Eastside Distilling, Inc. - Quarter Report: 2015 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the quarterly period ended September 30, 2015

For the transition period from _________________ to _________________

Commission File No.: 000-54959

EASTSIDE DISTILLING, INC.

(Exact name of registrant as specified in its charter)

1805 SE Martin Luther King Jr. Blvd.

Portland, Oregon 97214

(Address of principal executive offices)

Issuer’s telephone number: (971) 888-4264

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

Indicate by check mark whether the registrant (1) 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 x  No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x  No ¨

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

As of November 12, 2015, 45,955,000 shares of our common stock were outstanding.

EASTSIDE DISTILLING, INC.

FORM 10-Q

September 30, 2015

TABLE OF CONTENTS

ITEM 1 –FINANCIAL INFORMATION

Eastside Distilling, Inc. and Subsidiary

Condensed Consolidated Balance Sheets

September 30, 2015 and December 31, 2014

(1) Derived from the Company's December 31, 2014 audited financial statements

The accompanying notes are an integral part of these condensed consolidated financial statements.

Eastside Distilling, Inc. and Subsidiary

Condensed Consolidated Statements of Operations

For the three and nine months ended September 30, 2015 and 2014

(unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements.

Eastside Distilling, Inc. and Subsidiary

Condensed Consolidated Statements of Cash Flows

For the nine months ended September 30, 2015 and 2014

(unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements.

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

The accompanying unaudited condensed consolidated financial statements for Eastside Distilling, Inc. and Subsidiary were prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and with instructions for Form 10-Q and, therefore, do not include all disclosures necessary for a complete presentation of financial condition, results of operations, and cash flows in conformity with GAAP. However, all adjustments which are, in the opinion of management, necessary for a fair presentation of the interim condensed consolidated financial statements have been included. All such adjustments are of a normal recurring nature. The unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2014. The unaudited condensed consolidated results of operations for the three and nine months ended September 30, 2015 are not necessarily indicative of the results that may be expected for the entire fiscal year ending December 31, 2015.

Principles of Consolidation

On October 31, 2014, Eurocan Holdings Ltd. (Eurocan) consummated the acquisition (the Acquisition) of Eastside Distilling, LLC (the LLC) pursuant to an Agreement and Plan of Merger (the Agreement) by and among Eurocan, the LLC, and Eastside Distilling, Inc., Eurocan's wholly-owned subsidiary. Pursuant to the Agreement, the LLC merged with and into Eastside Distilling, Inc. The merger consideration for the Acquisition consisted of 32,000,000 shares of Eurocan's common stock. In addition, certain of Eurocan's stockholders cancelled an aggregate of 24,910,000 shares of Eurocan's common stock held by them. As a result, on October 31, 2014, Eurocan had 40,000,000 shares of common stock issued and outstanding, of which 32,000,000 shares were held by the former members of the LLC. Consequently, for accounting purposes, the transaction was accounted for as a reverse acquisition, with the LLC as the acquirer of Eurocan. These financial statements are presented as a continuation of the operations of the LLC with one adjustment to retroactively adjust the legal common stock of Eastside Distilling, Inc. to reflect the legal capital of Eurocan prior to the Acquisition.

Subsequent to the Acquisition, Eastside Distilling, Inc. merged with and into Eurocan, and Eurocan's name was officially changed to Eastside Distilling, Inc. (Eastside). Prior to the Acquisition, Michael Williams Web Design, Inc. (MWWD) was a wholly-owned subsidiary of Eurocan and constituted the majority of Eurocan's operations. Pursuant to the Agreement and subsequent activity, MWWD became a wholly-owned subsidiary of Eastside on October 31, 2014. MWWD's operations were not significant. Eastside and MWWD are collectively referred to herein as "the Company".

On February 3, 2015, the Company entered into a Separation and Share Transfer Agreement (Share Transfer) with MWWD under which substantially all assets and liabilities of MWWD were transferred to Michael Williams in consideration of MWWD's and Mr. Williams' full release of all claims and liabilities related to MWWD and the MWWD business. Following the Share Transfer, MWWD ceased to be a subsidiary of the Company. As a result of the Share Transfer, the Company recorded a gain of approximately $53,000, which is included in other income (expense) in the accompanying condensed consolidated statement of operations for the nine months ended September 30, 2015. This gain is primarily the result of the transfer of net liabilities to Michael Williams.

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

Liquidity

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, marketing and distributing hand-crafted spirits, and operates as one segment. The Company's chief operating decision makers, its chief executive officer 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.

