NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE
1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature
of Operations:
Digital
Ally, Inc. (with its wholly-owned subsidiaries, Digital Ally International, Inc. and Shield Products, LLC collectively, “Digital
Ally,” “Digital,” and the “Company”) produces digital video imaging, storage products and disinfectant
and related safety products for use in law enforcement, security and commercial applications. The Company’s products include, among
others; in-car digital video/audio recorders contained in a rear-view mirror for use in law enforcement and commercial fleets; a system
that provides its law enforcement customers with audio/video surveillance from multiple vantage points and hands-free automatic activation
of body-worn cameras and in-car video systems; a miniature digital video system designed to be worn on an individual’s body; and
cloud storage solutions. The Company has recently added two new lines of branded products: (1) the ThermoVu™ line, which is a line
of self-contained temperature monitoring stations that provides alerts and controls facility access when an individual’s temperature
exceeds a pre-set threshold and (2) the Shield™ disinfectant and cleanser line, which is for use against viruses and bacteria and
which we began offering to the Company’s law enforcement and commercial customers beginning late in the second quarter of 2020.
Both product lines are manufactured by third parties. In addition, the Company has active research and development programs to adapt
its technologies to other applications. It can integrate electronic, radio, computer, mechanical, and multi-media technologies to create
unique solutions to address needs in a variety of other industries and markets, including mass transit, school bus, taxicab and the military.
The Company sells its products to law enforcement agencies, private security customers and organizations, and consumer and commercial
fleet operators through direct sales domestically and third-party distributors internationally.
The
Company was originally incorporated in Nevada on December 13, 2000 as Vegas Petra, Inc. and had no operations until 2004. On November
30, 2004, Vegas Petra, Inc. entered into a Plan of Merger with Digital Ally, Inc., at which time the merged entity was renamed Digital
Ally, Inc.
Basis
of Presentation:
The
condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United
States for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do
not include all the information and footnotes required by generally accepted accounting principles in the United States for complete
financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for
a fair presentation have been included. Operating results for the three-month period ended March 31, 2021 are not necessarily indicative
of the results that may be expected for the year ending December 31, 2021.
The
balance sheet at December 31, 2020 has been derived from the audited financial statements at that date, but does not include all the
information and footnotes required by generally accepted accounting principles in the United States for complete financial statements.
For
further information, refer to the audited financial statements and footnotes included in the Company’s annual report
on Form 10-K for the year ended December 31, 2020.
COVID-19
pandemic:
The
COVID-19 pandemic represents a fluid situation that presents a wide range of potential impacts of varying durations for different global
geographies, including locations where we have offices, employees, customers, vendors and other suppliers and business partners.
Like
most US-based businesses, the COVID-19 pandemic and efforts to mitigate the same began to have impacts on our business in March 2020.
By that time, much of our first fiscal quarter was completed. During the remainder of 2020 and the quarter ended March 31, 2021, we observed
decreases in demand from certain customers, including primarily our law-enforcement and commercial customers.
Given
the fact that our products are sold through a variety of distribution channels, we expect our sales will experience more volatility as
a result of the changing and less predictable operational needs of many customers as a result of the COVID-19 pandemic. We are aware
that many companies, including many of our suppliers and customers, are reporting or predicting negative impacts from COVID-19 on future
operating results. Although we observed significant declines in demand for our products from certain customers during 2020 and the quarter
ended March 31, 2021, we believe that it remains too early for us to know the exact impact COVID-19 will have on the long-term demand
for our products. We also cannot be certain how demand may shift over time as the impacts of the COVID-19 pandemic may go through several
phases of varying severity and duration.
In
light of broader macro-economic risks and already known impacts on certain industries that use our products and services, we have taken,
and continue to take targeted steps to lower our operating expenses because of the COVID-19 pandemic. We continue to monitor the impacts
of COVID-19 on our operations closely and this situation could change based on a significant number of factors that are not entirely
within our control and are discussed in this and other sections of this quarterly report on Form 10-Q. We do not expect there to be material
changes to our assets on our balance sheet or our ability to timely account for those assets. Further, in connection with the preparation
of this quarterly report on Form 10-Q, we reviewed the potential impacts of the COVID-19 pandemic on goodwill and intangible assets and
have determined there to be no material impact at this time. We have also reviewed the potential impacts on future risks to the business
as it relates to collections, returns and other business-related items.
To
date, travel restrictions and border closures have not materially impacted our ability to obtain inventory or manufacture or deliver
products or services to customers. However, if such restrictions become more severe, they could negatively impact those activities in
a way that would harm our business over the long term. Travel restrictions impacting people can restrain our ability to assist our customers
and distributors as well as impact our ability to develop new distribution channels, but at present we do not expect these restrictions
on personal travel to be material to our business operations or financial results. We have taken steps to restrain and monitor our operating
expenses and therefore we do not expect any such impacts to materially change the relationship between costs and revenues.
Like
most companies, we have taken a range of actions with respect to how we operate to assure we comply with government restrictions and
guidelines as well as best practices to protect the health and well-being of our employees and our ability to continue operating our
business effectively. To date, we have been able to operate our business effectively using these measures and to maintain internal controls
as documented and posted. We also have not experienced challenges in maintaining business continuity and do not expect to incur material
expenditures to do so. However, the impacts of COVID-19 and efforts to mitigate the same have remained unpredictable and it remains possible
that challenges may arise in the future.
The
actions we have taken so far during the COVID-19 pandemic include, but are not limited to:
|
●
|
requiring
all employees who can work from home to work from home;
|
|
|
|
|
●
|
increasing
our IT networking capability to best assure employees can work effectively outside the office; and
|
|
|
|
|
●
|
for
employees who must perform essential functions in one of our offices:
|
|
|
|
|
●
|
having
employees maintain a distance of at least six feet from other employees whenever possible;
|
|
|
|
|
●
|
having
employees work in dedicated shifts to lower the risk all employees who perform similar tasks
might become infected by COVID-19;
|
|
|
|
|
●
|
having
employees stay segregated from other employees in the office with whom they require no interaction; and
|
|
|
|
|
●
|
requiring
employees to wear masks while they are in the office whenever possible.
|
We
currently believe revenue for the year ending December 31, 2021 may decline year over year due to the conditions noted. In April 2020,
we implemented a COVID-19 mitigation plan designed to further reduce our operating expenses during the pandemic. Actions taken to date
include work hour and salary reductions for senior management. These cost reductions are in addition to the significant restructuring
actions we initiated in the first quarter of 2020. Based on our current cash position, our projected cash flow from operations and our
cost reduction and cost containment efforts to date, we believe that we will have sufficient capital and or have access to sufficient
capital through public and private equity and debt offerings to sustain operations for a period of one year following the date of this
filing. If business interruptions resulting from the COVID-19 pandemic were to be prolonged or expanded in scope, our business, financial
condition, results of operations and cash flows would be negatively impacted. We will continue to actively monitor this situation and
will implement actions necessary to maintain business continuity.
Basis
of Consolidation:
The
accompanying financial statements include the consolidated accounts of Digital Ally and its wholly-owned subsidiaries, Digital Ally International,
Inc. and Shield Products, LLC. All intercompany balances and transactions have been eliminated during consolidation.
The
Company formed Digital Ally International, Inc. during August 2009 to facilitate the export sales of its products. The Company formed
Shield Products, LLC in May 2020 to facilitate the sales of its Shield™ line of disinfectant/cleanser products and ThermoVu™
line of temperature monitoring equipment.
Revenue
Recognition:
The
Company applies the provisions of Accounting Standards Codification (ASC) 606-10, Revenue from Contracts with Customers, and all
related appropriate guidance. The Company recognizes revenue under the core principle to depict the transfer of control to its customers
in an amount reflecting the consideration to which it expects to be entitled. In order to achieve that core principle, the Company applies
the following five-step approach: (1) identify the contract with a customer, (2) identify the performance obligations in the contract,
(3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize
revenue when a performance obligation is satisfied.
