Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
1.
Description of Business
Eastside
Distilling was incorporated under the laws of Nevada in 2004 under the name of Eurocan Holdings, Ltd. In December 2014, we changed
our corporate name to Eastside Distilling, Inc. to reflect our acquisition of Eastside Distilling, LLC. We manufacture, acquire,
blend, bottle, import, export, market and sell a wide variety of alcoholic beverages under recognized brands. We employ 89
people in the United States.
Our
brands span several alcoholic beverage categories, including bourbon, American whiskey, vodka, gin, rum, tequila and Ready-to-Drink
(RTD). We sell our products on a wholesale basis to distributors, and until March 2020, we operated four retail tasting rooms
in Portland, Oregon to market our brands directly to consumers.
|
Principal
Brands
|
Gin
|
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Big
Bottom The Ninety One Gin
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Big
Bottom Navy Strength
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Big
Bottom Barrel Finished Gin
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Big
Bottom London Dry Gin
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Rum
|
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Hue-Hue
Coffee Rum
|
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Tequila
|
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Azuñia
Blanco Organic Tequila
|
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Azuñia
Reposado Organic Tequila
|
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Azuñia
Añejo Tequila
|
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Azuñia
Black, 2-Year, Extra-Aged, Private Reserve Añejo Tequila
|
|
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Vodka
|
|
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Portland
Potato Vodka
|
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Portland
Potato Vodka - Marionberry
|
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Portland
Potato Vodka - Habanero
|
|
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Whiskey
|
|
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Redneck
Riviera Whiskey
|
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Redneck
Riviera Whiskey - Granny Rich Reserve
|
|
Burnside
Oregon Oaked Rye Whiskey
|
|
Burnside
West End Blend Whiskey
|
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Burnside
Goose Hollow Bourbon
|
|
Burnside
Oregon Oaked Bourbon
|
|
Burnside
Buckman RSV 10 Year Bourbon
|
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Marionberry
Whiskey
|
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Big
Bottom Barlow Whiskey
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Big
Bottom Barlow Port Whiskey
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Big
Bottom Delta Rye
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Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
1.
Description of Business (Continued)
|
Big
Bottom American Single Malt
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Big
Bottom Zin Cask Bourbon
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Barrel
Hitch American Whiskey
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Special
|
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Advocaat
Holiday Egg Nog
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Ready-to-Drink
|
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Redneck
Riviera Howdy Dew!
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Portland
Mule - Original
|
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Portland
Mule - Marionberry
|
Operating
as a small business in a large, international spirits marketplace occupied by large multi-national conglomerates, we seek to utilize
our size and our public company stature to our advantage and position Eastside Distilling as a leading tier 2 spirits provider
by acquiring and developing brands, growing them to a national presence and positioning them for sale to the tier 1 suppliers
to the market. This strategy was demonstrated by the launch of our Redneck Riviera Brand (RRW) in conjunction with our branding
partners, Sandstrom Partners in 2018. This demonstrated how our team can leverage its position to launch nascent or new brands
and grow them more quickly than the tier 1 larger conglomerates because we are able to focus and dedicate more of our attention to developing innovative products. Our RRW brand went from idea, to market roll-out in less than nine months and
achieved national distribution in 49 states in 18 months. In September 2019, we acquired the Azuñia tequila brand and
have begun to distribute this brand through our national platform.
In
May 2017, we used our shares to acquire 90% of Big Bottom Distilling, LLC (“BBD”), known for its award-winning, super-premium
gins and whiskeys, and American Single Malt Whiskey. BBD’s super-premium spirits give us a presence at the “ultra-premium
segment” of the market. In December 2018, we acquired the remaining 10% of BBD. In September 2019, we also acquired the
high-end, luxury tequila brand, Azuñia, to complement our portfolio and provide us with a larger established brand in the
high-growth tequila category. In addition, through MotherLode Craft Distillery (“MotherLode”), our wholly-owned subsidiary
acquired in March 2017 and Craft Canning + Bottling, LLC (formerly known as Craft Canning, LLC) (“Craft Canning”),
which we acquired in January 2019, we provide contract bottling, canning, and packaging services for existing and emerging beer,
wine and spirits producers. We have used our mobile canning operations to profit from the rapid growth in
the canned beverages industry (beer, wine, spirit-based RTD’s).
2.
Liquidity
Historically,
the Company has funded its cash and liquidity needs through operating cash flow convertible notes, extended credit terms,
and equity financings. For the years ended December 31, 2019 and 2018, the Company incurred a net loss of approximately $16.9
million and $9.0 million, respectively, and has an accumulated deficit of approximately $44.2 million as of December
31, 2019. The Company has been dependent on raising capital from debt and equity financings to meet its needs for cash flow used
in operating activities. For the year ended December 31, 2019, we raised approximately $2.5 million in additional capital
through equity and debt financing (net of repayments).
At
December 31, 2019, we had $0.3 million of cash on hand with a positive working capital of $8.3 million. Our ability to meet our
ongoing operating cash needs over the next 12 months depends on reducing our operating costs, raising additional debt or equity
capital and generating positive operating cash flow, primarily through increased sales, improved profit growth and controlling
expenses. We intend to implement actions to improve profitability, by managing expenses while continuing to increase sales. Additionally,
we are seeking to leverage our large inventory balances and our accounts receivable balance to help satisfy its working capital
needs over the next 12 months. See Notes 10, 11 and 18 to our financial statements for a description of our debt and the debt
refinancing initiatives completed in the first quarter of 2020. If we are unable to obtain additional financing, or additional
financing is not available on acceptable terms, we may seek to sell assets, reduce operating expenses or reduce or eliminate marketing
initiatives, and take other measures that could impair our ability to be successful.
Although our audited financial statements
for the year ended December 31, 2019 were prepared under the assumption that we would continue our operations as a going concern,
the report of our independent registered public accounting firm that accompanies our financial statements for the year ended December
31, 2019 contains a going concern qualification in which such firm expressed substantial doubt about our ability to continue as
a going concern, based on the financial statements at that time. Specifically, as noted above, we have incurred operating losses
since our inception, and even though we have reduced our operating expenses and increased our available capacity under our lines
of credit, and have large inventory balances to drawn from, we expect to continue to incur significant expenses and operating
losses for the foreseeable future. These prior losses and expected future losses have had, and will continue to have, an adverse
effect on our financial condition. If we cannot continue as a going concern, our stockholders would likely lose most or all of
their investment in us.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
3.
Summary of Significant Accounting Policies
Basis
of Presentation and Consolidation
The
accompanying consolidated financial statements for Eastside Distilling, Inc. and subsidiaries were prepared in accordance with
accounting principles generally accepted in the United States of America (GAAP). The consolidated financial statements include
the accounts of Eastside Distilling, Inc.’s wholly-owned subsidiaries, including, MotherLode, BBD, Outlandish, LLC, Redneck
Riviera Whiskey Co., LLC, Craft Canning (beginning as of January 11, 2019) and the Azuñia tequila assets (beginning September
12, 2019). All intercompany balances and transactions have been eliminated in consolidation.
Segment
Reporting
The
Company determined its operating segment on the same basis that it uses to evaluate its performance internally. The Company has
one business activity, packaging, producing, marketing and distributing alcoholic beverages and operates as one segment. The Company’s
chief operating decision makers, its chief executive officer, president and chief financial officer, review the Company’s
operating results on an aggregate basis for purposes of allocating resources and evaluating financial performance.
Use
of Estimates
The
preparation of financial statements in accordance 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 financial
statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those
estimates.
Revenue
Recognition
Net
sales includes product sales, less excise taxes and customer programs and incentives. The Company recognizes revenue by applying
the following steps in accordance with Accounting Standards Codification (“ASC”) Topic 606 – Revenue from
Contracts with Customers: (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 each performance obligation in the contract; and (5)
recognize revenue when each performance obligation is satisfied.
The
Company recognizes sales when merchandise is shipped from a warehouse directly to wholesale customers (except in the case of a
consignment sale). For consignment sales, which include sales to the Oregon Liquor Control Commission (OLCC), the Company recognizes
sales upon the consignee’s shipment to the customer. Postage and handling charges billed to customers are also recognized
as sales upon shipment of the related merchandise. Shipping terms are generally FOB shipping point, and title passes to the customer
at the time and place of shipment or purchase by customers at a retail location. For consignment sales, title passes to the consignee
concurrent with the consignee’s shipment to the customer. The customer has no cancellation privileges after shipment or
upon purchase at retail locations, other than customary rights of return. The Company excludes sales tax collected and remitted
to various states from sales and cost of sales. Sales from items sold through the Company’s retail locations are recognized
at the time of sale.
