Eastside Distilling, Inc. - Quarter Report: 2022 March (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the transition period from ______________ to _________________

Commission File No.: 001-38182

EASTSIDE DISTILLING, INC.

(Exact name of registrant as specified in its charter)

2321 NE Argyle Street, Unit D

Portland, Oregon 97211

(Address of principal executive offices)

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

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

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 ☒ 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 (§232.405 of this chapter) 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, 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.

If an emerging growth company, indicate by 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 ☒

As of May 16, 2022, 15,285,824 shares of our common stock, $0.0001 par value, were outstanding.

EASTSIDE DISTILLING, INC.

FORM 10-Q

March 31, 2022

TABLE OF CONTENTS

PART I: FINANCIAL INFORMATION

ITEM 1 – FINANCIAL STATEMENTS

Eastside Distilling, Inc. and Subsidiaries

Consolidated Balance Sheets

March 31, 2022 and December 31, 2021

(Dollars in thousands, except shares and per share amounts)

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

Eastside Distilling, Inc. and Subsidiaries

Consolidated Statements of Operations

For the Three Months Ended March 31, 2022 and 2021

(Dollars and shares in thousands, except per share amounts)

(Unaudited)

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

Eastside Distilling, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

For the Three Months Ended March 31, 2022 and 2021

(Dollars in thousands)

(Unaudited)

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

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited) 

1. Description of Business

Eastside Distilling (the “Company” or “Eastside Distilling”) was incorporated under the laws of Nevada in 2004 under the name of Eurocan Holdings, Ltd. In December 2014, the Company changed its corporate name to Eastside Distilling, Inc. to reflect the acquisition of Eastside Distilling, LLC. The Company manufactures, acquires, blends, bottles, imports, exports, markets and sells a wide variety of alcoholic beverages under recognized brands. The Company currently employs 71 people in the United States.

The Company’s spirits’ brands span several alcoholic beverage categories, including whiskey, vodka, and tequila. The Company sells products on a wholesale basis to distributors in open states and brokers in control states.

The Company operates a mobile craft canning and bottling business (“Craft C+B”) that primarily services the craft beer and craft cider industries. Craft C+B operates 16 mobile filling lines in Seattle, Washington; Spokane, Washington; Portland, Oregon; and Denver, Colorado. During 2022, the Company made substantial investments in Craft C+B to expand its product offerings to include digital can printing activities in the Pacific Northwest.

2. Liquidity

The Company’s primary capital requirements are for cash used in operating activities and the repayment of debt. Funds for the Company’s cash and liquidity needs have historically not been generated from operations but rather from loans as well as from convertible debt and equity financings. The Company has been dependent on raising capital from debt and equity financings to meet the Company’s operating needs.

The Company had an accumulated deficit of $60.7 million as of March 31, 2022, including a net loss of $2.0 million incurred during the three months ended March 31, 2022, which led to a reduction of $0.8 million in working capital. As of March 31, 2022, the Company had $2.6 million of cash on hand with working capital of $3.8 million. The Company’s ability to meet its ongoing operating cash needs over the next 12 months depends on growing revenues and gross margins, and generating positive operating cash flow primarily through increased sales, improved profit growth, and controlling expenses. If the Company is unable to obtain additional financing, or additional financing is not available on acceptable terms, the Company may seek to sell assets, reduce operating expenses, reduce or eliminate marketing initiatives, and take other measures that could impair its ability to be successful.

Although the Company’s audited financial statements for the year ended December 31, 2021 were prepared under the assumption that it would continue operations as a going concern, the report of its independent registered public accounting firm that accompanied the financial statements for the year ended December 31, 2021 contained a going concern explanatory paragraph in which such firm expressed substantial doubt about the Company’s ability to continue as a going concern, based on the financial statements at that time. If the Company cannot continue as a going concern, its stockholders would likely lose most or all of their investment in it.

3. Summary of Significant Accounting Policies

Basis of Presentation and Consolidation

The accompanying unaudited consolidated financial statements for Eastside Distilling, Inc. and subsidiaries were prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and in accordance with the rules and regulations of the Securities and Exchange Commission (the “SEC”). Certain information and footnote disclosures normally included in financial statements in accordance with GAAP have been condensed or eliminated as permitted under the SEC’s rules and regulations. In management’s opinion, the unaudited consolidated financial statements include all material adjustments, all of which are of a normal and recurring nature, necessary to present fairly the Company’s financial position as of March 31, 2022, its operating results for the three months ended March 31, 2022 and 2021 and its cash flows for the three months ended March 31, 2022 and 2021. The unaudited 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, 2021. Interim results are not necessarily indicative of the results that may be expected for an entire fiscal year). The consolidated financial statements include the accounts of Eastside Distilling, Inc.’s wholly-owned subsidiaries, including, MotherLode LLC, Redneck Riviera Whiskey Co., LLC (a discontinued operation), and Craft Canning + Bottling, LLC and the Azuñia tequila assets. All intercompany balances and transactions have been eliminated on consolidation.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

Use of Estimates

The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Revenue Recognition

Net sales include product sales, less excise taxes and customer programs and incentives. The Company recognizes revenue by applying the following steps in accordance with Accounting Standards Codification (“ASC”) Topic 606 – Revenue from Contracts with Customers: (1) identify the contract with a customer; (2) identify the performance obligations in the contract; (3) determine the transaction price; (4) allocate the transaction price to each performance obligation in the contract; and (5) recognize revenue when each performance obligation is satisfied.

The Company recognizes sales when merchandise is shipped from a warehouse directly to wholesale customers (except in the case of a consignment sale). For consignment sales, which include sales to the Oregon Liquor Control Commission, 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.

Customer Programs

Customer programs, which include customer promotional discount programs, are a common practice in the alcoholic beverage industry. The Company reimburses wholesalers for an agreed amount to promote sales of products and to maintain competitive pricing. Amounts paid in connection with customer programs are recorded as reductions to net sales in accordance with ASC 606 - Revenue from Contracts with Customers. Amounts paid in customer programs totaled $3,812 and $70,237 for the three months ended March 31, 2022 and 2021, respectively.

Excise Taxes

The Company is responsible for compliance with the Alcohol and Tobacco Tax and Trade Bureau (“TTB”) regulations, which includes making timely and accurate excise tax payments. The Company is subject to periodic compliance audits by the TTB. Individual states also impose excise taxes on alcoholic beverages in varying amounts. The Company calculates its excise tax expense based upon units produced and on its understanding of the applicable excise tax laws. Excise taxes totaled $40,062 and $24,763 for the three months ended March 31, 2022 and 2021, respectively.

Cost of Sales

Cost of sales consists of all direct costs related to both spirits and canning for service, labor, overhead, packaging, and in-bound freight charges. Ingredients account for the largest portion of the cost of sales, followed by packaging and production costs.

Sales and Marketing Expenses

Sales and marketing expenses consist of sponsorships, agency fees, social media, salary and benefit expenses, travel and entertainment expenses. Sales and marketing costs are expensed as incurred. Advertising and marketing expenses totaled $0.2 million and $0.3 million for the three months ended March 31, 2022 and 2021, respectively.

