Youngevity International, Inc. - Quarter Report: 2019 March (Form 10-Q)

UNITED STATES

 SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

[X]

QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2019

 

[   ]

TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission file number: 001-38116

 

YOUNGEVITY INTERNATIONAL, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

Delaware		90-0890517
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
2400 Boswell Road, Chula Vista, CA		91914
(Address of Principal Executive Offices)		(Zip Code)

 

Registrant’s Telephone Number, Including Area Code:  (619) 934-3980

           Not applicable         

Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report

 

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock	YGYI	The Nasdaq Capital Market

 

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 past 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 every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Sec.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 [X]  No [  ]

 

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

 

Large accelerated filer	[ ]	Accelerated filer	[ ]
Non-accelerated filer	[X]	Smaller reporting company	[X]
		Emerging growth company	[ ]

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 [X]

 

As of May 16, 2019, the issuer had 28,890,671 shares of its Common Stock, par value $0.001 per share, issued and outstanding.

 

 

YOUNGEVITY INTERNATIONAL, INC.

TABLE OF CONTENTS

 

		Page
	PART I. FINANCIAL INFORMATION
Item 1.	Financial Statements	1
	Condensed Consolidated Balance Sheets as of March 31, 2019 (unaudited) & December 31, 2018	1
	Condensed Consolidated Statements of Operations for the three months ended March 31, 2019 and 2018 (unaudited)	2
	Condensed Consolidated Statements of Comprehensive Loss for the three months ended March 31, 2019 and 2018 (unaudited)	3
	Condensed Consolidated Statements of Stockholders' Equity – Three months ended March 31, 2019 and 2018 (unaudited)	4
	Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2019 and 2018 (unaudited)	6
	Notes to Condensed Consolidated Financial Statements (unaudited)	7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	38
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	46
Item 4.	Controls and Procedures	46
	PART II. OTHER INFORMATION
Item 1.	Legal Proceedings	47
Item 1A.	Risk Factors	47
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	47
Item 3.	Defaults Upon Senior Securities	47
Item 4.	Mine Safety Disclosures	47
Item 5.	Other Information	48
Item 6.	Exhibits	48
Signatures		49

 

 

 

 

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

 

Youngevity International, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(In thousands, except share amounts)

 

	As of
	March 31, 2019	December 31, 2018
ASSETS	(Unaudited)
Current Assets
Cash and cash equivalents	$2,540	$2,879
Accounts receivable, trade	21,629	4,028
Income tax receivable	75	74
Inventory	46,805	21,776
Advances (Note 1)	-	5,000
Notes receivable	5,000	-
Prepaid expenses and other current assets	4,891	5,263
Total current assets	80,940	39,020
Property and equipment, net	20,856	15,105
Operating lease right-of-use assets	5,509	-
Deferred tax assets	148	148
Intangible assets, net	23,919	15,377
Goodwill	10,676	6,323
Other assets – notes receivable	949	-
Total assets	$142,997	$75,973
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Accounts payable	$22,784	$8,478
Accrued distributor compensation	4,143	3,289
Accrued expenses	29,103	6,582
Deferred revenues	2,268	2,312
Line of credit	2,432	2,256
Other current liabilities	535	1,912
Operating lease liabilities, current portion	745	-
Finance lease liabilities, current portion	978	1,168
Notes payable, current portion	158	141
Convertible notes payable, current portion	681	647
Warrant derivative liability	5,369	9,216
Contingent acquisition debt, current portion	792	795
Total current liabilities	69,988	36,796
Operating lease liabilities, net of current portion	4,764	-
Finance lease liabilities, net of current portion	927	1,107
Notes payable, net of current portion	10,378	7,629
Convertible notes payable, net of current portion	1,981	-
Contingent acquisition debt, net of current portion	7,341	7,466
Total liabilities	95,379	52,998
Commitments and contingencies (Note 1)
Stockholders’ Equity
Preferred Stock, $0.001 par value: 5,000,000 shares authorized
Convertible Preferred Stock, Series A - 161,135 shares issued and outstanding at March 31, 2019 and December 31, 2018	-	-
Convertible Preferred Stock, Series B – 129,437 shares issued and outstanding at March 31, 2019 and December 31, 2018	-	-
Common Stock, $0.001 par value: 50,000,000 shares authorized; 28,890,671 and 25,760,708 shares issued and outstanding at March 31, 2019 and December 31, 2018, respectively	29	26
Additional paid-in capital	243,555	206,757
Accumulated deficit	(196,023)	(183,763)
Accumulated other comprehensive loss	57	(45)
Total stockholders’ equity	47,618	22,975
Total Liabilities and Stockholders’ Equity	$142,997	$75,973

  

See accompanying notes to condensed consolidated financial statements. 

 

 

Youngevity International, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Operations

(In thousands, except share and per share amounts)

 

	Three Months Ended  March 31,
	2019	2018
Revenues	$56,300	$42,994
Cost of revenues	29,451	17,982
Gross profit	26,849	25,012
Operating expenses
Distributor compensation	14,890	15,578
Sales and marketing	4,019	3,499
General and administrative	19,881	5,911
Total operating expenses	38,790	24,988
Income (loss) from Operations	(11,941)	24
Interest expense, net	(1,507)	(1,712)
Change in fair value of warrant derivative liability	1,486	712
Extinguishment loss on debt	-	(1,082)
Total other expense	(21)	(2,082)
Net loss before income taxes	(11,962)	(2,058)
Income tax provision	298	250
Net Loss	(12,260)	(2,308)
Preferred stock dividends	(14)	(3)
Net Loss Available to Common Stockholders	$(12,274)	$(2,311)
Net loss per share, basic	$(0.45)	$(0.12)
Net loss per share, diluted	$(0.49)	$(0.13)
Weighted average shares outstanding, basic	27,577,576	19,744,144
Weighted average shares outstanding, diluted	28,025,172	19,758,402

 

See accompanying notes to condensed consolidated financial statements.

 

 

Youngevity International, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Comprehensive Loss

(In thousands)

 

	Three Months Ended March 31,
	2019	2018
Net loss	$(12,260)	$(2,308)
Foreign currency translation	102	201
Total other comprehensive income	102	201
Comprehensive loss	$(12,158)	$(2,107)

 

See accompanying notes to condensed consolidated financial statements.

 

 Youngevity International, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Stockholders' Equity

(In thousands, except shares)

 