Revenue
received from online merchants who sell discounted gift certificates for the Company’s merchandise and tastings at its tasting
rooms, is deferred until the customer has redeemed the discounted gift certificate or the gift certificate has expired, whichever
occurs earlier.
Customer
Programs and Incentives
Customer programs and incentives, which include
customer promotional discount programs, customer incentives and other payments, are a common practice in the alcoholic beverage
industry. The Company makes these payments to customers and incurs these costs to promote sales of products and to maintain competitive
pricing. Amounts paid in connection with customer programs and incentives are recorded as reductions to net sales or as advertising,
promotional and selling expenses in accordance with ASC 606 - Revenue from Contracts with Customers, based on the nature
of the expenditure. Amounts paid to customers totaled $0.6 million and $0.4 million in years 2019 and 2018, respectively, of which
$0.4 million compared to $0.1 million in 2018 are included in the 50% Redneck Riviera Whiskey Marketing reimbursement and
are expected to be collected upon the sale of the Redneck Riviera Brand by the licensor if sold while the licensing agreement
is in effect. The reimbursement is payable upon the sale of the brand within the term of the agreement, which is 10 years,
with a renewable option for any additional 10 years, by the licensor.
Advertising,
Promotional and Selling Expenses
The following expenses are included in advertising,
promotional and selling expenses in the accompanying consolidated statements of operations: media advertising costs, special event
costs, tasting room costs, sales and marketing expenses, promotional costs of value added packaging, salary and benefit expenses,
travel and entertainment expenses for the sales, brand and sales support workforce and promotional activity expenses. Advertising,
promotional and selling costs are expensed as incurred. Advertising, promotional and selling expense totaled $7.5 million and
$4.3 million in years 2019 and 2018, respectively, of which 2019 was $4.0 million compared to $2.3 in 2018 are included in the
50% Redneck Riviera Whiskey Marketing reimbursement and are expected to be collected upon the sale of the Redneck Riviera
Brand by the licensor if sold while the licensing agreement is in effect. The reimbursement is payable upon the sale
of the brand within the term of the agreement, which is 10 years, with a renewable option for any additional 10 years, by the
licensor.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Cost
of Sales
Cost
of sales consists of the costs of ingredients utilized in the production of spirits, manufacturing labor and overhead, warehousing
rent, packaging, and in-bound freight charges. Ingredients account for the largest portion of the cost of sales, followed by packaging
and production costs.
Shipping
and Fulfillment Costs
Freight
costs incurred related to shipment of merchandise from the Company’s distribution facilities to customers are recorded in
cost of sales.
Cash
and Cash Equivalents
Cash
equivalents are considered to be highly liquid investments with maturities of three months or less at the time of the purchase.
The Company had no cash equivalents at December 31, 2019 and 2018.
Concentrations
Financial
instruments that potentially subject the Company to concentrations of credit risk consist principally of trade receivables. At
December 31, 2019, two distributors represented 40% of trade receivables. At December 31, 2018, two distributors represented 37%
of trade receivables. Sales to one distributor accounted for 16% of consolidated sales for the year ended December 31,
2019. Sales to two distributors accounted for 42% of consolidated sales for the year ended December 31, 2018.
Fair
Value Measurements
GAAP
defines fair value, establishes a framework for measuring fair value, and requires certain disclosures about fair value measurements.
GAAP permits an entity to choose to measure many financial instruments and certain other items at fair value and contains financial
statement presentation and disclosure requirements for assets and liabilities for which the fair value option is elected. At December
31, 2019 and December 31, 2018, management has not elected to report any of the Company’s assets or liabilities at fair
value under the “fair value option” provided by GAAP.
The
hierarchy of fair value valuation techniques under GAAP provides for three levels: Level 1 provides the most reliable measure
of fair value, whereas Level 3, if applicable, generally would require significant management judgment. The three levels for categorizing
assets and liabilities under GAAP’s fair value measurement requirements are as follows:
|
Level
1:
|
Fair
value of the asset or liability is determined using cash or unadjusted quoted prices in active markets for identical assets
or liabilities.
|
|
|
|
|
Level
2:
|
Fair
value of the asset or liability is determined using inputs other than quoted prices that are observable for the applicable
asset or liability, either directly or indirectly, such as quoted prices for similar (as opposed to identical) assets or liabilities
in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.
|
|
|
|
|
Level
3:
|
Fair
value of the asset or liability is determined using unobservable inputs that are significant to the fair value measurement
and reflect management’s own assumptions regarding the applicable asset or liability.
|
None
of the Company’s assets or liabilities were measured at fair value at December 31, 2019 or 2018. However, GAAP requires
the disclosure of fair value information about financial instruments that are not measured at fair value. Financial instruments
consist principally of trade receivables, accounts payable, accrued liabilities, note payable, and convertible note payable. The
estimated fair value of trade receivables, accounts payable, and accrued liabilities approximates their carrying value due to
the short period of time to their maturities. At December 31, 2019 and December 31, 2018, the Company’s notes are payable
at fixed rates and their carrying value approximates fair value.
Items
Measured at Fair Value on a Nonrecurring Basis
Certain
assets and liabilities acquired in a business acquisition are valued at fair value at the date of acquisition.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Inventories
Inventories
primarily consist of bulk and bottled liquor and merchandise and are stated at the lower of cost or market. Cost is determined
using an average costing methodology, which approximates cost under the first-in, first-out (FIFO) method. A portion of inventory
is held by certain independent distributors on consignment until it is sold to a third party. The Company regularly monitors inventory
quantities on hand and records write-downs for excess and obsolete inventories based primarily on the Company’s estimated
forecast of product demand and production requirements. Such write-downs establish a new cost basis of accounting for the related
inventory. The Company recorded write-downs of inventory of $0.3 million and $Nil for the years ended December 31, 2019 and 2018,
respectively.
Property
and Equipment
Property
and equipment is stated at cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line
method over the estimated useful lives of the assets, ranging from three to seven years. Amortization of leasehold improvements
is computed using the straight-line method over the life of the lease or the useful lives of the assets, whichever is shorter.
The cost and related accumulated depreciation and amortization of property and equipment sold or otherwise disposed of are removed
from the accounts and any gain or loss is reported as current period income or expense. The costs of repairs and maintenance are
expensed as incurred.
Intangible
Assets / Goodwill
The
Company accounts for long-lived assets, including property and equipment and intangible assets, at amortized cost. Management
reviews long-lived assets for probable impairment whenever events or circumstances indicate that the carrying amount of such assets
may not be recoverable. If there is an indication of impairment, management would prepare an estimate of future cash flows (undiscounted
and without interest charges) expected to result from the use of the asset and its eventual disposition. If these estimated cash
flows were less than the carrying amount, an impairment loss would be recognized to write down the asset to its estimated fair
value. The Company performed a qualitative assessment of goodwill at December 31, 2019 and determined that goodwill was not impaired.
Long-lived
Assets
The
Company accounts for long-lived assets, including property and equipment, at amortized cost. Management reviews long-lived assets
for probable impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable.
If there is an indication of impairment, management would prepare an estimate of future cash flows (undiscounted and without interest
charges) expected to result from the use of the asset and its eventual disposition. If these estimated cash flows were less than
the carrying amount of the asset, an impairment loss would be recognized to write down the asset to its estimated fair value.
Income
Taxes
The
provision for income taxes is based on income and expenses as reported for financial statement purposes using the “asset
and liability method” for accounting for deferred taxes. Deferred tax assets and liabilities are recognized for the future
tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities
and their respective tax bases. Deferred tax assets and liabilities are reflected at currently enacted income tax rates applicable
to the period in which the deferred tax assets or liabilities are expected to be realized or settled.
As
changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes.
A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized. At December 31, 2019 and
2018, the Company established valuation allowances against its net deferred tax assets.
Income
tax positions that meet the “more-likely-than-not” recognition threshold are measured at the largest amount of income
tax benefit that is more than 50 % likely to be realized upon settlement with the applicable taxing authority. The portion of
the benefits associated with income tax positions taken that exceeds the amount measured as described above would be reflected
as a liability for unrecognized income tax benefits in the accompanying consolidated balance sheets along with any associated
interest and penalties that would be payable to the taxing authorities upon examination. Interest and penalties associated with
unrecognized income tax benefits would be classified as additional income taxes in the accompanying consolidated statements of
operations. There were no unrecognized income tax benefits, nor any interest and penalties associated with unrecognized income
tax benefits, accrued or expensed at and for the years ended December 31, 2019 and 2018.
The
Company files federal income tax returns in the United States. and various state income tax returns. The Company is no longer
subject to examinations by the related tax authorities for the Company’s U.S. federal and state income tax returns for years
prior to 2012.
