As a result, we will need to raise additional capital to continue as a going concern.
At September 30, 2021, December 31, 2020 and 2019, we had negative working capital of $8,280,000, $19,349,000 and $1,653,000, respectively. Our principal source of liquidity at September 30, 2021, December 31, 2020 and 2019 consisted of cash and cash equivalents of $1,672,000, $8,345,000 and $1,030,000, respectively. Considering the financings consummated in 2020 and 2021, as well as our projected cash requirements, and assuming we are unable to generate incremental revenue, our available cash will be insufficient to satisfy our cash requirements for the next twelve months from the date of this filing. These factors raise substantial doubt about our ability to continue as a going concern. To address our working capital requirements, management intends to seek additional equity and/or debt financing through the issuance of additional debt and/or equity securities and may seek strategic or other transactions intended to increase shareholder value. There are currently no formal committed financing arrangements to support our projected cash shortfall, including commitments to purchase additional debt and/or equity securities, or other agreements, and no assurances can be given that we will be successful in raising additional capital through the issuance of debt and/or equity securities, or entering into any other transaction that addresses our ability to continue as a going concern.
To continue as a going concern, the Company is exploring strategic options and is reviewing its assets, the outcome of which is uncertain and may involve substantial dilution to shareholders and/or a loss of your entire investment.
As reported in the Company’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission (the "SEC") on August 23, 2021, on August 12, 2021, the Company retained an investment bank to initiate a review of available alternatives to maximize shareholder value, which may include, among other alternatives, (i) a merger, consolidation, or other business combination or a purchase involving all or a substantial amount of the business, securities or assets of the Company, and/or (ii) the private placement of securities to meet its working capital requirements or otherwise as necessary in connection with the consummation of any of the above transactions. No assurances can be given that the Company will be successful in consummating any or a combination of such alternatives. The consummation of a transaction will likely involve substantial dilution to the Company’s stockholders, and may involve the loss of your entire investment. In the event the Company is unable to consummate one or more transactions, the Company may not be able to continue as a going concern.
We have a history of significant recurring losses totaling approximately $203.6 million at September 30, 2021, $213.2 million at December 31, 2020 and $203.2 million and December 31, 2019, and these losses may continue in the future.
As of September 31, 2021, December 31, 2020 and 2019, we had an accumulated deficit of approximately $203.6 million, $213.2 million and $203.2 million, respectively, and these losses may continue in the future. We expect to continue to incur significant sales and marketing, research and development, and general and administrative expense. As a result, we will need to generate significant revenue to achieve profitability, and we may never achieve profitability.
Our operating results have fluctuated in the past and are likely to fluctuate in the future.
Our operating results have fluctuated in the past. These fluctuations in operating results are the consequence of the following, amongst other things:
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varying demand for and market acceptance of our technology and products; |
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changes in our product or customer mix; |
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the gain or loss of one or more key customers or their key customers, or significant changes in the financial condition of one or more of our key customers or their key customers; |
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our ability to introduce, certify and deliver new products and technologies on a timely basis; |
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the announcement or introduction of products and technologies by our competitors; |
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competitive pressures on selling prices; |
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costs associated with acquisitions and the integration of acquired companies, products and technologies; |
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our ability to successfully integrate acquired companies, products and technologies; |
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our accounting and legal expense; and |
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general economic conditions. |
These factors, some of which are not within our control, will likely continue in the future. To respond to these and other factors, we may need to make business decisions that could result in failure to meet financial expectations. If our quarterly operating results fail to meet or exceed the expectations of securities analysts or investors, our stock price could drop suddenly and significantly. Most of our expense, such as employee compensation and inventory, is relatively fixed in the short term. Moreover, our expense levels are based, in part, on our expectations regarding future revenue levels. As a result, if our revenue for a particular period was below our expectations, we may not be able to proportionately reduce our operating expense for that period. Any revenue shortfall would have a disproportionately negative effect on our operating results for the period.
We depend upon a small number of large system sales ranging from $100,000 to in excess of several million dollars and we may fail to achieve one or more large system sales in the future.
Historically, we have derived a substantial portion of our revenue from a small number of sales of large, relatively expensive systems, typically ranging in price from $100,000 to $2,000,000. If we fail to receive orders for these large systems in a given sales cycle on a consistent basis, our business could be significantly harmed. Further, our quarterly results are difficult to predict because we cannot predict in which quarter, if any, large system sales will occur in a given year. As a result, we believe that quarter-to-quarter comparisons of our results of operations are not a good indication of our future performance. In some future quarters, our operating results may be below the expectations of securities analysts and investors, in which case the market price of our Common Stock may decrease significantly.