	Series A Preferred Stock		Series B Preferred Stock		Common Stock		Additional Paid-in	Accumulated Other Comprehensive	Accumulated	Total Stockholders'
	Shares	Amount	Shares	Amount	Shares	Amount	Capital	Loss	Deficit	Equity
Balance at December 31, 2018	161,135	$-	129,437	$-	25,760,708	$26	$206,757	$(45)	$(183,763)	$22,975
Net loss	-	-	-	-	-	-	-	-	(12,260)	(12,260)
Foreign currency translation adjustment	-	-	-	-	-	-	-	102	-	102
Issuance of common stock from at-the-market offering and exercise of stock options and warrants, net	-	-	-	-	309,636	1	1,454	-	-	1,455
Issuance of common stock for services	-	-	-	-	75,000	-	417	-	-	417
Issuance of common stock in private offering, net of issuance costs	-	-	-	-	255,000	-	1,750	-	-	1,750
Issuance of common stock for acquisition of Khrysos	-	-	-	-	1,794,972	1	12,649	-	-	12,650
Issuance of common stock for debt financing, net of issuance costs	-	-	-	-	40,000	-	350	-	-	350
Issuance of common stock for true-up shares	-	-	-	-	44,599	-	281	-	-	281
Issuance of common stock for convertible note financing, net of issuance costs	-	-	-	-	61,000	-	293	-	-	293
Issuance of common stock related to purchase of land - H&H	-	-	-	-	153,846	-	1,200	-	-	1,200
Issuance of common stock related to purchase of trademark - H&H	-	-	-	-	100,000	-	750	-	-	750
Issuance of common stock related to advance for working capital (note receivable) net of settlement of debt	-	-	-	-	295,910	1	2,308	-	-	2.,309
Release of warrant liability upon exercise of warrants	-	-	-	-	-	-	866	-	-	866
Release of warrant liability upon reclassification of liability to equity	-	-	-	-	-	-	1,494	-	-	1,494
Warrant issued upon vesting for services	-	-	-	-	-	-	1,656	-	-	1,656
Dividends on preferred stock	-	-	-	-	-	-	(14)	-	-	(14)
Stock based compensation expense	-	-	-	-	-	-	11,344	-	-	11,344
Balance at March 31, 2019	161,135	$-	129,437	$-	28,890,671	$29	$243,555	$57	$(196,023)	$47,618

 

 

Youngevity International, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Stockholders' Equity

(In thousands, except shares)

 

	Series A Preferred Stock		Series B Preferred Stock		Common Stock		Additional Paid-in	Accumulated Other Comprehensive	Accumulated	Total Stockholders'
	Shares	Amount	Shares	Amount	Shares	Amount	Capital	Loss	Deficit	Equity
Balance at December 31, 2017	161,135	-	-	-	19,723,285	20	171,405	(281)	(163,693)	7,451
Net loss	-	-	-	-	-	-	-	-	(2,308)	(2,308)
Foreign currency translation adjustment	-	-	-	-	-	-	-	201	-	201
Issuance of Series B preferred stock, net of issuance cost	-	-	381,173	-	-	-	3,289	-	-	3,289
Issuance of common stock pursuant to the exercise of stock options and warrants	-	-	-	-	437	-	2	-	-	2
Issuance of common stock for services	-	-	-	-	5,000	-	27	-	-	27
Issuance of common stock for conversion of Notes – 2017 Notes	-	-	-	-	1,577,033	1	6,542	-	-	6,545
Dividends on preferred stock	-	-	-	-	-	-	(3)	-	-	(3)
Stock based compensation expense	-	-	-	-	-	-	237	-	-	237
Balance at March 31, 2018	161,135	$-	381,173	$-	25,305,755	$21	$181,501	$(80)	$(166,001)	$15,441

 

 

Youngevity International, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Cash Flows

 (In thousands)

 

	Three Months Ended March 31,
	2019	2018
Cash Flows from Operating Activities:
Net loss	$(12,260)	$(2,308)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization	1,145	1,259
Stock-based compensation expense	11,344	237
Amortization of debt discounts and issuance costs	199	543
Change in fair value of warrant derivative liability	(1,486)	(712)
Change in fair value of contingent acquisition debt	-	(213)
Changes in inventory reserve	159	-
Extinguishment loss on debt	-	1,082
Equity issuance for services	1,859	27
Stock issuance for true-up shares	281	-
Deferred taxes	-	137
Changes in operating assets and liabilities, net of effect from business combinations:
Accounts receivable	(17,292)	(1,231)
Inventory	(23,924)	(1,139)
Prepaid expenses and other current assets	(111)	(484)
Accounts payable	13,977	794
Accrued distributor compensation	854	259
Deferred revenues	(44)	1,302
Accrued expenses and other liabilities	20,468	(1,075)
Income taxes receivable	-	95
Net Cash Used in Operating Activities	(4,831)	(1,427)
Cash Flows from Investing Activities:
Acquisitions, net of cash acquired	(425)	(50)
Purchases of property and equipment	(2,291)	(106)
Net Cash Used in Investing Activities	(2,716)	(156)
Cash Flows from Financing Activities:
Proceeds from issuance of promissory notes, net of offering costs	3,750	-
Proceeds from private placement of common stock, net of offering costs	2,267	3,289
Proceeds from at-the-market-offering and exercise of stock options and warrants, net	1,455	3
Proceeds net of repayment on line of credit	176	770
Payments of notes payable	(35)	(58)
Payments of contingent acquisition debt	(128)	(10)
Payments of finance leases	(368)	(232)
Payments of dividends	(11)	-
Net Cash Provided by Financing Activities	7,106	3,762
Foreign Currency Effect on Cash	102	201
Net (decrease) increase in cash and cash equivalents	(339)	2,380
Cash and Cash Equivalents, Beginning of Period	2,879	673
Cash and Cash Equivalents, End of Period	$2,540	$3,053
Supplemental Disclosures of Cash Flow Information
Cash paid during the period for:
Interest	$1,034	$1,191
Income taxes	$-	$44
Supplemental Disclosures of Noncash Investing and Financing Activities
Purchases of property and equipment funded by finance leases	$-	$664
Purchases of property and equipment funded by mortgage agreements	$450	$-
Fair value of stock issued for services (Note 10)	$417	$-
Fair value of stock issued for property and equipment (land)	$1,200	$-
Fair value of stock issued for purchase of intangibles (tradename)	$750	$-
Fair of stock issued for note receivable, net of debt settlement	$2,309	$-
Dividends declared but not paid at the end of period (Note 10)	$14	$-
Acquisitions of net assets in exchange for contingent debt, net of purchase price adjustments	$-	$1,877
Fair value of warrants issued in connection with the Series B Preferred Stock Offering	$-	$75
Conversion of 2017 Notes to Common Stock	$-	$7,254

 

See accompanying notes to condensed consolidated financial statements.

 

 

Youngevity International, Inc. and Subsidiaries

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 1. Basis of Presentation and Description of Business

 

Basis of Presentation

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission (the “SEC”) for interim financial information. Accordingly, certain information and footnote disclosures, normally included in financial statements prepared in accordance with generally accepted accounting principles, have been condensed or omitted pursuant to such rules and regulations.

 

Youngevity International, Inc. (the “Company”) consolidates all wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.

 

The statements presented as of March 31, 2019 and for the three months ended March 31, 2019 and 2018 are unaudited. In the opinion of management, these financial statements reflect all normal recurring and other adjustments necessary for a fair presentation, and to make the financial statements not misleading. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company’s Form 10-K for the year ended December 31, 2018, filed with the SEC on April 15, 2019. The results for interim periods are not necessarily indicative of the results for the entire year.

 

Nature of Business

 

Youngevity International, Inc. (the “Company”), founded in 1996, develops and distributes health and nutrition related products through its global independent direct selling network, also known as multi-level marketing, and sells coffee products to commercial customers.  During the year ended December 31, 2018 the Company operated in two business segments, its direct selling segment where products are offered through a global distribution network of preferred customers and distributors and its commercial coffee segment where products are sold directly to businesses. During the first quarter of 2019, the Company through the acquisition of the assets of Khrysos Global, Inc. added a third business segment to its operations, the commercial hemp segment. The Company's three segments are listed below:

 

 

 

 

Segment Information

 

The Company has three reportable segments: direct selling, commercial coffee, and commercial hemp. The direct selling segment develops and distributes health and wellness products through its global independent direct selling network also known as multi-level marketing. The commercial coffee segment is a coffee roasting and distribution company specializing in gourmet coffee. The determination that the Company has three reportable segments is based upon the guidance set forth in Accounting Standards Codification (“ASC”) Topic 280, “Segment Reporting.”  During the three months ended March 31, 2019, the Company derived approximately 59% of its revenue from its direct selling segment and approximately 41% of its revenue from its commercial coffee segment. Commercial hemp segment revenues during the current quarter represented less than 1% of total revenues as it is newly acquired. During the three months ended March 31, 2018, the Company had two reportable segments and derived approximately 82% of its revenue from its direct selling segment and approximately 18% of its revenue from its commercial coffee segment.