Comprehensive
Income
The
Company does not have any reconciling other comprehensive income items for the for the years ended December 31, 2019 and 2018,
respectively.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Excise
Taxes
The
Company is responsible for compliance with the TTB regulations, which includes making timely and accurate excise tax payments.
The Company is subject to periodic compliance audits by the TTB. Individual states also impose excise taxes on alcoholic beverages
in varying amounts. The Company calculates its excise tax expense based upon units produced and on its understanding of the applicable
excise tax laws. Excise taxes totaled $0.8 million and $0.7 million in years 2019 and 2018, respectively.
Stock-Based
Compensation
The
Company recognizes as compensation expense all stock-based awards issued to employees. The compensation cost is measured based
on the grant-date fair value of the related stock-based awards and is recognized over the service period of stock-based awards,
which is generally the same as the vesting period. The fair value of stock options is determined using the Black-Scholes valuation
model, which estimates the fair value of each award on the date of grant based on a variety of assumptions including expected
stock price volatility, expected terms of the awards, risk-free interest rate, and dividend rates, if applicable. Stock-based
awards issued to nonemployees are recorded at fair value on the measurement date and are subject to periodic market adjustments
at the end of each reporting period and as the underlying stock-based awards vest. Stock-based compensation was $0.7 million
and $0.7 million in fiscal years 2019 and 2018, respectively.
Accounts
Receivable Factoring Program
The
Company has entered into two accounts receivable factoring programs. One for its spirits customers (the “spirits program”)
and another for its co-packing customers (the “co-packing program”). Under the programs, the Company has the option
to sell certain customer account receivables in advance of payment for 75% (spirits program) or 85% (co-packing program) of the
amount due. When the customer remits payment, the Company receives the remaining balance. For the spirits program, interest is
charged on the advanced 75% payment at a rate of 2.4% for the first 30 days plus 1.44% for each additional ten-day period. For
the co-packing program, interest is charged against the greater of $500,000 or the total funds advanced at a rate of 5% plus the
prime rate published in the Wall Street Journal. Under the terms of both agreements, the factoring provider has full recourse
against the Company should the customer fail to pay the invoice. In accordance with ASC 860, we have concluded that these agreements
have met all three conditions identified in ASC 860-10-40-5 (a) – (c) and have accounted for this activity as a sale. Given
the quality of the factored accounts, the Company has not recognized a recourse obligation. In certain limited instances, the
Company may provide collection services on the factored accounts but does not receive any fees for acting as the collection agent,
and as such, the Company has not recognized a service obligation asset or liability. The Company factored $2.2 million of invoices
and incurred $0.1 million in fees associated with the factoring programs during the year ended December 31, 2019. At December
31, 2019, the Company had $0.6 million factored invoices outstanding.
Discontinued
Operations
The
Company reports discontinued operations by applying the following criteria in accordance with Accounting Standards Codification
(“ASC”) Topic 205-20 – Presentation of Financial Statements – Discontinued Operations: (1) Component
of an entity; (2) Held for sale criteria; (3) Strategic shift. On December 31, 2019, management made a strategic shift to focus
the Company’s sale and marketing efforts on the nationally branded product platform, resulting in the decision to close
all four of its retail stores in the Portland, Oregon area. Although this decision meets the criteria (1) and (3) for reporting
discontinued operations, it does not meet the (2) Held for sale criteria until the retail stores are closed / abandoned, which
is planned to occur by March 31, 2020. As a result, the retail operations will not be reported as discontinued operations as of
December 31, 2019.
Recently
Adopted Accounting Pronouncements
In
August 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
2016-15, Statement of Cash Flows – Classification of Certain Cash Receipts and Cash Payments (“ASU 2016-15”)
and in November 2016 issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash (“ASU 2016-18”).
The new standards are effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years
and amend the existing accounting standards for the statement of cash flows. The amendments provide guidance on the following
nine cash flow issues: debt prepayment or debt extinguishment costs; settlement of zero-coupon or other debt instruments with
coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration
payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of
corporate-owned life insurance policies; distributions received from equity method investees; beneficial interests in securitization
transactions; separately identifiable cash flows and application of the predominance principle; and restricted cash. The adoption
of ASU 2016-15 and ASU 2016-18 on January 1, 2018 did not have a material effect on the consolidated financial statements.
In
May 2014, the FASB issued ASU 2014-09, which superseded virtually all existing revenue guidance. Under this update, an entity
is required to recognize revenue upon transfer of promised goods or services to customers, in an amount that reflects the expected
consideration received in exchange for those goods or services. As such, an entity will need to use more judgment and make more
estimates than under the current guidance. ASU 2014-09 is to be applied retrospectively either to each prior reporting period
presented in the financial statements, or only to the most current reporting period presented in the financial statements with
a cumulative effect adjustment to retained earnings. The Company elected to apply ASU 2014-09 with a cumulative effect adjustment
to retained earnings. In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral
of the Effective Date (“ASU 2015-14”). ASU 2015-14 deferred the effective date of ASU 2014-09 for one year, making
it effective for the year beginning December 31, 2017, with early adoption permitted as of January 1, 2017. The Company adopted
ASU 2014-09 as of January 1, 2018. The Company does not believe the adoption of ASU 2014-09 had any material impact on its consolidated
financial statements.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
In
February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842) (“ASU 2016-02”). Under the new guidance,
lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement
date:
|
-
|
A
lease liability, which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted
basis; and
|
|
|
|
|
-
|
A
right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified
asset for the lease term.
|
Under
the new guidance, lessor accounting will be largely unchanged. Certain targeted improvements were made to align, where necessary,
lessor accounting with the lessee accounting model and ASU No. 2014-09, Revenue from Contracts with Customers. The new lease guidance
simplified the accounting for sale and leaseback transactions primarily because lessees must recognize lease assets and lease
liabilities. Lessees will no longer be provided with a source of off-balance sheet financing. Public business entities should
apply the amendments in ASU 2016-02 for fiscal years beginning after December 15, 2018, including interim periods within those
fiscal years (i.e., January 1, 2019, for a calendar year entity). Lessees (for capital and operating leases) and lessors (for
sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing
at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified
retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period
presented. Lessees and lessors may not apply a full retrospective transition approach. In July 2018, the FASB issued ASU 2018-11,
Leases (Topic 842). This guidance provides an additional (and optional) transition method whereby the new lease standard
is applied at the adoption date and recognized as an adjustment to retained earnings. In addition, this ASU provides a practical
expedient, by class of underlying asset, to not separate nonlease components from the associated lease and instead account for
the lease as a single component if both the timing and pattern of transfer of the nonlease component(s) are the same, and if the
lease would be classified as an operating lease. These amendments have the same effective date as ASU 2016-02. On January 1, 2019,
the Company adopted the new accounting standard using the modified retrospective approach and elected to not adjust comparative
periods. Upon adoption, the Company recognized right-of-use assets of $0.9 million, lease liabilities of $1.1 million, and a net
adjustment to retained earnings of $0.2 million. The Company considers the impact of the adoption to be immaterial to its consolidated
financial statements on an ongoing basis.
In
June 2018, the FASB issued ASU No. 2018-07, Compensation – Stock Compensation (Topic 718) – Improvements to Nonemployee
Share-Based Payment Accounting (“ASU 2018-07”), which aligns the accounting for share-based payment awards issued
to employees and nonemployees. Under ASU 2018-07, the existing employee guidance will apply to nonemployee share-based transactions
(as long as the transaction is not effectively a form of financing), with the exception of specific guidance related to the attribution
of compensation cost. The cost of nonemployee awards will continue to be recorded as if the grantor had paid cash for the goods
or services. In addition, the contractual term will be able to be used in lieu of an expected term in the option-pricing model
for nonemployee awards. The new standard became effective on January 1, 2019 and should be applied to all new awards granted after
the date of adoption. The Company adopted ASU 2018-07 as of January 1, 2019. The Company does not believe the adoption of ASU
2018-07 had any material impact on its consolidated financial statements.
Recent
Accounting Pronouncements
In
January 2017, the FASB issued ASU 2017-04, Intangibles-Goodwill and Other (Topic 350) – Simplifying the Test for Goodwill
Impairment (“ASU 2017-04”). ASU 2017-04 will simplify the subsequent measurement of goodwill by eliminating Step
2 from the goodwill impairment test. Current guidance requires that companies compute the implied fair value of goodwill under
Step 2 by performing procedures to determine the fair value at the impairment testing date of its assets and liabilities following
the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination.
ASU 2017-04 will require companies to perform annual or interim goodwill impairment tests by comparing the fair value of a reporting
unit with its carrying amount and recognize an impairment charge for the amount by which the carrying amount exceeds the reporting
unit’s fair value. However, the loss recognized should not exceed the total amount of goodwill allocated to that reporting
unit. ASU 2017-04 will be effective for fiscal years beginning after December 15, 2019, including interim periods within those
fiscal years, and will be applied prospectively. Early adoption of this standard is permitted. The Company is currently in the
process of evaluating the impact of ASU 2017-04 on its consolidated financial statements.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
4.
