ITEM 1A. RISK FACTORS
We are subject to various risks that could have a negative effect on the Company and its financial condition. These risks could cause actual operating results to differ from those expressed in certain “forward looking statements” contained in this Annual Report on Form 10-K as well as in other communications.
Risks Related to the Company
Our operations are now primarily dependent on the business of Charlie’s, and our ability to achieve positive cash flow under our new business plan is uncertain.
As a result of the Share Exchange, our continued operations are now primarily dependent on the business of Charlie’s. Although Charlie’s generated net revenue of approximately $21.5 million during the year ended December 31, 2021 and $16.7 million for the year ended December 31, 2020, there can be no guarantee that the Company will continue to grow revenue or achieve positive cash flow in the future.
Our cash resources are currently insufficient to submit each of our anticipated PMTA applications with the FDA, and otherwise satisfy our projected short-term liquidity and capital requirements.
As of December 31, 2021, we had working capital of approximately $2.5 million, which consisted of current assets of approximately $8.0 million and current liabilities of approximately $5.5 million. In addition, the cost associated with the preparation and submission of Premarket Tobacco Applications ("PMTAs") with the FDA is approximately $4.4 million to date. In March 2021, we issued shares of the Company’s Common Stock worth $3.0 million, which provided additional financing in order to reduce debt, further invest in the PMTA application process, and otherwise carry out our business plan. There can be no assurance that the Company will not require additional financing in the future, or that the financing will be available on acceptable terms, or at all, and there can be no assurance that any such arrangement, if required or otherwise sought, would be available on terms deemed to be commercially acceptable and in our best interests.
Our auditors have issued a going concern opinion on our financial statements as of December 31, 2021.
Our financial statements have been prepared assuming that the Company will continue as a going concern, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company operates in a rapidly changing legal and regulatory environment; new laws and regulations or changes to existing laws and regulations could significantly limit the Company’s ability to sell its products, and/or result in additional costs. Additionally, the Company was required to apply for FDA approval to continue selling and marketing its products used for the vaporization of nicotine in the United States. Currently, a substantial portion of the Company’s sales are derived from products that are subject to approval by the FDA. There was significant cost associated with the application process and there can be no assurance the FDA will approve previous and/or future application. In addition, the outbreak of a novel strain of COVID-19 (“Coronavirus”) which was identified in Wuhan, China around December 2019, has had a negative impact on the global economy and markets which could impact the Company’s supply chain and/or sales. For the year ended December 31, 2021, the Company generated income from operations of approximately $0.6 million, and a consolidated net income of approximately $4.8 million. The Company had stockholders’ equity of $3.1 million at December 31, 2021. During the year ended December 31, 2021, the Company’s working capital requirements changed significantly as inventory increased to $5.0 million, from $1.6 million as of December 31, 2020, and cash on hand decreased to approximately $0.9 million, from $1.4 million as of December 31, 2020. Though the Company’s balance sheet and overall performance generally improved during 2021, the issuance of one or several Marketing Denial Orders (“MDO”) from the FDA would increase the potential for inventory obsolescence and uncollectable accounts receivables. These regulatory risks, as well as other industry-specific challenges remain factors that raise substantial doubt about the Company’s ability to continue as a going concern. The financial statements do not include any adjustments to the carrying amount and classification of recorded assets and liabilities should the Company be unable to continue operations.
Our business is difficult to evaluate because we have recently significantly modified our product offerings and customer base.
As a result of the Share Exchange, we have recently modified our operations, engaging in the sale of new products in a new market through new distributors and new lines of business. There is a risk that we will be unable to successfully integrate the newly acquired businesses with our current structure. Our estimates of capital, personnel and equipment required for our newly acquired businesses are based on the historical experience of management and businesses they are familiar with. Our management has limited direct experience in operating a business of our current size, as well as one that is publicly traded.
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Our products could fail to attract or retain users or generate revenue and profits.
As a result of the Share Exchange, our customer base has changed significantly. Our ability to develop, increase, and engage our new customer base and to increase our revenue depends heavily on our ability to continue to evolve our existing products and to create successful new products, both independently and in conjunction with developers or other third parties. We may introduce significant changes to our existing products or acquire or introduce new and unproven products, including using technologies with which we have little or no prior development or operating experience. If new or enhanced products fail to engage our customers, or if we are unsuccessful in our monetization efforts, we may fail to attract or retain customers or to generate sufficient revenue, operating margin, or other value to justify our investments, and our business may be adversely affected.
Our significant stockholders may have certain personal interests that may affect the Company.
Together, Brandon Stump, a significant shareholder and founder of the Company, and Ryan Stump, Chief Operating Officer and a founder of the Company, collectively own approximately 38% of our issued and outstanding voting securities. As a result, Ryan Stump and Brandon Stump have the ability to exert influence over both the actions of our Board of Directors, the outcome of issues requiring approval by our stockholders, as well as the execution of management’s plans. This concentration of ownership may have effects such as delaying or preventing a change in control of the Company that may be favored by other stockholders or preventing transactions in which stockholders might otherwise recover a premium for their shares over current market prices.
The loss of one or more of our key personnel or our failure to attract and retain other highly qualified personnel in the future, could harm our business.
We currently depend on the continued services and performance of key members of our management team, in particular, Ryan Stump, one of Charlie’s founders and our Chief Operating Officer, Matt Montesano, our Chief Financial Officer, and Henry Sicignano, our President. If we cannot call upon them or other key management personnel for any reason, our operations and development could be harmed. We have not yet developed a succession plan. Furthermore, as we grow, we will be required to hire and attract additional qualified professionals such as accounting, legal, finance, production, market and sales experts. We may not be able to locate or attract qualified individuals for such positions, which will affect our ability to grow and expand our business.
We rely on contractual arrangements with Don Polly, our consolidated variable interest entity for our CBD-related business operations, which may not be as effective as direct ownership in providing operational control.
We have relied and expect to continue to rely on contractual arrangements with Don Polly and its shareholders, consisting of entities controlled by Brandon Stump and Ryan Stump, for the operation of our hemp-derived operations. These contractual arrangements may not be as effective as direct ownership in providing us with control over our consolidated variable interest entity. For example, Don Polly and its shareholders could breach their contractual arrangements with us by, among other things, failing to conduct their operations, including maintaining our website and using the domain names and trademarks, in an acceptable manner or taking other actions that are detrimental to our interests.
If we had direct ownership of Don Polly, we would be able to exercise our rights as a shareholder to effect changes in the board of directors of Don Polly, which in turn could implement changes, subject to any applicable fiduciary obligations, at the management and operational level. However, under the current contractual arrangements, we rely on the performance by Don Polly, and its shareholders of their obligations under the contracts. The shareholders of Don Polly may not act in the best interests of our Company or may not perform their obligations under these contracts. Such risks exist throughout the period in which we intend to operate our business through the contractual arrangements with Don Polly. Therefore, our contractual arrangements with Don Polly, our consolidated variable interest entity ("VIE"), may not be as effective in ensuring our control over the relevant portion of our business operations as direct ownership would be.