 

 

Liquidity and Going Concern

 

The accompanying condensed consolidated financial statements have been prepared and presented on a basis assuming the Company will continue as a going concern. The Company has sustained significant losses during the three months ended March 31, 2019 and 2018 of approximately $12,260,000 and $2,308,000, respectively. Net cash used in operating activities was approximately $4,831,000 and $1,427,000 for the three months ended March 31, 2019 and 2018, respectively. The Company does not currently believe that its existing cash resources are sufficient to meet the Company’s anticipated needs over the next twelve months from the date hereof. Based on its current cash levels and its current rate of cash requirements, the Company will need to raise additional capital and/or will need to further reduce its expenses from current levels. These factors raise substantial doubt about the Company’s ability to continue as a going concern.

 

The Company anticipates that revenues will grow, and it intends to make necessary cost reductions related to international operations that are not performing well and reduce non-essential expenses.

 

The Company is also considering multiple other fund-raising alternatives. 

 

On March 18, 2019, the Company entered into a two-year Secured Promissory Note (the “Note” or “Notes”) with two (2) accredited investors that had a substantial pre-existing relationship with the Company pursuant to which the Company raised cash proceeds of $2,000,000. In consideration of the Notes, the Company issued 20,000 shares of the Company’s common stock par value $0.001 for each $1,000,000 invested as well as for each $1,000,000 invested five-year warrants to purchase 20,000 shares of the Company’s common stock at a price per share of $6.00. The Notes pay interest at a rate of eight percent (8%) per annum and interest is paid quarterly in arrears with all principal and unpaid interest due at maturity on March 18, 2021.

 

On February 15, 2019 and on March 10, 2019, the Company closed its first and second tranches of its 2019 January Private Placement debt offering, respectively, pursuant to which the Company offered for sale notes in the principal amount of a minimum of $100,000 and a maximum of notes in the principal amount $10,000,000 (the “2019 PIPE Notes”), with each investor receiving 2,000 shares of common stock for each $100,000 invested. The Company entered into subscription agreements with thirteen (13) accredited investors that had a substantial pre-existing relationship with the Company pursuant to which the Company received aggregate gross proceeds of $2,440,000 and issued the 2019 PIPE Notes in the aggregate principal amount of $2,440,000 and an aggregate of 48,800 shares of common stock. The placement agent received 12,200 shares of common stock in aggregate for the first and second tranches. The placement agent will receive up to 50,000 shares of common stock in the offering. Each 2019 PIPE Note matures 24 months after issuance, bears interest at a rate of six percent (6%) per annum, and the outstanding principal is convertible into shares of common stock at any time after the 180th day anniversary of the issuance of the 2019 PIPE Note, at a conversion price of $10 per share (subject to adjustment for stock splits, stock dividends and reclassification of the common stock).

 

On February 6, 2019, the Company entered into a Securities Purchase Agreement (the “Purchase Agreement”) with one accredited investor that had a substantial pre-existing relationship with the Company pursuant to which the Company sold 250,000 shares of the Company’s common stock, par value $0.001 per share, at an offering price of $7.00 per share. Pursuant to the Purchase Agreement, the Company also issued to the investor a three-year warrant to purchase 250,000 shares of common stock at an exercise price of $7.00. The proceeds to the Company were $1,750,000. Consulting fees for arranging the Purchase Agreement include the issuance of 5,000 shares of restricted shares of the Company’s common stock, par value $0.001 per share, and 100,000 3-year warrants priced at $10.00. No cash commissions were paid.

 

On January 7, 2019, the Company entered into an At-the-Market Offering Agreement (the “ATM Agreement”) with The Benchmark Company, LLC (“Benchmark”), as sales agent, pursuant to which the Company may sell from time to time, at its option, shares of its common stock, par value $0.001 per share, through Benchmark, as sales agent (the “Sales Agent”), for the sale of up to $60,000,000 of shares of the Company’s common stock. The Company is not obligated to make any sales of common stock under the ATM Agreement and the Company cannot provide any assurances that it will issue any shares pursuant to the ATM Agreement. The Company will pay the Sales Agent 3.0% commission of the gross sales proceeds. During the three months ended March 31, 2019, the Company sold a total of 1,000 shares of common stock under the ATM Agreement for an aggregate purchase price of $6.6118 pursuant to the ATM Agreement.

 

 

Depending on market conditions, there can be no assurance that additional capital will be available when needed or that, if available, it will be obtained on terms favorable to the Company or to its stockholders.

 

Failure to raise additional funds from the issuance of equity securities and failure to implement cost reductions could adversely affect the Company’s ability to operate as a going concern. The financial statements do not include any adjustments that might be necessary from the outcome of this uncertainty.

  

Use of Estimates

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“GAAP”) requires the Company 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 revenue and expense for each reporting period. Estimates are used in accounting for, among other things, allowances for doubtful accounts, deferred taxes and related valuation allowances, fair value of derivative liabilities, uncertain tax positions, loss contingencies, fair value of options granted under the Company’s stock-based compensation plan, fair value of assets and liabilities acquired in business combinations, finance leases, asset impairments, estimates of future cash flows used to evaluate impairments, useful lives of property, equipment and intangible assets, value of contingent acquisition debt, inventory obsolescence, and sales returns.  

 

Actual results may differ from previously estimated amounts and such differences may be material to the consolidated financial statements. Estimates and assumptions are reviewed periodically, and the effects of revisions are reflected prospectively in the period they occur.

 

Cash and Cash Equivalents

 

The Company considers only its monetary liquid assets with original maturities of three months or less as cash and cash equivalents.

 

 

Related Party Transactions

 

Richard Renton

 

Richard Renton is a member of the Board of Directors and owns and operates WVNP, Inc., a supplier of certain inventory items sold by the Company.  The Company made purchases of approximately $8,000 and $54,000 from WVNP Inc., for the three months ended March 31, 2019 and 2018, respectively. 

 

Carl Grover

 

 

Paul Sallwasser

 

Mr. Paul Sallwasser is a member of the board directors and prior to joining the Company’s Board of Directors he acquired a note (the “2014 Note”) issued in the Company’s private placement consummated in 2014 (the “2014 Private Placement”) in the principal amount of $75,000 convertible into 10,714 shares of common stock and a warrant (the “2014 Warrant”) issued, in the 2014 Private Placement, exercisable for 14,673 shares of common stock. Prior to joining the Company’s Board of Directors, Mr. Sallwasser acquired in the 2017 Private Placement a 2017 Note in the principal amount of approximately $38,000 convertible into 8,177 shares of common stock and a warrant (the “2017 Warrant”) issued, in the 2017 Private Placement, exercisable for 5,719 shares of common stock. Mr. Sallwasser also acquired in the 2017 Private Placement in exchange for the “2015 Note” that he acquired in the Company’s private placement consummated in 2015 (the “2015 Private Placement”), a 2017 Note in the principal amount of $5,000 convertible into 1,087 shares of common stock and a 2017 Warrant exercisable for 543 shares of common stock. On March 30, 2018, the Company completed its Series B Offering, and in accordance with the terms of the 2017 Notes, Mr. Sallwasser’s 2017 Notes converted to 9,264 shares of the Company’s common stock.