The
Company considers customer purchase orders, which in some cases are governed by master sales agreements, to be the contracts with the
customer. In situations where sales are to a distributor, the Company had concluded its contracts are with the distributor as the Company
holds a contract bearing enforceable rights and obligations only with the distributor. As part of its consideration for the contract,
the Company evaluates certain factors including the customers’ ability to pay (or credit risk). For each contract, the Company
considers the promise to transfer products, each of which is distinct, to be the identified performance obligations. In determining the
transaction price, the Company evaluates whether the price is subject to refund or adjustment to determine the net consideration to which
it expects to be entitled. As the Company’s standard payment terms are less than one year, it has elected the practical expedient
under ASC 606-10-32-18 to not assess whether a contract has a significant financing component. The Company allocates the transaction
price to each distinct product based on its relative standalone selling price. The product price as specified on the purchase order is
considered the standalone selling price as it is an observable input which depicts the price as if sold to a similar customer in similar
circumstances. Revenue is recognized when control of the product is transferred to the customer (i.e., when the Company’s
performance obligations is satisfied), which typically occurs at shipment. Further in determining whether control has been transferred,
the Company considers if there is a present right to payment and legal title, along with risks and rewards of ownership having transferred
to the customer. Customers do not have a right to return the product other than for warranty reasons for which they would only receive
repair services or replacement product. The Company has also elected the practical expedient under ASC 340-40-25-4 to expense commissions
for product sales when incurred as the amortization period of the commission asset the Company would have otherwise recognized is less
than one year.
The
Company sells its products and services to law enforcement and commercial customers in the following manner:
|
●
|
Sales
to domestic customers are made direct to the end customer (typically a law enforcement agency or a commercial customer) through its
sales force, which is composed of its employees. Revenue is recorded when the product is shipped to the end customer.
|
|
|
|
|
●
|
Sales
to international customers are made through independent distributors who purchase products from the Company at a wholesale price
and sell to the end user (typically law enforcement agencies or a commercial customer) at a retail price. The distributor retains
the margin as its compensation for its role in the transaction. The distributor generally maintains product inventory, customer receivables
and all related risks and rewards of ownership. Accordingly, upon application of steps one through five above, revenue is recorded
when the product is shipped to the distributor consistent with the terms of the distribution agreement.
|
|
|
|
|
●
|
Repair
parts and services for domestic and international customers are generally handled by its inside customer service employees. Revenue
is recognized upon shipment of the repair parts and acceptance of the service or materials by the end customer.
|
Sales
taxes collected on products sold are excluded from revenues and are reported as accrued expenses in the accompanying balance sheets until
payments are remitted.
Service
and other revenue is comprised of revenues from extended warranties, repair services, cloud revenue and software revenue. Revenue is
recognized upon shipment of the product and acceptance of the service or materials by the end customer for repair services. Revenue for
extended warranty, cloud service or other software-based products is over the term of the contract warranty or service period. A time-elapsed
method is used to measure progress because the Company transfers control evenly over the contractual period. Accordingly, the fixed consideration
related to these revenues is generally recognized on a straight-line basis over the contract term, as long as the other revenue recognition
criteria have been met.
Contracts
with some of the Company’s customers contain multiple performance obligations that are distinct and accounted for separately. The
transaction price is allocated to the separate performance obligations on a relative standalone selling price (“SSP”). The
Company determined SSP for all the performance obligations using observable inputs, such as standalone sales and historical pricing.
SSP is consistent with the Company’s overall pricing objectives, taking into consideration the type of service being provided.
SSP also reflects the amount the Company would charge for the performance obligation if it were sold separately in a standalone sale.
Multiple performance obligations consist of product, software, cloud subscriptions and extended warranties.
The
Company’s multiple performance obligations may include future in-car or body-worn camera devices to be delivered at defined points
within a multi-year contract, and in those arrangements, the Company allocates total arrangement consideration over the life of the multi-year
contract to future deliverables using management’s best estimate of selling price.
Contract
liabilities consist of deferred revenue and include payments received in advance of performance under the contract and are reported
separately as current liabilities and non-current liabilities in the condensed consolidated balance sheets. Such amounts
consist of extended warranty contracts, prepaid cloud services and prepaid installation services and are generally recognized
as the respective performance obligations are satisfied.
Use
of Estimates:
The
preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States
of America 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 financial statements and the reported amount of revenues and expenses during
the reporting period. Actual results could differ from those estimates. Management utilizes various other estimates, including but not
limited to determining the estimated lives of long-lived assets, determining the potential impairment of long-lived assets, the fair
value of warrants, options, proceeds investment agreement and convertible debt, the recognition of revenue, inventory valuation reserve,
the valuation allowance for deferred tax assets and other legal claims and contingencies. The results of any changes in accounting estimates
are reflected in the financial statements in the period in which the changes become evident. Estimates and assumptions are reviewed periodically,
and the effects of revisions are reflected in the period that they are determined to be necessary.
Cash
and cash equivalents:
Cash
and cash equivalents include funds on hand, in bank and short-term investments with original maturities of ninety (90) days or less.
The Company maintains its
cash and cash equivalents in banks insured by the Federal Deposit Insurance Corporation (FDIC) in accounts that at times may be in excess
of the federally insured limit of $250,000 per bank. The Company minimizes this risk by placing its cash deposits with major financial
institutions. At March 31, 2021 and December 31, 2020, the uninsured balance amounted to $66,376,243 and $3,653,192, respectively.
Accounts
Receivable:
Accounts
receivable are carried at original invoice amount less an estimate made for doubtful receivables based on a review of all outstanding
amounts on a weekly basis. The Company determines the allowance for doubtful accounts by regularly evaluating individual customer receivables
and considering a customer’s financial condition, credit history, and current economic conditions. One individual customer receivable
balance exceeded 10% of total accounts receivable as of March 31, 2021 and December 31, 2020, which totaled $319,000 or 28% and $319,000
or 19% of total accounts receivable, respectively.
Trade
receivables are written off when deemed uncollectible. Recoveries of trade receivables previously written off are recorded when
received. A trade receivable is considered to be past due if any portion of the receivable balance is outstanding for more than
thirty (30) days beyond terms. No interest is charged on overdue trade receivables.
Segments
of Business:
Management
has determined that its operations are comprised of one reportable segment: the sale of digital audio and video recording and speed detection
devices. For the three months ended March 31, 2021 and 2020, sales by geographic area were as follows:
|
|
Three
Months Ended
March 31,
|
|
|
|
2021
|
|
|
2020
|
|
Sales
by geographic area:
|
|
|
|
|
|
|
|
|
United
States of America
|
|
$
|
2,477,195
|
|
|
$
|
2,371,687
|
|
Foreign
|
|
|
58,634
|
|
|
|
54,058
|
|
|
|
$
|
2,535,829
|
|
|
$
|
2,425,745
|
|
Sales
to customers outside of the United States are denominated in U.S. dollars. All Company assets are physically located within the United
States.
Recent
Accounting Pronouncements:
In
June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-13,
“Financial Instruments – Credit Losses” to improve information on credit losses for financial assets and net investment
in leases that are not accounted for at fair value through net income. ASU 2016-13 replaces the current incurred loss impairment methodology
with a methodology that reflects expected credit losses. In April 2019 and May 2019, the FASB issued ASU No. 2019-04, “Codification
Improvements to Topic 326, Financial Instruments-Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments”
and ASU No. 2019-05, “Financial Instruments-Credit Losses (Topic 326): Targeted Transition Relief” which provided additional
implementation guidance on the previously issued ASU. In November 2019, the FASB issued ASU 2019-10, “Financial Instruments - Credit
Loss (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842),” which defers the effective date for public filers
that are considered small reporting companies (“SRC”) as defined by the Securities and Exchange Commission (the “SEC”)
to fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. Since the Company is an SRC,
implementation will not be required until January 1, 2023. The Company will continue to evaluate the effect that adopting ASU 2016-13
will have on the Company’s consolidated financial statements.
In
2020, FASB issued ASU No. 2020-06 to simplify the accounting for convertible debt instruments as the current accounting guidance was
determined to be unnecessarily complex and difficult to navigate. The ASU primarily does three things: (1) The ASU eliminates the beneficial
conversion feature model and the cash conversion model. The elimination of these models will result in more convertible instruments (convertible
debt instruments or convertible preferred stock instruments) being reported as a single liability instrument. The ASU also makes targeted
improvements to the related disclosures, (2) The ASU eliminates certain settlement conditions that are required to qualify for derivative
scope exception which will allow for less equity contracts to be accounted for as a derivative and (3) The ASU aligns the diluted EPS
calculation for convertible instruments by requiring the use of the if-converted method and requiring share settlement be included in
the calculation when the contract includes an option of cash or share settlement. ASU
No. 2020-06 is effective for fiscal years beginning after December 15, 2021 with early adoption permitted for fiscal years beginning
after December 15, 2020. Management has not early-adopted this new standard and continues to evaluate the impact of adopting ASU 2020-06
will have on its consolidated financial statements.