General and Administrative Expenses

General and administrative expenses consist of salary and benefit expenses, travel and entertainment expenses for executive and administrative staff, rent and utilities, professional fees, insurance, and amortization and depreciation expense. General and administrative costs are expensed as incurred.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

Stock-Based Compensation

The Company recognizes as compensation expense all stock-based awards issued to employees. The compensation cost is measured based on the grant-date fair value of the related stock-based awards and is recognized over the service period of stock-based awards, which is generally the same as the vesting period. The fair value of stock options is determined using the Black-Scholes valuation model, which estimates the fair value of each award on the date of grant based on a variety of assumptions including expected stock price volatility, expected terms of the awards, risk-free interest rate, and dividend rates, if applicable. Stock-based awards issued to nonemployees are recorded at fair value on the measurement date and are subject to periodic market adjustments at the end of each reporting period and as the underlying stock-based awards vest.

Concentrations

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of trade receivables. As of March 31, 2022, two distributors represented 18% of trade receivables. As of December 31, 2021, four wholesale customers represented 42% of trade receivables. Sales to one distributor accounted for 25% of consolidated sales for the three months ended March 31, 2022. Sales to one wholesale customer accounted for 18% of consolidated sales for the three months ended March 31, 2021.

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. As of March 31, 2022 and December 31, 2021, 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:

None of the Company’s assets or liabilities were measured at fair value as of March 31, 2022 or December 31, 2021. 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, notes payable, and the secured credit facilities. The estimated fair value of trade receivables, accounts payable, and accrued liabilities approximate their carrying value due to the short period of time to their maturities. As of March 31, 2022 and December 31, 2021, the Company’s notes approximate fair value.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

Items Measured at Fair Value on a Nonrecurring Basis

Certain assets and liabilities acquired in a business acquisition are valued at fair value at the date of acquisition due to having indefinite lives. The Company, on an annual basis, tests the indefinite life assets for impairment. If an indefinite life asset is found to be impaired, then the Company will estimate its useful life and amortize the asset over the remainder of its useful life.

Inventories

Inventories primarily consist of bulk and bottled liquor and raw materials 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 the Company’s finished goods inventory is held by certain independent distributors on consignment until it is sold to a third party. The Company regularly monitors inventory quantities on hand and records write-downs for excess and obsolete inventories based primarily on the Company’s estimated forecast of product demand and production requirements. Such write-downs establish a new cost basis of accounting for the related inventory.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, ranging from three to seven years. Amortization of leasehold improvements is computed using the straight-line method over the life of the lease or the useful lives of the assets, whichever is shorter. The cost and related accumulated depreciation and amortization of property and equipment sold or otherwise disposed of are removed from the accounts and any gain or loss is reported as current period income or expense. The costs of repairs and maintenance are expensed as incurred.

Intangible Assets / Goodwill

The Company accounts for certain intangible assets at cost. Management reviews these intangible assets for probable impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable. If there is an indication of impairment, management would prepare an estimate of future cash flows (undiscounted and without interest charges) expected to result from the use of the asset and its eventual disposition. If these estimated cash flows were less than the carrying amount, an impairment loss would be recognized to write down the asset to its estimated fair value. The Company performed a qualitative assessment of certain of its intangible assets as of March 31, 2022 and determined that they were not impaired.

Long-lived Assets

The Company accounts for long-lived assets, including certain intangible assets, at amortized cost. Management reviews long-lived assets for probable impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable. If there is an indication of impairment, management would prepare an estimate of future cash flows (undiscounted and without interest charges) expected to result from the use of the asset and its eventual disposition. If these estimated cash flows were less than the carrying amount of the asset, an impairment loss would be recognized to write down the asset to its estimated fair value. The Company performed a qualitative assessment of certain of its long-lived assets as of March 31, 2022 and determined that they were not impaired.

Comprehensive Income

The Company did not have any other comprehensive income items for the three months ended March 31, 2022 and 2021.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

Accounts Receivable Factoring Program

During 2021, the Company participated in two accounts receivable factoring programs. One for its spirits customers (the “spirits program”) and another for its co-packing customers (the “co-packing program”). Under the programs, the Company has the option to sell certain customer account receivables in advance of payment for 75% (spirits program) or 85% (co-packing program) of the amount due. When the customer remits payment, the Company receives the remaining balance. For the spirits program, interest is charged on the advanced 75% payment at a rate of 2.4% for the first 30 days plus 1.44% for each additional ten-day period. For the co-packing program, interest is charged against the greater of $0.5 million or the total funds advanced at a rate of 5% plus the prime rate published in the Wall Street Journal. Under the terms of both agreements, the factoring provider has full recourse against the Company should the customer fail to pay the invoice. In accordance with ASC Topic 860 – Transfers and Servicing, the Company has concluded that these agreements have met all three conditions identified in ASC Topic 860-10-40-5 (a) – (c) and have accounted for this activity as a sale. Given the quality of the factored accounts, the Company has not recognized a recourse obligation. In certain limited instances, the Company may provide collection services on the factored accounts but does not receive any fees for acting as the collection agent, and as such, the Company has not recognized a service obligation asset or liability. In December 2021, the agreement with the co-packing program expired. The agreement with the spirits program had a zero balance as of March 31, 2022.

Reclassification of Prior Year Presentation

Certain prior year amounts have been reclassified for consistency with the current year presentation. These reclassifications had no effect on the reported results of operations.

Recently Adopted Accounting Pronouncements

In October 2021, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2021-08, Accounting for Contract Assets and Contract Liabilities from Contracts with Customers, (“ASU 2021-08”) which requires an entity to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with Topic 606, Revenue Recognition. This ASU is effective for annual and interim periods beginning after December 15, 2022. Early adoption is permitted. The Company is currently evaluating the effect that ASU 2021-08 will have on its consolidated financial statements and related disclosures.

In August 2020, the FASB issued ASU 2020-06, Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, (“ASU 2020-06”) which simplifies the accounting for convertible instruments by eliminating the beneficial conversion feature and cash conversion models. Certain convertible instruments will be accounted for as a single unit of account, unless the conversion feature requires bifurcation and recognition as a derivative. Additionally, this ASU simplifies the earnings per share calculation, by eliminating the treasury stock method and requiring entities to use the if-converted method. This guidance is effective for annual periods beginning after December 31, 2021 with early adoption permitted. The Company early adopted ASU 2020-06 for the year ended December 31, 2021.

In June 2016, the FASB issued ASU 2016-13, “Financial Instruments—Credit Losses (Topic 326)” (“ASU 2016-13”). The standard introduces a new model for recognizing credit losses on financial instruments based on an estimate of current expected credit losses and will apply to trade receivables. The new guidance will be effective for the Company’s annual and interim periods beginning after December 15, 2022. The Company is currently evaluating the impact of the adoption of the standard on the consolidated financial statements.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

4. Discontinued Operations

The Company reports discontinued operations by applying the following criteria in accordance with ASC Topic 205-20, Presentation of Financial Statements – Discontinued Operations: (1) Component of an entity; (2) Held for sale criteria; and (3) Strategic shift.

On December 31, 2019, management made a strategic shift to focus the Company’s sales and marketing efforts on the nationally branded product platform, resulting in the decision to close all four of its retail stores in the Portland, Oregon area. The retail stores were closed or abandoned by March 31, 2020.