Business Acquisitions
During
the fiscal year 2019, the Company completed the following acquisitions:
Craft
Canning + Bottling
On
January 11, 2019, the Company completed the acquisition of Craft Canning + Bottling, LLC (“Craft Canning”), a Portland,
Oregon-based provider of bottling and canning services. The Company’s consolidated financial statements for the year ended
December 31, 2019 include Craft Canning’s results of operations from the acquisition date of January 11, 2019 through December
31, 2019. The Company’s consolidated financial statements reflect the final purchase accounting adjustments in accordance
with ASC 805 “Business Combinations”, whereby the purchase price was allocated to the assets acquired and liabilities
assumed based upon their estimated fair values on the acquisition date.
The
following allocation of the purchase price is as follows:
Consideration given:
|
|
|
|
|
338,212 shares of common
stock valued at $6.10 per share
|
|
$
|
2,080,004
|
|
Cash
|
|
|
2,003,200
|
|
Notes
payable
|
|
|
761,678
|
|
Total value
of acquisition
|
|
$
|
4,844,882
|
|
|
|
|
|
|
Assets and liabilities acquired:
|
|
|
|
|
Cash
|
|
$
|
553,283
|
|
Trade receivables,
net
|
|
|
625,717
|
|
Inventories, net
|
|
|
154,824
|
|
Prepaid expenses
and current assets
|
|
|
250
|
|
Property and equipment,
net
|
|
|
1,839,486
|
|
Right-of-use assets
|
|
|
232,884
|
|
Intangible assets
- customer list
|
|
|
2,895,318
|
|
Other assets
|
|
|
26,600
|
|
Accounts payable
|
|
|
(231,613
|
)
|
Accrued liabilities
|
|
|
(74,389
|
)
|
Deferred revenue
|
|
|
(52,000
|
)
|
Lease liabilities
|
|
|
(256,375
|
)
|
Notes
payable
|
|
|
(869,103
|
)
|
Total
|
|
$
|
4,844,882
|
|
Intangible
assets are recorded at estimated fair value, as determined by management based on available information. The fair value assigned
to the customer list intangible asset was determined through the use of the income approach, specifically the relief from royalty
and the multi-period excess earning methods. The major assumptions used in arriving at the estimated identifiable intangible asset
value included management’s estimates of future cash flows, discounted at an appropriate rate of return which is based on
the weighted average cost of capital for both the Company and other market participants, projected customer attrition rates, as
well as applicable royalty rates for comparable assets. The useful lives for intangible assets were determined based upon the
remaining useful economic lives of the tangible assets that are expected to contribute directly or indirectly to future cash flows.
The customer relationships estimated useful life is seven years.
The
Company incurred Craft Canning-related acquisition costs of $0.1 million during the year ended December 31, 2019 that have been
recorded in general and administrative expenses on the consolidated statements of operations. The results of the Craft Canning
acquisition are included in our consolidated financial statements from the date of acquisition through December 31, 2019. The
sales and net income (including transaction costs) of Craft Canning operations included in our consolidated statements of operations
were $7.1 million and $0.4 million, for the period from January 11, 2019 through December 31, 2019.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Azuñia
Tequila
On
September 12, 2019, the Company completed the acquisition of the Azuñia Tequila brand, the direct sales team, existing
product inventory, supply chain relationships and contractual agreements from Intersect Beverage, LLC, an importer and distributor
of tequila and related products. The Company’s consolidated financial statements as of and for the year ended December 31,
2019 include the Azuñia Tequila assets and results of operations. For the year ended December 31, 2019, the Azuñia
Tequila results of operations are included from the acquisition date of September 12, 2019 through December 31, 2019.
The
acquisition was structured as an all-stock transaction, provided that the Company may, at its election, pay a portion of the consideration
in cash or by executing a three-year promissory note if the issuance of stock would require the Company to hold a vote of its
stockholders under the applicable Nasdaq rules. Subject to compliance with applicable Nasdaq rules, the initial consideration,
will be payable approximately 18 months following the closing and will consist of 850,000 shares of the Company’s common
stock at a stipulated value of $6.00 per share, 350,000 shares of the Company’s common stock based on the Company’s
stock price twelve months after the close of the transaction, and additional shares based on the Azuñia business achieving
certain revenue targets and the Company’s stock price 18 months after the close of the transaction. The Company has also
agreed to issue additional stock consideration (subject to compliance with applicable Nasdaq rules) of up to $1.5 million upon
the Azuñia business achieving revenue of at least $9.45 million in the period commencing on the 13th month following the
closing and ending on the 24th month following the closing.
The
Company’s consolidated financial statements reflect the final purchase accounting adjustments in accordance with ASC 805
“Business Combinations”, whereby the purchase price was allocated to the assets acquired based upon their estimated
fair values on the acquisition date. The Company estimated the purchase price based on weighted probabilities of future results
and recorded deferred consideration payable of $12.8 million on the acquisition date that will be remeasured to fair value at
each reporting date until the contingencies are resolved, with the changes in fair value recognized in earnings. The Company remeasured
the deferred consideration payable for the period ended December 31, 2019 and increased the liability by $2.7 million to a balance
of $15.5 million.
The
following allocation of the purchase price is as follows:
Consideration given:
|
|
|
|
|
Deferred
consideration payable
|
|
$
|
12,781,092
|
|
Total value
of acquisition
|
|
$
|
12,781,092
|
|
|
|
|
|
|
Assets acquired:
|
|
|
|
|
Inventories, net
|
|
$
|
836,026
|
|
Intangible
assets - brand
|
|
|
11,945,066
|
|
Total
|
|
$
|
12,781,092
|
|
Intangible
assets are recorded at estimated fair value, as determined by management based on available information. The fair value assigned
to the brand intangible asset was determined through the use of the market approach. The major assumptions used in arriving at
the estimated identifiable intangible asset value included category averages for comparable acquisitions, including multiples
of annual sales and dollars per case sold. The Company used an estimated brand useful life of seven years for these accounting
purposes.
The
Company incurred Azuñia Tequila-related acquisition costs of $0.2 million during the year ended December 31, 2019 that
have been recorded in general and administrative expenses on the consolidated statements of operations. The results of the Azuñia
Tequila asset acquisition are included in our consolidated financial statements from the date of acquisition through December
31, 2019. The sales of Azuñia Tequila products included in our consolidated statements of operations were $1.1 million
for the period from September 12, 2019 through December 31, 2019.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Pro
Forma Financial Information
The
following unaudited pro forma consolidated results of operations for the years ended December 31, 2019 and 2018 assume that both
acquisitions of Craft Canning + Bottling and Azuñia Tequila were completed on January 1, 2018:
|
|
2019
|
|
|
2018
|
|
Pro forma sales
|
|
$
|
19,868,484
|
|
|
$
|
16,088,104
|
|
Pro forma net
loss
|
|
|
(20,350,193
|
)
|
|
|
(10,868,474
|
)
|
Pro forma basic
and diluted net loss per share
|
|
$
|
(2.19
|
)
|
|
$
|
(1.69
|
)
|
Pro
forma data does not purport to be indicative of the results that would have been obtained had these events actually occurred at
the beginning of the periods presented and is not intended to be a projection of future results. The share and per share data
have been retroactively reflected for the acquisitions.
5.
Inventories
Inventories
consist of the following at December 31:
|
|
2019
|
|
|
2018
|
|
Raw materials
|
|
$
|
9,336,304
|
|
|
$
|
10,347,616
|
|
Finished goods
|
|
|
3,056,931
|
|
|
|
669,843
|
|
Total inventories
|
|
$
|
12,393,235
|
|
|
$
|
11,017,459
|
|
The
$2.3 million increase of finished goods inventory includes $1.0 million of inventory acquired from the Azuñia brand acquisition
and $1.1 million inventory build to support Redneck Riviera. Raw materials inventories decreased by $1.0 million notwithstanding
the fact that it includes an additional $0.5 million increase related to the Craft acquisition and $0.2 million related to the
Azuñia brand acquisition.
6.
Property and Equipment
Property
and equipment consists of the following at December 31:
|
|
2019
|
|
|
2018
|
|
Furniture and fixtures
|
|
$
|
4,558,362
|
|
|
$
|
1,148,540
|
|
Leasehold improvements
|
|
|
1,750,833
|
|
|
|
477,184
|
|
Vehicles
|
|
|
689,930
|
|
|
|
49,483
|
|
Construction
in progress
|
|
|
98,252
|
|
|
|
425,851
|
|
Total cost
|
|
|
7,097,377
|
|
|
|
2,101,058
|
|
Less accumulated
depreciation
|
|
|
(2,323,849
|
)
|
|
|
(342,928
|
)
|
Total property
and equipment, net
|
|
$
|
4,773,528
|
|
|
$
|
1,758,130
|
|
Purchases
of property and equipment totaled $2.2 million and $1.3 million for the years ended December 31, 2019 and 2018, respectively.