Concentrations

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of trade receivables. At September 30, 2015 and December 31, 2014, one distributor, the Oregon Liquor Control Commission (OLCC), represented 67% and 70% of trade receivables, respectively. Sales to one distributor, the OLCC, accounted for approximately 35% and 39% of consolidated revenues for each of the nine-month periods ended September 30, 2015 and 2014, respectively.

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 September 30, 2015 and December 31, 2014, 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:

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

None of the Company's assets or liabilities were measured at fair value at September 30, 2015 and December 31, 2014. 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 September 30, 2015 and December 31, 2014, the Company’s note payable and convertible notes payable are at fixed rates and their carrying value approximates fair value.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (the "FASB") issued Accounting Standard Update No. 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”) amending revenue recognition guidance and requiring more detailed disclosures to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The guidance is effective for annual and interim reporting periods beginning after December 15, 2017, with early adoption permitted for annual and interim reporting periods beginning after December 15, 2016. The Company does not plan to early adopt. We are currently evaluating the impact ASU 2014-09 will have on the Company's consolidated financial statements.

In August 2014, the FASB issued Accounting Standard Update No. 2014-15, Presentation of Financial Statements - Going Concern ("ASU 2014-15"). The new guidance explicitly requires that management assess an entity's ability to continue as a going concern and may require additional detailed disclosures. ASU 2014-15 is effective for annual periods beginning after December 15, 2016 and interim periods within those annual periods. Though permitted, the Company does not plan to early adopt. The Company does not believe that this standard will have a significant impact on its consolidated financial statements.

In July 2015, the FASB issued Accounting Standard Update No. 2015-11, Simplifying the Measurement of Inventory ("ASU 2015-11") which requires entities to measure most inventory at the lower of cost and net realizable value. Net realizable value is defined as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The guidance is effective for annual and interim periods beginning after December 15, 2016. Though permitted, the Company does not plan to early adopt. We are currently evaluating the impact ASU 2015-11 will have on the Company's consolidated financial statements.

In April 2015, the FASB issued ASU 2015-03, simplifying the presentation of debt issuance costs, which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability. ASU 2015-03 is effective for annual and interim periods beginning after December 15, 2015 and early application is permitted. We have early adopted as of September 30, 2015.

Reclassifications

Certain prior period amounts have been reclassified to conform to the September 30, 2015 presentation with no changes to net income (loss) or total stockholders' equity previously reported.

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

Inventories consist of the following at September 30, 2015 and December 31, 2014:

3. Property and Equipment

Property and equipment consists of the following at September 30, 2015 and December 31, 2014:

Note payable consists of the following at September 30, 2015 and December 31, 2014:

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

At September 30, 2015 and December 31, 2014, convertible notes payable consisted of three separate notes:

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 effective is anti-dilutive. During the periods ended September 30, 2015 and 2014, there were no dilutive securities. The numerators and denominators used in computing basic and diluted net loss per common share for the three and nine months ended September 30, 2015 and 2014 are as follows:

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

In April 2015, the Company issued 37,500 shares of common stock to a third-party consultant in exchange for services rendered.

In July 2015, the Company issued 225,000 shares of common stock to two third-party consultants in exchange for services rendered.

In August 2015, the Company issued 135,000 shares of common stock to two third-party consultants in exchange for services rendered.

In August 2015, the Company issued 45,000 shares of common stock to employees.

On January 29, 2015, the Company adopted the 2015 Stock Incentive Plan (the Plan). The total number of shares available for the grant of either stock options or compensation stock under the Plan is 3,000,000 shares, subject to adjustment. The exercise price per share of each stock option shall not be less than 20 percent of the fair market value of the Company's common stock on the date of grant. Stock options shall vest at the rate of at least 20 percent per year over five years from the date of grant. At September 30, 2015, there were 350,000 options issued under the Plan outstanding.

The Company also issues, from time to time, options which are not registered under a formal option plan. At September 30, 2015, there were 1,450,000 options outstanding that were not issued under the Plan.

There were no stock options issued or outstanding at and for the nine months ended September 30, 2014. A summary of all stock option activity at and for the nine months ended September 30, 2015 is presented below:

(1) Non-Plan options

(2) 350,000 options granted under 2015 Stock Incentive Plan; 450,000 non-plan options

The aggregate intrinsic value of options outstanding at September 30, 2015 was $0.