In
2020, FASB issued ASU No. 2020-01 which represents a consensus of the Emerging Issues Task Force and it clarifies certain items related
to ASU 2016-01, Financial Instruments—Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial
Liabilities. The ASU (1) clarifies that when an entity is either applying the equity method or upon discontinuing the equity method it
should consider observable price changes in orderly transactions for the identical or a similar investment with the same issuer for valuing
basis of the investment and (2) clarifies that when determining the accounting for certain forward contracts and purchased options an
entity should not consider, whether upon settlement or exercise, if the underlying securities would be accounted for under the equity
method or fair value option. ASU No. 2020-01 is effective
for fiscal years beginning after December 15, 2020 with early adoption permitted. The Company adopted this update for the quarter
ended March 31, 2021, with no material effect on the financials.
In
December 2019, the FASB issued ASU No. 2019-12, Income Taxes - simplifying the accounting for income taxes (Topic 740), which is meant
to simplify the accounting for income taxes by removing certain exceptions to the general principles in Topic 740, Income Taxes. The
amendment also improves consistent application and simplifies GAAP for other areas of Topic 740 by clarifying and amending existing guidance.
The adoption of this standard did not have a significant impact on the Company’s financial position and results of operations.
Warrant Derivative
Liabilities
In accordance with FASB
ASC 815-40, Derivatives and Hedging: Contracts in an Entities Own Equity, entities must consider whether to classify contracts that
may be settled in its own stock, such as warrants to purchase shares of Common Stock, as equity of the entity or as an asset or
liability. If an event that is not within the entity’s control could require net cash settlement, then the contract should be
classified as an asset or a liability rather than as equity. We have determined because the terms of the warrants issued during
the three months ended March 31, 2021 include a provision that entitles all the warrant holders to receive cash for their warrants
in the event of a qualifying cash tender offer, while only certain of the holders of the underlying shares of common stock would be
entitled to cash, our warrants should be classified as liability measured at fair value, with changes in fair value each period
reported in earnings. Volatility in the price of our common stock may result in significant changes in the value of the derivatives
and resulting gains and losses on our statement of operations.
NOTE
2. INVENTORIES
Inventories
consisted of the following at March 31, 2021 and December 31, 2020:
|
|
March
31,
2021
|
|
|
December
31, 2020
|
|
Raw
material and component parts
|
|
$
|
3,141,836
|
|
|
$
|
3,186,426
|
|
Work-in-process
|
|
|
7,670
|
|
|
|
1,907
|
|
Finished
goods
|
|
|
8,128,666
|
|
|
|
6,974,291
|
|
|
|
|
|
|
|
|
|
|
Subtotal
|
|
|
11,278,172
|
|
|
|
10,162,625
|
|
Reserve
for excess and obsolete inventory
|
|
|
(2,388,256
|
)
|
|
|
(1,960,351
|
)
|
|
|
|
|
|
|
|
|
|
Total inventories
|
|
$
|
8,889,916
|
|
|
$
|
8,202,274
|
|
Finished
goods inventory includes units held by potential customers and sales agents for test and evaluation purposes. The cost of such units
totaled $107,729 and $138,263 as of March 31, 2021 and December 31, 2020, respectively.
NOTE
3. DEBT OBLIGATIONS
Debt
obligations is comprised of the following:
|
|
March
31,
2021
|
|
|
December
31, 2020
|
|
Economic
injury disaster loan (EIDL)
|
|
$
|
150,000
|
|
|
$
|
150,000
|
|
Payroll
protection program loan (PPP)
|
|
|
10,000
|
|
|
|
10,000
|
|
Debt
obligations
|
|
|
160,000
|
|
|
|
160,000
|
|
Less:
current maturities of debt obligations
|
|
|
12,234
|
|
|
|
11,727
|
|
Debt
obligations, long-term
|
|
$
|
147,766
|
|
|
$
|
148,273
|
|
Debt
obligations mature as follows as of March 31, 2021:
|
|
March
31, 2021
|
|
2021
(April 1, 2021 to December 31, 2021)
|
|
$
|
7,602
|
|
2022
|
|
|
6,206
|
|
2023
|
|
|
3,166
|
|
2024
|
|
|
3,286
|
|
2025
|
|
|
3,412
|
|
2026
and thereafter
|
|
|
136,328
|
|
|
|
|
|
|
Total
|
|
$
|
160,000
|
|
2020
Small Business Administration Notes.
On
May 4, 2020, the Company issued a promissory note in connection with the receipt of the Paycheck Protection Program (“PPP”)
Loan of $1,418,900 (the “PPP Loan”) under the Small Business Administration’s (the “SBA”)
PPP Program under the Coronavirus Aid, Relief, and Economic Security Act ( the “CARES Act”). The PPP Loan has
a two-year term and bears interest at a rate of 1.0% per annum. Monthly principal and interest payments were deferred for nine
months after the date of disbursement and total $79,851 per month thereafter. The PPP Loan could have been prepaid at any
time prior to maturity with no prepayment penalties. The promissory note contained events of default and other provisions customary
for a loan of this type. The PPP provides that the PPP Loan may be partially or wholly forgiven if the funds are used for certain qualifying
expenses as described in the CARES Act. The Company intends to use the majority of the PPP Loan amount for qualifying expenses and to
apply for forgiveness of the PPP Loan in accordance with the terms of the CARES Act. The Company used the majority of the PPP Loan
amount for qualifying expenses and to apply for forgiveness of the PPP Loan in accordance with the terms of the CARES Act. The Company
applied for forgiveness of the PPP Loan and December 10, 2020, the Company was fully forgiven of its $1,418,900 PPP Loan, less the $10,000
EIDL advance received with the PPP Loan.
On
May 12, 2020, the Company received $150,000 in loan funding from the SBA under the EIDL program administered by the SBA, which program
was expanded pursuant to the recently enacted CARES Act. The EIDL is evidenced by a secured promissory note, dated May 8, 2020,
in the original principal amount of $150,000 with the SBA, the lender.
Under
the terms of the note issued under the EIDL program, interest accrues on the outstanding principal at the rate of 3.75% per annum. The
term of such note is thirty years, though it may be payable sooner upon an event of default under such note. Monthly principal and interest
payments are deferred for twelve months after the date of disbursement and total $731 per month thereafter. Such note may be prepaid
in part or in full, at any time, without penalty. The Company granted the secured party a continuing interest in and to any and all collateral,
including but not limited to tangible and intangible personal property.
NOTE
4. FAIR VALUE MEASUREMENT
In
accordance with ASC Topic 820 — Fair Value Measurements and Disclosures (“ASC 820”), the Company utilizes the
market approach to measure fair value for its financial assets and liabilities. The market approach uses prices and other relevant information
generated by market transactions involving identical or comparable assets, liabilities or a group of assets or liabilities, such as a
business.
ASC
820 utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels.