Our lengthy sales cycle may cause us to expend significant resources for one year or more in anticipation of a sale to certain customers, yet we still may fail to complete the sale.
When considering the purchase of a large identity management product, potential customers may take as long as eighteen months to evaluate different solutions and obtain approval for the purchase. Under these circumstances, if we fail to complete a sale, we will have expended significant resources and received no revenue in return. Generally, customers consider a wide range of issues before committing to purchase our products, including product benefits, ability to operate with their current systems, product reliability and their own budgetary constraints. While potential customers are evaluating our products, we may incur substantial selling costs and expend significant management resources in an effort to accomplish potential sales that may never occur. In times of economic recession, our potential customers may be unwilling or unable to commit resources to the purchase of new and costly systems.
A number of our customers and potential customers are local, state, and federal government agencies that are subject to unique political and budgetary constraints and have special contracting requirements, which may affect our ability to obtain new and retain current government customers.
A significant number of our customers are government agencies. These agencies often do not set their own budgets and therefore have little control over the amount of money they can spend from quarter-to-quarter or year-to-year. In addition, these agencies experience political pressure that may dictate the manner in which they spend money. Due to political and budgetary processes and other scheduling delays that may frequently occur relating to the contract or bidding process, some government agency orders may be canceled or substantially delayed, and the receipt of revenue or payments from these agencies may be substantially delayed. In addition, future sales to government agencies will depend on our ability to meet government contracting requirements, certain of which may be onerous or impossible to meet, resulting in our inability to obtain a particular contract. Common requirements in government contracts include bonding requirements, provisions permitting the purchasing agency to modify or terminate at will the contract without penalty, and provisions permitting the agency to perform investigations or audits of our business practices, any of which may limit our ability to enter into new contracts or maintain our current contracts.
Two customers accounted for approximately 44% of our total revenue during the nine months ended September 21, 2021, two customers accounted for approximately 61% of our total revenue during the year ended December 31, 2020, and two customers accounted for approximately 37% of our total revenue during the year ended December 31, 2019. In the event of any material decrease in revenue from these customers, or if we are unable to replace the revenue through the sale of our products to additional customers, our financial condition and results from operations could be materially and adversely affected.
During the nine months ended September 30, 2021, two customers accounted for approximately 44% or $1,078,000 of our total revenue. During the year ended December 31, 2020, two customers accounted for approximately 61% or $2,921,000 of our total revenue. During the year ended December 31, 2019, two customers accounted for approximately 37% or $1,301,000 of our total revenue. If these customers were to significantly reduce their relationship with the Company, or in the event that we are unable to replace the revenue through the sale of our products to additional customers, our financial condition and results from operations could be negatively impacted, and such impact would be material.
We face competition from companies with greater financial, technical, sales, marketing and other resources, and, if we are unable to compete effectively with these competitors, our market share may decline and our business could be harmed.
We face competition from other established companies. A number of our competitors have longer operating histories, larger customer bases, significantly greater financial, technological, sales, marketing and other resources than we do. As a result, our competitors may be able to respond more quickly than we can to new or changing opportunities, technologies, standards or client requirements, more quickly develop new products or devote greater resources to the promotion and sale of their products and services than we can. Likewise, their greater capabilities in these areas may enable them to better withstand periodic downturns in the identity management solutions industry and compete more effectively on the basis of price and production. In addition, new companies may enter the markets in which we compete, further increasing competition in the identity management solutions industry.
We believe that our ability to compete successfully depends on a number of factors, including the type and quality of our products and the strength of our brand names, as well as many factors beyond our control. We may not be able to compete successfully against current or future competitors, and increased competition may result in price reductions, reduced profit margins, loss of market share and an inability to generate cash flows that are sufficient to maintain or expand the development and marketing of new products, any of which would adversely impact our results of operations and financial condition.
RISKS RELATED TO OUR TECHNOLOGY
We occasionally rely on systems integrators to manage our large projects, and if these companies do not perform adequately, we may lose business.
We occasionally act as a subcontractor to systems integrators who manage large projects that incorporate our systems. We cannot control these companies, and they may decide not to promote our products or may price their services in such a way as to make it unprofitable for us to continue our relationship with them. Further, they may fail to perform under agreements with their customers, in which case we might lose sales to these customers. If we lose our relationships with these companies, our business, financial condition and results of operations may suffer.
Some third parties integrate our software into their platforms or solutions. Any delay in the integration of our software or the launch of third-party products may materially affect our results from operations and financial condition.
We sell some of our software through larger product partners and/or resellers that will either resell our product alongside theirs, OEM a white label version of our products, or sell our products fully integrated into their offerings. In these cases, we are dependent upon the successful rollout of our products by our distribution partners. Any delays negatively affect our results from operations and financial condition.