On February 2, 2021, Redneck Riviera Whiskey Co, LLC (“RRWC”) entered into a Termination and Inventory Purchase Agreement (the “Termination Agreement”) with Rich Marks, LLC, John D. Rich Tisa Trust and Redneck Spirits Group, LLC (collectively the buyers referred to as “RSG”), pursuant to which, on February 5, 2021, RRWC sold all of its inventory of Redneck Riviera, Granny Rich, and Howdy Dew distilled spirits products, including finished goods, raw materials, and barrel inventory, as well as all assignable certificates of label approval/exemption, branding, permits, and registrations relating thereto, for $4.7 million. In addition, the Company terminated its Amended and Restated License Agreement (the “License Agreement”) dated May 31, 2018 by and among Eastside, RRWC, Rich Marks, LLC, and John D. Rich TISA Trust U/A/D March 27, 2018, Dwight P. Miles, Trustee in exchange for $3.0 million. In connection with the Termination Agreement, the Company entered into a Supplier Agreement dated as of February 2, 2021 with RSG, pursuant to which the Company will produce certain products and perform specified services for RSG for a six (6) month period on the terms and conditions set forth in the Supplier Agreement. The Company did not incur any penalties as a result of the termination of the License Agreement.

For the three months ended March 31, 2021, the revenue, expenses and cash flows from retail operations and the RRWC business have been classified as discontinued operations separately from continuing operations. As of December 31, 2021, there were no assets and liabilities related to discontinued retail operations and the Redneck Riviera Spirits business.

Income and expense related to discontinued retail operations and the Redneck Riviera Spirits business were as follows for the three months ended March 31, 2022 and 2021:

Schedule of Discontinued Retail Operations

5. Business Segment Information

The Company’s internal management financial reporting consists of Eastside spirits and Craft C+B. The spirits brands span several alcoholic beverage categories, including whiskey, vodka, gin, rum, tequila and Ready-to-Drink (“RTD”) and are sold on a wholesale basis to distributors in open states, and brokers in control states. The Company’s principal area of operation is in the U.S. and has one spirits customer that represents 25% of its revenue. Craft C+B primarily services the craft beer and craft cider business. Craft C+B operates 16 mobile lines in Seattle, Washington; Spokane, Washington; Portland, Oregon; and Denver, Colorado.

The measure of profitability reviewed is a condensed statement of operations and gross margin. These business segments reflect how operations are managed, operating performance is evaluated and the structure of internal financial reporting. Total asset information by segment is not provided to, or reviewed by, the chief operating decision maker (“CODM”) as it is not used to make strategic decisions, allocate resources or assess performance. The accounting policies of the segments are the same as those described for the Company in the Summary of Significant Accounting Policies in Note 3. Spirits allocates 50% of certain general and administrative expenses to Craft C+B, which is included in the segments’ financial data below.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

Segment information was as follows for the three months ended March 31, 2022 and 2021:

 Schedule of Segment Information

Craft C+B’s gross margin decreased primarily due to lower sales of services, a change in product and service mix, and higher raw material costs. In addition, Craft C+B launched its digital can printing business subsequent to first quarter ending, however it continued to incur costs with no associated revenue during the three months ended March 31, 2022.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

6. Inventories

Inventories consisted of the following:

Schedule of Inventories

7. Prepaid Expenses and Current Assets

Prepaid expenses and current assets consisted of the following:

Schedule of Prepaid Expenses and Current Assets 

8. Property and Equipment

Property and equipment consisted of the following:

Schedule of Property and Equipment

Purchases of property and equipment totaled $1.4 million and $15,253 for the three months ended March 31, 2022 and 2021, respectively. During the three months ended March 31, 2022, the Company invested $1.3 million in the digital can printer that was not in operations at quarter-end. Depreciation expense totaled $0.1 million and $0.2 million for the three months ended March 31, 2022 and 2021, respectively.

During the three months ended March 31, 2021, the Company disposed of fixed assets with a net book value of $0.2 million resulting in a loss on disposal of fixed assets of $0.1 million. As a result of these disposals, the Company received funds of $0.1 million from the sales of the disposed assets.

9. Intangible Assets

Intangible assets consisted of the following:

Schedule of Intangible Assets

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

The customer list is being amortized over a seven-year life. Amortization expense totaled $0.1 million for both the three months ended March 31, 2022 and 2021.

The permits and licenses, and Azuñia brand have all been determined to have an indefinite life and will not be amortized. The Company, on an annual basis, tests the indefinite life assets for impairment. If an indefinite life asset is found to be impaired, then the Company will estimate its useful life and amortize the asset over the remainder of its useful life.

10. Other Assets

Other assets consisted of the following:

 Schedule of Other Assets

As of March 31, 2022, the Company had $0.4 million of capitalized costs related to services provided for the rebranding of its existing product line. This amount is being amortized over a seven-year life.

Amortization expense totaled $0.1 million for both three months ended March 31, 2022 and 2021.

The deposits represent office lease deposits.

11. Leases

The Company has various lease agreements in place for facilities and equipment. Terms of these leases include, in some instances, scheduled rent increases, renewals, purchase options and maintenance costs, and vary by lease. These lease obligations expire at various dates through 2027. The Company determines if an arrangement is a lease at inception. As the rate implicit in each lease is not readily determinable, the Company uses its incremental borrowing rate based on information available at commencement to determine the present value of the lease payments. Right-of-use assets and lease liabilities are recognized at commencement date based on the present value of lease payments over the lease term. Leases with an initial term of 12 months or less (“short-term leases”) are not recorded on the balance sheet and are recognized on a straight-line basis over the lease term. As of March 31, 2022, the amount of right-of-use assets and lease liabilities were $3.3 million and $3.5 million, respectively. Aggregate lease expense for the year ended March 31, 2022 was $0.3 million, consisting of $0.3 million in operating lease expense for lease liabilities and $25,597 in short-term lease cost.

Maturities of lease liabilities as of March 31, 2022 were as follows:

 Schedule of Maturities of Operating Lease Liabilities

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

12. Notes Payable

Notes payable consisted of the following:

Schedule of Notes Payable

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

The Company paid $0.2 million and $0.1 million in interest on notes for the three months ended March 31, 2022 and 2021, respectively.

Maturities on notes payable as of March 31, 2022 were as follows:

 Schedule of Maturities on Notes Payable

13. Secured Credit Facilities

6% Secured Convertible Promissory Notes

On April 19, 2021, the Company entered into a securities purchase agreement (“Purchase Agreement”) with accredited investors (“Subscribers”) for their purchase of up to $3.3 million of principal amount of 6% secured convertible promissory notes of the Company (“Note” or “Notes”), which notes are convertible into shares (“Conversion Shares”) of the Company’s common stock, par value $0.0001 per share pursuant to the terms and conditions set forth in the Notes with an initial conversion price of $2.20. In connection with the purchase of such Notes, each Subscriber received a warrant (“Existing Warrant”), to purchase a number of shares of common stock (“Warrant Shares”) equal to 60% of the principal amount of any Note issued to such Subscriber divided by the conversion price of the Note issued to such Subscriber, at an exercise price equal to $2.60. In connection with the Purchase Agreement, the Company entered into a Security Agreement under which it granted the Subscribers a security interest in certain assets of the Company (the “Security Agreement”) and a Registration Rights Agreement under which the Company agreed to register for resale the Conversion Shares and the Warrant Shares. Concurrently therewith, the Company and the investors closed $3.3 million of the private offering.

Roth Capital, LLC acted as placement agent in the private offering, and the Company paid the Placement Agent a cash fee of five percent (5%) of the gross proceeds therefrom. The Company received $3.1 million in net proceeds from the closing, after deducting the fee payable to the Placement Agent and the legal fees of the Subscribers in connection with the transaction. The Company used the proceeds to repay prior outstanding notes payable and for working capital and general corporate purposes.

