BARFRESH FOOD GROUP INC. - Quarter Report: 2023 March (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended March 31, 2023

For the transition period from ________________ to ___________________

Commission File Number: 001-41228

BARFRESH FOOD GROUP INC.

(Exact name of registrant as specified in its charter)

310-598-7113

(Registrant’s telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

Securities registered pursuant to Section 12(b) of the Act:

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by the check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 13,002,603 shares as of April 21, 2023.

TABLE OF CONTENTS

Item 1. Financial Statements.

Barfresh Food Group Inc.

Condensed Consolidated Balance Sheets

See the accompanying notes to the condensed consolidated financial statements

Barfresh Food Group Inc.

Condensed Consolidated Statements of Operations

For the three months ended March 31, 2023 and 2022

(Unaudited)

See the accompanying notes to the condensed consolidated financial statements

Barfresh Food Group Inc.

Condensed Consolidated Statements of Cash Flows

For the three months ended March 31, 2023 and 2022

(Unaudited)

See the accompanying notes to the condensed consolidated financial statements

Barfresh Food Group Inc.

Notes to Condensed Consolidated Financial Statements

March 31, 2023

(Unaudited)

Note 1. Description of the Business, Basis of Presentation, and Summary of Significant Accounting Policies

Barfresh Food Group Inc., (“we,” “us,” “our,” and the “Company”) was incorporated on February 25, 2010 in the State of Delaware. The Company is engaged in the manufacturing and distribution of ready-to-drink and ready-to-blend beverages, particularly, smoothies, shakes and frappes.

Basis of Presentation

The accompanying condensed consolidated financial statements are unaudited. These unaudited interim condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”) and applicable rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) regarding interim financial reporting. Certain information and footnote disclosures normally included in the financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. Accordingly, these interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the fiscal year ended December 31, 2022 included in the Company’s Annual Report on Form 10-K, as filed with the SEC on March 2, 2023. In management’s opinion, the unaudited interim condensed consolidated financial statements reflect all adjustments, which are of a normal and recurring nature, that are necessary for a fair presentation of financial results for the interim periods presented. Operating results for any quarter are not necessarily indicative of the results for the full fiscal year.

Principles of Consolidation

The consolidated financial statements include the financial statements of the Company and our wholly owned subsidiaries, Barfresh Inc. and Barfresh Corporation Inc. (formerly known as Smoothie, Inc.). All inter-company balances and transactions among the companies have been eliminated upon consolidation.

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 in the balance sheets and revenues and expenses during the years reported. Actual results may differ from these estimates.

Vendor Concentrations

The Company is exposed to supply risk as a result of concentrations in its vendor base resulting from the use of a limited number of contract manufacturers. Purchases from the Company’s significant contract manufacturers as a percentage of all finished goods purchased were as follows:

 Schedule of Company’s Contract Manufacturers of Finished Goods

Summary of Significant Accounting Policies

There have been no changes to our significant accounting policies described in our Annual Report on Form 10-K for the year ended December 31, 2022, as filed with the SEC on March 2, 2023 that have had a material impact on our condensed consolidated financial statements and related notes.

Fair Value Measurement and Financial Instruments

Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 820, Fair Value Measurements and Disclosures (“ASC 820”), that requires the valuation of assets and liabilities permitted to be either recorded or disclosed at fair value based on a hierarchy of available inputs as follows:

Level 1 – Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

Level 2 – Quoted prices for similar assets and liabilities in active markets, quoted prices for identical assets and liabilities in markets that are not active, or inputs that are observable, either directly or indirectly, for substantially the full term of the asset or liability; and

Level 3 – Prices or valuation techniques that require inputs that are both significant to the fair value and unobservable (i.e., supported by little or no market activity).

The Company’s financial instruments consist of cash, restricted cash, accounts receivable and accounts payable. The carrying value of the Company’s financial instruments approximates their fair value.

Restricted Cash

At each of March 31, 2023 and December 31, 2022, the Company had approximately $211,000 in restricted cash related to a co-packing agreement.

Accounts Receivable and Allowances

Accounts receivable are recorded and carried at the original invoiced amount less allowances for credits and for any potential uncollectible amounts due to credit losses. We make estimates of the expected credit and collectability trends for the allowance for credit losses based on our assessment of various factors, including historical experience, the age of the accounts receivable balances, credit quality of our customers, current economic conditions, and other factors that may affect our ability to collect from our customers. Expected credit losses are recorded as general and administrative expenses on our condensed consolidated statements of operations. As of March 31, 2023 and December 31, 2022, there was no allowance for doubtful accounts.