If our security measures or those of our third-party data center hosting facilities, Cloud computing platform providers, or third-party service partners, are breached, and unauthorized access is obtained to a customer’s data, our data or our IT systems, or authorized access is blocked or disabled, our services may be perceived as not being secure, customers may curtail or stop using our services, and we may incur significant legal and financial exposure and liabilities.
Our services involve the storage and transmission of our customers’ and our customers’ customers’ proprietary and other sensitive data, including financial information and other personally identifiable information. While we have security measures in place, they may be breached as a result of efforts by individuals or groups of hackers and sophisticated organizations, including state-sponsored organizations or nation-states. Our security measures could also be compromised by employee error or malfeasance, which could result in someone obtaining unauthorized access to, or denying authorized access to our IT systems, our customers’ data or our data, including our intellectual property and other confidential business information. Additionally, third parties may attempt to fraudulently induce employees or customers into disclosing sensitive information such as usernames, passwords or other information to gain access to our customers’ data, our data or our IT systems.
We take extraordinary measures to ensure identity authentication of users who access critical IT infrastructure, including but not limited to, two-factor, multi-factor and biometric identity verification. This substantially reduces the threat of unauthorized access by bad actors using compromised user credentials.
Because the techniques used to breach, obtain unauthorized access to, or sabotage IT systems change frequently, grow more complex over time, and generally are not recognized until launched against a target, we may be unable to anticipate or implement adequate measures to prevent against such techniques.
Our services operate in conjunction with and are dependent on products and components across a broad ecosystem and, if there are security vulnerabilities in one of these components, a security breach could occur. In addition, our internal IT systems continue to evolve, and we are often early adapters of new technologies and new ways of sharing data and communicating internally and with partners and customers, which increases the complexity of our IT systems. These risks are mitigated by our ability to maintain and improve business and data governance policies and processes and internal security controls, including our ability to escalate and respond to known and potential risks.
In addition, our customers may authorize third-party technology providers to access their customer data, and some of our customers may not have adequate security measures in place to protect their data that is stored on our servers. Because we do not control our customers or third-party technology providers, or the processing of such data by third-party technology providers, we cannot ensure the integrity or security of such transmissions or processing. Malicious third parties may also conduct attacks designed to temporarily deny customers access to our services.
A security breach could expose us to a risk of loss or inappropriate use of proprietary and sensitive data, or the denial of access to this data. A security breach could also result in a loss of confidence in the security of our services, damage our reputation, negatively impact our future sales, disrupt our business and lead to legal liability. Finally, the detection, prevention and remediation of known or potential security vulnerabilities, including those arising from third-party hardware or software may result in additional direct and indirect costs, for example additional infrastructure capacity to mitigate any system degradation that could result from remediation efforts.
RISKS RELATED TO INTELLECTUAL PROPERTY
If the patents we own or license, or our other intellectual property rights, do not adequately protect our products and technologies, we may lose market share to our competitors and our business, financial condition and results of operations would be adversely affected.
Our success depends significantly on our ability to protect our rights to the technologies used in our products. We rely on patent protection, trade secrets, as well as a combination of copyright and trademark laws and nondisclosure, confidentiality and other contractual arrangements to protect our technology. However, these legal means afford only limited protection and may not adequately protect our rights or permit us to gain or keep any competitive advantage. In addition, we cannot be assured that any of our current and future pending patent applications will result in the issuance of a patent to us. The U.S. Patent and Trademark Office (“PTO”) may deny or require significant narrowing of claims in our pending patent applications, and patents issued as a result of the pending patent applications, if any, may not provide us with significant commercial protection or may not be issued in a form that is advantageous to us. We could also incur substantial costs in proceedings before the PTO. These proceedings could result in adverse decisions as to the claims included in our patents.
Our issued and licensed patents and those that may be issued or licensed in the future may be challenged, invalidated or circumvented, which could limit our ability to stop competitors from marketing related products. Additionally, upon expiration of our issued or licensed patents, we may lose some of our rights to exclude others from making, using, selling or importing products using the technology based on the expired patents. We also must rely on contractual rights with the third parties that license technology to us to protect our rights in the technology licensed to us. Although we have taken steps to protect our intellectual property and technology, there is no assurance that competitors will not be able to design around our patents. We also rely on unpatented proprietary technology. We cannot assure you that we can meaningfully protect all our rights in our unpatented proprietary technology or that others will not independently develop substantially equivalent proprietary products or processes or otherwise gain access to our unpatented proprietary technology. We seek to protect our know-how and other unpatented proprietary technology with confidentiality agreements and intellectual property assignment agreements with our employees. However, such agreements may not provide meaningful protection for our proprietary information in the event of unauthorized use or disclosure or other breaches of the agreements or in the event that our competitors discover or independently develop similar or identical designs or other proprietary information. In addition, we rely on the use of registered and common law trademarks with respect to the brand names of some of our products. Our common law trademarks provide less protection than our registered trademarks. Loss of rights in our trademarks could adversely affect our business, financial condition and results of operations.
