ALKALINE WATER Co INC - Quarter Report: 2022 December (Form 10-Q)

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

Forward-Looking Statements

This report contains "forward-looking statements." All statements other than statements of historical fact are "forward-looking statements" for purposes of applicable securities laws, including, but not limited to, any projections of earnings, revenue or other financial items; any statements of the plans, strategies and objections of management for future operations; any statements concerning proposed new services or developments; any statements regarding future economic conditions or performance; any statements or belief; and any statements of assumptions underlying any of the foregoing. Forward-looking statements may include the words "may," "could," "estimate," "intend," "continue," "believe," "expect" or "anticipate" or other similar words. These forward-looking statements present our estimates and assumptions only as of the date of this report. Accordingly, readers are cautioned not to place undue reliance on forward- looking statements, which speak only as of the dates on which they are made. Except as required by applicable law, including the securities laws of the United States and Canada, we do not intend, and undertake no obligation, to update any forward-looking statement.

Although we believe the expectations reflected in any of our forward-looking statements are reasonable, actual results could differ materially from those projected or assumed in any of our forward-looking statements. Our future financial condition and results of operations, as well as any forward-looking statements, are subject to change and inherent risks and uncertainties. The factors impacting these risks and uncertainties include, but are not limited to:

Unless otherwise indicated, all reference to "dollars", "$", "USD" or "US$" are to United States dollars and all reference to "CDN$" are to Canadian dollars.

Our financial statements are stated in United States Dollars ($ or US$) unless otherwise stated and are prepared in accordance with United States Generally Accepted Accounting Principles.

In this quarterly report, unless otherwise specified, all references to "common shares" refer to the common shares in our capital stock.

As used in this quarterly report on Form 10-Q, the terms "we", "us" "our", the "Company" and "Alkaline" refer to The Alkaline Water Company Inc., a Nevada corporation, and its wholly-owned subsidiary, Alkaline 88, LLC (an Arizona Limited Liability Company), unless otherwise specified.

COVID-19

Our business could be materially and adversely affected by the risks, or the public perception of the risks, related to the outbreak of COVID-19. To date, we have managed to operate successfully throughout the pandemic without any material disruptions to our supply chain. Although retailers which carry our products may be considered essential businesses and therefore be allowed to remain operational, they may experience significantly reduced demand. The risk of a pandemic, or public perception of the risk, could cause customers to avoid public places, including retail properties, and could cause temporary or long-term disruptions in our supply chains and/or delays in the delivery of our inventory to our customers. Further, such risks could also adversely affect retail customers' financial condition, resulting in reduced spending on our products, which are marketed as premium products. "Shelter-in-place" or other such orders by governmental entities could also disrupt our operations, if our employees or the employees of our sourcing partners who cannot perform their responsibilities from home, are not able to report to work. Risks related to an epidemic, pandemic or other health crisis, such as COVID-19, could also lead to the complete or partial closure of one or more of our co-packing facilities or operations of our sourcing partners.

Inflationary Pressure

We have seen significant margin contraction as a result of inflationary pressures over the last 12 months. We've taken a number of steps that will allow us to increase our margins in the year ended March 31, 2023. These steps include (1) an approximate 9% across the board price increase (effective across all banners for the entire fiscal 2023); (2) a potential leveling off or small reduction in freight costs due to the geographic distribution of our new co-packers and suppliers; and (3) our buying power allowing us to lock in price breaks on raw materials over the next 12 months.