Depreciation expense totaled $1.2 million and $0.3 million for the years ended December 31, 2019 and 2018, respectively. Losses
totaled $0.1 million on vehicles that were disposed of in 2019.
7.
Intangible Assets and Goodwill
Intangible
assets and goodwill at December 31, 2019 and December 31, 2018 consisted of the following:
|
|
December
31, 2019
|
|
|
December
31, 2018
|
|
Permits and licenses
|
|
$
|
25,000
|
|
|
$
|
25,000
|
|
Azuñia brand
|
|
|
11,945,066
|
|
|
|
-
|
|
Customer lists
|
|
|
3,246,748
|
|
|
|
351,430
|
|
Goodwill
|
|
|
28,182
|
|
|
|
28,182
|
|
Total intangible assets and goodwill
|
|
|
15,244,996
|
|
|
|
404,612
|
|
Less accumulated
amortization
|
|
|
(542,024
|
)
|
|
|
(90,754
|
)
|
Intangible assets
and goodwill - net
|
|
$
|
14,702,972
|
|
|
|
313,858
|
|
Amortization
expense totaled $0.4 million and $0.1 million for the years ended December 31, 2019 and 2018, respectively. The permits
and license, Azuñia brand and goodwill have all been determined to have indefinite life and will not be amortized. The
customer list is being amortized over a seven-year life.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
8.
Other Assets
Other
assets consist of the following at December 31:
|
|
2019
|
|
|
2018
|
|
Product
branding
|
|
$
|
809,000
|
|
|
$
|
525,000
|
|
Investment
in online company
|
|
|
-
|
|
|
|
300,000
|
|
Notes
Receivable
|
|
|
450,000
|
|
|
|
-
|
|
Deposits
|
|
|
53,542
|
|
|
|
29,297
|
|
Total
other assets
|
|
|
1,312,542
|
|
|
|
854,297
|
|
Less
accumulated amortization
|
|
|
(136,106
|
)
|
|
|
(58,037
|
)
|
Other
assets - net
|
|
$
|
1,176,436
|
|
|
$
|
796,260
|
|
As
of December 31, 2019, the Company had $0.8 million of capitalized costs related to services provided for the rebranding of its
existing product line and branding of new product lines. This amount is being amortized over a seven-year life. The Company has
notes receivable totaling $450,000. These notes bear interest at 5.00% and mature on August 25, 2020. The remaining deposits of
$0.1 million represent office and retail space lease deposits.
Amortization
expense totaled $0.1 million and $0.1 million for the years ended December 31, 2019 and 2018, respectively.
9.
Leases
The
Company has various lease agreements in place for facilities and equipment. Terms of these leases include, in some instances,
scheduled rent increases, renewals, purchase options and maintenance costs, and vary by lease. These lease obligations expire
at various dates through 2023. As the rate implicit in each lease is not readily determinable, the Company uses its incremental
borrowing rate based on information available at commencement to determine the present value of the lease payments. Based on the
present value of the lease payments for the remaining lease term of the Company’s existing leases, the Company recognized
right-of-use assets of $0.9 million, lease liabilities of $1.1 million, and a net adjustment to retained earnings of $0.2 million
upon adoption on January 1, 2019. Right-of-use assets and lease liabilities commencing after January 1, 2019 are recognized at
commencement date based on the present value of lease payments over the lease term. As of December 31, 2019, the right-of-use
assets and lease liabilities were $0.7 million and $0.9 million, respectively. Leases with an initial term of 12 months or less
(“short-term leases”) are not recorded on the balance sheet and are recognized on a straight-line basis over the lease
term. Aggregate lease expense for the year ended December 31, 2019 was $0.9 million, consisting of $0.6 million in lease expense
for lease liabilities recorded on the Company’s balance sheet and $0.3 million in short-term lease expense.
Maturities
of lease liabilities as of December 31, 2019 are as follows:
|
|
Operating
Leases
|
|
|
Weighted-Average
Remaining Term
in Years
|
|
2020
|
|
$
|
549,116
|
|
|
|
|
|
2021
|
|
|
299,352
|
|
|
|
|
|
2022
|
|
|
37,477
|
|
|
|
|
|
Thereafter
|
|
|
38,564
|
|
|
|
|
|
Total
lease payments
|
|
|
924,509
|
|
|
|
|
|
Less
imputed interest (based on 6.3% weighted- average discount rate
|
|
|
(53,675
|
)
|
|
|
|
|
Present
value of lease liability
|
|
$
|
870,834
|
|
|
|
1.9
|
|
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
10.
Notes Payable
Notes
payable as of December 31, 2019 and December 31, 2018 consists of the following:
|
|
December
31, 2019
|
|
|
December
31, 2018
|
|
Notes payable bearing interest
at 5.00%. The notes’ principal, plus any accrued and unpaid interest is due May 1, 2021. Interest is paid monthly.
|
|
|
2,300,000
|
|
|
|
2,300,000
|
|
Notes payable bearing interest at 5.00%.
The notes’ principal, plus any accrued and unpaid interest is due December 31, 2019.
|
|
|
254,075
|
|
|
|
-
|
|
Notes payable bearing interest at 5.00%.
Principal and accrued interest is payable in six equal installments on each six-month anniversary of the issuance date of
January 11, 2019. The notes are secured by the security interests and subordinated to the Company’s senior indebtedness.
|
|
|
649,774
|
|
|
|
-
|
|
Promissory note payable bearing interest
of 5.2%. The note has a 46-month term with maturity in May 2023. Principal and accrued interest are paid in accordance with
a monthly amortization schedule. The note is secured by the assets of Craft Canning.
|
|
|
176,571
|
|
|
|
-
|
|
Promissory note payable bearing interest
of 4.45%. The note has a 34-month term with maturity in May 2022. Principal and accrued interest are paid in accordance with
a monthly amortization schedule. The note is secured by the assets of Craft Canning and includes debt covenants requiring
a Current Ratio of 1.75 to 1.00 and a Debt Service Coverage Ratio of 1.25 to 1.00. Craft Canning must also provide annual
financial statements and tax returns. Craft Canning was in compliance with all debt covenants as of December 31, 2019.
|
|
|
265,509
|
|
|
|
-
|
|
Promissory note payable under a revolving
line of credit bearing variable interest starting at 5.5%. The note has a 12-month term with principal and accrued interest
due in lump sum in July 2020. The borrowing limit is $250,000. The note is secured by the assets of Craft Canning.
|
|
|
50,000
|
|
|
|
-
|
|
Promissory note payable bearing interest
of 4.14%. The note has a 60-month term with maturity in July 2024. Principal and accrued interest are paid in accordance with
a monthly amortization schedule. The note is secured by the assets of Craft Canning.
|
|
|
183,202
|
|
|
|
-
|
|
Promissory note payable bearing interest
of 3.91%. The note has a 60-month term with maturity in August 2024. Principal and accrued interest are paid in accordance
with a monthly amortization schedule. The note is secured by the assets of Craft Canning.
|
|
|
281,802
|
|
|
|
-
|
|
Promissory note payable bearing interest
of 3.96%. The note has a 60-month term with maturity in November 2024. Principal and accrued interest are paid in accordance
with a monthly amortization schedule. The note is secured by the assets of Craft Canning.
|
|
|
295,463
|
|
|
|
-
|
|
Secured line of credit promissory note
for a revolving line of credit in the aggregate principal amount of $2,000,000. The Note matures on April 15, 2020 and may
be prepaid in whole or in part at any time without penalty or premium. Repayment of the Note is subject to acceleration in
the event of an event of default. The Company may use the proceeds to purchase tequila for its Azuñia product line
and for general corporate purposes, as approved by the Holder. The obligations of the Company under the Note are secured by
certain inventory of the Company and its subsidiaries and the Company’s membership interests in Craft Canning. In addition,
the Note is guaranteed by the Company’s subsidiaries Craft Canning and Big Bottom Distilling. The Note and the accompanying
guaranty restrict Craft Canning from incurring any new indebtedness, other than trade debt incurred in the ordinary course
of business, until the Note is repaid in full. The obligations under the Note are subordinate and junior in right and priority
of payment to the Company’s obligations under the Company’s Credit and Security Agreement with the KFK Children’s
Trust dated May 10, 2018.
|
|
|
946,640
|
|
|
|
-
|
|
Promissory notes
payable bearing interest between 2.99% - 3.14%. The notes have 60-month terms with maturity dates between February 2019 –
June 2020. Principal and accrued interest are paid monthly. The notes are secured by the specific vehicle underlying the loan.
|
|
|
10,390
|
|
|
|
-
|
|
Total notes payable
|
|
|
5,413,426
|
|
|
|
2,300,000
|
|
Less current portion
|
|
|
(1,819,172
|
)
|
|
|
-
|
|
Long-term portion
of notes payable
|
|
$
|
3,594,254
|
|
|
$
|
2,300,000
|
|
The
company paid $0.2 million and $0.2 million in interest on notes during 2019 and 2018 respectively.