Furthermore, the laws of foreign countries may not protect our intellectual property rights to the same extent as the laws of the United States. If we fail to apply for intellectual property protection or if we cannot adequately protect our intellectual property rights in these foreign countries, our competitors may be able to compete more effectively against us, which could adversely affect our competitive position, as well as our business, financial condition and results of operations.
If third parties claim that we infringe their intellectual property rights, we may incur liabilities and costs and may have to redesign or discontinue selling certain products.
Whether a product infringes a patent involves complex legal and factual issues, the determination of which is often uncertain. We face the risk of claims that we have infringed on third parties’ intellectual property rights. Searching for existing intellectual property rights may not reveal important intellectual property and our competitors may also have filed for patent protection, which is not yet a matter of public knowledge, or claimed trademark rights that have not been revealed through our availability searches. Our efforts to identify and avoid infringing on third parties’ intellectual property rights may not always be successful. Any claims of patent or other intellectual property infringement, even those without merit, could:
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increase the cost of our products; |
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be expensive and time consuming to defend; |
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result in us being required to pay significant damages to third parties; |
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force us to cease making or selling products that incorporate the challenged intellectual property; |
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require us to redesign, reengineer or rebrand our products; |
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require us to enter into royalty or licensing agreements in order to obtain the right to use a third party’s intellectual property, the terms of which may not be acceptable to us; |
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require us to indemnify third parties pursuant to contracts in which we have agreed to provide indemnification to such parties for intellectual property infringement claims; |
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divert the attention of our management; and |
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result in our customers or potential customers deferring or limiting their purchase or use of the affected products until the litigation is resolved. |
In addition, new patents obtained by our competitors could threaten a product’s continued life in the market even after it has already been introduced.
REGULATORY AND LEGAL RISK FACTORS
Failure to comply with federal, state and international laws and regulations and our contractual obligations relating to privacy, data protection and consumer protection, or the expansion of current or the enactment of new laws or regulations relating to privacy, data protection and consumer protection, could adversely affect our business and our financial condition.
We collect and maintain significant amounts of personal data and other data relating to our customers and employees. A variety of federal, state and international laws and regulations, and certain industry standards, govern or apply to our collection, use, retention, sharing and security of consumer data. We are subject to certain laws, regulations, contractual obligations and industry standards (including, for example, the Payment Card Industry Data Security Standard, or PCI-DSS) relating to privacy, data protection, information security and consumer protection, which are evolving and subject to potentially differing interpretations. These requirements may be interpreted and applied in a manner that is inconsistent from one jurisdiction to another or may conflict with other rules or our practices. As a result, our practices may not comply or may not comply in the future with all such laws, regulations, requirements and obligations. Any failure, or perceived failure, by us to comply with our privacy policies or with any federal, state or international laws, regulations, industry self-regulatory principles, industry standards or codes of conduct, regulatory guidance, orders to which we may be subject or other legal or contractual obligations relating to privacy, data protection, information security or consumer protection could adversely affect our reputation, brand and business, and may result in claims, proceedings or actions against us by governmental entities or others or other liabilities or require us to change our operations and/or cease or modify our use of certain data sets. Any such claim, proceeding or action could hurt our reputation, brand and business, force us to incur significant expenses in defense of such proceedings, distract our management, increase our costs of doing business, result in a loss of customers and suppliers or an inability to process credit card payments and may result in the imposition of monetary penalties. We may also be contractually required to indemnify and hold harmless third parties from the costs or consequences of non-compliance with any laws, regulations or other legal obligations relating to privacy or consumer protection or any inadvertent or unauthorized use or disclosure of data that we store or handle as part of operating our business.