Interest on the Notes accrues at a rate of 6% per annum and is payable either in cash or in shares of the Company’s common stock at the conversion price in the Note on each of the six and twelve month anniversaries of the issuance date and on the maturity date of October 18, 2022.

All amounts due under the Notes are convertible at any time after the issuance date, in whole or in part (subject to rounding for fractional shares), at the option of the holders into the Company’s common stock at a fixed conversion price, which is subject to adjustment as summarized below. The Notes are initially convertible into the Company’s common stock at an initial fixed conversion price of $2.20 per share. This conversion price is subject to adjustment for stock splits, combinations, or similar events, among other adjustments.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

The Company may prepay the Notes at any time in whole or in part by paying a sum of money equal to 100% of the principal amount to be redeemed, together with accrued and unpaid interest, plus a prepayment fee equal to five percent (5%) of the principal amount to be repaid.

The Notes contain customary triggering events including but not limited to: (i) failure to make payments when due under the Notes; and (ii) bankruptcy or insolvency of the Company. If a triggering event occurs, each holder may require the Company to redeem all or any portion of the Notes (including all accrued and unpaid interest thereon), in cash.

The Notes are secured by a subordinated security interest in the Company’s assets pursuant to the terms of a Security Agreement entered into between the Company and the Subscribers.

On July 30, 2021, the Company entered into warrant exercise inducement offer letters (“Inducement Letters”) with the holders of the Existing Warrants to exercise for cash their Existing Warrants. During the year ended December 31, 2021, the Company received gross proceeds of $2.4 million on the exercise of the outstanding warrants, and recognized a deemed dividend of $2.3 million based on the Black Scholes valuation as a result of the higher strike price on the July 2021 issued warrants. See additional discussion in Note 16.

Live Oak Loan Agreement

On January 15, 2020, the Company and its subsidiaries entered into a loan agreement (the “Loan Agreement”) between the Company and Live Oak Banking Company (“Live Oak”), a North Carolina banking corporation (the “Lender”) to refinance existing debt of the Company and to provide funding for general working capital purposes. Under the Loan Agreement, the Lender committed to make up to two loan advances to the Company in an aggregate principal amount not to exceed the lesser of (i) $ 8.0 million and (ii) a borrowing base equal to 85% of the appraised value of the Company’s eligible inventory of whisky in barrels or totes less an amount equal to all service fees or rental payments owed by the Company during the 90 day period immediately succeeding the date of determination to any warehouses or bailees holding eligible inventory (the “Loan”).

The Loan matured on January 14, 2021 and all amounts outstanding under the Loan became due and payable. On January 8, 2021, the Company entered into an amendment to the Loan Agreement with Live Oak to extend the maturity date to April 13, 2021. On April 13, 2021, the maturity date was amended to further extend it to May 13, 2021. On May 11, 2021, the maturity date was further extended to August 11, 2021 and the maximum loan balance was amended to the lesser of $3.0 million or the borrowing base. On August 11, 2021, the maturity date was further extended to October 11, 2021. On October 11, 2021, the maturity date was further extended to November 11, 2021. On February 28, 2022, Live Oak executed a forbearance agreement of the Loan while the parties finalize an extension of the maturity date. All other material terms of the Loan Agreement remain unchanged. The Lender may at any time demand repayment of the Loan in whole or in part, in which case the Company will be obligated to repay the Loan (or portion thereof for which repayment is demanded) within 30 days following the date of demand. The Company may prepay the Loan, in whole or in part, at any time without penalty or premium.

The Loan bears interest at a rate equal to the prime rate plus a spread of 2.49%, adjusted quarterly. Accrued interest is payable monthly, with the final installment of interest being due and payable on the Maturity Date. The Company is also obligated to pay a servicing fee, unused commitment fee and origination fee in connection with the Loan. The Company paid $43,228 in interest during the three months ended March 31, 2022. On February 4, 2022, the Company repaid $0.9 million of the secured credit facility with Live Oak, reducing the principal balance to $1.9 million as of March 31, 2022.

The Loan Agreement contains affirmative and negative covenants that include covenants restricting the Company’s ability to, among other things, incur indebtedness, grant liens, dispose of assets, merge or consolidate, make investments, or enter into restrictive agreements, subject to certain exceptions.

The obligations of the Company under the Loan Agreement are secured by substantially all of its spirits respective assets, except for accounts receivable and certain other specified excluded property.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

The Loan Agreement includes customary events of default that include among other things, non-payment defaults, covenant defaults, inaccuracy of representations and warranties, cross default to material indebtedness, bankruptcy and insolvency defaults and change in control defaults. Under certain circumstances, a default interest rate will apply on all obligations during the existence of an event of default under the Loan Agreement at a per annum rate equal to 2.00% above the applicable interest rate.

In connection with the Loan Agreement, the Company issued to the Lender a warrant to purchase up to 100,000 shares of the Company’s common stock at an exercise price of $3.94 per share (the “Warrant”). The Warrant expires on January 15, 2025. In connection with the issuance of the Warrant, the Company granted the Lender piggy-back registration rights with respect to the shares of common stock issuable upon exercise of the Warrant, subject to certain exceptions.

14. Commitments and Contingencies

Legal Matters

On December 15, 2020, Grover Wickersham filed a complaint in the United States District Court for the District Court of Oregon against the Company. Mr. Wickersham, the former CEO and Chairman of the Board of the Company, has asserted causes of action for fraud in the inducement, breach of contract, breach of the implied covenant of good faith and fair dealing, defamation, interference with economic advantage, elder financial abuse, and dissemination of false and misleading proxy materials. The Company disputes the allegations and intends to defend the case vigorously.

The Company is not currently subject to any other material legal proceedings; however, it could be subject to legal proceedings and claims from time to time in the ordinary course of its business, or legal proceedings it considered immaterial may in the future become material. Regardless of the outcome, litigation can, among other things, be time consuming and expensive to resolve, and can divert management resources.

15. Net Income (Loss) per Common Share

Basic income (loss) per common share is computed by dividing net income (loss) by the weighted average number of common shares outstanding during the period, without considering any dilutive items. Potentially dilutive securities consist of the incremental common stock issuable upon exercise of stock options, convertible notes and warrants. Potentially dilutive securities are excluded from the computation if their effect is anti-dilutive. There were no anti-dilutive common shares included in the calculation of income (loss) per common share as of March 31, 2022. As of March 31, 2021, the Company had 343,405 dilutive common shares.

16. Stockholders’ Equity

 Schedule of Stockholders’ Equity

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

Issuance of Common Stock

During the three months ended March 31, 2022, the Company issued 294,375 shares of common stock to directors and employees for stock-based compensation of $0.3 million. The shares were valued using the closing share price of the Company’s common stock on the date of grant, within the range of $0.96 to $1.21 per share. Of these shares, 170,000 were to the Company’s former Chief Executive Officer pursuant to his separation agreement.

During 2021, the Company issued 313,442 shares of common stock to directors and employees for stock-based compensation of $0.6 million. The shares were valued using the closing share price of the Company’s common stock on the date of grant, within the range of $1.28 to $2.98 per share.