Other Receivables

Other receivables consist of amounts due from vendors for materials acquired on their behalf for use in manufacturing the Company’s products, vendor rebates and freight claims.

Revenue Recognition

In accordance with ASC 606, Revenue from Contracts with Customers, revenue is recognized when a customer obtains ownership of promised goods. The amount of revenue recognized reflects the consideration to which the Company expects to be entitled to receive in exchange for these goods. The Company applies the following five steps:

Storage and Shipping Costs

Storage and outbound freight costs are included in selling, marketing and distribution expense. For the three months ending March 31, 2023 and 2022, storage and outbound freight totaled approximately $311,000 and $386,000, respectively.

Research and Development

Expenditures for research activities relating to product development and improvement are charged to expense as incurred. The Company incurred approximately $21,000 and $31,000, in research and development expense for the three months ending March 31, 2023 and 2022, respectively.

Loss Per Share

For the three months ended March 31, 2023 and 2022 common stock equivalents have not been included in the calculation of net loss per share as their effect is anti-dilutive as a result of losses incurred.

Reclassifications

Certain reclassifications have been made to the 2022 financial statements to conform to the 2023 presentation, namely the presentation of selling and marketing expense apart from general and administrative expense in the consolidated statement of operations, the reclassification of materials shipping to cost of revenue, and the presentation of the components of cash used in operations.

Recent Pronouncements

From time to time, new accounting pronouncements are issued that we adopt as of the specified effective date. We have not determined if the impact of recently issued standards that are not yet effective will have an impact on our results of operations and financial position.

Note 2. Inventory

Inventory consists of the following:

Schedule of Inventory

Note 3. Property Plant and Equipment

Property and equipment, net consist of the following:

Schedule of Property and Equipment, Net

Depreciation expense related to these assets was approximately $92,000 and $145,000 for the three months ended March 31, 2023 and 2022, respectively. Depreciation expense in cost of revenue was $4,000 for the three months ended March 31, 2023. There was no depreciation expense in cost of revenue for the three months ended March 31, 2022.

Note 4. Commitments and Contingencies

Lease Commitments

The Company leases office space under a non-cancellable operating lease which expired on March 31, 2023, and was extended through June 30, 2023. The Company’s periodic lease cost was approximately $20,000 for each of the three months ended March 31, 2023 and 2022.

Legal Proceedings

Schreiber Dispute

The Company’s products are produced to its specifications through several contract manufacturers. One of the Company’s contract manufacturers (the “Manufacturer”) provided approximately 52% and 42% of the Company’s products in the years ended December 31, 2022 and 2021, respectively, under a Supply Agreement with an initial term through September 2025.

Over the course of 2022, the Company experienced numerous quality issues with the case packaging utilized by the Manufacturer. In addition, in July of 2022, the Company began receiving customer complaints about the texture of the Company’s smoothie products produced by the Manufacturer. In response, the Company withdrew product from the market and destroyed on-hand inventory, withholding $499,000 in payments due to the Manufacturer.

The Company attempted to resolve the issues based on the contractual procedures described in the Supply Agreement. However, on November 4, 2022, in response to a formal proposal of alternate resolutions, the Company received notification from the Manufacturer that it was denying any responsibility for the defective manufacture of the product. In response, on November 10, 2022, the Company filed a complaint in the United States District Court for the Central District of California, Western Division (the “Complaint”), claiming that the Manufacturer had not met its obligations under the Supply Agreement, and seeking economic damages. In response, the Manufacturer terminated the Supply Agreement. On January 20, 2023, the Company filed a voluntary dismissal of the Complaint which allows the parties to reach a potential resolution outside of the court system. However, if the parties are once again unable to come to an agreement, the Company has the right to refile the Complaint in California State Court.

Due to the uncertainties surrounding the claim, the Company is not able to predict either the outcome or a range of reasonably possible recoveries that could result from its actions against the Manufacturer, and no gain contingencies have been recorded. The disruption in its supply resulting from the dispute has and will continue to adversely impact its results of operations and cash flow until a suitable resolution is reached or new sources of reliable supply at sufficient volume can be identified and developed, the timing of which is uncertain.

Other legal matters

From time to time, various lawsuits and legal proceedings may arise in the ordinary course of business. However, litigation is subject to inherent uncertainties and an adverse result in these or other matters may arise from time to time that may harm our business. We are currently the defendant in one legal proceeding for an amount less than $100,000. Our legal counsel and management believe the probability of a material unfavorable outcome is remote.