At September 30, 2015, there were 750,000 unvested options with an aggregate grant date fair value of $539,000. Of these unvested options, 100,000 will vest at the discretion of the Company's board of directors and 150,000 will vest upon the option recipient completing a performance condition. The remaining 500,000 unvested options will vest in accordance with the vesting schedule in each respective option agreement, which is generally over a period of 6 to 24 months. The aggregate intrinsic value of unvested options at September 30, 2015 was $0. During the nine-months ended September 30, 2015, 50,000 non-Plan options became vested but are not exercisable until October 2015.

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

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:

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 nine months ended September 30, 2015:

The weighted-average grant-date fair value per share of stock options granted during the six months ended September 30, 2015 was $0.71. The aggregate grant date fair value of the 800,000 options granted during the nine months ended September 30, 2015 was $565,500.

For the nine months ended September 30, 2015, total stock option expense related to stock options was $124,250. At September 30, 2015, the total compensation cost related to stock options not yet recognized is approximately $473,125, which is expected to be recognized over a weighted-average period of approximately 1.57 years.

During the periods ended September 30, 2015 and December 31, 2014, the Company's chief executive officer paid expenses on behalf of the Company on his personal credit card. These related party advances do not bear interest and are payable on demand. At September 30, 2015 and December 31, 2014, the balance due to the chief executive officer was approximately $83,000 and $3,000, respectively, and is included in accounts payable on the accompanying condensed consolidated balance sheets.

Operating Leases

The Company leases its warehouse, kiosks, and tasting room space under operating lease agreements which expire through October 2020. Monthly lease payments range from $1,300 to $24,000 over the terms of the leases. For operating leases which contain fixed escalations in rental payments, the Company records the total rent expense on a straight-line basis over the lease term. The difference between the expense computed on a straight-line basis and actual payments for rent represents deferred rent which is included within accrued liabilities on the accompanying consolidated balance sheets. Retail spaces under lease are subject to monthly percentage rent adjustments when gross sales exceed certain minimums.

Eastside Distilling, Inc. and Subsidiary

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2015

At September 30, 2015, future minimum lease payments required under the operating leases are approximately as follows:

Total rent expense was approximately $290,000 and $8,000 for the nine months ended September 30, 2015 and 2014, respectively.

Legal Matters

The Company is involved in certain legal matters arising from the ordinary course of business. Management does not believe that the outcome of these matters will have a significant effect on the Company's consolidated financial position or results of operations.

On October 1, 2015, the Company entered into an Employment Agreement with Steve Shum to serve as the Company’s chief financial officer. The agreement provides for an annual base salary $195,000 and 5-year options to purchase 850,000 shares of common stock with an exercise price of $0.45 per share.

In October 2015, the Company entered into a revised contract with a service provider, under which it agreed to issue (i) 100,000 shares of the Company's common stock and (ii) 3-year options to purchase 450,000 shares of common stock at exercise prices and vesting provisions as set forth in the agreement. On October 30, 2015, the service provider terminated this contract. The common stock and options were never issued by the Company under the agreement. 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS

This section of the Quarterly Report includes a number of forward-looking statements that reflect our current views with respect to future events and financial performance. Forward-looking statements are often identified by words like believe, expect, estimate, anticipate, intend, project and similar expressions, or words which, by their nature, refer to future events. You should not place undue certainty on these forward-looking statements. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our predictions.

The following discussion should be read in conjunction with the condensed consolidated financial statements and notes. In addition to historical information, this discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions, which could cause actual results to differ materially from Management's expectations. Factors that could cause differences include, but are not limited to, customer acceptance risks for current and new brands, reliance on external sources on financing, development risks for new products and brands, dependence on wholesale distributors, inventory carrying issues, fluctuations in market demand and customer preferences, as well as general conditions of the alcohol and beverage industry.

Overview

We were incorporated on February 11, 2004 in Nevada as Eurocan Holdings, Ltd. Until closing of the Acquisition (described below), Eurocan operated solely as an online marketing and media solutions firm specializing in digital interactive media, which business was conducted through Eurocan’s wholly-owned subsidiary, Michael Williams Web Design Inc. of New York, NY (“MWWD”).

On December 1, 2014, we changed our corporate name to “Eastside Distilling, Inc.” from Eurocan Holdings Ltd, to reflect our recent acquisition of Eastside Distilling, LLC resulting in us primarily conducting Eastside’s business (See “The Acquisition of Eastside Distilling, LLC” below). Until February 3, 2015, we continued to operate our online marketing and media solutions business through MWWD (See “Spin-Off of MWWD” below).