The following is a brief description of those three levels:
●
|
Level
1 — Quoted prices in active markets for identical assets and liabilities
|
|
|
●
|
Level
2 — Other significant observable inputs (including quoted prices in active markets for similar assets or liabilities)
|
|
|
●
|
Level
3 — Significant unobservable inputs (including the Company’s own assumptions in determining the fair value)
|
The
following table represents the Company’s hierarchy for its financial assets and liabilities measured at fair value on a recurring
basis as of March 31, 2021 and December 31, 2020:
|
|
March
31, 2021
|
|
|
|
Level
1
|
|
|
Level
2
|
|
|
Level
3
|
|
|
Total
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrant
derivative liabilities
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
26,663,802
|
|
|
$
|
26,663,802
|
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
26,663,802
|
|
|
$
|
26,663,802
|
|
|
|
|
December
31, 2020
|
|
|
|
Level
1
|
|
|
|
Level
2
|
|
|
|
Level
3
|
|
|
|
Total
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrant
derivative liabilities
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
The
following table represents the change in Level 3 tier value measurements for the three months ended March 31, 2021:
|
|
Warrant Derivative
|
|
|
|
Liabilities
|
|
|
|
|
|
Balance, December 31, 2020
|
|
$
|
—
|
|
|
|
|
|
|
Issuance of detachable warrants in the January 14, 2021 Offering
|
|
|
21,922,158
|
|
|
|
|
|
|
Issuance of detachable warrants in the February 1, 2021 Offering
|
|
|
27,476,352
|
|
|
|
|
|
|
Issuance of detachable pre-funded warrants in the January 14, 2021
Offering
|
|
|
378,615
|
|
|
|
|
|
|
Issuance of detachable pre-funded warrants in the February 1, 2021
Offering
|
|
|
1,438,934
|
|
|
|
|
|
|
Transition of derivative warrant liability to equity on pre-funded warrants
|
|
|
—
|
|
|
|
|
|
|
Change in fair value of warrant derivative liabilities
|
|
|
(24,552,257
|
)
|
|
|
|
|
|
Balance, March 31, 2021
|
|
$
|
26,663,802
|
|
NOTE
5. ACCRUED EXPENSES
Accrued
expenses consisted of the following at March 31, 2021 and December 31, 2020:
|
|
March
31,
2021
|
|
|
December
31,
2020
|
|
Accrued
warranty expense
|
|
$
|
9,243
|
|
|
$
|
31,845
|
|
Accrued
litigation costs
|
|
|
250,000
|
|
|
|
250,000
|
|
Accrued
sales commissions
|
|
|
41,292
|
|
|
|
38,294
|
|
Accrued
payroll and related fringes
|
|
|
370,262
|
|
|
|
199,850
|
|
Accrued
sales returns and allowances
|
|
|
22,891
|
|
|
|
26,069
|
|
Accrued
sales taxes
|
|
|
52,737
|
|
|
|
53,627
|
|
Other
|
|
|
119,299
|
|
|
|
196,409
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
865,724
|
|
|
$
|
796,094
|
|
Accrued
warranty expense was comprised of the following for the three months ended March 31, 2021:
Beginning
balance
|
|
$
|
31,845
|
|
Provision
for warranty expense
|
|
|
(6,800
|
)
|
Charges
applied to warranty reserve
|
|
|
(15,802
|
)
|
|
|
|
|
|
Ending balance
|
|
$
|
9,243
|
|
NOTE
6. INCOME TAXES
The
effective tax rate for the three months ended March 31, 2021 and 2020 varied from the expected statutory rate due to the Company continuing
to provide a 100% valuation allowance on net deferred tax assets. The Company determined that it was appropriate to continue the full
valuation allowance on net deferred tax assets as of March 31, 2021 primarily because of the Company’s history of operating losses.
The
Company has incurred operating losses in recent years, and it continues to be in a three-year cumulative loss position at March 31, 2021.
Accordingly, the Company determined there was not sufficient positive evidence regarding its potential for future profits to outweigh
the negative evidence of our three-year cumulative loss position under the guidance provided in ASC 740. Therefore, it determined to
continue to provide a 100% valuation allowance on its net deferred tax assets. The Company expects to continue to maintain a full valuation
allowance until it determines that it can sustain a level of profitability that demonstrates its ability to realize these assets. To
the extent the Company determines that the realization of some or all of these benefits is more likely than not based upon expected future
taxable income, a portion or all of the valuation allowance will be reversed. The Company has available to it approximately $76 million
in net operating loss carryforwards to offset future taxable income as of March 31, 2021.
NOTE
7. OPERATING LEASE
On
May 13, 2020, the Company entered into an operating lease for new warehouse and office space which will serve as its new principal executive
office and primary business location. The original lease agreement was amended on August 28, 2020 to correct the footage under lease
and monthly payment amounts resulting from such correction. The lease terms, as amended include no base rent for the first nine months
and monthly payments ranging from $12,398 to $14,741 thereafter, with a termination date of December 2026. The Company is responsible
for property taxes, utilities, insurance and its proportionate share of common area costs related to its new location. The Company took
possession of the leased facilities on June 15, 2020. The remaining lease term for the Company’s office and warehouse operating
lease as of March 31, 2021 was sixty-nine months. The Company’s previous office and warehouse space lease
expired in April 2020 and the Company paid holdover rent for the time period until it moved to and commenced occupying the new space
on June 15, 2020.
The
Company entered into an operating lease with a third party in October 2019 for copiers used for office and warehouse purposes.
The terms of the lease include 48 monthly payments of $1,598 with a maturity date of October 2023. The Company has the option
to purchase the equipment at maturity for its estimated fair market value at that point in time. The remaining lease term
for the Company’s copier operating lease as of March 31, 2021 was 31 months.
Lease
expense related to the office space and copier operating leases were recorded on a straight-line basis over their respective lease terms.
Total lease expense under the two operating leases was $32,057 for the three months ended March 31, 2021.
The
discount rate implicit within the Company’s operating leases was not generally determinable and therefore the Company determined
the discount rate based on its incremental borrowing rate on the information available at commencement date. As of commencement date,
the operating lease liabilities reflect a weighted average discount rate of 8%.
The
following sets forth the operating lease right of use assets and liabilities as of March 31, 2021:
Assets:
|
|
|
|
|
Operating
lease right of use assets
|
|
$
|
748,742
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
Operating
lease obligations-current portion
|
|
$
|
117,322
|
|
Operating
lease obligations-less current portion
|
|
$
|
703,983
|
|
Total
operating lease obligations
|
|
$
|
821,305
|
|
The
components of lease expense were as follows for the three months ended March 31, 2021:
Selling,
general and administrative expenses
|
|
$
|
32,057
|
|
Following
are the minimum lease payments for each year and in total.
Year
ending December 31:
|
|
|
|
2021
(April 1, 2021 to December 31, 2021)
|
|
$
|
133,260
|
|
2022
|
|
|
184,145
|
|
2023
|
|
|
184,241
|
|
2024
|
|
|
171,642
|
|
2025
& beyond
|
|
|
333,705
|
|
Total
undiscounted minimum future lease payments
|
|
|
1,006,993
|
|
Imputed
interest
|
|
|
(185,688
|
)
|
Total
operating lease liability
|
|
$
|
821,305
|
|
NOTE
8. CONTINGENCIES
COVID-19
pandemic
The
COVID-19 pandemic represents a fluid situation that presents a wide range of potential impacts of varying durations for different global
geographies, including locations where we have offices, employees, customers, vendors and other suppliers and business partners.
Like
most US-based businesses, the COVID-19 pandemic and efforts to mitigate the same began to have impacts on our business in March 2020.
By that time, much of our first fiscal quarter was completed. During 2020 and the quarter ended March 31, 2021, we observed recent decreases
in demand from certain customers, including primarily our law-enforcement and commercial customers.
Given
the fact that our products are sold through a variety of distribution channels, we expect our sales will experience more volatility as
a result of the changing and less predictable operational needs of many customers as a result of the COVID-19 pandemic. We are aware
that many companies, including many of our suppliers and customers, are reporting or predicting negative impacts from COVID-19 on future
operating results. Although we observed significant declines in demand for our products from certain customers during the quarter ended
March 31, 2021, we believe that it remains too early for us to know the exact impact COVID-19 will have on the long-term demand for our
products. We also cannot be certain how demand may shift over time as the impacts of the COVID-19 pandemic may go through several phases
of varying severity and duration.
In
light of broader macro-economic risks and already known impacts on certain industries that use our products and services, we have taken,
and continue to take targeted steps to lower our operating expenses because of the COVID-19 pandemic. We continue to monitor the impacts
of COVID-19 on our operations closely and this situation could change based on a significant number of factors that are not entirely
within our control and are discussed in this and other sections of this quarterly report on Form 10-Q. We do not expect there to be material
changes to our assets on our balance sheet or our ability to timely account for those assets. Further, in connection with the preparation
of this quarterly report on Form 10-Q and the financial statements contained herein, we reviewed the potential impacts of the COVID-19
pandemic on goodwill and intangible assets and have determined there to be no material impact at this time. We have also reviewed the
potential impacts on future risks to the business as it relates to collections, returns and other business-related items.
To
date, travel restrictions and border closures have not materially impacted our ability to obtain inventory or manufacture or deliver
products or services to customers. However, if such restrictions become more severe, they could negatively impact those activities in
a way that would harm our business over the long term. Travel restrictions impacting people can restrain our ability to assist our customers
and distributors as well as impact our ability to develop new distribution channels, but at present we do not expect these restrictions
on personal travel to be material to our business operations or financial results. We have taken steps to restrain and monitor our operating
expenses and therefore we do not expect any such impacts to materially change the relationship between costs and revenues.
Like
most companies, we have taken a range of actions with respect to how we operate to assure we comply with government restrictions and
guidelines as well as best practices to protect the health and well-being of our employees and our ability to continue operating our
business effectively. To date, we have been able to operate our business effectively using these measures and to maintain all internal
controls as documented and posted. We also have not experienced challenges in maintaining business continuity and do not expect to incur
material expenditures to do so. However, the impacts of COVID-19 and efforts to mitigate the same have remained unpredictable and it
remains possible that challenges may arise in the future.