Results of Operations

Three Months Ended December 31, 2022 and December 31, 2021

Our results of operations for the three months ended December 31, 2022 and December 31, 2021 are as follows:

Revenue and Cost of Goods Sold

We had revenue from sales of our product for the three months ended December 31, 2022 of $15,874,967 as compared to $13,100,048 for the three months ended December 31, 2021, an increase of 21% generated by sales of our alkaline water and flavored infused water. The increase in sales is due to the expanded distribution of our products to additional retailers throughout the country. We distribute our product through several channels. We sell through large national distributors (UNFI, KeHE, C&S, and Core-Mark), which together represent over 150,000 retail outlets. We also sell our product directly to retail clients, including drug store chains, warehouse clubs, convenience stores, natural food products stores, large ethnic markets and national retailers. Some examples of retail clients are: Walmart, CVS, Rite Aid, Sam's Club, Family Dollar, Albertson/Safeway, Kroger companies, Schnucks, Smart & Final, Jewel-Osco, Sprouts, Bashas', Stater Bros. Markets, Unified Grocers, Bristol Farms, Publix, Vallarta, Superior Foods, Ingles, Shaw's, Raley's, Harris Teeter, Festival Foods, HEB and Brookshire's.

Cost of goods sold is comprised of production costs, shipping and handling costs. For the three months ended December 31, 2022, we had cost of goods sold of $11,947,892, or 75% of revenue, as compared to cost of goods sold of $10,128,144 or 77% of revenue, for the three months ended December 31, 2021.

Expenses

Our operating expenses for the three months ended December 31, 2022 and December 31, 2021 are as follows:

For the three months ended December 31, 2022, our total operating expenses were $7,488,961 as compared to $13,895,590 for the three months ended December 31, 2021.

For the three months ended December 31, 2022, the total included $4,949,002 of sales and marketing expenses. Sales and marketing expenses increased as a result of increased freight and sales promotional expenses due to our increase in sales. General and administrative expenses of $2,539,959, consisted primarily of approximately $0.3 million of professional fees, media fees and legal fees, stock option and restricted stock expense in the amount of approximately $0.2 million and approximately $1.7 million of wages and wage related expenses.

For the three months ended December 31, 2021, the total included $7,561,927 of sales and marketing expenses. Sales and marketing expenses increased as a result of increased freight and sales promotional expenses due to our increase in sales. General and administrative expenses of $6,333,663, consisted primarily of approximately $1.3 million of professional fees, media fees and legal fees, stock option and restricted stock expense in the amount of approximately $2.3 million and approximately $1.5 million of wages and wage related expenses.

Nine Months Ended December 31, 2022 and December 31, 2021

Our results of operations for the nine months ended December 31, 2022 and December 31, 2021 are as follows:

Revenue and Cost of Goods Sold

We had revenue from sales of our product for the nine months ended December 31, 2022 of $51,277,376 as compared to $39,684,465 for the nine months ended December 31, 2021, an increase of 29% generated by sales of our alkaline water and flavored infused water. The increase in sales is due to the expanded distribution of our products to additional retailers throughout the country. We distribute our product through several channels. We sell through large national distributors (UNFI, KeHE, C&S, and Core-Mark), which together represent over 150,000 retail outlets. We also sell our product directly to retail clients, including drug store chains, warehouse clubs, convenience stores, natural food products stores, large ethnic markets and national retailers. Some examples of retail clients are: Walmart, CVS, Rite Aid, Sam's Club, Family Dollar, Albertson/Safeway, Kroger companies, Schnucks, Smart & Final, Jewel-Osco, Sprouts, Bashas', Stater Bros. Markets, Unified Grocers, Bristol Farms, Publix, Vallarta, Superior Foods, Ingles, Shaw's, Raley's, Harris Teeter, Festival Foods, HEB and Brookshire's.

For the nine months ended December 31, 2022, we had cost of goods sold of $40,296,127, or 79% of revenue, as compared to cost of goods sold of $29,530,570 or 74% of revenue, for the nine months ended December 31, 2021.

Expenses

Our operating expenses for the nine months ended December 31, 2022 and December 31, 2021 are as follows:

For the nine months ended December 31, 2022, our total operating expenses were $25,903,972, as compared to $38,604,064 for the nine months ended December 31, 2021.

For the nine months ended December 31, 2022, the total included $17,924,034 of sales and marketing expenses. Sales and marketing expenses decreased as a result of decreased out-bound freight expense (approximately $1.3 million) and decreased marketing expenses (approximately $3.4 million). General and administrative expenses of $7,979,938, consisted primarily of approximately $0.9 million of professional fees, stock option and stock award expense in the amount of approximately $0.8 million and approximately $5.4 million of wage and wage related expenses.