Maturities
on notes payable as of December 31, 2019, are as follows:
Year
ending December 31:
2020
|
|
$
|
1,819,172
|
|
2021
|
|
|
2,871,525
|
|
2022
|
|
|
399,138
|
|
Thereafter
|
|
|
323,591
|
|
|
|
$
|
5,413,426
|
|
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
11.
Secured Credit Facility
On
May 10, 2018, the Company entered into a credit and security agreement (the “Credit and Security Agreement”), by and
between the Company and The KFK Children’s Trust, Jeffrey Anderson – Trustee (the “Lender”). Pursuant
to the Credit and Security Agreement, the Lender will make loans to the Company in an aggregate principal amount not to exceed
$3,000,000 (the “Loans”). The Loans are secured by all of the Company’s bulk whiskey, bourbon and rye inventory
held in third-party storage facilities (“Specified Inventory”). The Company may borrow 80% of the value of the Specified
Inventory it is able to purchase under the Credit and Security Agreement.
The
proceeds of the Loans are to be used by the Company to purchase the Specified Inventory for use in distilling and producing its
spirits products, and for no other purpose.
The
Loans have an annual interest rate of 7.00%. The Company will pay accrued and unpaid interest on the Loans, for the period commencing
on the date each such Loan is made and continuing until each such Loan is paid in full. During 2019, The Company paid $0.2 million
in interest on the Loans. The Company must pay the outstanding principal amount of the Loans in a one-time payment on the termination
date of the Credit and Security Agreement (June 10, 2021), or earlier pursuant to other provisions thereof. The Company may prepay
the Loans or any portion thereof at any time, and from time to time, without premium or penalty. As of December 31, 2019, the
Company has borrowed the full $3 million available under the agreement. The Loans were paid in full on January 30, 2020.
The
current market value of the Company’s bulk whiskey, bourbon and rye inventories must be at least 120% of the outstanding
Loan balance. In addition, the Credit and Security Agreement contains other customary covenants including, among other things,
certain restrictions on incurring indebtedness.
12.
Income Taxes
The
provision for income taxes results in effective tax rates which are different than the federal income tax statutory rate. The
provision (benefit) for income taxes for the years ended December 31, 2019 and 2018 were as follows, assuming a 21% federal effective
tax rate. The Company also has a state tax rate for Oregon, of 6.6% for both December 31, 2019 and 2018.
|
|
2019
|
|
|
2018
|
|
Expected
federal income tax benefit
|
|
$
|
(3,389,519
|
)
|
|
$
|
(1,774,610
|
)
|
State income
taxes after credits
|
|
|
(1,140,554
|
)
|
|
|
(597,146
|
)
|
Change
in valuation allowance
|
|
|
4,530,073
|
|
|
|
2,371,756
|
|
|
|
|
|
|
|
|
|
|
Total
provision for income taxes
|
|
$
|
-
|
|
|
$
|
-
|
|
The
components of the net deferred tax assets and liabilities at December 31 consisted of the following:
|
|
2019
|
|
|
2018
|
|
Deferred
tax assets:
|
|
|
|
|
|
|
|
|
Net
operating loss carryforwards
|
|
$
|
12,751,273
|
|
|
$
|
7,780,105
|
|
Stock-based
compensation
|
|
|
807,587
|
|
|
|
623,386
|
|
Total
deferred tax assets
|
|
|
12,558,860
|
|
|
|
8,403,491
|
|
|
|
|
|
|
|
|
|
|
Deferred
tax liabilities:
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
(834,160
|
)
|
|
|
(208,864
|
)
|
Total
deferred tax liabilities
|
|
|
(834,160
|
)
|
|
|
(208,864
|
)
|
Valuation
allowance
|
|
|
(12,724,700
|
)
|
|
|
(8,194,627
|
)
|
Net
deferred tax assets
|
|
$
|
-
|
|
|
|
-
|
|
At
December 31, 2019, the Company has a cumulative net operating loss carryforward (NOL) of approximately $37.8 million, to offset
against future income for federal and state tax purposes. These federal and state NOLs can be carried forward for 20 and 15 years,
respectively. The federal NOLs begin to expire in 2034, and the state NOLs begin to expire in 2029. The utilization of the net
operating loss carryforwards may be subject to substantial annual limitation due to ownership change provisions of the Internal
Revenue Code of 1986 (as amended, the Internal Revenue Code) and similar state provisions. In general, if the Company experiences
a greater than 50 percentage aggregate change in ownership of certain significant stockholders over a three-year period (a “Section
382 ownership change”), utilization of its pre-change NOL carryforwards are subject to an annual limitation under Section
382 of the Internal Revenue Code (and similar state laws). The annual limitation generally is determined by multiplying the value
of the Company’s stock at the time of such ownership change (subject to certain adjustments) by the applicable long-term
tax-exempt rate. Such limitations may result in expiration of a portion of the NOL carryforwards before utilization and may be
substantial.
In
assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion
or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon generation
of future taxable income during the periods in which those temporary differences become deductible. Due to the uncertainty of
the realizability of the deferred tax assets, management has determined a full valuation allowance is appropriate.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
13.
Commitments and Contingencies
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Legal
Matters
We
are party to the material legal proceeding described below. In addition, we could be subject to legal proceedings and claims from
time to time in the ordinary course of our business, or legal proceedings we considered immaterial may in the future become material.
Regardless of the outcome, litigation can, among other things, be time consuming and expensive to resolve, and divert management
resources.
On
October 22, 2019, a complaint was filed against the Company in the Circuit Court of Oregon, County of Multnomah by two former
employees, Laurie Branch and Justina Thoreson. The complaint also named as defendants certain current and former officers and
employees of the Company. The complaint is captioned Branch et al. v. Eastside Distilling, Inc. et al., case number
19-CV-45716, and alleged, among other things, that the Company and certain current and former officers and
employees engaged in sex discrimination, retaliation for reporting sexual discrimination, sexual harassment, and aiding and
abetting unlawful discrimination. As relief, the complaint sought, among other things, monetary damages of up to
$560,000 and attorneys and experts’ fees. This litigation was successfully mediated on March 20, 2020 and is in
final stages of settlement. The Company’s insurer accepted initial defense of this matter, with a reservation of
rights. The Company is responsible for $100,000 retention per claim.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
14.
Net Loss per Common Share
Basic
loss per common share is computed by dividing net loss by the weighted average number of common shares outstanding during the
period, without considering any dilutive items. Diluted net loss per common share is computed by dividing net loss by the sum
of the weighted average number of common shares outstanding and the potential number of any dilutive common shares outstanding
during the period. Potentially dilutive securities consist of the incremental common stock issuable upon exercise of stock options
and convertible notes. Potentially dilutive securities are excluded from the computation if their effect is anti-dilutive. There
were no dilutive common shares at December 31, 2019 and 2018. The numerators and denominators used in computing basic and diluted
net loss per common share in 2019 and 2018 are as follows:
|
|
December
31,
|
|
|
|
2019
|
|
|
2018
|
|
Net loss available to common
shareholders (numerator)
|
|
$
|
(16,908,104
|
)
|
|
$
|
(9,047,669
|
)
|
Weighted average shares (denominator)
|
|
|
9,275,696
|
|
|
|
6,074,489
|
|
Basic and diluted net loss per common
share
|
|
$
|
(1.82
|
)
|
|
$
|
(1.49
|
)
|
15.
Stockholder’s Equity
Issuance
of Common Stock
During
2019, the Company issued 291,099 shares of common stock to directors, employees and consultants for stock-based compensation of
$1,653,759. The shares were valued using the closing share price of the Company’s common stock on the date of grant, within
the range of $3.68 to $6.13 per share.
In
September 2019, the Company issued 280,555 units (the “Units”) in connection with a private offering at a per Unit
price of $4.50 per share, resulting in net proceeds of $1,262,497. Each Unit consists of one share of Eastside’s common
stock and a three-year warrant to acquire 0.5 shares of common stock at an exercise price of $5.50 per share.
In
April 2019, the Company issued 1,077 shares of common stock in connection with existing option exercises at an exercise price
of $3.99.