 

2400 Boswell LLC

 

In March 2013, the Company acquired 2400 Boswell for approximately $4,600,000. 2400 Boswell is the owner and lessor of the building occupied by the Company for its corporate office and warehouse in Chula Vista, California. The purchase was from an immediate family member of the Company’s Chief Executive Officer and consisted of approximately $248,000 in cash, approximately $334,000 of debt forgiveness and accrued interest, and a promissory note of approximately $393,000, payable in equal payments over 5 years and bears interest at 5.0%.  Additionally, the Company assumed a long-term mortgage of $3,625,000, payable over 25 years with an initial interest rate of 5.75%. The interest rate is the prime rate plus 2.5%. The current interest rate as of March 31, 2019 was 7.75%. The lender will adjust the interest rate on the first calendar day of each change period or calendar quarter. The Company and its Chief Executive Officer are both co-guarantors of the mortgage. As of March 31, 2019, the balance on the long-term mortgage is approximately $3,198,000 and the balance on the promissory note is zero.

 

Other Relationship Transactions

 

Hernandez, Hernandez, Export Y Company and H&H Coffee Group Export Corp.

 

The Company’s commercial coffee segment, CLR, is associated with Hernandez, Hernandez, Export Y Company (“H&H”), a Nicaragua company, through sourcing arrangements to procure Nicaraguan grown green coffee beans. In March 2014, as part of the Siles acquisition, CLR engaged the owners of H&H as employees to manage Siles. H&H is a sourcing agent acting on behalf of CLR for purchases of coffee from the producers. In consideration for H&H's sourcing of green coffee, CLR and H&H share in the green coffee profit from operations. H&H made purchases for CLR of approximately $17,520,000 and $3,734,000 for the three months ended March 31, 2019 and 2018, respectively.

 

In addition, CLR sold approximately $20,026,000 and $2,443,000 for the three months ended March 31, 2019 and 2018, respectively, of green coffee beans to H&H Coffee Group Export Corp., (“H&H Export”) a Florida based company which is affiliated with H&H.

 

In May 2017, the Company entered a settlement agreement with Alain Piedra Hernandez, one of the owners of H&H and the operating manager of Siles, who was issued a non-qualified stock option for the purchase of 75,000 shares of the Company’s common stock at a price of $2.00 with an expiration date of three years, in lieu of an obligation due from the Company to H&H as relates to a Sourcing and Supply Agreement with H&H. During the period ended September 30, 2017 the Company replaced the non-qualified stock option and issued a warrant agreement with the same terms. There was no financial impact related to the cancellation of the option and the issuance of the warrant. As of March 31, 2019, the warrant remains outstanding.

 

In December 2018, CLR advanced $5,000,000 to H&H Export to provide services in support of a 5-year contract for the sale and processing of 41 million pounds of green coffee beans on an annual basis. The services include providing hedging and financing opportunities to producers and delivering harvested coffee to the Company’s mills.  On March 31, 2019, this advance was converted to a $5,000,000 loan agreement and bears interest at 9% per annum and is due and payable by H&H Export at the end of each year’s harvest season, but no later than October 31 for any harvest year. The loan is secured by H&H Export’s hedging account with INTL FC Stone, trade receivables, green coffee inventory in the possession of H&H Export and all green coffee contracts.

 

Mill Construction Agreement

 

On January 15, 2019, CLR entered into the CLR Siles Mill Construction Agreement (the “Mill Construction Agreement”) with H&H and H&H Export, Alain Piedra Hernandez (“Hernandez”) and Marisol Del Carmen Siles Orozco (“Orozco”), together with H&H, H&H Export, Hernandez and Orozco, collectively referred to as the Nicaraguan Partner, pursuant to which the Nicaraguan Partner agreed to transfer a 45 acre tract of land in Matagalpa, Nicaragua (the “Property”) to be owned 50% by the Nicaraguan Partner and 50% by CLR. In consideration for the land acquisition the Company issued to H&H Export, 153,846 shares of common stock. In addition, the Nicaraguan Partner and CLR agreed to contribute $4,700,000 each toward the construction of a processing plant, office, and storage facilities (“Mill”) on the property for processing coffee in Nicaragua. As of March 31, 2019, the Company paid $1,350,000 towards construction of a mill, which is included in construction in process within property and equipment, net on the Company's condensed consolidated balance sheet.

 

 

 

Amendment to Operating and Profit-Sharing Agreement

 

On January 15, 2019, CLR entered into an amendment to the March 2014 operating and profit-sharing agreement with the owners of H&H. CLR previously engaged Hernandez and Orozco, the owners of H&H as employees to manage Siles. In addition, CLR and H&H, Hernandez and Orozco have agreed to restructure their profit-sharing agreement in regard to profits from green coffee sales and processing that increases the CLR’s profit participation by an additional 25%. Under the new terms of the agreement with respect to profit generated from green coffee sales and processing from La Pita, a leased mill, or the new mill, now will provide for a split of profits of 75% to CLR and 25% to the Nicaraguan Partner, after certain conditions are met. The Company issued 295,910 shares of the Company’s common stock to H&H Export to pay for certain working capital, construction and other payables. In addition, H&H Export has sold to CLR its espresso brand Café Cachita in consideration of the issuance of 100,000 shares of the Company’s common stock. Hernandez and Orozco are employees of CLR. The shares of common stock issued were valued at $7.50 per share.

 

Revenue Recognition

 

The Company recognizes revenue from product sales under the following five steps are completed: i) Identify the contract with the customer; ii) Identify the performance obligations in the contract; iii) Determine the transaction price; iv) Allocate the transaction price to the performance obligations in the contract; and v) Recognize revenue when (or as) each performance obligation is satisfied (see Note 3, below).

 

Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration the Company expects to receive in exchange for those products or services. The Company enters into contracts that can include various combinations of products and services, which are generally capable of being distinct and accounted for as separate performance obligations. Revenue is recognized net of allowances for returns and any taxes collected from customers, which are subsequently remitted to governmental authorities.

 

The transaction price for all sales is based on the price reflected in the individual customer's contract or purchase order. Variable consideration has not been identified as a significant component of the transaction price for any of our transactions.

 

Independent distributors receive compensation which is recognized as Distributor Compensation in the Company’s consolidated statements of operations. Due to the short-term nature of the contract with the customers, the Company accrues all distributor compensation expense in the month earned and pays the compensation the following month.

 

The Company also charges fees to become a distributor, and earn a position in the network genealogy, which are recognized as revenue in the period received. The Company’s distributors are required to pay a one-time enrollment fee and receive a welcome kit specific to that country or region that consists of forms, policy and procedures, selling aids, access to the Company’s distributor website and a genealogy position with no down line distributors.

 

The Company has determined that most contracts will be completed in less than one year. For those transactions where all performance obligations will be satisfied within one year or less, the Company is applying the practical expedient outlined in ASC 606-10-32-18. This practical expedient allows the Company not to adjust promised consideration for the effects of a significant financing component if the Company expects at contract inception the period between when the Company transfers the promised good or service to a customer and when the customer pays for that good or service will be one year or less. For those transactions that are expected to be completed after one year, the Company has assessed that there are no significant financing components because any difference between the promised consideration and the cash selling price of the good or service is for reasons other than the provision of financing.