The Acquisition of Eastside Distilling, LLC

On or about April 30, 2014, Eurocan Holdings Ltd. (“we,” “us,” or the “Company”) entered into a letter of intent with Eastside Distilling LLC (“Eastside”) with respect to a proposed business combination.  We were introduced to Eastside by an existing debt investor and creditor of the Company, who in turn was introduced to Eastside LLC by a mutual colleague.  The parties decided to proceed with the transaction in order to provide Eastside with access to the public capital markets and to enhance the financial condition and performance of the Company.  The transaction structure was negotiated between the parties to reflect the economic terms that the parties negotiated and to qualify the transaction as a tax-free exchange under Section 351 of the Internal Revenue Code.

Thereafter, in June, 2014, as the Company and Eastside were negotiating and structuring the proposed business combination, the Company loaned $150,000 to Eastside, which loan in turn was financed by the issuance of a demand loan by the Company to the existing debt investor and creditor of the Company. The loan was made as a bridge loan in anticipation of the business combination contemplated by the letter of intent.  The parties negotiated to structure the bridge loan as a loan from the existing debt investor to the Company and then as a loan from the Company to Eastside.  The business purposes of structuring the loans in this manner were two-fold.  First, the existing debt investor was already a debt investor and creditor of the Company and preferred to make an additional investment in a company in which it had already invested, rather than a new investment in a different issuer.  This facilitated the transaction documentation and the due diligence investigation, as time was of the essence in the making of the bridge loan.  Second, the existing debt investor preferred to invest in an issuer whose common stock was already publicly traded, rather than in a privately held LLC.  In accordance with these two investment criteria, the existing debt investor, the Company, and Eastside negotiated to have the debt investor purchase the demand note from the Company and then have the Company loan the proceeds to Eastside. As time was of the essence, the parties agreed to have the Company issue a demand note to the existing debt investor initially in order to provide the parties additional time to negotiate the remaining terms of the loan in good faith.  These negotiations continued until around September 19, 2014, at which point, in lieu of the existing debt investor demanding repayment of the note, the Company and the existing debt investor amended the note to be a 5% Convertible Note. The convertible note bears interest at 5% per annum and has a maturity date of December 13, 2015. The note may be converted into shares of our common stock at a fixed conversion price of $0.40 per share. This note may be prepaid upon payment of 150% of the outstanding principal amount to the holder. Other than as described herein, no material relationship between the Company and its affiliates and Eastside and its affiliates existed before October 31, 2014.

On October 31, 2014, Eurocan consummated the acquisition (the “Acquisition”) of Eastside pursuant to an Agreement and Plan of Merger (the “Agreement”) by and among the Company, Eastside, and Eastside Distilling, Inc., our wholly-owned subsidiary. Pursuant to the Agreement, Eastside merged with and into Eastside Distilling, Inc. The merger consideration for the acquisition consisted of 32,000,000 shares (the “Shares”) of our common stock.   In addition, certain of our stockholders cancelled an aggregate of 24,910,000 shares of our common stock held by them. As a result, on October 31, 2014 we had 40,000,000 shares of our common stock issued and outstanding, of which 32,000,000 shares were held by the former members of Eastside.  The issuance of these Shares was exempt from registration under the Securities Act of 1933, as amended (the “Securities Act”), pursuant to exemptions afforded by Section 4(a)(2) of the Securities Act, Rule 506 of Regulation D promulgated thereunder, and/or Regulation S promulgated thereunder.

At the effective time of the Acquisition, our officers and directors resigned, and appointed Steven Earles and Lenny Gotter as directors to our board of directors. In addition, concurrent with closing of the Acquisition, we appointed Mr. Earles as Chief Executive Officer, Chief Financial Officer and Chairman and Mr. Gotter as Chief Operating Officer and Secretary. Mr. Gotter resigned as an officer in February 2015.

Following the Acquisition, we conduct the business of Eastside as our primary business.

Eastside is a manufacturer, developer, producer and marketer of master-crafted spirits in the following beverage alcohol categories: bourbon, whiskey, rum and vodka. Eastside is currently authorized to distribute its products in fourteen states (Oregon, Washington, Minnesota, Georgia, Pennsylvania, Idaho, Virginia, Maryland, New York, Texas, Indiana, Illinois, Connecticut and Nevada) and is actively distributing in all of these states except Idaho, Illinois and Nevada.  Eastside also generates revenue from tastings, tasting room tours, private parties and merchandise sales from its distillery and showroom located on the Distillery Row in Portland, Oregon.