On February 10, 2021 and April 19, 2021, the Company issued 1.2 million shares and 682,669 shares, respectively, of its common stock (the “Shares”) to certain affiliates of Intersect pursuant to an Asset Purchase Agreement dated September 12, 2019 by and between the Company and Intersect in respect of the Azuñia Tequila acquisition at a weighted-average of $4.67 per share and $1.82 per share, respectively. The Shares constitute the “Fixed Shares” due to Intersect pursuant to the Asset Purchase Agreement.

On July 30, 2021, the Company entered into Inducement Letters with the holders of the Existing Warrants to exercise their Existing Warrants and purchased 900,000 shares of common stock for gross proceeds of $2.4 million.

During 2021, the Company sold 1,297,653 shares of common stock for net proceeds of $3.6 million in at-the-market public placements. In addition, the Company issued 5,000 shares of its common stock upon the exercise of stock options at $1.23 per share.

Issuance of Series B Preferred Stock

On October 19, 2021, Company entered into a securities purchase agreement (“Purchase Agreement”) with an accredited investor (“Subscriber”) for its purchase of 2.5 million shares (“Preferred Shares”) of Series B Convertible Preferred Stock (“Series B Preferred Stock”) at a purchase price of $1.00 per Preferred Share, which Preferred Shares are convertible into shares of the Company’s common stock pursuant to the terms and conditions set forth in a Certificate of Designation Establishing Series B Preferred Stock of the Company with an initial conversion price of $3.10 per share and 850,000 shares of common stock were reserved.

The Series B Preferred Stock accrues dividends at a rate of 6% per annum, payable annually on the last day of December of each year. Dividends shall accrue from day to day, whether or not declared, and shall be cumulative. Dividends are payable at the Company’s option either in cash or “in kind” in shares of common stock; provided, however that dividends may only be paid in cash following the fiscal year in which the Company has net income (as shown in its audited financial statements contained in its Annual Report on Form 10-K for such year) of at least $0.5 million. For “in-kind” dividends, holders will receive that number of shares of common stock equal to (i) the amount of the dividend payment due such stockholder divided by (ii) the volume weighted average price of the common stock for the 90 trading days immediately preceding a dividend date (“VWAP”). For the year ended December 31, 2021, the Company issued as dividends 10,670 shares of common stock at a VWAP of $2.57 per share. For the three months ended March 31, 2022, the Company accrued $37,500 of preferred dividends.

Stock-Based Compensation

On September 8, 2016, the Company adopted the 2016 Equity Incentive Plan (the “2016 Plan”). Pursuant to the terms of the plan, on January 1, 2022, the number of shares available for grant under the 2016 Plan reset to 5,225,141 shares, equal to 8% of the number of outstanding shares of the Company’s capital stock, calculated on an as-converted basis, on March 31 of the preceding calendar year, and then added to the prior year plan amount. As of March 31, 2022, there were 57,586 options and 1,657,251 restricted stock units (“RSUs”) outstanding under the 2016 Plan, with vesting schedules varying between immediate or three (3) years from the grant date.

The Company also issues, from time to time, options that are not registered under a formal option plan. As of March 31, 2022, there were no options outstanding that were not issued under the Plans.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

A summary of all stock option activity as of and for the three months ended March 31, 2022 is presented below:

 Summary of Stock Option Activity

On December 7, 2021, the Company issued 5,000 shares of common stock at $1.23 per share upon the exercise of stock options for proceeds of $6,150.

The aggregate intrinsic value of options outstanding as of March 31, 2022 was $0.

As of March 31, 2022, there were 167 unvested options with an aggregate grant date fair value of $0. The unvested options will vest in accordance with the vesting schedule in each respective option agreement, which varies between immediate and three years from the grant date. The aggregate intrinsic value of unvested options as of March 31, 2022 was $0. During the three months ended March 31, 2022, 4,875 options vested.

The Company uses the Black-Scholes valuation model to measure the grant-date fair value of stock options. The grant-date fair value of stock options issued to employees is recognized on a straight-line basis over the requisite service period. Stock-based awards issued to nonemployees are recorded at fair value on the measurement date and are subject to periodic market adjustments as the underlying stock-based awards vest.

To determine the fair value of stock options using the Black-Scholes valuation model, the calculation takes into consideration the effect of the following:

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 Company did not issue any additional options during the three months ended March 31, 2022.

For the three months ended March 31, 2022 and 2021, net compensation expense related to stock options was $1,614 and $0.1 million, respectively. As of March 31, 2022, the total compensation expense related to stock options not yet recognized was approximately $0.1 million, which is expected to be recognized over a weighted-average period of approximately 0.6 years.

Warrants

On March 21, 2022, the Company entered into a promissory note with TQLA to accept a one year loan of $2.0 million with a conditional additional loan of $1.0 million and a conditional term extension of six months. The loan bears interest at 9.25% and carries a commitment fee of 2.5%. In addition, the Company will issue a common stock purchase warrant to TQLA covering the loan amount with a common stock value of $1.20 per share. As of March 31, 2022, the Company drew down $2.0 million of the note payable and issued 1.7 million warrants. The estimated fair value of the warrants of $0.9 million was recorded as debt issuance cost and is being amortized to interest expense over the maturity period of the promissory note, with $22,944 recorded during the three months ended March 31, 2022.

The estimated fair value of the new warrants issued was based on a combination of closing market trading price on the date of issuance for the public offering warrants, and the Black-Scholes option-pricing model, using the assumptions below:

 Schedule of Weighted-average Assumptions for New Warrants

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

From April 19, 2021 through May 12, 2021, the Company issued in a private placement, Existing Warrants to purchase up to 900,000 shares of common stock at an exercise price of $2.60 per Warrant Share. The estimated fair value of the warrants of $0.7 million was recorded as debt issuance cost and is being amortized to interest expense over the maturity period of the secured credit facility, with $0.1 million recorded during the three months ended March 31, 2022.

On July 30, 2021, the Company entered into Inducement Letters with the holders of the Existing Warrants whereby such holders agreed to exercise for cash their Existing Warrants to purchase the 900,000 Warrant Shares in exchange for the Company’s agreement to issue new warrants (the “New Warrants”) to purchase up to 900,000 shares of common stock (the “New Warrant Shares”). The New Warrants have substantially the same terms as the Existing Warrants, except that the New Warrants have an exercise price of $3.00 per share and are exercisable until August 19, 2026. The Company received gross proceeds of $2.4 million on the exercise of the outstanding warrants, and recognized a deemed dividend of $2.3 million based on the Black Scholes valuation as a result of the higher strike price on the July 2021 issued warrants, which is included in additional paid-in capital in the consolidated balance sheets.

A summary of all warrant activity as of and for the three months ended March 31, 2022 is presented below:

 Summary of Warrants Activity

17. Related Party Transactions

The following is a description of transactions since January 1, 2021 as to which the amount involved exceeds the lesser of $0.1 million or one percent (1%) of the average of total assets at year-end for the last two completed fiscal years, which was $0.3 million, and in which any related person has or will have a direct or indirect material interest, other than equity, compensation, termination and other arrangements.

On October 24, 2019, the Company’s Board appointed Stephanie Kilkenny to the Board to fill an existing vacancy on the Board effective immediately. Stephanie Kilkenny was the former managing director of Azuñia Tequila, and together with her spouse, owns and controls TQLA, the majority owner of Intersect. Effective June 15, 2020, the Company’s Board appointed Robert Grammen to the Board to fill an existing vacancy and he is also a member of Intersect.