The shareholders of Don Polly, our consolidated variable interest entity, may have potential conflicts of interest with us, which may materially and adversely affect our business and financial condition.
The equity interests of Don Polly, our consolidated VIE, are held by entities controlled by Ryan Stump, the Company's Chief Operating Officer and member of our Board of Directors, and Brandon Stump, a significant shareholder of the Company. Their interests in Don Polly may differ from the interests of our company as a whole. These shareholders may breach, or cause Don Polly to breach, the existing contractual arrangements we have with them and Don Polly, which would have a material adverse effect on our ability to effectively control Don Polly and receive economic benefits from it. For example, the shareholders may be able to cause our agreements with Don Polly to be performed in a manner adverse to us by, among other things, failing to remit payments due under the contractual arrangements to us on a timely basis. We cannot assure you that when conflicts of interest arise, any or all of these shareholders will act in the best interests of our Company or such conflicts will be resolved in our favor.
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Currently, we do not have any arrangements to address potential conflicts of interest between these shareholders and the Company. If we cannot resolve any conflict of interest or dispute between us and the shareholders of Don Polly, we would have to rely on legal proceedings, which could result in the disruption of our business and subject us to substantial uncertainty as to the outcome of any such legal proceedings.
We have no commercial manufacturing capacity and rely on third-party contract manufacturers to produce commercial quantities of our products.
We do not have the facilities, equipment or personnel to manufacture commercial quantities of our products and therefore must rely on qualified third-party contract manufactures with appropriate facilities and equipment to contract manufacture commercial quantities of products. Any performance failure on the part of our contract manufacturers could delay commercialization of any of our products, depriving us of potential product revenue.
Failure by our contract manufacturers to achieve and maintain high manufacturing standards could result in product recalls or withdrawals, delays or failures in testing or delivery, cost overruns or other problems that could materially adversely affect our business. Contract manufacturers may encounter difficulties involving production yields, quality control and quality assurance. If for some reason our contract manufacturers cannot perform as agreed, we may be required to replace them. Although we believe there are a number of potential replacements, we may incur added costs and delays in identifying and obtaining any such replacements.
The inability of a manufacturer to ship orders of our products in a timely manner or to meet quality standards could cause us to miss the delivery date requirements of our customers for those items, which could result in cancellation of orders, refusal to accept deliveries or a reduction in purchase prices, any of which could have a material adverse effect as our revenue would decrease and we would incur net losses as a result of sales of the product, if any sales could be made.
We are subject to cyber-security risks, including those related to customer, employee, vendor or other company data and including in connection with integration of acquired businesses and operations.
We use information technologies to securely manage operations and various business functions. We rely on various technologies, some of which are managed by third parties, to process, transmit and store electronic information, and to manage or support a variety of business processes and activities, including reporting on our business and interacting with customers, vendors and employees. In addition, we collect and store certain data, including proprietary business information, and may have access to confidential or personal information that is subject to privacy and security laws, regulations and customer-imposed controls. Our systems are subject to repeated attempts by third parties to access information or to disrupt our systems. Despite our security design and controls, and those of our third-party providers, we may become subject to system damage, disruptions or shutdowns due to any number of causes, including cyber-attacks, breaches, employee error or malfeasance, power outages, computer viruses, telecommunication or utility failures, systems failures, service providers, natural disasters or other catastrophic events. It is possible for such vulnerabilities to remain undetected for an extended period. We may face other challenges and risks as we upgrade and standardize our information technology systems as part of our integration of acquired businesses and operations. We have contingency plans in place to prevent or mitigate the impact of these events, however, these events could result in operational disruptions or the misappropriation of sensitive data, and depending on their nature and scope, could lead to the compromise of confidential information, improper use of our systems and networks, manipulation and destruction of data, defective products, production downtimes and operational disruptions and exposure to liability. Such disruptions or misappropriations and the resulting repercussions, including reputational damage and legal claims or proceedings, may adversely affect our results of operations, cash flows and financial condition, and the trading price of our Common Stock.
The equity interests of Don Polly, our consolidated VIE, are held by entities controlled by Ryan Stump, the Company's Chief Operating Officer and member of our Board of Directors, and Brandon Stump, a significant shareholder of the Company and former Chief Executive Officer. Their interests in Don Polly may differ from the interests of our company as a whole. These shareholders may breach, or cause Don Polly to breach, the existing contractual arrangements we have with them and Don Polly, which would have a material adverse effect on our ability to effectively control Don Polly and receive economic benefits from it. For example, the shareholders may be able to cause our agreements with Don Polly to be performed in a manner adverse to us by, among other things, failing to remit payments due under the contractual arrangements to us on a timely basis. We cannot assure you that when conflicts of interest arise, any or all of these shareholders will act in the best interests of our Company or such conflicts will be resolved in our favor.
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The business that we conduct outside the United States may be adversely affected by international risk and uncertainties.
Although our operations are based in the United States, we conduct business outside of the United States and expect to continue to do so in the future. Any business that we conduct outside of the United States is subject to additional risks that may have a material adverse effect on our ability to continue conducting business in certain international markets, including, without limitation:
● Potentially reduced protection for intellectual property rights;
● Unexpected changes in tariffs, trade barriers and regulatory requirements;
These factors or any combination of these factors may adversely affect our revenue or our overall financial performance.
The outbreak of COVID-19, or coronavirus, has adversely affected our business.
In the event of a pandemic, epidemic or outbreak of an infectious disease, our business may be adversely affected. In December 2019, a novel strain of COVID-19 was identified in Wuhan, China which continues to spread globally to, among other countries, the United States. Such events may result in a period of business and travel disruption, and in reduced sales and operations, any of which could materially affect our business, financial condition and results of operations. For example, the spread of COVID-19 in the United States has resulted in travel restrictions impacting our sales professionals and is causing disruptions to our manufacturing supply chain. These conditions have negatively affected our sales and revenue, although the magnitude of such a negative impact cannot be determined at this time. However, if repercussions of the outbreak are prolonged, it will have a further adverse impact on our business.
The outbreak and persistence of COVID-19 in international markets that we have targeted for our international expansion have also delayed the preparation for and launch of such expansion efforts. The spread of COVID-19 has resulted in the inability of certain of our products being delivered and distributed to the overseas markets on a timely basis. If there were a shortage or halt in distribution of our products, the cost of these materials or components may increase which could harm our ability to provide our products on a timely and cost-effective basis.
The extent to which COVID-19 impacts our business will depend on future developments, which are highly uncertain and cannot be predicted. The Company will continue to closely monitor new information as it emerges and adjust our operations and sales accordingly.
Regulatory and Market Risks
Our business is primarily involved in the sales of products that contain nicotine and/or CBD, which faces significant regulation and actions that may have a material adverse effect on our business.