On
January 11, 2019, the Company issued 338,212 shares of common stock in connection with the acquisition of Craft Canning for a
total consideration of $2,080,004.
On
December 31, 2018, the Company issued 3,122 shares in connection with the purchase of the remaining 10% interest in BBD.
On
November 20, 2018, the Company issued 1,235,000 shares of common stock at $6.50 per share in connection with an underwritten public
offering for net proceeds of approximately $7.2 million. On December 19, 2018 an additional 185,250 shares were issued as part
of the overallotment for additional proceeds of approximately $1.1 million.
During
2018, the Company issued 1,345,978 shares of common stock at $5.40 per share in connection with the exercise of warrants for cash
proceeds of $7,268,281, and 500,000 shares of common stock at $5.40 per share in connection with the exercise of warrants in exchange
for a reduction in outstanding note principal of $2,700,000.
On
September 25, 2018, the Company issued 120,000 shares of common stock at $5.40 per share in connection with the exercise of underwriter
warrants. The warrants were part of units, and each unit consisted of one share of common stock and one common stock warrant exercisable
at $5.40 per share.
In
July 2018, the Company issued 167,273 shares of common stock at $6.00 per share in exchange for outstanding note principal and
interest. The conversion was within the terms of the original note agreement and no gain or loss was recorded.
During
2018, the Company issued 115,334 shares of common stock at an average of $5.35 per share in connection with the exercise of warrants
for proceeds of $617,004. In addition, the Company issued 59,308 shares of common stock at an average of approximately $4.05 per
share in exchange for services rendered.
During
2018, the Company issued 79,734 shares of common stock to directors and employees for stock-based compensation of $712,469. The
shares were valued using the closing share price of our common stock on the date of grant, with the range of $3.99 - $8.50 per
share.
During
2018, the Company issued 35,941 shares of common stock in connection with existing option exercises, at an average exercise price
of $4.56.
During
2018, the Company issued 27,400 shares of common stock to consultants in exchange for services. The shares were valued using the
closing share price of our common stock on the date of grant, with a range of $3.99 - $7.72 per share, for a total value of $162,378.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Stock-Based
Compensation
On
September 8, 2016, the Company adopted the 2016 Equity Incentive Plan (the “2016 Plan”). Pursuant to the terms of
the plan, on January 1, 2019, the number of shares available for grant under the 2016 Plan reset to 1,991,350 shares, equal to
8% of the number of outstanding shares of the Company’s capital stock, calculated on an as-converted basis, on December
31 of the preceding calendar year, and then added to the prior year plan amount. As of December 31, 2019, there were 825,659 options
and 527,337 restricted stock units (“RSUs”) issued under the 2016 Plan, with vesting schedules varying between immediate
and five (5) years from the grant date.
On
January 29, 2015, our Board of Directors adopted the 2015 Stock Incentive Plan (the “2015 Plan”). The total number
of shares available for the grant of either stock options or compensation stock under the plan is 50,000 shares, subject to adjustment.
At December 31, 2019, there were 19,584 options issued under the Plan outstanding, with vesting schedules varying between immediate
and one (1) year from the grant date, which options vest at the rate of at least 25% in the first year, starting 6-months after
the grant date, and 75% in year two.
A
summary of all stock option activity at and for the years ended December 31, 2019 and 2018 is presented below:
|
|
#
of Options
|
|
|
Weighted-
Average
Exercise Price
|
|
Outstanding
at December 31, 2017
|
|
|
369,006
|
|
|
$
|
6.47
|
|
Options granted
|
|
|
654,000
|
|
|
|
5.47
|
|
Options exercised
|
|
|
(48,715
|
)
|
|
|
4.56
|
|
Options
canceled
|
|
|
(78,433
|
)
|
|
|
4.86
|
|
Outstanding
at December 31, 2018
|
|
|
895,858
|
|
|
$
|
5.62
|
|
Options granted
|
|
|
79,000
|
|
|
|
5.01
|
|
Options exercised
|
|
|
(3,167
|
)
|
|
|
4.04
|
|
Options
canceled
|
|
|
(187,590
|
)
|
|
|
4.61
|
|
Outstanding
at December 31, 2019
|
|
|
784,101
|
|
|
$
|
5.65
|
|
|
|
|
|
|
|
|
|
|
Exercisable
at December 31, 2019
|
|
|
556,420
|
|
|
$
|
5.59
|
|
The
aggregate intrinsic value of options outstanding at December 31, 2019 was $Nil, compared to $558,278 at December 31, 2018.
At
December 31, 2019, there were 227,681 unvested options with an aggregate grant date fair value of $582,209. The unvested options
will vest in accordance with the vesting schedule in each respective option agreement, which varies between immediate and five
(5) years from the grant date. The aggregate intrinsic value of unvested options at December 31, 2019 was $Nil. During the year
ended December 31, 2019, 193,072 options vested.
The
Company uses the Black-Scholes valuation model to measure the grant-date fair value of stock options. The grant-date fair value
of stock options issued to employees is recognized on a straight-line basis over the requisite service period. Stock-based awards
issued to nonemployees are recorded at fair value on the measurement date and are subject to periodic market adjustments as the
underlying stock-based awards vest.
To
determine the fair value of stock options using the Black-Scholes valuation model, the calculation takes into consideration the
effect of the following:
|
●
|
Exercise
price of the option
|
|
●
|
Fair
value of the Company’s common stock on the date of grant
|
|
●
|
Expected
term of the option
|
|
●
|
Expected
volatility over the expected term of the option
|
|
●
|
Risk-free
interest rate for the expected term of the option
|
The
calculation includes several assumptions that require management’s judgment. The expected term of the options is calculated
using the simplified method described in GAAP. The simplified method defines the expected term as the average of the contractual
term and the vesting period. Estimated volatility is derived from volatility calculated using historical closing prices of common
shares of similar entities whose share prices are publicly available for the expected term of the options. The risk-free interest
rate is based on the U.S. Treasury constant maturities in effect at the time of grant for the expected term of the options.
The
following weighted-average assumptions were used in the Black-Scholes valuation model for options granted during the year ended
December 31, 2019:
Risk-free interest rate
|
|
|
2.22
|
%
|
Expected term (in years)
|
|
|
6.50
|
|
Dividend yield
|
|
|
-
|
|
Expected volatility
|
|
|
31
|
%
|
The
weighted-average grant-date fair value per share of stock options granted during the year ended December 31, 2019 was $1.83. The
aggregate grant date fair value of the 79,000 options granted during the year ended December 31, 2019 was $142,189.
For
the twelve months ended December 31, 2019, net compensation expense related to stock options was $759,385. At December 31, 2019,
the total compensation expense related to stock options not yet recognized is approximately $582,209, which is expected to be
recognized over a weighted-average period of approximately 1.80 years.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
Warrants
During
the twelve months ended December 31, 2019, the Company issued an aggregate of 316,540 common stock warrants, consisting of 146,262
in connection with the acquisition of Craft Canning on January 11, 2019, 140,278 in connection with the private equity offering
in September 2019, and 30,000 to a related party consultant. The Company has determined the warrants should be classified as equity
on the consolidated balance sheet as of December 31, 2019. The estimated fair value of the warrants at issuance was $297,417,
based on a combination of closing market trading price on the date of issuance for the public offering warrants, and the Black-Scholes
option-pricing model using the weighted-average assumptions below:
Volatility
|
|
|
31
|
%
|
Risk-free interest rate
|
|
|
2.16
|
%
|
Expected term (in years)
|
|
|
2.78
|
|
Expected dividend yield
|
|
|
-
|
|
Fair value of common stock
|
|
$
|
5.61
|
|
No
warrants were exercised during the twelve months ended December 31, 2019.
A
summary of activity in warrants is as follows:
|
|
Warrants
|
|
|
Weighted
Average
Remaining
Life
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Aggregate
Intrinsic
Value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at December
31, 2018
|
|
|
1,083,435
|
|
|
|
1.04
years
|
|
|
$
|
6.83
|
|
|
$
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Twelve months ended December 31, 2019:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
316,540
|
|
|
|
2.14
years
|
|
|
$
|
6.78
|
|
|
$
|
-
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
|
|
-
|
|
Forfeited
and cancelled
|
|
|
(663,416
|
)
|
|
|
-
|
|
|
$
|
6.61
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2019
|
|
|
736,559
|
|
|
|
1.18
years
|
|
|
$
|
6.95
|
|
|
$
|
-
|
|
16.
|
Related
Party Transactions
|
The
following is a description of transactions since January 1, 2018 as to which the amount involved exceeds the lesser of $120,000
or one percent (1%) of the average of our total assets at year-end for the last two completed fiscal years which was $176,934
and in which any related person has or will have a direct or indirect material interest, other than equity, compensation, termination
and other arrangements.