On March 21, 2022, the Company entered into a note payable with TQLA to accept a one year loan of $2.0 million with a conditional additional loan of $1.0 million and a conditional term extension of six months. The loan bears interest at 9.25% and carries a commitment fee of 2.5%. In addition, the Company will issue a common stock purchase warrant to TQLA covering the loan amount with a common stock value of $1.20 per share. As of March 31, 2022, the Company drew down $2.0 million of the note payable and issued 1.7 million warrants.

Eastside Distilling, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

March 31, 2022

(Unaudited)

In connection with the acquisition of Azuñia Tequila from Intersect, TQLA was entitled to receive up to 93.88% of the aggregate consideration payable under the Asset Purchase Agreement. On February 10, 2021 and April 19, 2021, the Company issued 1.2 million shares and 682,669 shares, respectively, of its common stock (the “Shares”) to certain affiliates of Intersect pursuant to an Asset Purchase Agreement dated September 12, 2019 by and between the Company and Intersect in respect of the Azuñia Tequila acquisition at a weighted-average of $4.67 per share and $1.82 per share, respectively. The Shares constituted the “Fixed Shares” due to Intersect pursuant to the Asset Purchase Agreement. As of December 31, 2021, all shares held by TQLA were sold.

On April 19, 2021, the Company issued $7.8 million in principal amount of promissory notes as the Earnout Consideration. The loans mature in full on April 1, 2024 and accrue interest at a rate of 6.0% annually. TQLA received a total of 598,223 shares of common stock and a promissory note in the principal amount of $6.9 million. Robert Grammen received a total of 22,027 shares of the Company’s common stock and a promissory note in the principal amount of $0.1 million. The notes have a 36-month term with maturity in April 2024. In October 2021, TQLA sold its promissory note in the principal amount of $6.9 million.

On February 5, 2021, the Company repaid other liabilities due to Intersect and TQLA in an amount of $0.7 million.

The Company believes that the foregoing transactions were in its best interests. Consistent with Section 78.140 of the Nevada Revised Statutes, it is the Company’s current policy that all transactions between it and its officers, directors and their affiliates will be entered into only if such transactions are approved by a majority of the disinterested directors, are approved by vote of the stockholders, or are fair to the Company as a corporation as of the time it is authorized, approved or ratified by the Board. The Company will continue to conduct an appropriate review of all related party transactions and potential conflicts of interest on an ongoing basis. The Company’s audit committee has the authority and responsibility to review, approve and oversee any transaction between the Company and any related person and any other potential conflict of interest situation on an ongoing basis, in accordance with Company policies and procedures in effect from time to time.

18. Subsequent Events

Debt

On April 19, 2022, the Company drew the conditional $1.0 million of the loan with TQLA and issued an additional 0.8 million warrants.

On April 1, 2022, the Company reduced the conversion price of the 6% secured convertible promissory notes to $1.30 per share as a result of issuing a common stock purchase warrant to TQLA covering its loan amount of $2.0 million with a common stock value of $1.20 per share.

On February 28, 2022, the Company expected a forbearance agreement with Live Oak while the parties finalize a further extension of the maturity date of the Live Oak facility. All other material terms of the Loan Agreement remain unchanged.

Stock Issuances

On April 5, 2022, the Company sold 200,000 shares of common stock to its Chief Executive Officer for proceeds of $0.2 million based on the market price of the stock at that date.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

This section of the Quarterly Report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements give current expectations or forecasts of future events about the company or our outlook and involve uncertainties that could significantly impact results. You can identify forward-looking statements by the fact they do not relate to historical or current facts and by the use of words indicating anticipation or speculation such as “believe,” “expect,” “estimate,” “anticipate,” “will be,” “should,” “plan,” “project,” “intend,” “could” and similar words or expressions.

You should not place undue certainty on these forward-looking statements, which speak only as of the date made. Except as required by law, we undertake no obligation to update any forward-looking statements, whether as a result of new information, future events, or otherwise. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from these forward-looking statements. Factors that could cause our expectations to be unfulfilled include those discussed in Item 1A of Part I of our annual report on Form 10-K for the year ended December 31, 2021 entitled “Risk Factors” as well as factors we have not yet anticipated.

Overview

Eastside Distilling, Inc. (the “Company,” “Eastside Distilling,” “we,” “us,” or “our,” below) was incorporated under the laws of Nevada in 2004 under the name of Eurocan Holdings, Ltd. In December 2014, we changed our corporate name to Eastside Distilling, Inc. to reflect our acquisition of Eastside Distilling, LLC. We operate in two segments. Our Spirits segment manufactures, blends, bottles, markets and sells a wide variety of alcoholic beverages under recognized brands in 34 U.S. states. Our Craft Canning and Bottling segment provides canning and bottling services to the craft beer and cider industries in Washington, Oregon and Colorado. We employ 71 people in the United States.

Mission-What We Do

Our mission is to source, make and deliver the best in class, end-to-end craft spirits brands and product portfolio; and we contract pack and decorate cans and bottles with distinct capability and craftsmanship.

Strategy

Our spirits brands span several alcoholic beverage categories, including whiskey, tequila and Ready-to-Drink (“RTD”). We sell our products on a wholesale basis to distributors in open states, and brokers in control states. Craft Canning + Bottling (“Craft C+B”) primarily services the craft beer, cider and kombucha business. Craft C+B operates 16 mobile lines in Seattle and Spokane, Washington; Portland, Oregon; and Denver, Colorado.

Eastside Distilling is unique in several specific areas: (1) to our knowledge, we are the only craft spirits company listed on Nasdaq, (2) we do not function as a traditional craft distillery with store fronts relying on local sales, (3) our contract manufacturing division is diversified, and (4) we have a diversified portfolio of spirits brands. We are similar to other craft distillers in that (1) we have concentrated local volume, (2) we produce small batches and remain within the volume definition of “Craft”, and (3) our brands achieve success through differentiation, discovery and distribution.

The U.S. spirits market is occupied by large multi-national conglomerates with substantially more resources than Eastside Distilling. However, we can use our small size to be fast, focused, and flexible in our strategy. If we attempt to grow too quickly, we may lack the underlying strength required to build scale with loyalty via strong unaided awareness and powerfully derived attributes. Moreover, attempting to focus our “frame-of-reference” to compete with the biggest brands in the most expensive venues, is likely to fail unless we first establish underlying brand equity.

Our strategy is to utilize our public company stature to our advantage and position to expand our two distinct businesses – Spirits and Craft C+B. Our spirits portfolio is to be positioned as a leading regional craft spirits provider that develops brands, expands geographic presence and positions for either a sale to a tier 1 supplier or continued ownership with growth in revenue and cash flow. We look to grow and vertically integrate our Craft C+B business to expand our product offerings and improve our competitive position. These two segments are detailed below.

Segments

Spirits

Over the years, we have developed, matured, perfected, or acquired then launched many award-winning spirits while evolving to meet the growing demand for quality products and services associated with the burgeoning craft and premium beverage trade. Our portfolio includes originals like the Quercus garryana barrel-finished Burnside Whiskey family, Portland Potato Vodka, Hue-Hue Coffee Rum, and Azuñia Tequilas.

Craft Canning + Bottling

With 10 years of experience in the canning business, we’ve become the West’s most trusted and premier mobile packaging provider. We serve locations in Oregon, Washington and Colorado. Our team of professionals have packaged hundreds of award-winning products across both established and innovative beverage segments - beer, wine, cider, RTD cocktails, kombucha, seltzer, and many more. We use extensive proprietary and data-driven quality control measures and a robust clean-in-place procedure in order to provide the best packaging service for our customers. We take great pride in helping local beverage producers expand their distribution reach by using our service to offer industry-top quality and branding. Our greatest asset is the unmatched expertise of our talented group of packaging professionals who show up every day to go above and beyond to get the job done.