As a result of the Share Exchange, our current business is primarily involved in the sale of products that contain nicotine and/or CBD. The general market in which our products are sold faces significant governmental and private sector actions, including efforts aimed at reducing the incidence of use in minors and efforts seeking to hold the makers and sellers of these products responsible for the adverse health effects associated with them. More broadly, new regulatory actions by the FDA and other federal, state or local governments or agencies, may impact the consumer acceptability of or access to our products, including regulations promulgated by the FDA which will require us to file PMTA(s) for any of our products that are identified as “Deemed Tobacco Products” by the FDA. See "-The regulation of tobacco products by the FDA in the United States and the issuance of Deeming Regulations may materially adversely affect the Company." Additionally, on January 2, 2020 the FDA issued an enforcement policy effectively banning the sale of flavored cartridge-based e-cigarettes marketed primarily by large manufacturers in the United States without prior authorization from the FDA. According to the FDA, it is expected that the new policy will have minimal impact on small manufacturers, such as vape shops, that sell non-cartridge based products. We believe that any ban on flavored e-cigarettes, or similar enforcement action by the FDA, would have a significant adverse impact on Charlie’s products, which would, in turn, have a material adverse impact on our overall business material.
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Additional regulatory challenges may come in future months and years, including the FDA’s publication of new product standards or additional rule making that may impact vape shops or other small manufacturers, limit adult consumer choices, delay or prevent the launch of new or modified risk tobacco products or products with claims of reduced risk, require the recall or other removal of certain products from the marketplace, restrict communications including marketing, advertising, and educational campaigns regarding the product category to adult consumers, restrict the ability to differentiate products, create a competitive advantage or disadvantage for certain companies, impose additional manufacturing, labeling or packaging requirements, interrupt manufacturing or otherwise significantly increase the cost of doing business, or restrict or prevent the use of specified products in certain locations or the sale of products by certain retail establishments. Any of these actions may also have a material adverse effect on our business. Each of our products are also subject to intense competition and changes in adult consumer preferences, which could have a material adverse effect on our business.
We are affected by extensive laws, governmental regulations, administrative determinations, court decisions and similar other constraints, which can make compliance costly and subject us to enforcement actions by governmental agencies.
The formulation, manufacturing, packaging, labeling, holding, storage, distribution, advertising and sale of our products are affected by extensive laws, governmental regulations and policies, administrative determinations, court decisions and similar constraints at the federal, state and local levels, both within the United States and in any country where we conduct business. Moreover, the current trend is toward increasing regulation of the tobacco industry, which is likely to differ between the various U.S. states in which we currently conduct the majority of our business. Extensive and inconsistent regulation by multiple states and at different governmental levels could prove to be particularly disruptive to our business as we may be unable to accommodate such regulations in a cost-effective manner that allows us to continue to compete in an economically viable way. Regulations are often introduced without the tobacco industry’s input and have been a significant reason behind reduced industry sales volumes and increased illicit trade.
There can be no assurance that we, or our independent distributors, will be in compliance with all of these regulations. A failure by us or our distributors to comply with these laws and regulations could lead to governmental investigations, civil and criminal prosecutions, administrative hearings and court proceedings, civil and criminal penalties, injunctions against product sales or advertising, civil and criminal liability for us and/or our principals, bad publicity, and tort claims arising out of governmental or judicial findings of fact or conclusions of law adverse to us or our principals. In addition, the adoption of new regulations and policies or changes in the interpretations of existing regulations and policies may result in significant new compliance costs or discontinuation of product sales, and may adversely affect the marketing of our products, resulting in decreases in revenue.
In 1986, federal legislation was enacted regulating smokeless tobacco products (including dry and moist snuff and chewing tobacco) by, among other things, requiring health warnings on smokeless tobacco packages and prohibiting the advertising of smokeless tobacco products on media subject to the jurisdiction of the Federal Communications Commission (“FCC”). Since 1986, other proposals have been made at the federal, state, and local levels for additional regulation of tobacco products. It is likely that additional proposals will be made in the coming years. For example, the Prevent All Cigarette Trafficking Act (“PACT Act”) initially prohibited the use of the U.S. Postal Service to mail cigarette and smokeless tobacco products and also amended the Jenkins Act, which established cigarette sales reporting requirements for state excise tax collection, to require individuals and businesses that make interstate sales of certain cigarette or smokeless tobacco comply with state tax laws. The PACT Act was recently amended expanding the definition of “cigarette” to include “electronic nicotine delivery systems,” or ("ENDS"), and requires that the United States Postal Service ("USPS") promulgate regulations clarifying the applicability of the prohibition on delivery sales of cigarettes to ENDS. This amendment to the PACT Act applies to certain products manufactured and sold by the Company, which has impacts at the federal and state levels. Failure to comply with the PACT Act could result in significant financial or criminal penalties. To the extent we are unable to respond to, or comply with, these new requirements, there could be a material adverse effect on our business, results of operations and financial condition.
On June 22, 2009, the Family Smoking Prevention and Tobacco Control Act (the “Tobacco Control Act”) granted the FDA regulatory authority over tobacco products. The Act also amended the Federal Cigarette Labeling and Advertising Act, which governs how cigarettes can be advertised and marketed, as well as the Comprehensive Smokeless Tobacco Health Education Act (“CSTHEA”), which governs how smokeless tobacco can be advertised and marketed. In addition to the FDA and FCC, we are subject to regulation by numerous other federal agencies, including the Federal Trade Commission (“FTC”), the Department of Justice (“DOJ”), the Alcohol and Tobacco Tax and Trade Bureau (“TTB”), the U.S. Environmental Protection Agency (“EPA”), the U.S. Department of Agriculture (“USDA”), the Consumer Product Safety Commission (“CPSC”), the U.S. Customs and Border Protection (“CBP”) and the U.S. Center for Disease Control and Prevention’s (“CDC”) Office on Smoking and Health. There have also been adverse legislative and political decisions and other unfavorable developments concerning cigarette smoking and the tobacco industry, which we believe have received widespread public attention. The FDA has, and other governmental entities have, expressed concerns about the use of flavors in tobacco products and an interest in significant regulation of such use, up to and including de facto bans in certain products. There can be no assurance as to the ultimate content, timing or effect of any regulation of tobacco products by governmental bodies, nor can there be any assurance that potential corresponding declines in demand resulting from negative media attention would not have a material adverse effect on our business, results of operations and financial condition.
Recently enacted legislative changes to the Federal Food, Drug and Cosmetic Act could materially affect sales of our Pacha Syn branded products, and if we do not file a PMTA for these products, we will not be able to market them which could materially affect our revenue and financial results.
On March 15, 2022, a new rider to the Federal Food, Drug and Cosmetic Act was passed granting the FDA authority over synthetic nicotine. These regulations make synthetic nicotine products subject to the same FDA rules as tobacco-derived nicotine products. As such, the Company must file a PMTA for its existing synthetic nicotine products marketed under the Pacha Syn brand by May 14, 2022, or be subject to FDA enforcement. Currently, the Company plans to file a PMTA for its synthetic Pacha Syn products prior to the May 14, 2022 deadline. If the PMTA is ultimately unsuccessful, or if the FDA issues a warning letter, or takes other action against the Company resulting in us not being able to distribute our Pacha Syn branded products in the United States, our revenues and, thereby our financial results and condition, could be materially adversely affected.