For the nine months ended December 31, 2021, the total included $22,054,276 of sales and marketing expenses. Sales and marketing expenses increased compared to the nine months ended December 31, 2020 as a result of increased out bound freight to our customers of approximately $6.5 million, increased advertising and promotional expenses of approximately $2.9 million and increased non-cash stock expense of approximately $1.7 million. General and administrative expenses of $16,549,788, consisted primarily of approximately $6.8 million of professional fees, stock option and stock award expense in the amount of approximately $3.7 million and approximately $3.6 million of wage and wage related expenses.

Liquidity and Capital Resources

Working Capital

Current Assets

Current assets as of December 31, 2022 and March 31, 2022 primarily relate to $2,192,867 and $1,531,062 in cash, $8,774,283 and $7,927,065 in accounts receivable and $8,737,717 and $8,583,664 in inventory, respectively.

Current Liabilities

Current liabilities as of December 31, 2022 and March 31, 2022 primarily relate to $14,109,479 and $10,441,879 in accounts payable which increased due to lower balance on the revolver credit line and continued operating loss, revolving financing of $6,391,316 and $7,043,870, and accrued expenses of $2,225,366 and $2,036,739 respectively.

Cash Flows

Our cash flows for the nine months ended December 31, 2022 and December 31, 2021 are as follows:

Operating Activities

Net cash used in operating activities was $9,919,960 for the nine months ended December 31, 2022, as compared to $25,940,267 used in operating activities for the nine months ended December 31, 2021. The decrease of approximately $16 million in net cash used in operating activities is primarily due to approximately $8.7 million decrease of net loss in the nine months ended December 31, 2022 compared to the nine months ended December 31, 2021 and an increase in accounts payable of approximately $2.9 million.

Investing Activities

Net cash used in investing activities was $787,817 for the nine months ended December 31, 2022, as compared to $493,329 used in investing activities for the nine months ended December 31, 2021.

Financing Activities

Net cash provided by financing activities for the nine months ended December 31, 2022 was $11,369,582, as compared to $20,595,932 for the nine months ended December 31, 2021. The decrease of approximately $9.2 million in net cash provided by financing activities is primarily due to decrease of approximately $7.7 million of proceeds provided by the exercise of warrants.

Cash Requirements

Our ability to continue operating as a going concern is dependent on obtaining adequate capital to fund operating losses until we become profitable. We have initiated a cost-reduction strategy, which along with our cash on hand, plus anticipated warrant exercises and debt settlements, our line of credit and the sales agreement with Roth Capital Partners, LLC is planned to fund our current planned operations and capital needs. However, if our current plans change or are accelerated or we choose to increase our production capacity, we may seek to sell additional equity or debt securities or obtain additional credit facilities, including seeking investments from strategic investors. The sale of additional equity securities will result in dilution to our stockholders. The incurrence of indebtedness will result in increased debt service obligations and could require us to agree to operating and financial covenants that could restrict our operations or modify our plans to grow the business. Financing may not be available in amounts or on terms acceptable to us, if at all. Any failure by us to raise additional funds on terms favorable to us, or at all, will limit our ability to expand our business operations and could harm our overall business prospects.

Critical Accounting Policies and Estimates

Our consolidated financial statements are prepared in accordance with US GAAP, which requires us to make estimates and assumptions that affect the reported amounts in our consolidated financial statements. Critical accounting estimates are those that management believes are the most important to the portrayal of our financial condition and results and require the most difficult, subjective, or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and that have had, or are reasonably likely to have, a material impact on our financial condition or results of operations. Judgments and uncertainties may result in materially different amounts being reported under different conditions or using different assumptions. We have identified the accounting estimates below as critical to understanding and evaluating the financial results reported in our consolidated financial statements.