 

Deferred Revenues and Costs

 

As of March 31, 2019 and December 31, 2018, the balance in deferred revenues was approximately $2,268,000 and $2,312,000, respectively. Deferred revenue related to the Company’s direct selling segment is attributable to the Heritage Makers product line and also for future Company convention and distributor events.

 

Deferred revenues related to Heritage Makers were approximately $2,095,000 and $2,153,000, as of March 31, 2019, and December 31, 2018, respectively. The deferred revenue represents Heritage Maker’s obligation for points purchased by customers that have not yet been redeemed for product. Cash received for points sold is recorded as deferred revenue. Revenue is recognized when customers redeem the points and the product is shipped.

 

 

Deferred costs relate to Heritage Makers prepaid commissions that are recognized in expense at the time the related revenue is recognized. As of March 31, 2019 and 2018, the balance in deferred costs was approximately $338,000 and $364,000, respectively, and is included in prepaid expenses and current assets.

 

Deferred revenues related to pre-enrollment in upcoming conventions and distributor events of approximately $173,000 and $159,000 as of March 31, 2019 and December 31, 2018, respectively, relate primarily to the Company’s 2019 and 2018 events. The Company does not recognize this revenue until the conventions or distributor events occur.

  

Plantation Costs

 

The Company’s commercial coffee segment includes the results of Siles, which is a 500-acre coffee plantation and a dry-processing facility located on 26 acres located in Matagalpa, Nicaragua. Siles is a wholly-owned subsidiary of CLR, and the results of CLR include the depreciation and amortization of capitalized costs, development and maintenance and harvesting costs of Siles. In accordance with GAAP, plantation maintenance and harvesting costs for commercially producing coffee farms are charged against earnings when sold. Deferred harvest costs accumulate and are capitalized throughout the year and are expensed over the remainder of the year as the coffee is sold. The difference between actual harvest costs incurred and the amount of harvest costs recognized as expense is recorded as either an increase or decrease in deferred harvest costs, which is reported as an asset and included with prepaid expenses and other current assets in the condensed consolidated balance sheets. Once the harvest is complete, the harvest costs are then recognized as the inventory value. Deferred costs associated with the harvest as of March 31, 2019 and December 31, 2018 are approximately zero and $400,000, respectively, and are included in prepaid expenses and other current assets on the Company’s balance sheets.

 

Stock-based Compensation

 

The Company accounts for stock-based compensation in accordance with ASC Topic 718, “Compensation – Stock Compensation,” which establishes accounting for equity instruments exchanged for employee services. Under such provisions, stock-based compensation cost is measured at the grant date, based on the calculated fair value of the award, and is recognized as an expense, under the straight-line method, over the vesting period of the equity grant.

 

The Company accounts for equity instruments issued to non-employees in accordance with authoritative guidance for equity-based payments to non-employees. Stock options issued to non-employees are accounted for at their estimated fair value, determined using the Black-Scholes option-pricing model. The fair value of options granted to non-employees is re-measured as they vest, and the resulting increase in value, if any, is recognized as expense during the period the related services are rendered.

 

Income Taxes

 

The Company accounts for income taxes in accordance with ASC Topic 740, "Income Taxes," under the asset and liability method which includes the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the consolidated financial statements. Under this approach, deferred taxes are recorded for the future tax consequences expected to occur when the reported amounts of assets and liabilities are recovered or paid. The provision for income taxes represents income taxes paid or payable for the current year plus the change in deferred taxes during the year. Deferred taxes result from differences between the financial statement and tax basis of assets and liabilities and are adjusted for changes in tax rates and tax laws when changes are enacted. The effects of future changes in income tax laws or rates are not anticipated.

 

Income taxes for the interim periods are computed using the effective tax rates estimated to be applicable for the full fiscal year, as adjusted for any discrete taxable events that occur during the period.

 

The Company files income tax returns in the United States (“U.S.”) on a federal basis and in many U.S. state and foreign jurisdictions. Certain tax years remain open to examination by the major taxing jurisdictions to which the Company is subject.

 

 

Commitments and Contingencies

 

The Company is from time to time, the subject of claims and suits arising out of matters related to the Company’s business. The Company is party to litigation at the present time and may become party to litigation in the future. In general, litigation claims can be expensive, and time consuming to bring or defend against and could result in settlements or damages that could significantly affect financial results. It is not possible to predict the final resolution of the current litigation to which the Company is party to, and the impact of certain of these matters on the Company’s business, results of operations, and financial condition could be material. Regardless of the outcome, litigation has adversely impacted the Company’s business because of defense costs, diversion of management resources and other factors.

 

Recently Issued Accounting Pronouncements

 

In August 2018, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2018-15, Intangibles — Goodwill and Other — Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. Subtopic 350-40 clarifies the accounting for implementation costs of a hosting arrangement that is a service contract and aligns that accounting, regardless of whether the arrangement conveys a license to the hosted software. The amendments in this update are effective for reporting periods beginning after December 15, 2019, with early adoption permitted. The Company does not expect this new guidance to have a material impact on its condensed consolidated financial statements. 

 

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement. Topic 820 removes or modifies certain current disclosures and adds additional disclosures. The changes are meant to provide more relevant information regarding valuation techniques and inputs used to arrive at measures of fair value, uncertainty in the fair value measurements, and how changes in fair value measurements impact an entity's performance and cash flows. Certain disclosures in Topic 820 will need to be applied on a retrospective basis and others on a prospective basis. Topic 820 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2019. Early adoption is permitted. The Company expects to adopt the provisions of this guidance on January 1, 2020 and is currently evaluating the impact that Topic 820 will have on its related disclosures.

 

In January 2017, the FASB issued ASU No. 2017-04, Intangibles — Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. This ASU simplifies the test for goodwill impairment by removing Step 2 from the goodwill impairment test. Companies will now perform the goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount, recognizing an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value not to exceed the total amount of goodwill allocated to that reporting unit. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. The amendments in this update are effective for goodwill impairment tests in fiscal years beginning after December 15, 2019 for public companies, with early adoption permitted for goodwill impairment tests performed after January 1, 2017. The Company does not expect this new guidance to have a material impact on its condensed consolidated financial statements.

 

 

Recently Adopted Accounting Pronouncements

 

In February 2018, the FASB issued Accounting Standards Update ASU No. 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220), Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, Topic 220. The amendments in this Update allow a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act (H.R.1) (the Act). Consequently, the amendments eliminate the stranded tax effects resulting from the Act and will improve the usefulness of information reported to financial statement users. However, because the amendments only relate to the reclassification of the income tax effects of the Act, the underlying guidance that requires that the effect of a change in tax laws or rates be included in income from continuing operations is not affected. The amendments in this Update also require certain disclosures about stranded tax effects. Topic 220 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018. The Company adopted the provisions of this guidance on January 1, 2019 and the adoption of this standard did not have a material impact on the Company’s condensed consolidated financial statements.