Note 5. Stockholders’ Equity

The following are changes in stockholders’ equity for the three months ended March 31, 2022 and 2023:

Schedule of Changes in Stockholders' Equity 

Warrants

During the three months ended March 31, 2023, 684,639 warrants at a weighted average exercise price of $5.85 per share expired.

Equity Incentive Plan

Through 2022, the Company issued equity awards under the 2015 Equity Incentive Plan (the “2015 Plan”) and outside the Plan. In March 2023, the Board of Directors adopted the 2023 Equity Incentive Plan (the “2023 Plan”), reserving 650,000 shares for future issuance, and discontinuing further grants under the 2015 Plan.

As of March 31, 2023, the Company has $227,000 of total unrecognized share-based compensation expense relative to unvested options, stock awards and stock units, which is expected to be recognized over the remaining weighted average period of 1.8 years.

Stock Options

The following is a summary of stock option activity for the three months ended March 31, 2023:

Summary of Stock Options Activity

The fair value of the options issued was calculated using the Black-Scholes option pricing model, based on the following:

Summary of Fair Value of Options Using Black-Sholes Option Pricing Model

Restricted Stock

The following is a summary of restricted stock award and restricted stock unit activity for the three months ended March 31, 2023:

Summary of Restricted Stock Award and Restricted Stock Unit Activity

Performance Stock Units

During 2022, the Company issued performance share units (“PSUs”) that represented shares potentially issuable based upon Company and individual performance in 2022.

The following table summarizes the activity for the Company’s unvested PSUs for the three months ended March 31, 2023:

Summary of Performance Stock Unit Activity

In February 2023, the unvested awards issued for individual performance and outstanding at January 1, 2023 were modified to cash-settle the original grant-date fair value of approximately $80,000, resulting in incremental compensation of $56,000 after considering the $24,000 fair value of the vested shares at the date of the modification. Additionally, the Company performance targets were modified to allow approximately 71,000 PSU to vest, with an additional time-based vesting requirement for approximately 26,000 of the PSU. Because the awards did not vest based on the original terms, the modification was considered a new grant, resulting in $64,000 in compensation expense in the three-months ended March 31, 2023.

The Company adopted a 2023 PSU program in April 2023, granting approximately 172,000 PSUs at target performance. The results for the three-month period ended March 31, 2023 include $67,000 in stock-based compensation expense as management determined that the service inception date preceded the grant date.

Note 6. Income Taxes

ASC 740 requires a valuation allowance to reduce the deferred tax assets reported if, based on the weight of evidence, it is more than likely than not that some portion or all the deferred tax assets will not be recognized. Accordingly, at this time the Company has placed a valuation allowance on all tax assets. As of March 31, 2023, the estimated effective tax rate for the 2023 was zero.

There are open statutes of limitations for taxing authorities in federal and state jurisdictions to audit our tax returns from 2018 through the current period. Our policy is to account for income tax related interest and penalties in income tax expense in the statement of operations.

For the three months ended March 31, 2023 and 2022, the Company did not incur any interest and penalties associated with tax positions. As of March 31, 2023, the Company did not have any significant unrecognized uncertain tax positions.

Note 7. Liquidity

During the three months ended March 31, 2023, the Company used cash for operations of $1,242,000. The Company has a history of operating losses and negative cash flow, which were expected to improve with growth, offset by working capital required to achieve such growth. As described more fully in Note 4, the dispute and subsequent contract termination with the Manufacturer has resulted in uncertainty around our ability to procure product, which in turn may inhibit our ability to achieve positive cash flow. Additionally, management has considered that dispute resolution, including litigation, is costly and will require the outlay of cash.

However, as of March 31, 2023, the Company has $1,777,000 of cash and restricted cash and even though management has identified certain indicators, these indicators do not raise substantial doubt regarding the Company’s ability to continue as a going concern. However, management cannot predict, with certainty, the outcome of its potential actions to generate liquidity, including the availability of additional financing, or whether such actions would generate the expected liquidity as planned.

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

The following discussion should be read in conjunction with the financial information included elsewhere in this Quarterly Report on Form 10-Q (this “Report”), including our unaudited condensed consolidated financial statements and the related notes and with our audited consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2022, as filed with the SEC on March 2, 2023, and other reports that we file with the SEC from time to time.