Revenue Recognition – Promotional and other allowances (variable consideration) recorded as a reduction to net sales, primarily include consideration given to the Company’s distributors or retail customers including, but not limited to the following: discounts granted off list prices to support price promotions to end-consumers by retailers; reimbursements given to the Company’s distributors for agreed portions of their promotional spend with retailers, including slotting, shelf space allowances and other fees for both new and existing products; the Company’s agreed share of fees given to distributors and/or directly to retailers for advertising, in-store marketing and promotional activities

Promotional allowance - The Company’s promotional allowance programs with its distributors and/or retailers are executed through separate agreements in the ordinary course of business. These agreements generally provide for one or more of the arrangements described above and are of varying durations, ranging from one week to one year. The Company’s promotional and other allowances are calculated based on various programs with distributors and retail customers, and accruals are established during the year for its anticipated liabilities. These accruals are based on agreed upon terms as well as the Company’s historical experience with similar programs and require management’s judgment with respect to estimating consumer participation and/or distributor and retail customer performance levels. Differences between such estimated expenses and actual expenses for promotional and other allowance costs have historically been insignificant and are recognized in earnings in the period such differences are determined.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to our stockholders.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Not applicable.

Item 4. Controls and Procedures.

Disclosure Controls and Procedures

We maintain "disclosure controls and procedures", as that term is defined in Rule 13a-15(e), promulgated by the Securities and Exchange Commission pursuant to the Securities Exchange Act of 1934. Disclosure controls and procedures include controls and procedures designed to ensure that information required to be disclosed in our company's reports filed under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and our principal financial officer to allow timely decisions regarding required disclosure.

As required by paragraph (b) of Rules 13a-15 under the Securities Exchange Act of 1934, our management, with the participation of our principal executive officer and our principal financial officer, evaluated our company's disclosure controls and procedures as of the end of the period covered by this quarterly report on Form 10-Q. Based on this evaluation, our management concluded that as of the end of the period covered by this quarterly report on Form 10-Q, our disclosure controls and procedures were not effective. The ineffectiveness of our disclosure controls and procedures was due to the material weaknesses in our internal control over financial reporting disclosed in our annual report on Form 10-K for the fiscal year ended March 31, 2022. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis. Our management identified the following material weaknesses: (1) we had inadequate segregation of duties over both financial reporting and closing activities, (2) we had inadequate resources in the accounting department, (3) delays in the implementation of a new ERP accounting system which caused the system to not function as intended and as a result led to delays in our financial closing activities.  In response to the material weaknesses discussed above, we are working on implementing a new integrated ERP system and have hired additional accounting personnel in December 2022. Once the ERP system in fully implemented within the next three months, we plan to engage a third-party consultant to develop a comprehensive control framework using the ERP and to document our internal controls based on the implementation of the ERP system.

We will continue to monitor and evaluate the effectiveness of our internal control over financial reporting on an ongoing basis and are committed to taking further action and implementing additional improvements as necessary.

Changes in Internal Control Over Financial Reporting

There were no changes in our internal control over financial reporting during the fiscal quarter ended December 31, 2022 that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

PART II-OTHER INFORMATION

Item 1. Legal Proceedings.

We know of no material pending legal proceedings to which our company or any of our subsidiaries is a party or of which any of our properties, or the properties of any of our subsidiaries, is the subject. In addition, we do not know of any such proceedings contemplated by any governmental authorities.

We know of no material proceedings in which any of our directors, officers or affiliates, or any registered or beneficial stockholder is a party adverse to our company or any of our subsidiaries or has a material interest adverse to our company or any of our subsidiaries.

Item 1A. Risk Factors.

Information regarding risk factors appears in our Annual Report on Form 10-K filed on July 14, 2022. There have been no material changes since July 14, 2022 from the risk factors disclosed in that Form 10-K.

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

Since the beginning of our fiscal quarter ended December 31, 2022, we have not sold any equity securities that were not registered under the Securities Act of 1933 that were not previously reported in a quarterly report on Form 10-Q or in a current report on Form 8-K.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

Not applicable.

Item 5. Other Information.

None.

Item 6. Exhibits