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The regulation of tobacco products by the FDA in the United States and the issuance of Deeming Regulations may materially adversely affect the Company.
The “Deeming Regulations” issued by the FDA in May 2016 require any e-liquid, e-cigarettes, and other vaping products considered to be Deemed Tobacco Products that were not commercially marketed as of the grandfathering date of February 15, 2007, to obtain premarket approval by the FDA before any new e-liquid or other vaping products can be marketed in the United States. However, any Deemed Tobacco Products such as certain products from our Charlie's Chalk Dust product lines that were on the market in the United States prior to August 8, 2016 have a grace period to continue to market such products, ending on September 9, 2020 whereby a premarket application, likely though the PMTA pathway, must have been filed with the FDA. Upon submission of a PMTA, products are able to be marketed pending the FDA’s review of the submission. Without obtaining marketing authorization by the FDA prior to the September 9, 2020 deadline or having submitted a PMTA by such date, non-authorized products were be required to be removed from the market in the United States until such authorization could be obtained, although such products may continue to be sold if a PMTA was pending as of the September 9, 2020 deadline.
As at the date of this Report, we have submitted PMTAs for certain of our nicotine vapor products, including, but not limited to menthol and/or tobacco products with the assistance of Avail, pursuant to the terms of the Avail Agreement. The costs to date associated with these PMTAs are approximately $4.4 million in total. We are also evaluating the potential market perception and clinical studies that may be required in connection with each PMTA. If we do not submit a PMTA for any Charlie’s products considered to be Deemed Tobacco Products prior to the lapse of the grace period or if any PMTA submitted by the Company is denied, we will be required to cease the marketing and distribution of such Charlie’s products, which, in turn, would have a material adverse effect on the Company’s business, results of operations and financial condition. Furthermore, there can be no assurance that if the Company were to complete a PMTA for any of the affected Charlie's products, that any application would be approved by the FDA.
Certain of our products contain nicotine, which is considered to be a highly addictive substance.
Certain of our products contain nicotine, a chemical found in cigarettes, e-cigarettes, certain other vapor products and other tobacco products, which is considered to be highly addictive. The Family Smoking Prevention and Tobacco Control Act empowers the FDA to regulate the amount of nicotine found in vapor products, but may not require the reduction of nicotine yields of a vapor product to zero. Any FDA regulation may require us to reformulate, recall and or discontinue certain of the products we may sell from time to time, which may have a material adverse effect on our ability to market our products and have a material adverse effect on our business, financial condition, results of operations, cash flows and or future prospects.
Recent bans on the sales of flavored e-cigarettes directly impacts the markets in which we may sell Charlie’s products, and significant increases in state and local regulation of Charlie's products have been proposed or enacted and are likely to continue to be proposed or enacted in numerous jurisdictions.
On January 2, 2020 the FDA issued an enforcement policy effectively banning the sale of flavored cartridge-based e-cigarettes marketed primarily by large manufacturers in the United States without prior authorization from the FDA. There has been increasing activity on the state and local levels with respect to scrutiny of Charlie's products, and many states, provinces, and some cities have passed laws restricting or banning the sale of e-cigarettes and certain other nicotine vaporizer products, including flavored e-liquids. State and local governmental bodies across the U.S. have indicated Charlie's products may become subject to new laws and regulations at the state and local levels. Further, some states and cities, have enacted regulations that require obtaining a tobacco retail license in order to sell electronic cigarettes and vaporizer products. If one or more states from which we generate or anticipate generating significant sales of Charlie's products bring actions to prevent us from selling Charlie's products unless we obtain certain licenses, approvals or permits, and if we are not able to obtain the necessary licenses, approvals or permits for financial reasons or otherwise and/or any such license, approval or permit is determined to be overly burdensome to us, then we may be required to cease sales and distribution of our products to those states, which could have a material adverse effect on our business, results of operations and financial condition.
Certain states and cities have already restricted the use of electronic cigarettes and vaporizer products in smoke-free venues, imposed excise taxes, or limited sales of flavored Charlie's products. Additional city, state or federal regulators, municipalities, local governments and private industry may enact additional rules and regulations restricting electronic cigarettes and vaporizer products. Because of these restrictions, our customers may reduce or otherwise cease using Charlie's products, which could have a material adverse effect on our business, results of operations and financial condition. Changes to the application of existing laws and regulations, and/or the implementation of any new laws or regulations that may be adopted in the future, at a federal, state, or local level, directly or indirectly implicating or banning flavored e-cigarette liquid and products used for the vaporization of nicotine would materially limit our ability to sell such products, result in additional compliance expenses, and require us to change our labeling and methods of distribution, any of which would have a material adverse effect on our business, results of operations and financial condition.
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There is substantial concern regarding the effect of long-term use of vaping products. Despite the recent outbreak of vaping-related lung injuries, the medical profession does not yet definitively know the cause of such injuries. Should vapor products, such as Charlie’s products, be determined conclusively to pose long-term health risks, including a risk of vaping-related lung injury, our business will be negatively impacted.
Because vapor products have been developed and commercialized recently, the medical profession has not yet had a sufficient period of time to fully realize the long-term health effects attributable to vapor product use. On November 8, 2019 officials at the CDC reported a breakthrough in the investigation into the outbreak of vaping-related lung injuries. The CDC's principal deputy director, Dr. Anne Schuchat, stated that "vitamin E acetate is a known additive used to dilute liquid in e-cigarettes or vaping products that contain THC”, suggesting the possible culprit for the series of lung injuries across the U.S. As a result, there is currently no way of knowing whether or not vapor products are safe for their intended use. If the medical profession were to determine conclusively that vapor product usage poses long-term health risks, the use of such products, including Charlie’s products, could decline, which could have a material adverse effect on our business, results of operations and financial condition.
The marketing and sale ofDelta-8-THC and other syntheticcannabinolproductsby the Company could subject it to limitations or restrictions imposed by the FDA, the states or other regulatory authorities.
The Company’s production of Delta-8-Tetrahydrocannabinol ("Delta-8-THC") and other synthetic tetrahydrocannabinol ("Synthetic THC") products derived from hemp could subject it to limitations or restrictions, which could result in an outright ban on such marketing or sale. Regulatory uncertainties regarding potential adverse changes in Federal and state laws may have a materially adverse effect on our business and the trading price of our common stock. These risks are heightened as they relate to the nicotine, marijuana, Delta-8-THC, Synthetic THC, CBD and other cannabinoid varieties, derivatives and /or equivalents which are controversial socially, scientifically and legally. In addition, although we believe that Delta-8-THC is legal under the Farm Bill, certain states have moved to ban Synthetic THC or have moved to regulate Synthetic THC as marijuana.