The
actions we have taken so far during the COVID-19 pandemic include, but are not limited to:
|
●
|
Requiring
all employees who can work from home to work from home;
|
|
|
|
|
●
|
Increasing
our IT networking capability to best assure employees can work effectively outside the office; and
|
|
|
|
|
●
|
For
employees who must perform essential functions in one of our offices:
|
|
|
|
|
●
|
Having
employees maintain a distance of at least six feet from other employees whenever possible;
|
|
|
|
|
●
|
Having
employees work in dedicated shifts to lower the risk all employees who perform similar tasks might become infected by COVID-19;
|
|
|
|
|
●
|
Having
employees stay segregated from other employees in the office with whom they require no interaction; and
|
|
|
|
|
●
|
Requiring
employees to wear masks while they are in the office whenever possible.
|
We
currently believe revenue for the year ending December 31, 2021 may decline year over year due to the conditions noted. In April 2020,
we implemented a COVID-19 mitigation plan designed to further reduce our operating expenses during the pandemic. Actions taken to date
include work hour and salary reductions for senior management. These cost reductions are in addition to the significant restructuring
actions we initiated in the first quarter of 2020. Based on our current cash position, our projected cash flow from operations and our
cost reduction and cost containment efforts to date, we believe that we will have sufficient capital and or have access to sufficient
capital through public and private equity and debt offerings to sustain operations for a period of one year following the date of this
filing. If business interruptions resulting from the COVID-19 pandemic were to be prolonged or expanded in scope, our business, financial
condition, results of operations and cash flows would be negatively impacted. We will continue to actively monitor this situation and
will implement actions necessary to maintain business continuity.
Litigation.
From
time to time, we are notified that we may be a party to a lawsuit or that a claim is being made against us. It is our policy to not disclose
the specifics of any claim or threatened lawsuit until the summons and complaint are actually served on us. After carefully assessing
the claim, and assuming we determine that we are not at fault or we disagree with the damages or relief demanded, we vigorously defend
any lawsuit filed against us. We record a liability when losses are deemed probable and reasonably estimable. When losses are deemed
reasonably possible but not probable, we determine whether it is possible to provide an estimate of the amount of the loss or range of
possible losses for the claim, if material for disclosure. In evaluating matters for accrual and disclosure purposes, we take into consideration
factors such as our historical experience with matters of a similar nature, the specific facts and circumstances asserted, the likelihood
of our prevailing, the availability of insurance, and the severity of any potential loss. We reevaluate and update accruals as matters
progress over time.
While
the ultimate resolution is unknown, based on the information currently available, we do not expect that these lawsuits will individually,
or in the aggregate, have a material adverse effect to our results of operations, financial condition or cash flows. However, the outcome
of any litigation is inherently uncertain and there can be no assurance that any expense, liability or damages that may ultimately result
from the resolution of these matters will be covered by our insurance or will not be in excess of amounts recognized or provided by insurance
coverage and will not have a material adverse effect on our operating results, financial condition or cash flows.
Axon
The
Company owns U.S. Patent No. 9,253,452 (the “ ‘452 Patent”), which generally covers the automatic activation and coordination
of multiple recording devices in response to a triggering event, such as a law enforcement officer activating the light bar on the vehicle.
The
Company filed suit on January 15, 2016 in the U.S. District Court for the District of Kansas (the “U.S. District Court”)
(Case No: 2:16-cv-02032) against Axon Enterprise, Inc. (“Axon”), alleging willful patent infringement against
Axon’s body camera product line and Signal auto-activation product. The Company is seeking both monetary damages and a permanent
injunction against Axon for infringement of the ‘452 Patent.
In
December 2016 and January 2017, Axon filed two petitions for Inter Partes Review (“IPR”) against the ‘452 Patent.
The United States Patent and Trademark Office (“USPTO”) rejected both of Axon’s petitions. Axon is now statutorily
precluded from filing any more IPR petitions against the ‘452 Patent.
The District Court litigation
was temporarily stayed following the filing of the petitions for IPR. However, on November 17, 2017, the U.S. District Court of
Kansas rejected Axon’s request to maintain the stay. With this ruling, the parties then proceeded towards trial,
after which the parties filed motions for summary judgement on January 31, 2019.
On June 17, 2019, the U.S.
District Court granted Axon’s motion for summary judgment that Axon did not infringe on the Company’s patent and
dismissed the case. The U.S. District Court’s ruling did not find that the ‘452 Patent was invalid.
It also did not address any other issue, such as whether Digital’s requested damages were appropriate, and it did not impact
the Company’s ability to file additional lawsuits to hold other competitors accountable for patent infringement. This ruling
solely related to an interpretation of the Company’s claims as they relate to Axon and was unrelated to the supplemental
briefing the Company filed on its damages claim. Those issues are separate and the U.S.
District Court’s ruling on the motion for summary judgment had nothing to do with the Company’s damages
request.
The
Company filed an opening appeal brief on August 26, 2019 with the U.S. Court of Appeals for the Tenth Circuit (the “Court of Appeals”),
appealing the U.S. District Court’s granting of Axon’s motion for summary judgment. Axon responded by filing a responsive
brief on November 6, 2019 and we then filed a reply brief responding to Axon on November 27, 2019. The Court of Appeals scheduled oral
arguments on our appeal of the U.S. District Court’s summary judgment ruling on April 6, 2020. This appeal was intended to address
the Company’s position that the U.S. District Court incorrectly dismissed our claims against Axon. If the Court of Appeals overturns
the ruling of the U.S. District Court, the case would have been remanded to the U.S District Court before a new judge. On March
12, 2020, the panel of judges for the Court of Appeals issued an order cancelling the oral arguments previously set for April 6, 2020,
having determined that the appeal will be decided solely based on the parties’ briefs. On April 22, 2020, a three-judge panel of
the United States Court of Appeals denied our appeal and affirmed the District Court’s previous decision to grant Axon summary
judgment. On May 22, 2020, we filed a petition for panel rehearing requesting that we be granted a rehearing of our appeal of the U.S.
District Court’s summary judgment ruling. Furthermore, we requested that we be given an opportunity to make our case through oral
argument in front of the three-judge panel of the Court of Appeals, which was also denied. The Company has abandoned its right to any
further appeals.
NOTE
9. STOCK-BASED COMPENSATION
The
Company recorded pretax compensation expense related to the grant of stock options and restricted stock issued of $326,164 and $311,677
for the three months ended March 31, 2021 and 2020, respectively.
As
of March 31, 2021, the Company had adopted nine separate stock option and restricted stock plans: (i) the 2005 Stock Option and Restricted
Stock Plan (the “2005 Plan”), (ii) the 2006 Stock Option and Restricted Stock Plan (the “2006 Plan”), (iii) the
2007 Stock Option and Restricted Stock Plan (the “2007 Plan”), (iv) the 2008 Stock Option and Restricted Stock Plan (the
“2008 Plan”), (v) the 2011 Stock Option and Restricted Stock Plan (the “2011 Plan”), (vi) the 2013 Stock Option
and Restricted Stock Plan (the “2013 Plan”), (vii) the 2015 Stock Option and Restricted Stock Plan (the “2015 Plan”),
(viii) the 2018 Stock Option and Restricted Stock Plan (the “2018 Plan”) and (ix) the 2020 Stock Option and Restricted Stock
Plan (the “2020 Plan”).. The 2005 Plan, 2006 Plan, 2007 Plan, 2008 Plan, 2011 Plan, 2013 Plan, 2015 Plan, 2018 Plan and 2020
Plan are referred to as the “Plans.”
These
Plans permit the grant of stock options or restricted stock to its employees, non-employee directors and others for up to a total of
5,675,000 shares of common stock. The 2005 Plan terminated during 2015 with 20,178 shares not awarded or underlying options, which
shares are now unavailable for issuance. Stock options granted under the 2005 Plan that remain unexercised and outstanding as of March
31, 2021 total 7,064. The 2006 Plan terminated during 2016 with 35,474 shares not awarded or underlying options, which shares
are now unavailable for issuance. Stock options granted under the 2006 Plan that remain unexercised and outstanding as of March 31, 2021
total 30,125. The 2007 Plan terminated during 2017 with 92,151 shares not awarded or underlying options, which shares are now
unavailable for issuance. Stock options granted under the 2007 Plan that remain unexercised and outstanding as of March 31, 2021 total
2,500. The 2008 Plan terminated during 2018 with 40,499 shares not awarded or underlying options, which shares are now unavailable
for issuance. There were no stock options granted under the 2008 Plan that remain unexercised and outstanding as of March 31,
2021.