Spin-Off of MWWD

Following consummation of the Acquisition, our new management conducted an evaluation of the MWWD business and an analysis of the business going forward. Management determined that due to MWWD’s operating and net losses in each of the last two fiscal years, its working capital deficit as of the end of the latest fiscal year and as of the latest fiscal quarter, and its accumulated deficit, it was not in the best interest of the Company and its stockholders to continue the operation of MWWD going forward. Accordingly, on February 3, 2015, we transferred all shares of MWWD held by us along with all assets and liabilities related to MWWD to Michael Williams in consideration of MWWD’s and Mr. Williams’ full release of all claims and liabilities related to MWWD and the MWWD business. Mr. Williams is the sole officer, director and employee of MWWD. As a result of the Spin-Off, we determined that the goodwill recorded in connection with the Acquisition was impaired; accordingly, we recorded approximately $3.2 million of goodwill impairment for the year ended December 31, 2014.  Additionally, as a result of the Spin-Off, we recorded a net gain of approximately $52,890 on February 3, 2015. This gain is primarily the result of the transfer of net liabilities to Michael Williams, which is reflected in our financial statements for the nine months ended September 30, 2015.

Corporate Information

Our executive offices are located at 1805 SE Martin Luther King Jr. Blvd., Portland, Oregon 97214. Our telephone number is (971) 888-4264 and our internet address is www.eastsidedistilling.com. The information on, or that may be, accessed from our website is not part of this quarterly report.

RESULTS OF OPERATIONS

Three Months Ended September 30, 2015 Compared to the Three Months Ended September 30, 2014

Sales continued to expand during the September quarter, consistent with our recent trends. To date, the majority of our sales volume and growth has occurred in Oregon, our most established market where the Company originally began selling product. Over the past year, as part of our national expansion plans, we have also focused on obtaining approval and distributor relationships for other states. We are now positioned in a number of additional states (13 currently besides Oregon) and the Company has been shipping product to these new regions. We also intend to begin deploying similar marketing strategies (as currently used in Oregon) to help further promote our products in these new areas and drive greater adoption. As a result, we believe the Company is well positioned to continue its high rate of growth as we continue to successfully penetrate existing and new markets with our award winning product line.

Net Sales

Net sales consist of revenues from the sale of products we supply or distribute less excise taxes. The following table sets forth and compares our net sales in (in thousands of dollars) for the three months ended September 30, 2015 and 2014:

The $96,331 increase, or approximately 38% increase in net sales for the three months ended September 30, 2015, as compared to the three months ended September 30, 2014, was primarily the result of increased sales in Oregon, to both wholesale liquor distributors and our own retail stores. Since December 2014, we have opened retail stores in shopping centers, such as Clackamas Town Center and the Washington Town Center in Portland, Oregon.

Gross profit is calculated by subtracting the cost of products sold from net sales. Cost of sales consists of the costs of ingredients utilized in the production of spirits, contract production fees, overhead, packaging and in-bound freight charges. Ingredients account for the largest portion of the cost of sales, followed by contract production fees and packaging. Gross margin is gross profits stated as a percentage of net sales.

The following table compares our gross profit (in thousands of dollars) and gross margin in the three months ended September 30, 2015 and 2014.

Our gross margin of 52.4% of net sales in the three months ended September 30, 2015 improved from our gross margin of 36% for the three months ended September 30, 2014 primarily due to a difference in sales-channel mix. As we continue to grow sales, we anticipate improvement in gross margins with better leverage on our fixed facility costs.

Selling, General and Administrative Expenses

Selling, general and administrative (“SG&A”) expenses include marketing and advertising costs and expenses, compensation paid (including non- cash stock-based compensation) to general and administrative personnel, depreciation expense, professional fees and other SG&A expenses for the three months ended September 30, 2015 and September 30, 2014, respectively (in thousands of dollars):

The $1,229,318 increase in SG&A expenses for the three months ended September 30, 2015 was primarily attributable to an increase in professional accounting, legal and marketing fees of approximately $697,000, additional payroll expenses for additional sales personnel and event coordinators related to our new retail locations and office personnel of approximately $268,000, additional advertising costs of approximately $45,000, and increased rent related to our new facility of approximately $68,000. Of the overall increase in SG&A, approximately $588,625 was non-cash expenses associated with stock-based compensation for employees and consultants.

Other Expense

The following table compares our other expense (in thousands of dollars) for the three months ended September 30, 2015 and 2014.

Other expense in the three months ended September 30, 2015 is primarily related to an increase in interest expense.