Foreign laws and regulations relating to privacy, data protection, information security and consumer protection often are more restrictive than those in the United States. The European Union, for example, traditionally has imposed stricter obligations under its laws and regulations relating to privacy, data protection and consumer protection than the United States. In May 2018 the European Union's new regulation governing data practices and privacy called the General Data Protection Regulation, or GDPR, became effective and substantially replaced the data protection laws of the individual European Union member states. The law requires companies to meet more stringent requirements regarding the handling of personal data of individuals in the EU than were required under predecessor EU requirements. In the United Kingdom, a Data Protection Bill that substantially implements the GDPR also became law in May 2018. The law also increases the penalties for non-compliance, which may result in monetary penalties of up to €20.0 million or 4% of a company's worldwide turnover, whichever is higher. The GDPR and other similar regulations require companies to give specific types of notice and in some cases seek consent from consumers and other data subjects before collecting or using their data for certain purposes, including some marketing activities. Outside of the European Union, many countries have laws, regulations, or other requirements relating to privacy, data protection, information security, and consumer protection, and new countries are adopting such legislation or other obligations with increasing frequency. Many of these laws may require consent from consumers for the use of data for various purposes, including marketing, which may reduce our ability to market our products. There is no harmonized approach to these laws and regulations globally. Consequently, we increase our risk of non-compliance with applicable foreign data protection laws by operating internationally. We may need to change and limit the way we use personal information in operating our business and may have difficulty maintaining a single operating model that is compliant. In addition, various federal, state and foreign legislative and regulatory bodies, or self-regulatory organizations, may expand current laws or regulations, enact new laws or regulations or issue revised rules or guidance regarding privacy, data protection, information security and consumer protection. For example, California recently adopted the California Consumer Privacy Act of 2018 (“CCPA”), which provides new data privacy rights for consumers and new operational requirements for businesses. The CCPA includes a statutory damages framework and private rights of action against businesses that fail to comply with certain CCPA terms or implement reasonable security procedures and practices to prevent data breaches. The CCPA went into effect in January 2020. The effects of the CCPA potentially are significant, however, and may require us to modify our data processing practices and policies and to incur substantial costs and expenses in an effort to comply. As a general matter, compliance with laws, regulations, and any applicable rules or guidance from self-regulatory organizations relating to privacy, data protection, information security and consumer protection, may result in substantial costs and may necessitate changes to our business practices, which may compromise our growth strategy, adversely affect our ability to acquire customers, and otherwise adversely affect our business, financial condition and operating results.
We may have additional tax assessments.
We are subject to income taxes in the United States. Significant judgments are required in determining our provisions for income taxes. In the course of preparing our tax provisions and returns, we must make calculations where the ultimate tax determination may be uncertain. Our tax returns are subject to examination by the Internal Revenue Service (“IRS”) and state tax authorities. There can be no assurance as to the outcome of these examinations. If the ultimate determination of taxes owed is for an amount in excess of amounts previously accrued, our operating results, cash flows, and financial condition could be adversely affected.
We operate in foreign countries and are exposed to risks associated with foreign political, economic and legal environments and with foreign currency exchange rates.
We have significant foreign operations. As a result, we are exposed to risks, including among others, risks associated with foreign political, economic and legal environments and with foreign currency exchange rates. Our results may be adversely affected by, among other things, changes in government policies with respect to laws and regulations, anti-inflation measures, currency conversions, collection of receivables abroad and rates and methods of taxation.
GOVERNANCE RISKS AND RISKS RELATED TO OUR SECURITIES
Our Common Stock is subject to “penny stock” rules.
Our Common Stock is currently defined as a “penny stock” under Rule 3a51-1 promulgated under the Exchange Act which are subject to Rules 15g-2 through 15g-7 and Rule 15g-9, which impose additional sales practice requirements on broker-dealers that sell penny stocks to persons other than established customers and institutional accredited investors. Among other things, for transactions covered by these rules, a broker-dealer must make a special suitability determination for the purchaser and have received the purchaser’s written consent to the transaction prior to sale. Consequently, these rules may affect the ability of broker-dealers to sell our Common Stock and affect the ability of holders to sell their shares of our Common Stock in the secondary market. To the extent our Common Stock is subject to the penny stock regulations, the market liquidity for our shares will be adversely affected.
Our stock price has been volatile, and your investment in our Common Stock could suffer a decline in value.
There has been significant volatility in the market price and trading volume of equity securities, which is unrelated to the financial performance of the companies issuing the securities. These broad market fluctuations may negatively affect the market price of our Common Stock. You may not be able to resell your shares at or above the price you pay for those shares due to fluctuations in the market price of our Common Stock caused by changes in our operating performance or prospects and other factors.
Some specific factors that may have a significant effect on our Common Stock market price include:
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actual or anticipated fluctuations in our operating results or future prospects; |
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our announcements or our competitors’ announcements of new products; |
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the public’s reaction to our press releases, our other public announcements and our filings with the SEC; |
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strategic actions by us or our competitors, such as acquisitions or restructurings; |
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new laws or regulations or new interpretations of existing laws or regulations applicable to our business; |
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changes in accounting standards, policies, guidance, interpretations or principles; |
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changes in our growth rates or our competitors’ growth rates; |
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developments regarding our patents or proprietary rights or those of our competitors; |
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our inability to raise additional capital as needed; |
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substantial sales of Common Stock underlying warrants and preferred stock; |
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concern as to the efficacy of our products; |
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changes in financial markets or general economic conditions; |
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sales of Common Stock by us or members of our management team; and |
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changes in stock market analyst recommendations or earnings estimates regarding our Common Stock, other comparable companies or our industry generally. |
Our future sales of our Common Stock could adversely affect its price and our future capital-raising activities could involve the issuance of equity securities, which would dilute shareholders’ investments and could result in a decline in the trading price of our Common Stock.