The
Company believes that such awards better align the interests of our employees with those of its stockholders. Option awards have been
granted with an exercise price equal to the market price of its stock at the date of grant with such option awards generally vesting
based on the completion of continuous service and having ten-year contractual terms. These option awards typically provide for accelerated
vesting if there is a change in control (as defined in the Plans). The Company has registered all shares of common stock that are issuable
under its Plans with the SEC. A total of 794,439 shares remained available for awards under the various Plans as of March 31, 2021.
The
fair value of each option award is estimated on the date of grant using a Black-Scholes option valuation model.
Activity
in the various Plans during the three months ended March 31, 2021:
Options
|
|
|
Number
of
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
Outstanding
at December 31, 2020
|
|
|
|
838,313
|
|
|
$
|
3.20
|
|
Granted
|
|
|
|
—
|
|
|
|
—
|
|
Exercised
|
|
|
|
—
|
|
|
|
—
|
|
Forfeited
|
|
|
|
(43,875
|
)
|
|
|
(12.34
|
)
|
Outstanding
at March 31, 2021
|
|
|
|
794,439
|
|
|
$
|
2.69
|
|
Exercisable
at March 31, 2021
|
|
|
|
738,189
|
|
|
$
|
2.74
|
|
The
fair value of each option award is estimated on the date of grant using a Black-Scholes option valuation model. The total estimated grant
date fair value stock options issued during the three months ended March 31, 2021 was $-0- as there were no grants during that period.
The
Plans allow for the cashless exercise of stock options. This provision allows the option holder to surrender/cancel options with an intrinsic
value equivalent to the purchase/exercise price of other options exercised. There were no shares surrendered pursuant to cashless exercises
during the three months ended March 31, 2021 and 2020.
The
aggregate intrinsic value of options outstanding was $-0-, and the aggregate intrinsic value of options exercisable
was $-0- at March 31, 2021 and December 31, 2020.
As
of March 31, 2021, the unrecognized portion of stock compensation expense on all existing stock options was $91,707 and will be
recognized over the next 3 months.
The
following table summarizes the range of exercise prices and weighted average remaining contractual life for outstanding and exercisable
options under the Company’s option plans as of March 31, 2021:
|
|
|
Outstanding
options
|
|
|
Exercisable
options
|
|
Exercise
price
range
|
|
|
Number
of
options
|
|
|
Weighted
average
remaining
contractual
life
|
|
|
Number
of
options
|
|
|
Weighted
average
remaining
contractual
life
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
0.01
to $2.49
|
|
|
|
415,000
|
|
|
|
8.6
years
|
|
|
|
358,750
|
|
|
|
8.5
years
|
|
$
|
2.50
to $3.49
|
|
|
|
310,314
|
|
|
|
7.1
years
|
|
|
|
310,314
|
|
|
|
7.1
years
|
|
$
|
3.50
to $4.49
|
|
|
|
45,750
|
|
|
|
3.9
years
|
|
|
|
45,750
|
|
|
|
3.9
years
|
|
$
|
4.50
to $6.99
|
|
|
|
15,000
|
|
|
|
0.8
years
|
|
|
|
15,000
|
|
|
|
0.8
years
|
|
$
|
7.00
to $9.52
|
|
|
|
8,375
|
|
|
|
0.4
years
|
|
|
|
8,375
|
|
|
|
0.4
years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
794,439
|
|
|
|
7.5
years
|
|
|
|
738,189
|
|
|
|
7.3
years
|
|
Restricted
stock grants. The Board of Directors has granted restricted stock awards under the Plans. Restricted stock awards are valued
on the date of grant and have no purchase price for the recipient. Restricted stock awards typically vest over one to four years corresponding
to anniversaries of the grant date. Under the Plans, unvested shares of restricted stock awards may be forfeited upon the termination
of service to or employment with the Company, depending upon the circumstances of termination. Except for restrictions placed on the
transferability of restricted stock, holders of unvested restricted stock have full stockholder’s rights, including voting rights
and the right to receive cash dividends.
A
summary of all restricted stock activity under the equity compensation plans for the three months ended March 31, 2021 is as follows:
|
|
|
Number
of Restricted
shares
|
|
|
Weighted
average
grant
date fair
value
|
|
Nonvested
balance, December 31, 2020
|
|
|
|
720,125
|
|
|
$
|
1.69
|
|
Granted
|
|
|
|
450,000
|
|
|
|
2.76
|
|
Vested
|
|
|
|
(479,250
|
)
|
|
|
(1.99
|
)
|
Forfeited
|
|
|
|
(7,500
|
)
|
|
|
(1.08
|
)
|
Nonvested
balance, March 31, 2021
|
|
|
|
683,375
|
|
|
$
|
2.14
|
|
The
Company estimated the fair market value of these restricted stock grants based on the closing market price on the date of grant. As of
March 31, 2021, there were $991,517 of total unrecognized compensation costs related to all remaining non-vested restricted stock
grants, which will be amortized over the next 21 months in accordance with their respective vesting scale.
The
nonvested balance of restricted stock vests as follows:
Years
ended
|
|
|
Number
of
shares
|
|
|
|
|
|
|
2021
(April 1, 2021 through December 31, 2021)
|
|
|
|
—
|
|
2022
|
|
|
|
458,375
|
|
2023
|
|
|
|
225,000
|
|
NOTE
10. COMMON STOCK PURCHASE WARRANTS
The
Company has issued common stock purchase warrants in conjunction with various debt and equity issuances. The warrants are either immediately
exercisable, or have a delayed initial exercise date, no more than six months from their respective issue date and allow the holders
to purchase up to 26,808,598 shares of common stock at $2.60 to $5.00 per share as of March 31, 2021. The warrants expire from December
30, 2021 through February 1, 2026 and under certain circumstances allow for cashless exercise.
On
January 14, 2021 and February 1, 2021, the Company issued warrants to purchase a total of 42,550,000 shares of Common Stock. The
warrant terms provide for net cash settlement outside the control of the Company under certain circumstances in the event of tender
offers. As such, the Company is required to treat these warrants as derivative liabilities which are valued at their estimated
fair value at their issuance date and at each reporting date with any subsequent changes reported in the consolidated statements
of operations as the change in fair value of warrant derivative liabilities. Furthermore, the Company revalues the fair value
of warrant derivative liability as of the date the warrant is exercised with the resulting warrant derivative liability transitioned
to equity.
The
Company has utilized the following assumptions in its Black-Scholes option valuation model to calculate the estimated fair value of the
warrant derivative liabilities as of their date of issuance and as of March 31, 2021:
|
|
Issuance date assumptions
|
|
|
March 31, 2021 assumptions
|
|
Volatility - range
|
|
|
106.6
– 166.6
|
%
|
|
|
106.7
|
%
|
Risk-free rate
|
|
|
0.08
- 0.49
|
%
|
|
|
0.92
|
%
|
Dividend
|
|
|
0
|
%
|
|
|
0
|
%
|
Remaining contractual term
|
|
|
0.01
- 5 years
|
|
|
|
4.8
years
|
|
Exercise price
|
|
$
|
2.80 -
3.25
|
|
|
$
|
3.25
|
|
Common stock issuable under the warrants
|
|
|
42,550,000
|
|
|
|
24,300,000
|
|
During the three months
ended March 31, 2021, holders of pre-funded warrants exercised a total of 18,250,000 warrants which were fair valued at $1,817,549 at
their date of issuance and recorded as a derivative warrant liability. On the date of exercise such pre-funded warrants were fair valued
at zero, which was transitioned to permanent equity during the three months ended March 31, 2021. The Company reported the $1,817,549
change in fair value from their issuance date to their exercise date in the condensed statements of operations as the change in fair
value of warrant derivative liabilities.
The
following table summarizes information about shares issuable under warrants outstanding during the three months ended March 31, 2021:
|
|
|
Warrants
|
|
|
Weighted
average
exercise
price
|
|
Vested
Balance, January 1, 2021
|
|
|
|
3,388,364
|
|
|
$
|
6.24
|
|
Granted
|
|
|
|
42,550,000
|
|
|
|
3.11
|
|
Exercised
|
|
|
|
(18,250,000
|
)
|
|
|
2.92
|
|
Forfeited/cancelled
|
|
|
|
(879,766
|
)
|
|
|
13.43
|
|
Vested
Balance, March 31, 2021
|
|
|
|
26,808,598
|
|
|
$
|
3.29
|
|
The
total intrinsic value of all outstanding warrants aggregated $-0- as of March 31, 2021 and the weighted average remaining term is
54.2 months.