Notwithstanding the foregoing, the legality of hemp derived Synthetic THC is in a gray area and varies from state-to-state, with some states allowing Synthetic THC, others not addressing Synthetic THC specifically, while others have banned Synthetic THC due to its similarity to tetrahydrocannabinol. The Federal legality of Synthetic THC is still unknown, and the Federal government has yet to take a definitive position. Should the Company become subject to enforcement action by Federal, state or other regulatory agencies, it could be forced to spend significant sums defending against such enforcement action and ultimately could be forced to stop marketing and selling some or all of its Delta-8-THC products and/or be subject to other sanctions, which would have a material adverse effect on the Company’s business and shareholders’ investments.
The market for vapor products is a niche market, subject to a great deal of uncertainty, and is still evolving.
Vapor products, having recently been introduced to market, are still at an early stage of development, represent a niche market, are evolving rapidly and are characterized by an increasing number of market entrants. Our future sales and any future profits are substantially dependent upon the widespread acceptance and use of vapor products. Rapid growth in the use of, and interest in, vapor products is recent, and may not continue on a lasting basis. The demand and market acceptance for these products is subject to a high level of uncertainty. Therefore, we are subject to all of the business risks associated with a new enterprise in a niche market, including risks of unforeseen capital requirements, failure of widespread market acceptance of vapor products, in general or, specifically our products, failure to establish business relationships and competitive disadvantages as against larger and more established competitors.
Possible yet unanticipated changes in federal and state law could cause any of our current products, as well as products that we intend to launch, containing hemp-derived CBD oil to be illegal, or could otherwise prohibit, limit or restrict any of our products containing CBD.
We recently launched and commenced distribution of certain premium vapor products containing hemp-derived CBD, and we currently intend to develop and launch additional products containing hemp-derived CBD in the future. Until 2014, when 7 U.S. Code §5940 became federal law as part of the Agricultural Act of 2014 (the “2014 Farm Act”), products containing oils derived from hemp, notwithstanding a minimal or non-existing THC content, were classified as Schedule I illegal drugs. The 2014 Farm Act expired on September 30, 2018, and was thereafter replaced by the Agricultural Improvement Act of 2018 on December 20, 2018 (the “2018 Farm Act”), which amended various sections of the U.S. Code, thereby removing hemp, defined as cannabis with less than 0.3% THC, from Schedule 1 status under the Controlled Substances Act, and legalizing the cultivation and sale of industrial-hemp at the federal level, subject to compliance with certain federal requirements and state law, amongst other things. THC is the psychoactive component of plants in the cannabis family generally identified as marihuana or marijuana. There is no assurance that the 2018 Farm Act will not be repealed or amended such that our products containing hemp-derived CBD would once again be deemed illegal under federal law.
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The 2018 Farm Act delegates the authority to the states to regulate and limit the production of hemp and hemp derived products within their territories. Although many states have adopted laws and regulations that allow for the production and sale of hemp and hemp derived products under certain circumstances, no assurance can be given that such state laws may not be repealed or amended such that our intended products containing hemp-derived CBD would once again be deemed illegal under the laws of one or more states now permitting such products, which in turn would render such intended products illegal in those states under federal law even if the federal law is unchanged. In the event of either repeal of federal or of state laws and regulations, or of amendments thereto that are adverse to our intended products, we may be restricted or limited with respect to those products that we may sell or distribute, which could adversely impact our intended business plan with respect to such intended products.
Additionally, the FDA has indicated its view that certain types of products containing CBD may not be permissible under the FDCA. The FDA’s position is related to its approval of Epidiolex, a marijuana-derived prescription medicine to be available in the United States. The active ingredient in Epidiolex is CBD. On December 20, 2018, after the passage of the 2018 Farm Act, FDA Commissioner Scott Gottlieb issued a statement in which he reiterated the FDA’s position that, among other things, the FDA requires a cannabis product (hemp-derived or otherwise) that is marketed with a claim of therapeutic benefit, or with any other disease claim, to be approved by the FDA for its intended use before it may be introduced into interstate commerce and that the FDCA prohibits introducing into interstate commerce food products containing added CBD, and marketing products containing CBD as a dietary supplement, regardless of whether the substances are hemp-derived. Although we believe our existing and planned CBD product offerings comply with applicable federal and state laws and regulations, legal proceedings alleging violations of such laws could have a material adverse effect on our business, financial condition, and results of operations.
Sources of hemp-derived CBD depend upon legality of cultivation, processing, marketing and sales of products derived from those plants under state law.
Hemp-derived CBD can only be legally produced in states that have laws and regulations that allow for such production and that comply with the 2018 Farm Act, apart from state laws legalizing and regulating medical and recreational cannabis or marijuana, which remains illegal under federal law and regulations. We purchase all of our hemp-derived CBD from licensed growers and processors in states where such production is legal. As described in the preceding risk factor, in the event of repeal or amendment of laws and regulations which are now favorable to the cannabis/hemp industry in such states, we would be required to locate new suppliers in states with laws and regulations that qualify under the 2018 Farm Act. If we were to be unsuccessful in arranging new sources of supply of our raw ingredients, or if our raw ingredients were to become legally unavailable, our intended business plan with respect to such products could be adversely impacted.
Because our distributors may only sell and ship our products containing hemp-derived CBD in states that have adopted laws and regulations qualifying under the 2018 Farm Act, a reduction in the number of states having such qualifying laws and regulations could limit, restrict or otherwise preclude the sale of intended products containing hemp-derived CBD.
The interstate shipment of hemp-derived CBD from one state to another is legal only where both states have laws and regulations that allow for the production and sale of such products and that qualify under the 2018 Farm Act. Therefore, the marketing and sale of our intended products containing hemp-derived CBD is limited by such factors and is restricted to such states. Although we believe we may lawfully sell any of our finished products, including those containing CBD, in a majority of states, a repeal or adverse amendment of laws and regulations that are now favorable to the distribution, marketing and sale of finished products we intend to sell could significantly limit, restrict or prevent us from generating revenue related to our products that contain hemp-derived CBD. Any such repeal or adverse amendment of now favorable laws and regulations could have an adverse impact on our business plan with respect to such products.
Due to recent expansion into the CBD industry, we may have a difficult time obtaining the various insurances that are desired to operate our business, which may expose us to additional risk and financial liability.
Insurance that is otherwise readily available, such as general liability, and directors and officer’s insurance, may become more difficult for us to find, and more expensive, due to our recent launch of certain products containing hemp-derived CBD. There are no guarantees that we will be able to find such insurances in the future, or that the cost will be affordable to us. If we are forced to go without such insurances, it may prevent us from entering into certain business sectors, may inhibit our growth, and may expose us to additional risk and financial liabilities.
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We face significant competition from existing suppliers of products similar to ours. If we are not able to compete with these companies effectively, we may not be able to achieve profitability.