Nine Months Ended September 30, 2015 Compared to the Nine Months Ended September 30, 2014

Net Sales

Net sales consist of revenues from the sales of products we supply or distribute less excise taxes. The following table sets forth and compares our sales in (in thousands of dollars) for the nine months ended September 30, 2015 and 2014

The $370,862 increase, or approximately 61% increase in net sales in the nine months ended September 30, 2015, as compared to the nine months ended September 30, 2014, was primarily the result of increased sales in Oregon to both high volume wholesale liquor distributors and our own retail stores. Since December 2014, we have opened retail stores in shopping centers, such as Clackamas Town Center and the Washington Town Center in Portland, Oregon.

Gross profit is calculated by subtracting the cost of products sold from net sales. Cost of sales consists of the costs of ingredients utilized in the production of spirits, contract production fees, overhead, packaging and in-bound freight charges. Ingredients account for the largest portion of the cost of sales, followed by contract production fees and packaging. Gross margin is gross profits stated as a percentage of net sales.

The following table compares our gross profit (in thousands of dollars) and gross margin for the nine months ended September 30, 2015 and 2014

Our gross margin of 47.2% of net sales for the nine months ended September 30, 2015 decreased from our gross margin of 52.5% in the nine months ended September 30, 2014 due to a difference in sales-channel mix along with a higher amount of allocated facility costs, due to our new larger facility. As we continue to grow sales, we anticipate improvement in gross margins with better leverage on these higher fixed facility costs.

Selling, General and Administrative Expenses

Selling, general and administrative (“SG&A”) expenses include marketing and advertising costs and expenses, compensation paid (including non- cash stock-based compensation) to general and administrative personnel, depreciation expense, professional fees and other SG&A expenses for the nine months ended September 30, 2015 and September 30, 2014, respectively (in thousands of dollars):

The $2,830,696 increase in SG&A expenses for the nine months ended September 30, 2015 was primarily attributable to an increase in professional accounting, legal and marketing fees of approximately $1,354,000, additional payroll expenses for additional sales personnel and event coordinators related to our new retail locations and office personnel of approximately $573,000, expanded advertising expense of approximately $179,000, and higher rent expense of approximately $245,000. Of the overall increase in SG&A, approximately $716,000 was non-cash expenses associated with stock and option expensing for employees and consultants.

Other Income (Expense)

The following table compares our other income (expense) (in thousands of dollars) for the nine months ended September 30, 2015 and 2014.

Other income for the nine months ended September 30, 2015 is principally a net gain recorded in connection with the spin-off MWWD of $52,890, offset by interest expense.

Financial Condition, Liquidity and Capital Resources

We have historically financed our working capital requirements for our operations primarily from internally generated funds, debt and capital raisings.

In December 2014, we raised $2.2 million from a stock issuance that was used to support working capital needs. In September 2015, we received $289,000 in net proceeds from the sale of convertible notes, which was net of $2,500 in legal expenses.

Net Cash Used in Operations.

We used cash for operations as we built inventory in the nine months ended September 30, 2015 to support higher sales.

Net cash used in operating activities for the nine months ended September 30, 2015 was $1,241,924 resulting primarily from our net loss of $2,931,690, less a gain on spin-off of subsidiary of 52,890, and an increase in inventories of $436,565, which amounts were offset by issuance of common stock in exchange for services of $715,871, stock-based compensation of $124,250, a decrease in trade receivables of $74,103, an increase in accounts payable of $821,457, an increase in accrued liabilities of $338,770, a decrease in prepaid expenses and other assets of $89,704 and deferred revenue of $1,139. This is compared to net cash used in operating activities of $171,265 for the nine months ended September 30, 2014 resulting primarily from our net loss of $267,088 plus inventories of $164,604, deposit of $48,000 and deferred revenue of $15,356, which amounts were offset by depreciation and amortization of $3,071, trade receivables of $14,163, accounts payable of $248,463 and accrued liabilities of $39,454.

Net Cash Used In Investing Activities.

We used $42,856 of cash in investing activities for the nine months ended September 30, 2015 for the purchase of property and equipment. This compares to $5,226 of cash used in investing activities during the nine months ended September 30, 2014 for the purchase of equipment.

Net Cash Provided by Financing Activities.

We had $287,868 in net cash from financing activities for the nine months ended September 30, 2015, which amount was principally from the net proceeds received from the issuance of convertible notes of $289,000, which was offset by $3,632 in payments on notes payable. For the same period in 2014, we had net cash provided from financing activities of $163,014, principally from the net proceeds from notes payable of $169,980, which was offset by $5,448 in payments on notes payable and $1,518 in distributions.

Expected Uses and Sources of Funds.