References in this Quarterly Report on Form 10-Q to “us”, “we”, “our” and similar terms refer to Barfresh Food Group Inc.

Cautionary Note Regarding Forward-Looking Statements

This discussion includes forward-looking statements, as that term is defined in the federal securities laws, based upon current expectations that involve risks and uncertainties, such as plans, objectives, expectations, and intentions. Actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of a number of factors. Words such as “anticipate”, “estimate”, “plan”, “continuing”, “ongoing”, “expect”, “believe”, “intend”, “may”, “will”, “should”, “could” and similar expressions are used to identify forward-looking statements.

We caution you that these statements are not guarantees of future performance or events and are subject to a number of uncertainties, risks and other influences, many of which are beyond our control, which may influence the accuracy of the statements and the projections upon which the statements are based. Any one or more of these uncertainties, risks and other influences could materially affect our results of operations and whether forward-looking statements made by us ultimately prove to be accurate. Our actual results, performance and achievements could differ materially from those expressed or implied in these forward-looking statements. We undertake no obligation to publicly update or revise any forward-looking statements, whether from new information, future events or otherwise.

Critical Accounting Policies

Our consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”).

Results of Operations

Results of Operation for Three Months Ended March 31, 2023 as Compared to the Three Months Ended March 31, 2022

Revenue and cost of revenue

Revenue decreased $435,000, or 17%, from $2,526,000 in 2022 to $2,091,000 in 2023. The decline in revenue was due to limited supply due to our product withdrawal resulting from the quality complaints with product purchased from the Manufacturer. We anticipate that our revenues will be adversely impacted as a result of the dispute unless and until new sources of reliable supply at sufficient volume can be identified and developed, the timing of which is uncertain.

Cost of revenue for 2023 was $1,236,000 as compared to $1,762,000 in 2022. Our gross profit was $855,000 (41%) and $764,000 (30%) for 2023 and 2022, respectively. Cost of revenue declined as a result of the 17% decrease in revenue, partially offset by lower costs relative to revenue on the smoothie carton product, resulting in the 1,100-basis point gross margin improvement.

Selling, marketing and distribution expense

Our operations were primarily directed towards increasing sales and expanding our distribution network.

Selling, marketing and distribution expense decreased approximately $8,000 (1%) from approximately $675,000 in 2022 to $667,000 in 2023.

Sales and marketing expense increased approximately $67,000 (23%) from approximately $289,000 in 2022 to $356,000 in 2023. The increase in sales and marketing expense was primarily the result of the retention of outside service providers to assist with sales and initiatives, including, beginning in the third quarter of 2022, brokers specializing in the school market. Additionally, the Company increased its product sampling and advertising in conjunction with the launch of its smoothie carton product.

Storage and outbound freight expense decreased approximately $75,000 (19%) from approximately $386,000 in 2022 to $311,000 in 2023. The decrease was the result of the 17% decrease in revenue and distribution efficiencies.

General and administrative expense

General and administrative expense increased approximately $171,000 (21%) from approximately $823,000 in 2022 to $994,000 in 2023.

Personnel cost represents the cost of employees including salaries, bonuses, employee benefits and employment taxes and continues to be our largest cost. Personnel cost increased by approximately $180,000 (58%) from approximately $309,000 to $489,000 and stock-based compensation increased by approximately $124,000 (146%) from $85,000 to $209,000. The increase in personnel cost and stock-based compensation resulted primarily from modification of our 2022 performance stock unit program, with partial cash settlement.

Legal, professional, and consulting fees decreased approximately $46,000 (29%) from approximately $161,000 in 2022 to $115,000 in 2023. The decrease was primarily due to a reduction in temporary labor, partially offsetting the increase in personnel costs.

Research and development expense decreased approximately $10,000 (32%) from approximately $31,000 in 2022 to $21,000 in 2023 as a result of vendor credits related to development activities.

Other expense decreased approximately $77,000 (36%) from approximately $212,000 in 2022 to $135,000 in 2023. In 2022, we incurred approximately $102,000 in one-time costs related to the uplist of our common stock to the NASDAQ Stock Market. In 2023, we incurred approximately $25,000 in inventory disposal costs related to our dispute with the Manufacturer.

Net loss

We had net losses of approximately $910,000 and $895,000 for the three-month periods ended March 31, 2023 and 2022, respectively. The increase of approximately $15,000, was the result of the aforementioned changes in revenue, cost and expenses.