We face intense competition from numerous resellers, manufacturers and wholesalers of vapor products similar to those developed and sold by us, from both retail and online providers. We face competition from direct and indirect competitors, which arguably includes “big tobacco”, “big pharma”, and other known and established or yet to be formed vapor product manufacturing companies, each of whom pose a competitive threat to our current business and future prospects. We compete against “big tobacco”, who offers not only conventional tobacco cigarettes and electronic cigarettes, but also smokeless tobacco products such as “snus” (a form of moist ground smokeless tobacco that is usually sold in sachet form that resembles small tea bags), chewing tobacco and snuff. “Big tobacco” has nearly limitless resources, global distribution networks in place and a customer base that is fiercely loyal to their brands. Furthermore, we believe that “big tobacco” is likely to devote more attention and resources to developing and offering electronic cigarettes or other vapor products as the market for electronic cigarettes grows. Because of their well-established sales and distribution channels, marketing depth, financial resources, and proven expertise navigating complex regulatory landscapes, “big tobacco” is better positioned than small competitors like us to capture a larger share of the vapor markets. We also face competition from companies in the vapor market that are much larger, better funded, and more established than us.
Companies with greater capital and research capabilities could re-formulate existing products or formulate new products that could gain wide marketplace acceptance, which could have a depressive effect on our future sales. In addition, aggressive advertising and promotion by our competitors may require us to compete by lowering prices because we do not have the resources to engage in marketing campaigns against these competitors, and the economic viability of our operations likely would be diminished.
Adverse publicity associated with our products or ingredients, or those of similar companies, could adversely affect our sales and revenue.
Adverse publicity concerning any actual or purported failure by us to comply with applicable laws and regulations regarding any aspect of our business could have an adverse effect on the public perception of the Company. This, in turn, could negatively affect our ability to obtain financing, endorsers and attract distributors or retailers for our products, which would have a material adverse effect on our ability to generate sales and revenue.
Our distributors’ and customers’ perception of the safety and quality of our products or even similar products distributed by others can be significantly influenced by national media attention, publicized scientific research or findings, product liability claims and other publicity concerning our products or similar products distributed by others. Adverse publicity, whether or not accurate, that associates consumption of our products or any similar products with illness or other adverse effects, will likely diminish the public’s perception of our products. Claims that any products are ineffective, inappropriately labeled or have inaccurate instructions as to their use, could have a material adverse effect on the market demand for our products, including reducing our sales and revenue.
Our products may not meet health and safety standards or could become contaminated.
We have adopted various quality, environmental, health and safety standards. We do not have control over all of the third parties involved in the manufacturing of our products and their compliance with government health and safety standards. Even if our products meet these standards, they could otherwise become contaminated. A failure to meet these standards or contamination could occur in our operations or those of our manufacturers, distributors or suppliers. This could result in expensive production interruptions, recalls and liability claims. Moreover, negative publicity could be generated from false, unfounded or nominal liability claims or limited recalls. Any of these failures or occurrences could negatively affect our business and financial performance.
The sale of our products involves product liability and related risks that could expose us to significant insurance and loss expense.
We face an inherent risk of exposure to product liability claims if the use of our products results in, or is believed to have resulted in, illness or injury. Our products contain combinations of ingredients, and there is little long-term experience with the effect of these combinations. In addition, interactions of these products with other products, prescription medicines and over-the-counter drugs have not been fully explored or understood and may have unintended consequences. While our third-party manufacturers perform tests in connection with the formulations of our products, these tests are not designed to evaluate the inherent safety of our products.
Any product liability claim may increase our costs and adversely affect our revenue and operating income. Moreover, liability claims arising from a serious adverse event may increase our costs through higher insurance premiums and deductibles and may make it more difficult to secure adequate insurance coverage in the future. In addition, our product liability insurance may fail to cover future product liability claims, which, if adversely determined, could subject us to substantial monetary damages.
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The success of our business will depend upon our ability to create and expand our brand awareness.
The market we compete in is highly competitive, with many well-known brands leading the industry. Our ability to compete effectively and generate revenue will be based upon our ability to create and expand awareness of our products distinct from those of our competitors. It is imperative that we are able to convey to consumers the benefits of our products. However, advertising and packaging and labeling of such products will be limited by various regulations. Our success will be dependent upon our ability to convey to consumers that our products are superior to those of our competitors.
We must develop and introduce new products to succeed.
Our industry is subject to rapid change. New products are constantly introduced to the market. Our ability to remain competitive depends in part on our ability to enhance existing products, to develop and manufacture new products in a timely and cost-effective manner, to accurately predict market transitions, and to effectively market our products. Our future financial results will depend to a great extent on the successful introduction of several new products. We cannot be certain that we will be successful in selecting, developing, manufacturing and marketing new products or in enhancing existing products.
The success of new product introductions depends on various factors, including, without limitation, the following:
● proper new product selection;
● successful sales and marketing efforts;
● timely delivery of new products;
● availability of raw materials;
● pricing of raw materials;
● regulatory allowance of the products; and
● customer acceptance of new products.
If we are not able to adequately protect our intellectual property, then we may not be able to compete effectively, and we may not be profitable.
Our existing proprietary rights may not afford remedies and protections necessary to prevent infringement, reformulation, theft, misappropriation and other improper use of our products by competitors. We own the formulations for our products and we consider these product formulations our critical proprietary property, which must be protected from competitors. We do not currently have any patents for our product formulations. Although trade secret, trademark, copyright and patent laws generally provide a certain level of protection, and we attempt to protect ourselves through contracts with manufacturers of our products, we may not be successful in enforcing our rights. In addition, enforcement of our proprietary rights may require lengthy and expensive litigation. We have attempted to protect some of the trade names and trademarks used for our products by registering them with the United States Patent and Trademark Office, but we must rely on common law trademark rights to protect our unregistered trademarks. Common law trademark rights do not provide the same remedies as are granted to federally registered trademarks, and the rights of a common law trademark are limited to the geographic area in which the trademark is actually used. Our inability to protect our intellectual property could have a material adverse impact on our ability to compete and could make it difficult for us to achieve a profit.
Compliance with changing corporate governance regulations and public disclosures may result in additional risks and exposures.
Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002 and new regulations from the SEC, have created uncertainty for public companies such as ours. These laws, regulations, and standards are subject to varying interpretations in many cases, and as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. As a result, our efforts to comply with evolving laws, regulations, and standards have resulted in, and are likely to continue to result in, increased expense and significant management time and attention.
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Risks Related to Our Common Stock
A limited trading market currently exists for our securities, and we cannot assure you that an active market will ever develop, or if developed, will be sustained.
There is currently a limited trading market for our Common Stock on the OTCQB Venture Market and an active trading market for our Common Stock may not develop. Consequently, we cannot assure you when and if an active-trading market in our shares will be established, or whether any such market will be sustained or sufficiently liquid to enable holders of shares of our Common Stock to liquidate their investment in our Company. If an active public market should develop in the future, the sale of unregistered and restricted securities by current stockholders may have a substantial impact on any such market.
Sales of a substantial number of shares of our Common Stock, or the perception that such sales may occur, may adversely impact the price of our Common Stock.
Sales of a substantial number of shares of our Common Stock in the public market could occur at any time. These sales, or the perception that such sales may occur, may adversely impact the price of our Common Stock, even if there is no relationship between such sales and the performance of our business. As of December 31, 2021, we had 210,890,930 shares of Common Stock outstanding, as well as outstanding options to purchase an aggregate of 7,122,937 shares of our Common Stock at a weighted average exercise price of $0.5417 per share, up to 32,016,491 shares of Common Stock issuable upon conversion of outstanding shares of Series A Preferred and outstanding warrants to purchase up to an aggregate of 40,424,000 shares of our Common Stock at a weighted average exercise price of $0.44313 per share. The exercise and/or conversion of such outstanding derivative securities may result in further dilution to our stockholders.