In July 2017, the FASB issued ASU No. 2017-11, Earnings Per Share (Topic 260); Distinguishing Liabilities from Equity (Topic 480); Derivatives and Hedging (Topic 815): (Part I) Accounting for Certain Financial Instruments with Down Round Features, (Part II) Replacement of the Indefinite Deferral for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests with a Scope Exception. Topic 260 allows companies to exclude a down round feature when determining whether a financial instrument (or embedded conversion feature) is considered indexed to the entity’s own stock. As a result, financial instruments (or embedded conversion features) with down round features may no longer be required to be accounted classified as liabilities. A company will recognize the value of a down round feature only when it is triggered, and the strike price has been adjusted downward. For equity-classified freestanding financial instruments, such as warrants, an entity will treat the value of the effect of the down round, when triggered, as a dividend and a reduction of income available to common shareholders in computing basic earnings per share. For convertible instruments with embedded conversion features containing down round provisions, entities will recognize the value of the down round as a beneficial conversion discount to be amortized to earnings. The guidance in Topic 260 is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted, and the guidance is to be applied using a full or modified retrospective approach. The Company adopted ASU No. 2017-11 effective January 1, 2019 and determined that it’s 2018 warrants were to no longer be classified as a derivative, as a result of the adoption and subsequent change in classification of the 2018 warrants, the company reclassed approximately $1,494,000 of warrant derivative liability to equity.

 

In February 2016, FASB established Topic 842, Leases, by issuing ASU No. 2016-02, Leases (Topic 842) which required lessees to recognize leases on-balance sheet and disclose key information about leasing arrangements. Topic 842 was subsequently amended by ASU No. 2018-01, Land Easement Practical Expedient for Transition to Topic 842; ASU No. 2018-10, Codification Improvements to Topic 842, Leases; ASU No. 2018-11, Targeted Improvements; ASU No. 2018-20, Narrow-Scope Improvements for Lessors; and ASU 2019-01, Codification Improvements. The new standard establishes a right-of-use model (ROU) that requires a lessee to recognize a ROU asset and lease liability on the balance sheet for all leases with a term longer than 12 months. Leases are classified as finance or operating, with classification affecting the pattern and classification of expense recognition in the income statement. The amendments were adopted by the Company on January 1, 2019. A modified retrospective transition approach is required, applying the standard to all leases existing at the date of initial application. The Company elects to use its effective date as its date of initial application. Consequently, financial information will not be updated, and the disclosures required under the new standard will not be provided for dates and periods before January 1, 2019. The new standard provides a number of optional practical expedients in transition. The Company elected the “package of practical expedients”, which permits the Company not to reassess under the new standard prior conclusions about lease identification, lease classification and initial direction costs. In addition, the Company elected the practical expedient to use hindsight when determining lease terms.  The practicable expedient pertaining to land easement is not applicable to the Company. The Company continues to assess all of the effects of adoption, with the most significant effect relating to the recognition of new ROU assets and lease liabilities on the Company’s balance sheet for real estate operating leases.  The Company adopted the provisions of this guidance on January 1, 2019 and accordingly recognized additional operating liabilities of approximately $5,509,000 with corresponding ROU assets of the same amount based on the present value of the remaining minimum rental payments under current leasing standards for existing operating leases.

 

 

 

Following the expiration of the Company’s Emerging Growth Company filing status (“EGC”) on December 31, 2018 the Company adopted the following accounting pronouncements effective January 1, 2018.

 

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), to supersede nearly all existing revenue recognition guidance under GAAP. Topic 606 also requires new qualitative and quantitative disclosures, including disaggregation of revenues and descriptions of performance obligations. The Company adopted the provision of this guidance using the modified retrospective approach. The Company has performed an assessment of its revenue contracts as well as worked with industry participants on matters of interpretation and application and has not identified any material changes to the timing or amount of its revenue recognition under Topic 606. The Company’s accounting policies did not change materially as a result of applying the principles of revenue recognition from Topic 606 and are largely consistent with existing guidance and current practices applied by the Company. (See Note 3, below.)

 

Note 2. Basic and Diluted Net Loss Per Share

 

Basic loss per share is computed by dividing net loss attributable to common stockholders by the weighted-average number of common shares outstanding during the period. Diluted loss per share is computed by dividing net loss attributable to common stockholders by the sum of the weighted-average number of common shares outstanding during the period and the weighted-average number of dilutive common share equivalents outstanding during the period, using the treasury stock method. Dilutive common share equivalents are comprised of stock options, restricted stock, warrants, convertible preferred stock and common stock associated with the Company's convertible notes based on the average stock price for each period using the treasury stock method. Potentially dilutive shares are excluded from the computation of diluted net loss per share when their effect is anti-dilutive. In periods where a net loss is presented, all potentially dilutive securities are anti-dilutive and are excluded from the computation of diluted net loss per share.

 

Potentially dilutive securities for the three months ended March 31, 2019 were 12,882,194. Potentially dilutive securities were 7,321,334 for the three months ended March 31, 2018.

 

The calculation of diluted loss per share requires that, to the extent the average market price of the underlying shares for the reporting period exceeds the exercise price of the warrants and the presumed exercise of such securities are dilutive to loss per share for the period, an adjustment to net loss used in the calculation is required to remove the change in fair value of the warrants, net of tax from the numerator for the period. Likewise, an adjustment to the denominator is required to reflect the related dilutive shares, if any, under the treasury stock method. During the three months ended March 31, 2019 and 2018, the Company recorded net of tax gain of $1,409,000 and $254,000, on the valuation of the Warrant Derivative Liability which has a dilutive impact on loss per share, respectively.

 

 

	Three months ended March 31,
	2019	2018
Loss per Share – Basic	(unaudited)	(unaudited)
Numerator for basic loss per share	$(12,274,000)	$(2,311,000)
Denominator for basic loss per share	27,577,576	19,744,144
Loss per common share – basic	$(0.45)	$(0.12)
Loss per Share – Diluted
Numerator for basic loss per share	$(12,274,000)	$(2,311,000)
Adjust: Fair value of dilutive warrants outstanding	(1,409,000)	(254,000)
Numerator for dilutive loss per share	$(13,683,000)	$(2,565,000)
Denominator for basic loss per share	27,577,576	19,744,144
Plus: Incremental shares underlying “in the money” warrants outstanding	447,595	14,258
Denominator for diluted loss per share	28,025,172	19,758,402
Loss per common share – diluted	$(0.49)	$(0.13)

 

Note 3.  Balance Sheet Account Details

 

Inventory and Cost of Revenues

 

Inventory is stated at the lower of cost or net realizable value, net of a valuation allowance. Cost is determined using the first-in, first-out method. The Company records an inventory reserve for estimated excess and obsolete inventory based upon historical turnover, market conditions and assumptions about future demand for its products. When applicable, expiration dates of certain inventory items with a definite life are taken into consideration.

 

Inventories consist of the following (in thousands):

 

	As of
	March 31, 2019	December 31, 2018
	(unaudited)
Finished goods	$14,948	$11,300
Raw materials	34,284	12,744
Total inventory	49,232	24,044
Reserve for excess and obsolete	(2,427)	(2,268)
Inventory, net	$46,805	$21,776

 

Cost of revenues includes the cost of inventory, shipping and handling costs, royalties associated with certain products, transaction banking costs, warehouse labor costs and depreciation on certain assets. 

 

Leases

 

Generally, the Company leases certain office space, warehouses, distribution centers, manufacturing centers, and equipment. A contract is or contains a lease if the contract conveys the right to control the use of identified property, plant, or equipment (an identified asset) for a period of time in exchange for consideration

 

In general, the Company’s leases include one or more options to renew, with renewal terms that generally vary from one to ten years. The exercise of lease renewal options is generally at the Company’s sole discretion. The depreciable life of assets and leasehold improvements are limited by the expected lease term, unless there is a transfer of title or purchase option reasonably certain of exercise.

 

The Company’s lease agreements do not contain any material residual value guarantees or material restrictive covenants.