Liquidity and Capital Resources

As of March 31, 2023, we had working capital of $1,250,000 compared with $1,801,000 at December 31, 2022. The decrease in working capital is primarily due to the operating loss for the three months ended March 31, 2023.

During the three months ended March 31, 2023, we used $1,242,000 in operations.

The impact of COVID-19 on the Company is constantly evolving. The direct impact to our operations had begun to take effect at the close of the first quarter ended March 31, 2020. Specifically, our business was impacted by dining bans targeted at restaurants to reduce the size of public gatherings. Such bans precluded our single serve products from being served at those establishments for a number of weeks, and in some instances, resulted in abandoned product launches. Furthermore, many school districts closed regular attendance for a period of time thereby disrupting sales of product into that channel. More recently, we have experienced a disruption in the supply chain for manufacturing our products due to COVID-19. The developments surrounding COVID-19 remain fluid and dynamic, and consequently, will require the Company to continue to monitor news headlines from government and health officials, as well as the business community.

On June 1, 2021, the Company completed a private placement of 1,282,051 shares of its common stock at $4.68 per share, resulting in gross proceeds of $6,000,000. In addition, holders of debt converted a total of $399,000 in principal and $234,000 in interest into 133,991 shares of common stock and debt in the amount of $840,000 was retired, leaving the Company with no debt.

Our liquidity needs will depend on how quickly we are able to profitably ramp up sales, as well as our ability to control and reduce variable operating expenses, and to continue to control and reduce fixed overhead expense. Our recent business developments with the Manufacturer impact our supply chain and will result in increased legal cost and are expected to have a negative impact on our financial position, results of operations and cash flow.

Our operations to date have been financed by the sale of securities, the issuance of convertible debt and the issuance of short-term debt, including related party advances. If we are unable to generate sufficient cash flow from operations with the capital raised we will be required to raise additional funds either in the form of equity or in the form of debt. There are no assurances that we will be able to generate the necessary capital to carry out our current plan of operations.

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 expense, results of operations, liquidity, capital expenditures or capital resources that are material to stockholders.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Not required because we are a smaller reporting company.

Item 4. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures

Under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Securities and Exchange Act of 1934 Rule 13(a)-15(e). Disclosure controls and procedures are designed to provide reasonable assurance that the information required to be disclosed in the reports that we file or submit under the Exchange Act has been appropriately recorded, processed, summarized and reported on a timely basis and are effective in ensuring that such information is accumulated and communicated to the Company’s management, as appropriate to allow timely decisions regarding required disclosure. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that as of March 31, 2023, our disclosure controls and procedures are not effective.

Management has identified the following material weaknesses in our internal control over financial reporting:

Management has concluded that there is a material weakness due to the control environment. The control environment is impacted due to the company’s inadequate segregation of duties, including information technology control activities.

Since the assessment of the effectiveness of our internal control over financial reporting did identify material weaknesses, management considers its internal control over financial reporting to be ineffective.

In an effort to remediate the identified material weakness and enhance our internal control over financial reporting, we have hired additional personnel to help ensure that we are able to properly implement internal control procedures.

Management believes that the material weakness set forth above did not have an effect on our financial results.

Changes in Internal Control over Financial Reporting

None

PART II- OTHER INFORMATION

Item 1. Legal Proceedings.

As described in Note 4, the Company has an on-going dispute with the Manufacturer, the outcome of which cannot be predicted at this time.

From time to time, various lawsuits and legal proceedings may arise in the ordinary course of business. However, litigation is subject to inherent uncertainties and an adverse result in these or other matters may arise from time to time that may harm our business. We are currently the defendant in one legal proceeding for an amount less than $100,000. Our legal counsel and management believe a material unfavorable outcome to be remote.

Item 1A. Risk Factors.

Not required because we are a smaller reporting company.

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

During the quarter ended March 31, 2023, the Company issued 32,203 shares of common stock for services valued at $83,000. The Company relied upon the exemption from registration contained in Rule 506(b) and Section 4(a)(2) of the Securities Act, and corresponding provisions of state securities laws, on the basis that (i) offers were made to a limited number of persons, (ii) each offer was made through direct communication with the offerees by the Company, (iii) each of the offerees, which included an officer and two directors of the Company, had the requisite sophistication and financial ability to bear risks of investing in the Company’s common stock, (iv) the Company provided disclosure to the offerees, and (v) there was no general solicitation and no commission or remuneration was paid in connection with the offers.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

Not applicable.

Item 5. Other Information.

None.

Item 6. Exhibits.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.