Our Craft mobile team offers a variety of services and products, including:

We secured an innovative printer that will revolutionize the growing custom canning operation. The new printer, the German-made Hinterkopf D240.2, is the only one of its kind on the West Coast and one of ten in the world. The new acquisition gives Craft C+B the ability to offer unparalleled customization and flexibility to craft beverage producers seeking direct printing for canning projects of all sizes. The new printer began operations in April 2022.

We print 12-ounce or 16-ounce cans in any quantity with any image, with a minimum order of 400 cans. This flexibility allows for custom graphics of limited releases, vintages, partnerships, and special events.

In connection with the printer, we partnered with a leading can provider to provide quality canning services from end to end. The new partnership guarantees a current and future supply of domestically manufactured Crown cans, cost-effective solutions for our customers, and improved logistics for beverage producers.

Recent Developments

We faced a number of challenges in both business segments in 2021 that have continued into 2022. The COVID-19 pandemic has had an enormous effect on both the mobile canning operation as well as spirits division. Increased competition, supply change issues and restructuring activities added to performance challenges in 2021 that have continued into 2022.

The spirits beverage category saw increased volume in the first quarter of 2022, however, we did not benefit from this trend due to tough comparisons as we cycle Azuñia deep discounting that occurred in the first half of 2021 and the impact of distributor high stock levels at the end of 2021 resulting from lost distribution and decreased velocity. In addition, we faced challenges with distribution partners in the highly restrictive three-tier distribution system. Finally, we saw cost increases across much of our direct and indirect costs. While a substantial amount of our raw materials is owned, such as our whisky, and not susceptible to price inflation, imported tequila and other materials such as glass inflated through the year. These increases along with the aforementioned volume challenges negatively impacted gross margins resulting in underperforming the 2022 operating plan. This softness in wholesale sales was offset by the sale of nearly 800 barrels of rye whiskey sold for $1.5 million.

Craft C+B also continues to face unique challenges. Beginning mid-year 2020 and throughout 2021, the craft beverage industry faced a shortage of aluminum cans. Domestic aluminum can manufacturers continue to make adjustments to manage a supply demand imbalance into 2022. As a result, buyers of aluminum cans continue to face uncertainties. We believe we have sourced an adequate supply of cans with a supply contract with Canadian Canning to supply our current business plan. In addition, suppliers have successfully passed through price increases, which we did not immediately pass through to our customers. Moreover, this period of rapidly escalating prices left us at a competitive disadvantage to others that had a superior source of cans. We faced a number of competitive challenges from customers, which insourced both can purchasing as well as filling services after the start of the COVID-19 pandemic.

Results of Operations

Overview

Three Months Ended March 31, 2022 Compared to the Three Months Ended March 31, 2021

Segment information was as follows for the three months ended March 31, 2022 and 2021:

Sales

Sales for the three months ended March 31, 2022 increased to $3.8 million from $3.2 million for the three months ended March 31, 2021.

Sales of spirits during the quarter increased from sales during the three months ended March 31, 2021 due to a single sale of 798 barrels of 95% rye whiskey ranging in age from three-year-old to eight-year-old for gross proceeds of $1.5 million. This was partially offset by softness in Azuñia volume and corresponding negative mix impact of $(0.2) million resulting from deep discounting in the first half of 2021. The following table presents volumes by nine-liter cases for the three months ended March 31, 2022 and 2021:

Craft C+B sales decreased due to a combination of factors including cycling the end of the pandemic where on-premise consumption had yet to open up in 2021, a trend to insource can purchasing and filling by larger customers and increased competition.

Customer programs and excise taxes

Customer programs and excise taxes totaled $0.1 million for both the three months ended March 31, 2022 and 2021.

Cost of Sales

Cost of sales consists of all direct costs related to both spirits and canning for service, labor, overhead, packaging, and in-bound freight charges. For the three months ended March 31, 2022, cost of sales increased to $2.8 million from $2.6 million for the three months ended March 31, 2021. Spirit’s cost of sales increased due to higher sales primarily from the sale of our wholesale spirits. Craft C+B cost of sales decreased due to lower sales and lower compensation costs.

Gross Profit

Gross profit is calculated by subtracting the cost of products sold from net sales. Gross profit for the three months ended March 31, 2022 increased to $0.9 million from $0.5 million for the three months ended March 31, 2021.

Gross margin is gross profit stated as a percentage of net sales. Our gross margin of 25% for the three months ended March 31, 2022 increased from our gross margin of 17% for the three months ended March 31, 2021. Spirits gross margin increased primarily due to the sale of our wholesale spirits. Craft C+B’s gross margin decreased primarily due to lower sales of services, a change in product and service mix, and higher raw material costs. In addition, Craft C+B launched its digital can printing business subsequent to first quarter ending, however it continued to incur costs with no associated revenue during the three months ended March 31, 2022.

Sales and Marketing Expenses

Sales and marketing expenses for the three months ended March 31, 2022 decreased to $0.6 million from $0.9 million for the three months ended March 31, 2021 primarily due to a decrease in marketing spend and compensation related to lower headcount as we continue to focus our sales efforts in key markets of Oregon, California, Arizona, Colorado, Texas, Florida, and Washington.

General and Administrative Expenses

General and administrative expenses for both the three months ended March 31, 2022 and 2021 were flat at $1.9 million primarily due to compensation as our overall headcount decreased, offset by rent as we entered into new leases.

Other Income

Other income was $2.2 million for the three months ended March 31, 2021 and was attributable to the forgiveness of our loans under the U.S. government Paycheck Protection Program (“PPP Loans”) and the remeasurement of deferred consideration for the final Azuñia earn-out.

Net Income (Loss)

Net loss was $(2.0) million for the three months ended March 31, 2022 from net income of $3.7 million for the three months ended March 31, 2021.

Preferred Stock Dividends

Preferred stock dividends were $37,500 for the three months ended March 31, 2022 and related to the Series B preferred stock dividend of 6% per annum.

Liquidity and Capital Resources

Our primary capital requirements are for cash used in operating activities and the repayment of debt. Funds for our cash and liquidity needs have historically not been generated from operations but rather from short-term credit in the form of extended payment terms from suppliers as well as proceeds from the sale of convertible debt and equity financings. We have been dependent on raising capital from debt and equity financings to meet our operating needs.

During 2021, our working capital position improved by $22.0 million, primarily due to the conversion of a large portion of debt into equity related to our acquisition of the Azuñia brand. In addition, during 2021, the Small Business Administration (“SBA”) notified us that it approved our request for full forgiveness of the PPP Loans that we took in 2020 in the principal amount of $1.4 million.

For the three months ended March 31, 2022, we incurred a net loss of $ 2.0 million and had an accumulated deficit of $60.7 million. During the three months ended March 31, 2022, we raised $2.0 million in additional capital through debt financing to invest in our three-year growth plan.

We continue to make substantial investments in Craft C+B, which we believe will deliver improved results later in 2022, in part due to our acquisition of a state-of-the-art digital can printer that will add incremental services and revenue.