We may sell securities in the public or private equity markets if and when conditions are favorable, even if we do not have an immediate need for additional capital at that time. Sales of substantial amounts of our Common Stock, or the perception that such sales could occur, could adversely affect the prevailing market price of our Common Stock and our ability to raise capital. We may issue additional Common Stock in future financing transactions or as incentive compensation for our executive management and other key personnel, consultants and advisors. Issuing any equity securities would be dilutive to the equity interests represented by our then-outstanding shares of Common Stock. The market price for our Common Stock could decrease as the market takes into account the dilutive effect of any of these issuances. Furthermore, we may enter into financing transactions at prices that represent a substantial discount to the market price of our Common Stock. A negative reaction by investors and securities analysts to any discounted sale of our equity securities could result in a decline in the trading price of our Common Stock.
The holders of our Preferred Stock (as defined below) have certain rights and privileges that are senior to our Common Stock, and we may issue additional shares of Preferred Stock without stockholder approval that could have a material adverse effect on the market value of the Common Stock.
Our Board of Directors has the authority to issue a total of up to 5.0 million shares of preferred stock, par value $0.01 per share (“Preferred Stock”) and to fix the rights, preferences, privileges, and restrictions, including voting rights, of the Preferred Stock, which typically are senior to the rights of the Common Stock, without any further vote or action by the holders of our Common Stock. The rights of the holders of our Common Stock will be subject to, and may be adversely affected by, the rights of the holders of the Preferred Stock that have been issued or might be issued in the future. Preferred Stock also could have the effect of making it more difficult for a third party to acquire a majority of our outstanding voting stock. This could delay, defer, or prevent a change in control. Furthermore, holders of our Preferred Stock may have other rights, including economic rights, senior to the Common Stock. As a result, their existence and issuance could have a material adverse effect on the market value of the Common Stock. We have in the past issued and may from time to time in the future issue, Preferred Stock for financing or other purposes with rights, preferences, or privileges senior to the Common Stock. As of September 30, 2021, we had two series of Preferred Stock outstanding, the Series B Preferred, and Series D Preferred.
The provisions of our Series B Preferred prohibit the payment of dividends on our Common Stock unless the dividends on our preferred shares are first paid. In addition, upon a liquidation, dissolution or sale of our business, the holders of our Series B Preferred will be entitled to receive, in preference to any distribution to the holders of Common Stock, initial distributions of $2.50 per share, plus all accrued but unpaid dividends. As of September 30, 2021, December 31, 2020 and 2019, there were 239,400 shares of Series B Preferred outstanding. As of September 30, 2021, we had cumulative undeclared dividends on our Series B Preferred of approximately $21,000.
The provisions of our Series D Preferred prohibit the payment of dividends on our Common Stock unless the dividends on our preferred shares are first paid. In addition, upon a liquidation, dissolution or sale of our business, the holders of our Series D Preferred will be entitled to receive, in preference to any distribution to the holders of Common Stock, initial distributions of $1,000 per share, plus all accrued but unpaid dividends. As of September 30, 2021, December 31, 2020 and 2019, there were 22,965.4, 22,863.28 and 0 shares of Series D Preferred outstanding, respectively. As of September 30, 2021, we had no cumulative undeclared dividends on our Series D Preferred.
The conversion of our Series B Preferred Stock and Series D Preferred Stock and the exercise of currently outstanding warrants could result in significant dilution to the holders of our common stock.
The holders of our Series B Preferred Stock and Series D Preferred Stock may elect to convert their shares of Preferred Stock into shares of Common Stock. As of September 30, 2021, 239,400 shares of Series B Preferred Stock, which are convertible into 47,001 shares of Common Stock; and 22,965.4 shares of Series D Preferred Stock, which are convertible into 393,917,667 shares of Common Stock. In addition to our outstanding shares of Preferred Stock, as of September 30, 2021, there were outstanding warrants to purchase 3,150,000 shares of our Common Stock.
The conversion of our Series A Preferred Stock, Series A-1 Preferred Stock, Series B Preferred Stock and Series D Preferred Stock, as well as the exercise of our outstanding warrants could result in significant dilution to existing common shareholders, adversely affect the market price of our Common Stock and impair our ability to raise capital through the sale of additional equity securities.