On
August 9, 2018, Grover Wickersham, the former Executive Chairperson of our Board through August 9, 2019 and his affiliates exercised
55,555 warrants acquired in connection with the Company’s 2017 unit offering at an exercise price of $5.40 per share, for
total proceeds of approximately $300,000.
On
June 11, 2019, our Board appointed Owen Lingley to the Board to fill an existing vacancy on the Board effective immediately. Owen
Lingley is the founder of Craft Canning, LLC, which was acquired by the Company on January 11, 2019 and subsequently changed its
name to Craft Canning + Bottling LLC. In connection with the acquisition of Craft Canning, Mr. Lingley received $1,843,200 in
cash, 338,212 shares of common stock of the Company and a promissory note in the aggregate principal amount of $731,211, which
bears interest at a rate of 5% per annum and matures on January 11, 2022. The shares acquired by Mr. Lingley in connection with
the acquisition of Craft Canning are subject to a one-year lock-up restriction and have “piggyback” registration rights
effective after the one-year lock-up.
In
addition, the Company also issued to Mr. Lingley a warrant to purchase 146,262 shares of common stock of the Company at $7.80
per share and an exercise period of three years. The shares of common stock issuable upon exercise of the warrant will be subject
to the same “piggyback” registration rights as the shares received in connection with the acquisition of Craft Canning,
described above.
Following
the acquisition of Craft Canning, Mr. Lingley became non-executive Chairman of Craft Canning and is party to a consulting agreement
with the Company. Under his consulting agreement with the Company, Mr. Lingley receives annual cash compensation of $75,000 per
year.
On
March 29, 2018, June 22, 2018 and July 10, 2018, Paul F. Shoen, who was elected to the Board in August 2019, purchased from us
promissory notes having an aggregate principal amount of $363,930, $500,000 and $197,020, respectively. The promissory notes bear
interest at a rate of 5% per annum, payable monthly on the last day of the month. In August 2018, we repaid a total of $572,912
of the principal balance outstanding under the notes. In September 2018, Mr. Shoen sold an additional $300,000 of the outstanding
principal amount. The entire amount of the remaining principal and any accrued and unpaid interest is due and payable on May 1,
2021. $188,037 currently remains outstanding on the notes.
On
October 24, 2019, our Board appointed Stephanie Kilkenny to the Board to fill an existing vacancy on the Board effective immediately.
Stephanie Kilkenny was the former managing director of Azuñia Tequila, and together with her spouse, owns and controls
TQLA, LLC (“TQLA”), the majority owner of Intersect Beverage, LLC. In connection with the acquisition of Azuñia
Tequila from Intersect Beverage, LLC, TQLA is entitled to receive up to 93.88% of the aggregate consideration payable under the
asset purchase agreement. Subject to compliance with applicable Nasdaq rules, aggregate the initial consideration will be payable
approximately 18 months following the closing and will consist of 850,000 shares of Company common stock at a stipulated value
of $6.00 per share, 350,000 shares of Company common stock based on the Company’s stock price twelve months after the close
of the transaction, and additional shares based on the Azuñia business achieving certain revenue targets and the Company’s
stock price 18 months after the close of the transaction. The Company has also agreed to issue additional stock consideration
(subject to compliance with applicable Nasdaq rules) of up to $1.5 million upon the Azuñia business achieving revenue of
at least $9.45 million in the period commencing on the 13th month following the closing and ending on the 24th month following
the closing.
In
addition, on September 16, 2019, the Company entered into a Subscription Agreement with Stephanie Kilkenny’s spouse, Patrick
J. Kilkenny as Trustee For Patrick J. Kilkenny Revocable Trust (the “Kilkenny Trust”), in reliance on the exemption
from registration afforded by Section 4(a)(2) of the Securities Act and Rule 506(b) promulgated thereunder, pursuant to which
the Company agreed to issue and sell to the Kilkenny Trust an aggregate of 55,555 units at a per unit price of $4.50. Each unit
consists of one share of the Company’s common stock and a three-year warrant to acquire 0.5 shares of common stock at an
exercise price of $5.50 per share.
Effective
November 29, 2019, the Company issued to TQLA, LLC, a California limited liability company (“Holder”), a Secured Line
of Credit Promissory Note (the “Note”) for a revolving line of credit in the aggregate principal amount of $2,000,000.
The Note matures on April 15, 2020 and may be prepaid in whole or in part at any time without penalty or premium. Repayment of
the Note is subject to acceleration in the event of an event of default. The Company may use the proceeds to purchase tequila
for its Azuñia product line and for general corporate purposes, as approved by the Holder. As of December 31, 2019, the
Company has borrowed $946,640 on the Note. Stephanie Kilkenny, a director of the Company, owns and controls TQLA, LLC with her
spouse. The Company’s Audit Committee approved the transaction. The Note was paid in full in early 2020.
Eastside
Distilling, Inc. and Subsidiaries
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2019 and 2018
On
January 15, 2020, the Company entered into a loan agreement (the “Loan Agreement”) between the Company and
its wholly-owned subsidiaries MotherLode LLC, an Oregon limited liability company, Big Bottom Distilling, LLC, an Oregon limited
liability company, Craft Canning + Bottling, LLC, an Oregon limited liability company, Redneck Riviera Whiskey Co., LLC, a Tennessee
limited liability company, and Outlandish Beverages LLC, an Oregon limited liability company (collectively, the “Borrowers”
and each a “Borrower”) and Live Oak Banking Company, a North Carolina banking corporation (“Lender”)
to refinance existing debt of the Borrowers and to provide funding for general working capital purposes. Under the Loan Agreement,
Lender has committed to make up to two loan advances to the Borrowers in an aggregate principal amount not to exceed the lesser
of (i) $8,000,000 and (ii) a borrowing base equal to 85% of the appraised value of the Borrowers’ eligible inventory of
whisky in barrels or totes less an amount equal to all service fees or rental payments owed by Borrowers during the 90 day period
immediately succeeding the date of determination to any warehouses or bailees holding eligible inventory (the “Loan”).
The
Loan matures on January 14, 2021 (the “Maturity Date”). On the Maturity Date, all amounts outstanding under
the Loan will become due and payable. The Lender may at any time demand repayment of the Loan in whole or in part, in which case
the Borrowers will be obligated to repay the Loan (or portion thereof for which repayment is demanded) within 30 days following
the date of demand. The Borrowers may prepay the Loan, in whole or in part, at any time without penalty or premium.
The
Loan bears interest at a rate equal to the prime rate plus a spread of 2.49%, adjusted quarterly. Accrued interest is payable
monthly, with the final installment of interest being due and payable on the Maturity Date. The Borrowers are also obligated to
pay a servicing fee, unused commitment fee and origination fee in connection with the Loan.
The
Loan Agreement contains affirmative and negative covenants that include covenants restricting each Borrower’s ability to,
among other things, incur indebtedness, grant liens, dispose of assets, merge or consolidate, make investments, or enter into
restrictive agreements, subject to certain exceptions.
The
obligations of the Borrowers under the Loan Agreement are secured by substantially all of their respective assets, except for
accounts receivable and certain other specified excluded property.
The
Loan Agreement includes customary events of default that include among other things, non-payment defaults, covenant defaults,
inaccuracy of representations and warranties, cross default to material indebtedness, bankruptcy and insolvency defaults and change
in control defaults. Under certain circumstances, a default interest rate will apply on all obligations during the existence of
an event of default under the Loan Agreement at a per annum rate equal to 2.00% above the applicable interest rate.
In
connection with the Loan Agreement, Company issued to Lender a warrant to purchase up to 100,000 shares of the Company’s
common stock at an initial exercise price of $3.9425 per share (the “Warrant”). The Warrant expires on January
15, 2025. In connection with the issuance of the Warrant, the Company granted the Lender piggy-back registration rights with respect
to the shares of common stock issuable upon exercise of the Warrant, subject to certain exceptions.
On
January 16, 2020, in connection with the Company’s consummation of the Loan Agreement, Eastside repaid in full and terminated
the Secured Line of Credit Promissory Note that Eastside had issued to TQLA, LLC (“Holder”) on November 29,
2019 (the “TQLA Note”). Since Eastside repaid the TQLA Note in full prior to its maturity date, the Common
Stock Purchase Warrant that Eastside had issued to Holder on November 29, 2019 will not be exercisable and is cancelled. No prepayment
or early termination penalties were incurred by Eastside as a result of repaying the TQLA Note.
On
January 12, 2020, the Company issued 87,700 shares of common stock under the 2016 Plan to directors, employees and consultants
for stock-based compensation of $280,640. The shares were valued used the closing share price of the Company’s common stock
on the date of the grant, $3.20 per share