As of March 31, 2022, we had $2.6 million of cash on hand with working capital of $3.8 million. Our ability to meet our ongoing operating cash needs over the next 12 months depends on growing revenues and gross margins, and generating positive operating cash flow, primarily through increased sales, profitable operations, and controlling expenses. If we are unable to obtain additional financing, or additional financing is not available on acceptable terms, we may seek to sell assets, reduce operating expenses, reduce or eliminate marketing initiatives.

Our cash flow results for the three months ended March 31, 2022 and 2021 were as follows:

Operating Activities

Total cash used in operating activities was $0.1 million during the three months ended March 31, 2022 compared to cash provided of $1.4 million during the three months ended March 31, 2021. The decrease in cash was primarily attributable to an increase in prepaid expenses related to our strategy to shift Craft C+B to offer digital can printing services in the Pacific Northwest.

Investing Activities

Total cash used in investing activities was $1.4 million during the three months ended March 31, 2022 representing our investment in digital can printing equipment, compared to cash provided of $3.4 million during the three months ended March 31, 2021, which consisted of $3.4 million received for the Termination Agreement with RSG.

Financing Activities

Total cash provided by financing activities was $0.9 million during the three months ended March 31, 2022 compared to cash used of $3.6 million during the three months ended March 31, 2021. Net cash flows provided by financing activities during the three months ended March 31, 2022 consisted of the proceeds from a note payable with a related party of $2.0 million; offset by $0.9 million of principal payments of our secured credit facilities and $0.2 million of payments on principal of notes payable. Net cash flows used in financing activities during the three months ended March 31, 2021 consisted of $3.4 million of payments reducing the balance of our secured trade credit facility and $0.2 million of payments reducing the principal balance of notes payable.

Lines of Credit

From 2019 until December 2021, we utilized an existing accounts receivable factoring line of credit with ENGS Commercial Capital, LLC (“ENGS”) that provided for a minimum of $0.5 million purchased accounts receivable and a maximum of $1.0 million of purchased accounts receivable. The advance rate was 85%, and interest was charged against the greater of $0.5 million or the total funds advanced at a rate of 5% plus the prime rate published in the Wall Street Journal. The Company factored $2.4 million of invoices during the year ended December 31, 2021. In December 2021, our agreement with ENGS expired and we are no longer factoring Craft C+B receivables.

Since 2019, we utilized an existing accounts receivable factoring line of credit with Park Street Financial Services, LLC. The advance rate is 75%, and interest is charged at a rate of 2.4% for the first 30 days plus 1.44% for each additional ten-day period. The Company factored $0.3 million of invoices during the year ended December 31, 2021. As of March 31, 2022, the Company had no factored invoices outstanding.

Inventory Line

In January 2020, we and our subsidiaries entered into a loan agreement with Live Oak Banking Company (“Live Oak”) for a loan in an aggregate principal amount not to exceed the lesser of (i) $8.0 million and (ii) a borrowing base of up to 85% of the appraised value of the borrowers’ eligible inventory of whisky in barrels or totes less an amount equal to all service fees or rental payments owed by borrowers during the 90 day period immediately succeeding the date of determination to any warehouses or bailees holding eligible inventory (the “Live Oak Loan”). The Live Oak Loan is secured by all assets of the Company excluding accounts receivable and certain other specified excluded property. The Live Oak Loan bears interest at a variable rate of interest equal to (i) two and 49/100ths percent (2.49%) per annum plus (ii) the Prime Rate as published in The Wall Street Journal, adjusted on a calendar quarterly basis. Interest is payable monthly. Additionally, the Company issued to Live Oak 100,000 warrants to purchase common stock at an exercise price of $3.94 per share. The proceeds of the Live Oak Loan were used to pay off all principal and accrued interest under the TQLA Note of $0.9 million and all principal and interest under loan issued pursuant to that Credit and Security Agreement, by and between the Company and The KFK Children’s Trust, Jeffrey Anderson – Trustee of $3.0 million. The loan matured on November 11, 2021. On February 28, 2022, Live Oak and the Company entered into a forbearance agreement while the parties finalize a further extension of the maturity date. On February 4, 2022, we repaid $0.9 million of the loan, reducing the principal balance to $1.9 million as of March 31, 2022.

Critical Accounting Policies

The discussion and analysis of the Company’s financial condition and results of operations is based upon its consolidated financial statements, which have been prepared in accordance with United States. generally accepted accounting principles. The preparation of these financial statements requires us to make significant estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. These items are monitored and analyzed by management for changes in facts and circumstances, and material changes in these estimates could occur in the future. Changes in estimates are recorded in the period in which they become known. The Company bases its estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from our estimates if past experience or other assumptions do not turn out to be substantially accurate.

In connection with the preparation of our financial statements for the three months ended March 31, 2022, there was one accounting estimate we made that was subject to a high degree of uncertainty and was critical to our results, as follows:

Intangible Assets

On September 12, 2019, we purchased the Azuñia brand, the direct sales team, existing product inventory, supply chain relationships and contractual agreements from Intersect Beverage, LLC, an importer and distributor of tequila and related products. The Azuñia brand has been determined to have an indefinite life and will not be amortized. We do, however, on an annual basis, test the indefinite life for impairment. If the indefinite life is found to be impaired, then we will estimate its useful life and amortize the asset over the remainder of its useful life.

We estimate the brand’s fair value using discounted estimated future cash flows or market information and will impair it when its carrying amount exceeds its estimated fair value, in which case we will write it down to its estimated fair value. We consider market values for similar assets when available. Considerable management judgment is necessary to estimate fair value, including making assumptions about future cash flows, net sales and discount rates.

We have the option, before quantifying the fair value, to evaluate qualitative factors to assess whether it is more likely than not that our brand is impaired. If we determine that is not the case, then we are not required to quantify the fair value. That assessment also takes considerable management judgment.

Based on our assumptions, we believe that, as of March 31, 2022, the Azuñia brand was not impaired.

Off-Balance Sheet Arrangements

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

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

We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (“Exchange Act”) that are designed to provide reasonable assurances that the 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, as appropriate, to allow timely decisions regarding required disclosures.

We conducted an evaluation (pursuant to Rule 13a-15(b) of the Exchange Act)), under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e)) as of the end of the period covered by this report. Based on the evaluation, the Chief Executive Officer and Chief Financial Officer has concluded that these disclosure controls and procedures were effective as of March 31, 2022.

There were no changes in internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) during the quarter ended March 31, 2022, that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II: OTHER INFORMATION

ITEM 1 – LEGAL PROCEEDINGS

On December 15, 2020, Grover Wickersham filed a complaint in the United States District Court for the District Court of Oregon against the Company. Mr. Wickersham, the former CEO and Chairman of the Board of the Company, has asserted causes of action for fraud in the inducement, breach of contract, breach of the implied covenant of good faith and fair dealing, defamation, interference with economic advantage, elder financial abuse, and dissemination of false and misleading proxy materials. The Company disputes the allegations and intends to defend the case vigorously.

We are not currently subject to any other material legal proceedings; however, we could be subject to legal proceedings and claims from time to time in the ordinary course of our business, or legal proceedings we considered immaterial may in the future become material. Regardless of the outcome, litigation can, among other things, be time consuming and expensive to resolve, and divert management resources.

ITEM 1A – RISK FACTORS

There have been no material changes in our risk factors from those previously disclosed in our annual report on Form 10-K for the year ended December 31, 2021 and incorporated therein by reference.

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

None.

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.