Our cash balance at September 30, 2015 was approximately $85,000. We expect our principal uses for cash in the year ending December 31, 2015 will be to fund operations and capital expenditures. As we continue to pursue our efforts to expand from a local/regional company to a national company, our cash flows from operations and available capital are presently not sufficient to sustain our current level of operations over the next twelve months. We currently estimate that we will require up to an additional $3.5 million to expand and market our business to become a nationwide distributor. Of this amount, we require $1.5 million for working capital and to increase inventory to allow for nationwide distribution, $0.6 million to make our new facility fully operational to support production of up to one million cases per year, and $1.0 million for sales and marketing to facilitate nationwide distribution. We plan to improve our cash position by focusing on increasing sales, improving profitability and accessing a combination of capital sources including debt and equity financings. Failure to secure these additional funds will result in a less aggressive growth plan and could also result in a reduction in the current scope of our operations.

In June 2014, as the Company and Eastside were negotiating and structuring the proposed business combination which closed on October 31, 2014, the Company loaned $150,000 to Eastside, which loan in turn was financed by the issuance of a demand loan by the Company to the existing debt investor and creditor of the Company. The loan was made as a bridge loan in anticipation of the business combination contemplated by the aforementioned letter of intent between the Company and Eastside.  The parties negotiated to structure the bridge loan as a loan from the existing debt investor to the Company and then as a loan from the Company to Eastside.  The business purposes of structuring the loans in this manner were two-fold.  First, the existing debt investor was already a debt investor and creditor of the Company and preferred to make an additional investment in a company in which it had already invested, rather than a new investment in a different issuer.  This facilitated the transaction documentation and the due diligence investigation, as time was of the essence in the making of the bridge loan.  Second, the existing debt investor preferred to invest in an issuer whose common stock was already publicly traded, rather than in a privately held LLC.  In accordance with these two investment criteria, the existing debt investor, the Company, and Eastside negotiated to have the debt investor purchase the demand note from the Company and then have the Company loan the proceeds to Eastside. As time was of the essence, the parties agreed to have the Company issue a demand note to the existing debt investor initially in order to provide the parties additional time to negotiate the remaining terms of the loan in good faith.  These negotiations continued until around September 19, 2014, at which point, in lieu of the existing debt investor demanding repayment of the note, the Company and the existing debt investor amended the note to be a 5% Convertible Note. The convertible note bears interest at 5% per annum and has a maturity date of December 13, 2015. The note may be converted into shares of our common stock at a fixed conversion price of $0.40 per share. This note may be prepaid upon payment of 150% of the outstanding principal amount to the holder. Other than as described herein, no material relationship between the Company and its affiliates and Eastside and its affiliates existed before October 31, 2014.

During the three months ended September 2015, we received $289,000 in net proceeds from the issuance of two separate convertible notes, which was net of $2,500 in legal expense. This included, 1) a $50,000 interest-free promissory note due February 6, 2016 with the option to convert into the next equity-based financing completed by the Company at the holder’s option and 2) a 14% secured convertible promissory note (the “14% Note”) in the principal amount of $275,000 with an original issue discount of $33,500 resulting in gross proceeds received from the Lender of $241,500 to us. We were also required to pay lender’s legal fees of $2,500 in connection with the transaction resulting in net proceeds of $239,000. The 14% Note has a maturity date of May 10, 2016 (the “Maturity Date”). We agreed to repay the 14% Note in six installments (“Amortization Payments”) as set forth in the Amortization Schedule attached to the 14% Note beginning 30th day after issuance and each 30-days thereafter. However, failure to make any Amortization Payment will not be deemed an event of default under the 14% Note. The 14% Note is initially convertible at a price per share equal to $1.00 (the “Fixed Conversion Price”); provided, however, that from and after March 10, 2016 and/or during the continuance of an event of default under the 14%Note, the conversion price shall be equal to the lesser of (i) the Fixed Conversion Price or (ii) 65% of the lowest trading price of our common stock during the 5 trading days prior to conversion. The 14% Note contains certain covenants and restrictions including, among others, that for so long as the 14% Note is outstanding, we will not incur indebtedness, permit liens, pay dividends or dispose of certain assets. Events of default under the note include, among others, failure to pay principal or interest on the note or comply with certain covenants under the note. The 14% Note is secured by our inventory pursuant to the terms and conditions of a Security Agreement.