If we issue additional shares of Common Stock in the future, it will result in the dilution of our existing stockholders.
Our Charter currently authorizes the issuance of up to 500.0 million shares of Common Stock, of which approximately 216,840,987 million shares are issued and outstanding as of April 12, 2022. In addition, we have reserved approximately 79.5 million shares for issuance upon conversion and/or exercise of our outstanding shares of Series A Preferred, warrants and stock options, as well as for issuance as awards under our 2019 Omnibus Incentive Plan. The issuance of any additional shares of our Common Stock, including those shares issuable upon conversion and/or exercise of our outstanding derivative securities, will result in significant dilution to our stockholders and a reduction in value of our outstanding Common Stock. Further, any such issuance may result in a change of control of our corporation.
Holders of Series A Convertible Preferred have substantial rights and it ranks senior to our Common Stock.
Our Common Stock ranks junior as to dividend rights, redemption rights, conversion rights and rights in any liquidation, dissolution or winding-up of the Company to the Series A Preferred. Upon liquidation, dissolution or winding-up of the Company, the holders of the Series A Preferred are entitled to a liquidation preference equal to the original purchase price of Series A Preferred prior to and in preference to any distribution to the holders of our Common Stock. Such rights could cause dilution of our Common Stock or limit our cash.
Our outstanding Series A Preferred contains anti-dilution provisions that, if triggered, could cause substantial dilution to our then-existing holders of Common Stock which could adversely affect our stock price.
Our outstanding Series A Preferred contains certain anti-dilution provisions that benefit the holders thereof. As a result, if we, in the future, issue Common Stock or grant any rights to purchase our Common Stock or other securities convertible into our Common Stock for a per share price less than the then existing conversion price of the Series A Preferred, an adjustment to the then current conversion price would occur. This reduction in the conversion price could result in substantial dilution to our then-existing holders of Common Stock as well as give rise to a beneficial conversion feature reported on our statement of operations. Either or both of which could adversely affect the price of our Common Stock.
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The price of our securities could be subject to wide fluctuations and your investment could decline in value.
The market price of the securities of a company such as ours with little name recognition in the financial community can be subject to wide price swings. The market price of our Common Stock may be subject to wide changes in response to quarterly variations in operating results, announcements of new products by us or our competitors, reports by securities analysts, volume trading, or other events or factors. In addition, the financial markets have experienced significant price and volume fluctuations for a number of reasons, including the failure of certain companies to meet market expectations. These broad market price swings, or any industry-specific market fluctuations, may adversely affect the market price of our securities.
Companies that have experienced volatility in the market price of their stock have been the subject of securities class action litigation. If we were to become the subject of securities class action litigation, it could result in substantial costs and a significant diversion of our management’s attention and resources.
Because our Common Stock may be classified as “penny stock”, trading may be limited, and the share price could decline. Moreover, trading of our Common Stock, if any, may be limited because broker-dealers would be required to provide their customers with disclosure documents prior to allowing them to participate in transactions involving our Common Stock. These disclosure requirements are burdensome to broker-dealers and may discourage them from allowing their customers to participate in transactions involving our Common Stock.
We have issued Preferred Stock with rights senior to our Common Stock, and may issue additional Preferred Stock in the future.
Our Charter authorizes the issuance of up to 5.0 million shares of Preferred Stock without stockholder approval and on terms established by our Board of Directors, of which 300,000 shares have been designated as Series A Preferred and 1.5 million shares have been designated as Series B Preferred. We may issue additional shares of Preferred Stock in the future in order to consummate a financing or other transaction, in lieu of the issuance of shares of our Common Stock. The rights and preferences of any such class or series of Preferred Stock would be established by our Board of Directors in its sole discretion and may have dividend, voting, liquidation and other rights and preferences that are senior to the rights of the Common Stock.
Our Amended and Restated Bylaws designate courts within the state of Nevada as the sole and exclusive forum for certain types of actions and proceedings that may be initiated by our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, employees or agents.
Our Amended and Restated Bylaws (“Bylaws”) require that, to the fullest extent permitted by law, and unless the Company consents in writing to the selection of an alternative forum, a state court located within the State of Nevada (or, if no state court located within the State of Nevada has jurisdiction, the federal district court for the District of Nevada), will, to the fullest extent permitted by law, be the sole and exclusive forum for each of the following:
● any derivative action or proceeding brought on behalf of the Company;
Because the applicability of the exclusive forum provision is limited to the extent permitted by law, we believe that the exclusive forum provision would not apply to suits brought to enforce any duty or liability created by the Exchange Act, or any other claim for which the federal courts have exclusive jurisdiction, and that federal courts have concurrent jurisdiction over all suits brought to enforce any duty or liability created by the Securities Act of 1933, as amended (“Securities Act”). We note that there is uncertainty as to whether a court would enforce the provision and that investors cannot waive compliance with the federal securities laws and the rules and regulations thereunder. Although we believe this provision benefits us by providing increased consistency in the application of Nevada law in the types of lawsuits to which it applies, the provision may have the effect of discouraging lawsuits against our directors and officers.
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You may not be able to hold our securities in your regular brokerage account.
In the case of publicly traded companies, it is common for a broker to hold securities on your behalf, in “street name” (meaning the broker is shown as the holder on the issuer’s records and then you show up on the broker’s records as the person the broker is holding for). Due to regulatory uncertainties, certain brokers may not agree to hold securities of companies whose products include hemp-derived CBD for their customers, meaning that you may not be able to take advantage of the convenience of having all your holdings reflected in one place.
You should not rely on an investment in our Common Stock for the payment of cash dividends.
Because of our previous significant operating losses and because we intend to retain future profits, if any, to expand our business, we have never paid cash dividends on our Common Stock and do not anticipate paying any cash dividends in the foreseeable future. You should not make an investment in our Common Stock if you require dividend income. Any return on investment in our Common Stock would only come from an increase in the market price of our stock, which is uncertain and unpredictable.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2. PROPERTIES
Facilities
The Company leases office space that expires on various dates through 2024. All of the Company’s lease liabilities result from the lease of its warehouse in Santa Ana, California, which expired in 2021, its office and warehouse in Denver, Colorado, which expires in 2022, its warehouse space in Huntington Beach, California, which expires in 2022, and its corporate headquarters in Costa Mesa, California which expires in 2024. Management believes that the Company's sites are adequate to support the business and suitable for present purposes and the properties and equipment have been well maintained.
Insurance
We maintain commercial general liability insurance, including product liability coverage, and property insurance. The Charlie’s policy provided for a general liability limit of $1.0 million per occurrence and $2.0 million in annual aggregate coverage. The Don Polly policy provided for a general liability limit of $6.0 million per occurrence and $7.0 million in annual aggregate coverage. We also maintain Director's and Officer's insurance.