The
following table summarizes the range of exercise prices and weighted average remaining contractual life for outstanding and exercisable
warrants to purchase shares of common stock as of March 31, 2021:
|
|
|
Outstanding
and exercisable warrants
|
Exercise
price
|
|
|
Number
of warrants
|
|
|
Weighted
average
remaining
contractual
life
|
$
|
2.60
|
|
|
|
465,712
|
|
|
2.3
years
|
$
|
3.00
|
|
|
|
316,800
|
|
|
2.0
years
|
$
|
3.25
|
|
|
|
24,300,000
|
|
|
4.8
years
|
$
|
3.36
|
|
|
|
733,333
|
|
|
1.7
years
|
$
|
3.65
|
|
|
|
167,000
|
|
|
1.3
years
|
$
|
3.75
|
|
|
|
25,753
|
|
|
1.4
years
|
$
|
5.00
|
|
|
|
800,000
|
|
|
0.8
years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
26,808,598
|
|
|
4.5
years
|
NOTE
11. STOCKHOLDERS’ EQUITY
Registered
Direct Offerings
On January 14, 2021, the Company
consummated a registered direct offering (the “Offering”) of (i) 2,800,000 shares of common stock (“Shares”),
(ii) pre-funded warrants to purchase up to 7,200,000 shares of Common Stock (the “Pre-Funded Warrants”), issuable
to investors whose purchase of shares of Common Stock would otherwise result in such investor,
together with its affiliates and certain related parties, beneficially owning more than 4.99% (or, at the election of the holder, 9.99%)
of the Company’s outstanding Common Stock immediately following the consummation of the Registered Offering (“Pre-Funded
Warrants”); and (iii) common stock purchase warrants (“Warrants”) to purchase up to an aggregate of 10,000,000 shares
of Common Stock (the “Warrant Shares”), which are exercisable for a period of five years after issuance at an initial exercise
price $3.25 per share, subject to certain adjustments, as provided in the Warrants. The Offering was conducted pursuant to a placement
agency agreement, dated January 12, 2021, between the Company and Kingswood Capital Markets, division of Benchmark Investments,
Inc., who acted as the exclusive placement
agent in connection with the Offering pursuant to a placement agency agreement. The Shares and accompanying Warrants in
the Offering were sold at a combined offering price of $3.095 per Share and accompanying Warrant and the Pre-Funded Warrants and accompanying Warrants in the Offering were sold at a combined
offering price of $3.085 per Pre-Funded Warrant and accompanying Warrant.
The securities in the
Offering were issued pursuant to a prospectus supplement to the Company’s effective shelf registration statement
on Form S-3 (File No. 333-239419). The placement agency agreement contained customary representations, warranties and agreements
by the Company, customary conditions to closing, indemnification obligations of the Company and the placement agent. The
placement agent received discounts and commissions of six percent (6%) of the gross cash proceeds received by the Company from
the sale of the securities sold in the Offering and certain expenses.
Under
the placement agency agreement, the Company and its officers and directors executed lock-up agreements whereby, subject to
certain expectations, (a) the Company has agreed not to engage in the following for a period of 90 days from the date of the pricing
of the Offering, (i) offer, pledge, sell, contract to sell, sell any option or contract to purchase,
purchase any option or contract to sell, grant any option, right or warrant to purchase, lend, or otherwise transfer or dispose of, directly
or indirectly, any shares of capital stock of the Company or any securities convertible into or exercisable or exchangeable for shares
of capital stock of the Company; (ii) file or cause to be filed any registration statement with the SEC relating to the offering of any
shares of capital stock of the Company or any securities convertible into or exercisable or exchangeable for shares of capital stock
of the Company; (iii) complete any offering of debt securities of the Company, or (iv) enter into any swap or other arrangement that
transfers to another, in whole or in part, any of the economic consequences of ownership of capital stock of the Company.
Further,
pursuant to the terms of the Securities Purchase Agreement the Company has granted to the Investors, for a period of 12 months
after the closing of the Offering, the right to participate in subsequent offerings by the Company of Common Stock and Common Stock equivalents
in an amount up to 50% of the amount of each such subsequent offering, on the same terms, conditions and price provided for in such subsequent
offering.
The
Company received approximately $28,941,000 ($29,013,000 upon full exercise of the prefunded warrants) in net proceeds from the
Offering after deducting the discounts, commissions, and other estimated offering expenses payable by the Company. As of March 31,
2021, all pre-funded warrants have been fully exercised. The Company plans to use the net proceeds from the Offering for working
capital, product development, order fulfillment and for general corporate purposes.
The
Company received net proceeds from this offering as follows:
Description
|
|
Amount
|
|
Net proceeds received:
|
|
|
|
|
Proceeds from the sale of 2,800,000 shares of Common Stock at $3.095
per share
|
|
$
|
8,666,000
|
|
Proceeds from the sale of pre-funded warrants to purchase 7,200,000 shares of
Common Stock at $3.085 per share
|
|
|
22,212,000
|
|
Less: Placement agent fees and other expenses of the offering
|
|
|
(1,937,000
|
)
|
|
|
|
|
|
Net proceeds of the offering
|
|
$
|
28,941,000
|
|
In
conjunction with this Offering, the Company issued prefunded Common Stock purchase warrants to purchase up to 7,200,000 shares Common
Stock at $3.095 per share ($3.085 prefunded at closing) and Common Stock purchase warrants to purchase up to 10,000,000 shares of Common
Stock at $3.25 per share. The underlying warrant terms provide for net cash settlement outside the control of the Company under certain
circumstances in the event of tender offers. As such, the Company is required to treat these warrants as derivative liabilities which
are valued at their estimated fair value at their issuance date and at each reporting date with any subsequent changes reported in the
consolidated statements of operations as the change in fair value of warrant derivative liabilities. Accordingly, the
Company allocated a portion of the net proceeds of this offering to warrant derivative liabilities based on their estimated fair value
as follows (See Notes 4 and 10) :
Description
|
|
Amount
|
|
|
|
|
|
Warrant derivative liabilities
|
|
$
|
21,922,158
|
|
Pre-funded warrant derivative liabilities
|
|
|
378,615
|
|
Total allocation of the net proceeds of the offering to warrant derivative
liabilities
|
|
$
|
22,300,773
|
|
Registered
Direct Offering
On
February 1, 2021, the Company consummated an registered direct offering (the “Second Offering”) of (i)
3,250,000 shares of common stock (“Shares”), (ii) pre-funded warrants to purchase up to 11,050,000 shares of
Common Stock (the “Pre-Funded Warrants”), issuable to investors whose purchase of
shares of Common Stock would otherwise result in such investor, together with its affiliates and certain related parties,
beneficially owning more than 4.99% (or, at the election of the holder, 9.99%) of the Company’s outstanding Common Stock
immediately following the consummation of the Registered Offering (“Pre-Funded Warrants”); and (iii) common stock
purchase warrants (“Warrants”) to purchase up to an aggregate of 14,300,000 shares of Common Stock (the “Warrant
Shares”), which are exercisable for a period of five years after issuance at an initial exercise price $3.25 per share,
subject to certain adjustments, as provided in the Warrants. The Second Offering was conducted pursuant to a placement
agency agreement, dated January 28, 2021, between the Company and Kingswood Capital Markets, division of Benchmark
Investments, Inc., who acted as the exclusive placement agent in connection with the
Second Offering pursuant to a placement agency agreement. The Shares and accompanying Warrants in the Second
Offering were sold at a combined offering price of $2.80 per Share and accompanying Warrant and the Pre-Funded Warrants and accompanying Warrants in the Offering were sold at a combined
offering price of $2.79 per Pre-Funded Warrant and accompanying Warrant.
The
securities in the Second Offering were issued pursuant to a prospectus supplement to the Company’s
effective shelf registration statement on Form S-3 (File No. 333-239419). The placement agency agreement contained customary representations,
warranties and agreements by the Company, customary conditions to closing, indemnification obligations of the Company and the placement
agent. The placement agent received discounts and commissions of six percent (6%) of the
gross cash proceeds received by the Company from the sale of the securities sold in the Second Offering and certain expenses.