Critical Accounting Policies

Acquisition

The acquisition of Eastside Distilling LLC by Eurocan Holdings, Ltd. (now known as Eastside Distilling, Inc.) on October 31, 2014, was accounted for as a reverse acquisition with Eastside Distilling, LLC as the acquirer of Eurocan. The condensed consolidated financial statements presented in this Quarterly Report on Form 10-Q are presented as a continuation of the operations of Eastside Distilling, LLC with one adjustment to retroactively adjust the legal common stock shares of Eastside Distilling, Inc. to reflect the legal capital of Eurocan prior to the October 31, 2014 acquisition.

Revenue Recognition

The Company records revenue when all four of the following criteria are met: (i) there is persuasive evidence that an arrangement exists; (ii) delivery of the products and/or services has occurred; (iii) the selling price is fixed or determinable; and (iv) collectability is reasonably assured.

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 is deferred until the customer has redeemed the discounted gift certificate or the gift certificate has expired, whichever occurs earlier.

Shipping and Fulfillment Costs

Freight costs incurred related to shipment of merchandise from Eastside’s distribution facilities to customers are recorded in cost of sales.

Concentrations

The Company sells to third-party resellers and performs ongoing credit evaluations of trade receivables due from third-party resellers. Generally, the Company does not require collateral. An allowance for doubtful accounts is determined with respect to those amounts that the Company has determined to be doubtful of collection using specific identification of doubtful accounts and an aging of receivables analysis based on invoice due dates. Generally, trade receivables are past due after 30 days after an invoice date, unless special payment terms are provided. Based on this analysis, the Company did not record an allowance for doubtful accounts at September 30, 2015 and 2014.

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of trade receivables. At September 30, 2015, we had 13 customers representing 100% of our trade receivables. At September 30, 2014, we had 3 customers representing approximately 92% of our trade receivables. In addition, at September 30, 2015 one distributor, the Oregon Liquor Control Commission (OLCC), represented 65% of trade receivables and sales to one distributor, the OLCC, accounted for approximately 35% consolidated revenues for the nine-month period ended September 30, 2015.

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 the Oregon Liquor Control Commission (OLCC) on consignment until it is sold to a third party. Eastside 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 has recorded no write-downs of inventory for the nine months ended September 30, 2015 and 2014.

Excise Taxes

The Company is responsible for compliance with the Alcohol Tobacco Tax and Trade Bureau (TTB) regulations which includes making timely and accurate excise tax payments. Eastside is subject to periodic compliance audits by the TTB. Individual states also impose excise taxes on alcohol 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.

Off-Balance Sheet Arrangements

We have no significant 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 are material.

ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As a “smaller reporting company” as defined by Item 10 of Regulation S-K, we are not required to provide information required by this item.

ITEM 4 – CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

In connection with the preparation of this quarterly report on Form 10-Q, an evaluation was carried out by our management, with the participation of the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (“Exchange Act”) as of September 30, 2015. Disclosure controls and procedures are designed to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC rules and forms and that such information is accumulated and communicated to management, including the Chief Executive Officer and the Chief Financial Officer, to allow timely decisions regarding required disclosures. In performing the assessment for the quarter ended September 30, 2015, our management concluded that our financial reporting controls and procedures were not effective to accomplish the foregoing, due to the following material weaknesses in internal controls over financial reporting:

Procedures for Control Evaluation. Management has not established with appropriate rigor the procedures for evaluating internal controls over financial reporting. Due to limited resources and lack of segregation of duties, documentation of the limited control structure has not been accomplished.

Lack of Audit Committee. To date, the Company has not established an Audit Committee. It is management’s view that such a committee, including a financial expert, is an utmost important entity level control over the financial reporting process.

Insufficient Documentation of Review Procedures. We employ policies and procedures for reconciliation of the financial statements and note disclosures, however, these processes are not appropriately documented.

Insufficient Information Technology Procedures. Management has not established methodical and consistent data back-up procedures to ensure loss of data will not occur.

Changes in Disclosure Controls and Procedures

As of the end of the period covered by this report, there have been no changes in internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) during the quarter ended September 30, 2015, that materially affected, or are reasonably likely to materially affect, the registrant’s internal control over financial reporting.

Limitations on Effectiveness of Controls and Procedures

In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.

PART II: OTHER INFORMATION

ITEM 1 – LEGAL PROCEEDINGS

None.

ITEM 1A – RISK FACTORS

As a “smaller reporting company” as defined by Item 10 of Regulation S-K, we are not required to provide information required by this item.

ITEM 2 – UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

ITEM 3 – DEFAULT UPON SENIOR SECURITIES

None

ITEM 4 – MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5 – OTHER INFORMATION

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.