Upon the occurrence of certain events, we may be required to redeem all or a portion of our Preferred Stock.
Holders of certain of our Preferred Stock may require us to redeem all or any portion of such Holder’s shares Preferred Stock within specific date from issuance or in the event of the consummation of a Change of Control (as such term is defined in the Certificate of Designations, Preferences and Rights of each class of Preferred Stock). We cannot assure you that we will maintain sufficient cash reserves or that our business will generate cash flow from operations at levels sufficient to permit us to redeem our shares of Preferred Stock if and when required to do so. In the event we have insufficient cash available or do not have access to additional third-party financings on commercially reasonable terms or at all to complete such redemption, our business, results of operations, and financial condition may be materially adversely affected.
Certain large shareholders may have certain personal interests that may affect the Company.
As a result of the securities issued to Nantahala Capital Management, LLC (“Nantahala Capital Management”), and the related entities controlled by Nantahala Capital Management, (i) Blackwell Partners LLC - Series A, (ii) Nantahala Capital Partners Limited Partnership, (iii) Nantahala Capital Partners II Limited Partnership, (iv) Nantahala Capital Partners SI, LP, (v) NCP QR Limited Partnership, and (vi) Silver Creek CS SAV, L.L.C. (collectively, "Nantahala"), Nantahala beneficially owns, in the aggregate, approximately 37% of the Company’s outstanding voting securities as of October 15, 2021. As a result, Nantahala has the potential ability to exert influence over the outcome of issues requiring approval by the Company’s shareholders. This concentration of ownership may have effects such as delaying or preventing a change in control of the Company that may be favored by other shareholders or preventing transactions in which shareholders might otherwise recover a premium for their shares over current market prices.
Our corporate documents and Delaware law contain provisions that could discourage, delay or prevent a change in control of the Company.
Provisions in our certificate of incorporation and bylaws may discourage, delay or prevent a merger or acquisition involving us that our stockholders may consider favorable. For example, our certificate of incorporation authorizes Preferred Stock, which carries special rights, including voting and dividend rights. With these rights, holders of Preferred Stock could make it more difficult for a third party to acquire us.
Our Amended Charter designates courts within the State of Delaware as the sole and exclusive forum for certain types of actions and proceedings that may be initiated by our stockholders, and the federal district courts for the United States of America for claims brought under the Securities Act of 1933, as amended, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, employees or agents.
Our Amended and Restated Certificate of Incorporation (the “Amended Charter”) require that, to the fullest extent permitted by law, and unless the Company consents in writing to the selection of an alternative forum, a state court located within the State of Delaware (or, if no state court located within the State of Delaware has jurisdiction, the federal district court for the District of Delaware), will, to the fullest extent permitted by law, be the sole and exclusive forum for each of the following:
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any derivative action or proceeding brought on behalf of the Company; |
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any action asserting a claim of breach of a fiduciary duty owed by any director or officer or other employee of the Company to the Company or the Company’s stockholders; |
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any action asserting a claim against the Company or any director or officer or other employee of the Company arising pursuant to any provision of the Delaware General Corporation Law or the Company’s Amended Charter, or the Amended and Restated Bylaws; or |
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any action asserting a claim against the Company or any director or officer or other employee of the Company governed by the internal affairs doctrine. |
Furthermore, the Amended Charter sets forth that the federal district courts of the United States of America are the exclusive forum for the resolution of any causes of action arising under the Securities Act of 1933, as amended (the “Securities Act”).
Because the applicability of the exclusive forum provision is limited to the extent permitted by law, we believe that the exclusive forum provision would not apply to suits brought to enforce any duty or liability created by the Securities Exchange Act of 1934, as amended (“Exchange Act”), or any other claim for which the federal courts have exclusive jurisdiction. We note that there is uncertainty as to whether a court would enforce the provision and that investors cannot waive compliance with the federal securities laws and the rules and regulations thereunder. Although we believe this provision benefits us by providing increased consistency in the application of Delaware law and federal law under the Securities Act in the types of lawsuits to which they apply, the provisions may have the effect of discouraging lawsuits against our directors and officers.
We do not expect to pay cash dividends on our Common Stock for the foreseeable future.
We have never paid cash dividends on our Common Stock and do not anticipate that any cash dividends will be paid on the Common Stock for the foreseeable future. The payment of any cash dividend by us will be at the discretion of our Board of Directors and will depend on, among other things, our earnings, capital, regulatory requirements and financial condition. Furthermore, the terms of our Series A Preferred, Series A-1 Preferred, Series B Preferred, Series C Preferred and Series D Preferred directly limit our ability to pay cash dividends on our Common Stock.
GENERAL RISK FACTORS
Our business is subject to risks arising from epidemic diseases, such as the recent global outbreak of the COVID-19 coronavirus.