Under
the placement agency agreement, the Company and its officers and directors executed lock-up agreements whereby, subject to
certain exceptions, (a) the Company has agreed not to engage in the following for a period of 90 days from the date of the pricing
of the Offering, (i) offer, pledge, sell, contract to sell, sell any option or contract to purchase,
purchase any option or contract to sell, grant any option, right or warrant to purchase, lend, or otherwise transfer or dispose of, directly
or indirectly, any shares of capital stock of the Company or any securities convertible into or exercisable or exchangeable for shares
of capital stock of the Company; (ii) file or cause to be filed any registration statement with the SEC relating to the offering of any
shares of capital stock of the Company or any securities convertible into or exercisable or exchangeable for shares of capital stock
of the Company; (iii) complete any offering of debt securities of the Company, or (iv) enter into any swap or other arrangement that
transfers to another, in whole or in part, any of the economic consequences of ownership of capital stock of the Company.
Further,
pursuant to the terms of the Securities Purchase Agreement the Company has granted to the Investors, for a period of 12 months
after the closing of the Second Offering, the right to participate in subsequent offerings by the Company of Common Stock and
Common Stock equivalents in an amount up to 50% of the amount of each such subsequent offering, on the same terms, conditions and price
provided for in such subsequent offering.
The
Company received approximately $37,447,100 ($37,557,600 upon full exercise of
the prefunded warrants) in net proceeds from the Second Offering after deducting the discounts, commissions, and other
estimated offering expenses payable by the Company. As of March 31, 2021, all pre-funded warrants have been fully exercised. The Company
plans to use the net proceeds from the Second Offering for working capital, product development, order fulfillment and for general corporate
purposes.
The
Company received net proceeds from this offering as follows:
Description
|
|
Amount
|
|
Net proceeds received:
|
|
|
|
|
Proceeds from the sale of 3,250,000 shares of Common Stock at $2.80
per share
|
|
$
|
9,100,000
|
|
Proceeds from the sale of pre-funded warrants to purchase 11,050,000 shares of
Common Stock at $2.79 per share
|
|
|
30,829,500
|
|
Less: Placement agent fees and other expenses of the offering
|
|
|
(2,482,400
|
)
|
|
|
|
|
|
Net proceeds of the offering
|
|
$
|
37,447,100
|
|
In
conjunction with this Offering, the Company issued prefunded Common Stock purchase warrants to purchase up to 11,050,000 Shares Common
Stock at $2.80 per share ($2.79 prefunded at closing) and Common Stock purchase warrants to purchase up to 14,300,000 shares of Common
Stock at $3.25 per share. The underlying warrant terms provide for net cash settlement outside the control of the Company under certain
circumstances in the event of tender offers. As such, the Company is required to treat these warrants as derivative liabilities which
are valued at their estimated fair value at their issuance date and at each reporting date with any subsequent changes reported in the
consolidated statements of operations as the change in fair value of warrant derivative liabilities. Accordingly, the
Company allocated a portion of the net proceeds of this offering to warrant derivative liabilities based on their estimated fair value
as follows (See Notes 4 and 10):
Description
|
|
Amount
|
|
|
|
|
|
Warrant derivative liabilities
|
|
$
|
27,476,352
|
|
Pre-funded warrant derivative liabilities
|
|
|
1,438,934
|
|
Total allocation of the net proceeds of the offering to warrant derivative
liabilities
|
|
$
|
28,915,286
|
|
2021
Issuance of Restricted Common Stock.
On
January 7, 2021, the board of directors approved the grant of 450,000 shares of common stock to officers of the
Company. Such shares will generally vest one-half on January 7, 2022 and one half on January 7, 2023, provided that each grantee
remains an officer or employee on such dates.
NOTE
12. NET EARNINGS (LOSS) PER SHARE
The
calculation of the weighted average number of shares outstanding and loss per share outstanding for the three months ended March 31,
2021 and 2020 are as follows:
|
|
Three
months ended
March
31,
|
|
|
|
2021
|
|
|
2020
|
|
Numerator
for basic and diluted income (loss) per share – Net income (loss)
|
|
$
|
21,721,858
|
|
|
$
|
(2,334,110
|
)
|
|
|
|
|
|
|
|
|
|
Denominator
for basic income (loss) per share – weighted average shares outstanding
|
|
|
44,766,135
|
|
|
|
13,888,438
|
|
Dilutive
effect of shares issuable upon conversion of convertible debt and the exercise of stock options and warrants outstanding
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
Denominator
for diluted income (loss) per share – adjusted weighted average shares outstanding
|
|
|
44,766,135
|
|
|
|
13,888,438
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss) per share:
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.49
|
|
|
$
|
(0.17
|
)
|
Diluted
|
|
$
|
0.49
|
|
|
$
|
(0.17
|
)
|
Basic
income (loss) per share is based upon the weighted average number of common shares outstanding during the period. For the three
months ended March 31, 2021 and 2020, all shares issuable upon conversion of convertible debt and the exercise of outstanding stock options
and warrants were antidilutive, and, therefore, not included in the computation of diluted income (loss) per share.
NOTE
13. RELATED PARTY TRANSACTIONS
American
Rebel Holding, Inc. Secured Promissory Notes
On
October 1, 2020, the Company advanced $250,000 to American Rebel Holdings, Inc. (AREB) under a secured promissory note. The CEO,
President and Chairman of AREB is the brother of the Company’s CEO, President and Chairman. Such note bears interest at
8% and is secured by all the tangible and intangible assets of the Company that are not currently secured by other indebtedness.
The Company also received warrants to purchase 1,250,000 shares of AREB common stock at an exercise price of $0.10 per share with
a five-year term. This note had an original maturity date of January 2, 2021; however, additional provisions within
the note provided for an extension of the maturity date for fourteen months due to AREB’s failure to raise $300,000 in new
debt or equity financing prior to the original maturity date. Upon this extension, the AREB was obligated to make equal monthly
payments of principal and interest over the extended period of the note. The required monthly payments have not been made by AREB,
therefore this note was in default status as of March 31, 2021.
On
October 21, 2020, the Company advanced $250,000 to AREB under a second secured promissory note. Such note bears interest at 8%
and is secured by inventory manufactured and revenue/accounts receivable derived from a specific purchase order. The Company also
received warrants to purchase 1,250,000 shares of AREB common stock at an exercise price of $0.10 per share with a five-year term. This
note has a maturity date of April 21, 2021, subject to full repayment upon AREB closing on debt or equity financings of at least
$600,000, and the receipt of revenue from the sale of inventory sold under the specific purchase order serving as collateral.
The required monthly payments have not been made by AREB, therefore this note was in default status as of March 31, 2021. On March
1, 2021, the Company advanced an additional $117,600 to AREB on terms similar to the previously issued notes.
On
April 21, 2021, the parties agreed to the terms of a Debt Settlement Agreement and Mutual Release regarding the following: (a)
the secured promissory note dated October 1, 2020; (b) the secured promissory note dated October 21, 2020; and (c) an advance
made by the Company on March 1, 2021. The parties arranged for a lump sum payment aggregating $639,956 to liquidate all outstanding
debt including accrued interest for the two delinquent notes and the advance which lump-sum payment was made on April 21, 2021.
See Note 14.
Unsecured
Promissory Notes Payable – Related party
During
February and April 2020, the Company borrowed a total of $319,000 from the Company’s Chairman, CEO & President under
an unsecured promissory note bearing interest at 6% through its May 28, 2020 maturity date. The proceeds from the note were used
for general corporate purposes. The principal balance and related accrued interest were paid in full in cash during June 2020.
Total interest accrued and paid on this note was $5,236.
NOTE
14. SUBSEQUENT EVENTS
American
Rebel Holding, Inc. Secured Promissory Notes - On October 1, 2020, the Company advanced $250,000 to American Rebel Holdings,
Inc. (AREB) under a secured promissory note and on October 21, 2020, the Company advanced an additional $250,000 to AREB under a second secured promissory note. Both notes are currently in default. On March 1, 2021, the Company advanced an additional
$117,600 to AREB on terms similar to the previously issued notes.
On
April 21, 2021, the parties agreed to the terms of a Debt Settlement Agreement and Mutual Release regarding the following: (a) the secured
promissory note dated October 1, 2020; (b) the secured promissory note dated October 21, 2020; and (c) an advance made by the Company
on March 1, 2021. The parties arranged for a lump sum payment aggregating $639,956 to liquidate all outstanding debt including
accrued interest for the two delinquent notes and the advance which lump-sum payment was made on April 21, 2021.
Purchase
of Building - On April 30, 2021 the Company closed on the purchase and sale agreement to acquire a 71,361 square foot
commercial office building located in Lenexa, Kansas which is intended to serve the Company’s future office and warehouse
needs. The building contains approximately 30,000 square foot of office space and the remainder warehouse space. The total purchase
price was approximately $5.3 million, the Company funded the purchase price with cash on hand, without the addition of external
debt or other financing.
*************************************