 

  

Leases with an initial term of twelve months or less are not recorded on the Company’s condensed consolidated balance sheets, and the Company does not separate nonlease components from lease components. The Company’s lease assets and liabilities recognized within its condensed consolidated balance sheets were as follows (in thousands):

 

	March 31, 2019	Balance Sheet Location
ASSETS:
Operating lease right-of-use assets	$5,509	Operating lease right-of-use assets
Finance lease right-of-use assets	1,330	Property, plant, and equipment, net at cost, net of accumulated amortization (1)
Total lease assets	$6,839
LIABILITIES:
Current:
Operating lease liabilities	$745	Other current liabilities
Finance lease liabilities	978	Current portion of long-term debt
Non-current:
Operating lease liabilities	4,764	Non-current operating lease liabilities
Finance lease liabilities	927	Long-term debt, net of current portion
Total lease liabilities	$7,714

 

 

Lease cost is recognized on a straight-line basis over the lease term (in thousands):

 

	March 31, 2019
Operating lease costs	$271
Finance lease cost	-
Amortization of right-of-use assets	96
Interest on lease liabilities	37
Net lease costs	$404

 

 

 

 

As of March 31, 2019, annual scheduled lease payments were as follows (in thousands):

 

	Operating Leases	Finance Leases
2019	$788	$1,086
2020	753	742
2021	688	204
2022	648	9
2023	889	3
Thereafter	3,139	-
Total lease payments	6,905	2,044
Less imputed interest	1,396	139
Present value of lease liabilities	$5,509	$1,905

 

Finance lease right-of-use assets are amortized over their estimated useful life, as the Company does believe that it is reasonably certain that options which transfer ownership will be exercised. In general, for the majority of the Company’s material leases, the renewal options are not included in the calculation of its right-of-use assets and lease liabilities, as the Company does not believe that it is reasonably certain that these renewal options will be exercised. Periodically, the Company assesses its leases to determine whether it is reasonably certain that these options and any renewal options could be reasonably expected to be exercised.

 

The majority of the Company’s leases are for real estate and equipment. In general, the individual lease contracts do not provide information about the rate implicit in the lease. Because the Company is not able to determine the rate implicit in its leases, it instead generally uses its incremental borrowing rate to determine the present value of lease liabilities. In determining its incremental borrowing rate, the Company reviewed the terms of its leases, its senior secured credit facility, swap rates, and other factors. The weighted-average remaining lease term and weighted-average discount rate used to calculate the present value of lease liabilities are as follows:

 

	March 31, 2019
Weighted-average remaining lease terms:
Operating leases	5.8
Finance leases	2.1
Weighted-average remaining discount rate:
Operating leases	5.5%
Finance leases	9.1%

  

Revenue Recognition

 

Direct Selling

 

Direct distribution sales are made through the Company’s network (direct selling segment), which is a web-based global network of customers and distributors. The Company’s independent sales force markets a variety of products to an array of customers, through friend-to-friend marketing and social networking. The Company considers itself to be an e-commerce company whereby personal interaction is provided to customers by its independent sales network. Sales generated from direct distribution includes; health and wellness, beauty product and skin care, scrap booking and story booking items, packaged food products and other service-based products.

 

Revenue is recognized when the Company satisfies its performance obligations under the contract. The Company recognizes revenue by transferring the promised products to the customer, with revenue recognized at shipping point, the point in time the customer obtains control of the products. The majority of the Company’s contracts have a single performance obligation and are short term in nature. Sales taxes in domestic and foreign jurisdictions are collected from customers and remitted to governmental authorities, all at the local level, and are accounted for on a net basis and therefore are excluded from revenues.

 

 

Commercial Coffee - Coffee Roaster

 

The Company engages in the commercial sale of roasted coffee through its subsidiary CLR, which is sold under a variety of private labels through major national sales outlets and to customers including cruise lines and office coffee service operators, and under its own Café La Rica brand, Josie’s Java House Brand and Javalution brands as well as through its distributor network within the direct selling segment.

  

Revenue is recognized when the title and risk of loss is passed to the customer under the terms of the shipping arrangement, typically, FOB shipping point. At this point the customer has a present obligation to pay, takes physical possession of the product, takes legal title to the product, bears the risks and rewards of ownership, and as such, revenue will be recognized at this point in time. Sales taxes in domestic and foreign jurisdictions are collected from customers and remitted to governmental authorities, all at the local level, and are accounted for on a net basis and therefore are excluded from revenues.

 

Commercial Coffee - Green Coffee

  

The commercial coffee segment includes the sale of green coffee beans, which are sourced from the Nicaraguan rainforest.

  

Revenue is recognized when the title and risk of loss is passed to the customer under the terms of the shipping arrangement, typically, FOB shipping point. At this point the customer has a present obligation to pay, takes physical possession of the product, takes legal title to the product, bears the risks and rewards of ownership, and as such, revenue will be recognized at this point in time. Sales taxes in domestic and foreign jurisdictions are collected from customers and remitted to governmental authorities, all at the local level, and are accounted for on a net basis and therefore are excluded from revenues.

 

Commercial Hemp

 

The commercial hemp segment provides end to end extraction and processing via the Company’s proprietary systems that allow for the conversion of hemp feed stock into hemp oil and hemp extracts.  The primary focus of the segment will be to generate revenue through sales of extraction services and end to end processing services for the conversion of Hemp and Hemp oil into sellable ingredients.  Additionally, the Company offers various rental, sales, and service programs of the company’s extraction and processing systems.

 

Revenue is recognized when the title and risk of loss is passed to the customer under the terms of the shipping arrangement, typically, FOB shipping point. At this point the customer has a present obligation to pay, takes physical possession of the product, takes legal title to the product, bears the risks and rewards of ownership, and as such, revenue will be recognized at this point in time. Sales taxes in domestic and foreign jurisdictions are collected from customers and remitted to governmental authorities, all at the local level, and are accounted for on a net basis and therefore are excluded from revenues.

 

The Company operates in three primary segments: the direct selling segment where products are offered through a global distribution network of preferred customers and distributors, the commercial coffee segment where products are sold directly to businesses and the Hemp segment.

 

The following table summarizes revenue disaggregated by direct selling and the coffee segment (in thousands):

 

	For the three months ended March 31,
	2019	2018
Direct Selling Segment	$33,420	$35,311
Commercial Coffee - coffee roaster	2,780	2,698
Commercial Coffee - green coffee	20,033	4,985
Commercial Hemp	67	-
Total	$56,300	$42,994

 

 

Contract Balances  

 

Timing of revenue recognition may differ from the timing of invoicing to customers. The Company records contract assets when performance obligations are satisfied prior to invoicing.

 

Contract liabilities are reflected as deferred revenues in current liabilities on the Company’s condensed consolidated balance sheets and includes deferred revenue and customer deposits. Contract liabilities relate to payments invoiced or received in advance of completion of performance obligations, and are recognized as revenue upon the fulfillment of performance obligations. Contract Liabilities are classified as short-term as all performance obligations are expected to be satisfied within the next 12 months.

 

As of March 31, 2019 and December 31, 2018, the balance in deferred revenues was approximately $2,268,000 and $2,312,000, respectively. The Company records deferred revenue related to its direct selling segment which is primarily attributable to the Heritage Makers product line and represents Heritage Maker’s obligation for points purchased by customers that have not yet been redeemed for product. In addition, deferred revenues include future Company convention and distributor events.

 

Deferred revenue related to the commercial coffee segment represents deposits on customer orders that have not yet been completed and shipped. Revenue is recognized when the title and risk of loss is passed to the customer under the terms of the shipping arrangement FOB shipping point. (See Note 1, above.)