The recent outbreak of the novel coronavirus, COVID-19, which has been declared by the World Health Organization to be a pandemic, has spread across the globe and is impacting worldwide economic activity. A pandemic, including COVID-19 or other public health epidemics, pose the risk that we or our employees, contractors, suppliers, and other partners may be prevented from conducting business activities for an indefinite period of time, including shutdowns that may be requested or mandated by governmental authorities. While it is not possible at this time to estimate the impact that COVID-19 could have on our business, the COVID-19 pandemic and mitigation measures have had and may continue to have an adverse impact on global economic conditions which could have an adverse effect on our business and financial condition, including impairing our ability to raise capital when needed.
COVID-19 has prevented employees from returning to physical offices. In many cases, our potential customers in the government or commercial enterprise-side like to test our software in their labs with their systems and hardware. Potential customers have been unable to do this and that has caused purchase decisions to be delayed as these employees who would be testing are now working from their homes and can’t simulate test environments. COVID-19 has further led to a distributed work environment. Decision makers are now working from their homes, from all different parts of a state or country. Some have weak or no Internet connections, making it harder to review paperwork to decide on a large financial purchase. Some decision makers want to have more conversations with more people, and mull over decisions longer, versus in the past, when an individual could walk into a decision makers office and garner more rapid approval. Some countries have limits on how many people are permitted to gather in one meeting or have been hit particularly hard with many residents suffering and dying from the COVID-19 virus. There is a new paradigm emerging in making critical decisions from a video conference calls versus in person.
An economic recession had set in from the pandemic in 2020. Some companies are not receiving payments and in turn are not making payments to us, causing impairments in our ability to pay others. COVID-19 has led to some of our customers and potential customers being stricken with the virus causing them to not be able to work for many weeks and therefore causing delays for us in our projects or decisions. Technology partners have slowed down and/or laid off employees, impacting us downstream because decisions makers have been furloughed or the work has been passed to new employees who need to come up to speed on a particular project. The closing/downsizing of our offices due to COVID-19 has further caused employees to work from home on unsecured personal Wifi networks, and as such, working from home may cause security breaches such as malware, ransomware, and Phishing attempts. These attempts in some cases have knocked out their ability to have a connection and be able to work until their IT department resolves their issues.
This outbreak could decrease spending, adversely affect demand for the Company’s products, and harm the Company’s business and results of operations. It is not possible for the Company to predict the duration or magnitude of the adverse results of the outbreak and its effects on the Company’s business or results of operations, financial condition, or liquidity, at this time.
Certain key personnel have terminated their employment with the Company. Given that we are dependent on key personnel, the loss of any additional personnel, including our Chief Executive Officer, could materially and adversely affect our plan of operations and ability to obtain financing.
We are dependent to a significant extent upon the efforts and abilities of our executive officers and other key personnel. During the current fiscal year, we have lost certain key personnel due to the absence of meaningful equity incentives, among other causes. The loss of the services of any additional key employees, including our Chief Executive Officer, and any negative market or industry perception arising from the loss of such services, could have a material adverse effect on us, our plan of operations and ability to obtain financing. Our business will also be dependent upon our ability to attract and retain qualified personnel. Acquiring and keeping these personnel has proven difficult as the market value of our Common Stock has declined, and could cost substantially more than estimated. We cannot be certain that we will be able to retain such personnel or attract a high caliber of personnel in the future.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
There were no unregistered sales of equity securities during the nine months ended September 30, 2021 that were not previously reported.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
None.
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EXHIBITS |
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Certification of the Principal Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) |
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Certification by the Acting Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a) |
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Certification by the Principal Executive Officer pursuant to 18 U.S.C. 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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101.INS |
Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document |
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101.SCH |
Inline XBRL Taxonomy Extension Schema |
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101.CAL |
Inline XBRL Taxonomy Extension Calculation Linkbase |
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101.DEF |
Inline XBRL Taxonomy Extension Definition Linkbase |
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101.LAB |
Inline XBRL Taxonomy Extension Label Linkbase |
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101.PRE |
Inline XBRL Taxonomy Extension Presentation Linkbase |
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104 |
Cover Page Interactive Data File (embedded within the Inline XBRL Document and include in Exhibit 101) |
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
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IMAGEWARE SYTEMS, INC |
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Date: November 15, 2021 |
By: |
/s/ Kristin Taylor |
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Kristin Taylor Chief Executive Officer (Principal Executive Officer) and President |
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Date: November 15, 2021 |
By: |
/s/ Jeffrey Hotze |
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Acting Principal Financial and Accounting Officer |
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1 Year ImageWare Systems (CE) Chart |
1 Month ImageWare Systems (CE) Chart |
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