 

Of the deferred revenue from the year ended December 31, 2018, the Company recognized revenue of approximately $2,095,000 from the Heritage Makers product line during the three months ended March 31. 2019.

 

There were no deferred revenues associated with the commercial coffees segment and the commercial hemp as of March 31, 2019.

 

Note 4. Acquisitions and Business Combinations

 

The Company accounts for business combinations under the acquisition method and allocates the total purchase price for acquired businesses to the tangible and identified intangible assets acquired and liabilities assumed, based on their estimated fair values. When a business combination includes the exchange of the Company’s common stock, the value of the common stock is determined using the closing market price as of the date such shares were tendered to the selling parties. The fair values assigned to tangible and identified intangible assets acquired and liabilities assumed are based on management or third-party estimates and assumptions that utilize established valuation techniques appropriate for the Company’s industry and each acquired business. Goodwill is recorded as the excess, if any, of the aggregate fair value of consideration exchanged for an acquired business over the fair value (measured as of the acquisition date) of total net tangible and identified intangible assets acquired. A liability for contingent consideration, if applicable, is recorded at fair value as of the acquisition date. In determining the fair value of such contingent consideration, management estimates the amount to be paid based on probable outcomes and expectations on financial performance of the related acquired business. The fair value of contingent consideration is reassessed quarterly, with any change in the estimated value charged to operations in the period of the change. Increases or decreases in the fair value of the contingent consideration obligations can result from changes in actual or estimated revenue streams, discount periods, discount rates and probabilities that contingencies will be met.

 

 

During the three months ended March 31, 2019, the Company entered into one acquisition, which is detailed below. The acquisition was conducted in an effort to expand the Company’s operations into the field of commercial hemp business.

 

2019 Acquisitions

 

Khrysos Global, Inc.

 

On February 12, 2019, the Company and Khrysos Industries, Inc., a Delaware corporation and wholly owned subsidiary of the Company (“KII”) entered into an Asset and Equity Purchase Agreement (the “AEPA”) with, Khrysos Global, Inc., a Florida corporation (“Seller”), Leigh Dundore (“LD”), and Dwayne Dundore (the “Representing Party”) for KII to acquire substantially all the assets (the “Assets”) of KGI and all the outstanding equity of INXL Laboratories, Inc., a Florida corporation (“INXL”) and INX Holdings, Inc., a Florida corporation (“INXH”). Seller, INXL and INXH provides end to end extraction and processing via the company’s proprietary systems that allow for the conversion of hemp feed stock into hemp oil and hemp extracts.  Additionally, KII offers various rental, sales, and service programs of KII’s extraction and processing systems.

 

The consideration payable for the assets and the equity of KGI, INXL and INXH is an aggregate of $16,000,000, to be paid as set forth under the terms of the AEPA and allocated between the Sellers and LD in such manner as they determine at their discretion.

 

At closing, Seller, LD and the Representing Party received an aggregate of 1,794,972 shares of the Company’s common stock which have a value of $14,000,000 for the purposes of the AEPA or $12.649,000 fair value for the acquisition valuation and $500,000 in cash. Thereafter, Seller, LD and the Representing Party are to receive an aggregate of: $500,000 in cash thirty (30) days following the date of closing; $250,000 in cash ninety (90) days following the date of closing; $250,000 in cash one hundred and eighty (180) days following the Date of closing; $250,000 in cash two hundred and seventy (270) days following the date of closing; and $250,000 in cash one (1) year following the date of closing.

  

In addition, the Company agreed to issue to Representing Party, subject to the approval of the holders of at least a majority of the issued and outstanding shares of the Company’s common stock and the approval of The Nasdaq Stock Market (collectively, the “Contingent Consideration Warrants”) consisting of six (6) six-year warrants, to purchase 500,000 shares of common stock each, for an aggregate of 3,000,000 shares of common stock at an exercise price of $10 per share exercisable upon reaching certain levels of cumulative revenue or cumulative net income before taxes by the business during the any of the years ending December 31, 2019, 2020, 2021, 2022, 2023 or 2024.

 

The AEPA contains customary representations, warranties and covenants of the Company, KII, the Seller, LD and the Representing Party. Subject to certain customary limitations, the Seller, LD and the Representing Party have agreed to indemnify the Company and KII against certain losses related to, among other things, breaches of the Seller’s, LD’s and the Representing Party’s representations and warranties, certain specified liabilities and the failure to perform covenants or obligations under the AEPA.

 

On February 28, 2019, KII purchased a 45-acre tract of land in Groveland, Florida, in central Florida, which KII intends to build a R&D facility, greenhouse and allocate a portion for farming.

 

The Company has estimated fair value (in thousands) at the date of acquisition of the acquired tangible and intangible assets and liabilities as follows (unaudited):

 

Present value of cash consideration	$1,894
Estimated fair value of common stock issued	12,649
Aggregate purchase price	$14,543

The following table summarizes the estimated preliminary fair values of the assets acquired and liabilities assumed during the period ended March 31, 2019 (in thousands):
Current assets	$211
Inventory	1,264
Property, plant and equipment	2,260
Trademarks and trade name	1,876
Customer-related intangible	5,629
Non-compete intangible	956
Goodwill	4,353
Current liabilities	(1,913)
Notes payable	(518)
Net assets acquired	$14,118

 

 

 

The preliminary estimated fair value of intangible assets acquired in the amount of $8,461,000 was determined through the use of a third-party valuation firm using various income and cost approach methodologies. Specifically, the intangibles identified in the acquisition were trademarks and trade name, customer-related intangible and non-compete agreement. The trademarks and trade name, customer-related intangible and non-compete are being amortized over their estimated useful life of 8 years, 7 years and 6 years, respectively. The straight-line method is being used and is believed to approximate the time-line within which the economic benefit of the underlying intangible asset will be realized.

 

Goodwill of $4,353,000 was recognized as the excess purchase price over the acquisition-date fair value of net assets acquired. Goodwill is estimated to represent the synergistic values expected to be realized from the combination of the two businesses. The goodwill is expected to be deductible for tax purposes.

 

The Contingent Consideration Warrants discussed above are subject to vesting based upon the achievement of various sales milestones and only if the sellers do not terminate their services.  As such, the warrants were considered equity-based compensation for future services and not considered contingent consideration in the calculation of the purchase price.

 

The costs related to the acquisition are included in legal and accounting fees.

 

Revenues included in the consolidated statement of operations for the three months ended March 31, 2019 were approximately $67,000.

 

Note 5. Intangible Assets and Goodwill

 

Intangible Assets

 

Intangible assets are comprised of distributor organizations, trademarks and tradenames, customer relationships and internally developed software.  The Company's acquired intangible assets, which are subject to amortization over their estimated useful lives, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an intangible asset may not be recoverable. An impairment loss is recognized when the carrying amount of an intangible asset exceeds its fair value.

 

Intangible assets consist of the following (in thousands):

 

	March 31, 2019 (unaudited)			December 31, 2018
	Cost	Accumulated Amortization	Net	Cost	Accumulated Amortization	Net
Distributor organizations	$14,559	$9,796	$4,763	$14,559	$9,575	$4,984
Trademarks and trade names	9,963	2,033	7,930	7,337	1,781	5,556
Customer relationships	16,028	5,895	10,133	10,398	5,723	4,675
Internally developed software	720	583	137	720	558	162
Non-compete agreement	956	-	956	-	-	-
Intangible assets	$42,226	$18,307	$23,919	$33,014	$17,637	$15,377