ITEM 3. LEGAL PROCEEDINGS
From time to time, claims are made against the Company in the ordinary course of business, which could result in litigation. Claims and associated litigation are subject to inherent uncertainties, and unfavorable outcomes could occur. In the opinion of management, the resolution of these matters, if any, will not have a material adverse impact on the Company’s financial position or results of operations. There are no additional pending or threatened legal proceedings at this time.
ITEM 4. MINE SAFETY DISCLOSURES
None.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the OTCQB Venture Marketplace under the symbol “CHUC”. Prior to August 3, 2021, our common stock was traded on the OTC Pink Marketplace under the symbol "CHUC", and prior to July 3, 2019, our common stock was traded on the OTC Pink Marketplace under the symbol “TRUU”.
The following table sets forth high and low sales prices for our common stock for the calendar quarters indicated as reported by the OTCQB Venture Marketplace. These prices represent quotations between dealers without adjustment for retail markup, markdown, or commission and may not represent actual transactions.
High Low
Holders
As of April 12, 2022, there were 216,840,987 shares of our common stock outstanding, and approximately 4,200 stockholders of record. As of April 12, 2022, there were 141,123 shares of our Series A Preferred outstanding held by 95 stockholders of record.
Transfer Agent
Our Transfer Agent and Registrar for our common stock is Continental Stock Transfer and Trust located in New York, New York.
ITEM 6. SELECTED FINANCIAL DATA
As a “smaller reporting company”, as defined by the rules and regulations of the SEC, we are not required to provide this information.
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis in conjunction with our financial statements, including the notes thereto contained in this Annual Report. This discussion contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of a variety of certain factors, including those set forth under “Risk Factors Associated with Our Business” and elsewhere in this Annual Report.
Overview
Our objective is to become a significant leader in the rapidly growing, global e-cigarette and e-liquid segments of the broader nicotine related products industry. Through Charlie’s, we formulate, market and distribute premium, nicotine-based vapor products. Charlie’s products are produced through contract manufacturers for sale through select distributors, specialty retailers and third-party online resellers throughout the United States, and in more than 80 countries worldwide. Charlie’s primary international markets include the United Kingdom, Italy, Spain, New Zealand, Australia, and Canada. In June 2019, we launched distribution, through Don Polly, of certain premium vapor, tincture and topical wellness products containing hemp-derived cannabidiol (“CBD”) and we currently intend to develop and launch additional products containing other compounds derived from hemp in the future.
Operational Plan
Considering industry-specific hurdles, as well as the potential for future regulatory changes, management has targeted opportunities for growth and has adopted the following operational plan.
First, we plan to increase the sales of our hemp-derived products, including topicals, ingestibles and disposable vapor devices. We feel there is a significant upside in the hemp-derived products space, and we have begun to shift our focus in this business to the burgeoning market for products containing compounds synthetically derived from hemp, including Delta-8-Tetrahydrocannabinol ("Delta-8-THC") and other synthetic tetrahydrocannabinol ("Synthetic THC") compounds. These product categories have grown rapidly, as they offer consumers a range of benefits across varying potencies and product formats. We have also recently allocated additional financial resources to increase e-commerce sales of certain of our hemp-derived products.
Secondly, we continue to see a significant opportunity for sales growth in international markets for our e-liquid and other vapor products. Presently, approximately 17% of our vapor product sales come from the international market and we are well positioned to increase sales in countries where we already have presence, and in additional overseas markets, as we have already built an international distribution platform. We have recently hired an Account Executive who will be dedicated to driving our efforts in international expansion. More specifically, the Company intends to launch proprietary new disposables, containing synthetically derived nicotine, that have been specially formulated for the European and Middle East markets. In partnership with our international distributors, Charlie’s will sell award winning products in markets where more than 20% of the population currently consumes nicotine in some format.
Most importantly, we feel that tobacco and synthetically derived nicotine vapor products will continue to provide a significant growth opportunity domestically. During the quarter ended March 31, 2021, we launched our synthetic nicotine (not derived from tobacco) Pacha Syn (formerly Pachamama Disposable) product line, which will provide access to additional sales channels and broaden our customer base. These innovative product formats currently represent Charlie’s most important, fastest-growing product category. We are continuing with our plan to obtain marketing authorization for certain of our nicotine vapor products through the completion of a Premarket Tobacco Application (“PMTA”), which we submitted in September 2020. Obtaining a marketing order from the FDA would, we believe, help to remediate perceived health issues related to vaping, and further position the Company as a trusted, industry leader. We feel that a significant number of our competitors will not have the necessary resources and/or expertise to complete the extensive and costly PMTA process and that, once authorized by the FDA, we will benefit significantly by emerging as one of a select group of companies able to continue operating in the flavored vapor products space.
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Impact of COVID-19
The outbreak of a novel strain of coronavirus (“COVID-19”, or, “Coronavirus”) has had, and continues to have, a negative impact on the global economy and the markets in which we operate. Beginning in March 2020, the Company transitioned nearly all employees to a remote working environment for their safety and to protect the integrity of Company operations. We have updated certain sales, accounting and administrative processes, and corresponding information technology platforms, in an effort to help facilitate the virtual work environment which still persists for some employees. During the year ended December 31, 2021, we engaged in periodic, informal testing of our business operations, and we do not believe that our financial position, work efficiency and overall operational integrity have been materially affected. However, we recognize that a certain degree of employee enthusiasm, teamwork, creativity, and support is normally generated by being present at a physical location, and we believe that prolonged remote working may have a negative impact over time on our business, and on employee productivity. Our Denver, CO office and Huntington Beach, CA warehouse locations have returned fully to on “premise status”, while our corporate headquarters in Costa Mesa, CA remains remote for some employees. We will continue to monitor the COVID-19 situation in all regions in which we operate and will maintain strict adherence to local health guidelines and mandates. We may need to take further actions that we determine are in the best interests of our employees or are required by federal, state, or local authorities.
Supply Chain
Our ability to manufacture products is dependent on the availability of certain raw materials and components that our contract manufacturers purchase from Europe and China. In February 2020, we started to experience disruptions across several key areas of our global supply chain. Our domestic and international contract manufacturers source many of our high-quality flavorings from suppliers located in Italy, a region that was severely affected by COVID-19-related restrictions throughout most of 2020. Mandated stay-at-home orders in this region ultimately caused increased manufacturing lead times and delayed customer order deliveries for certain of our products, resulting in revenue declines.
We have been successful in mitigating some of the supply chain risks through bulk purchases of certain flavorings and components and adjusting the production allocation amongst our contract manufacturers. Shifting production to contract manufacturers in regions with fewer restrictions and/or an enhanced ability to procure larger supplies of raw materials has helped alleviate disruptions in our supply chain.
Certain of our products are sourced from China and require delivery to our warehouse locations in the United States prior to shipment to customers. Although we currently use air freight for Chinese shipments, ongoing disruptions in the global supply chain could continue to affect the costs associated with such shipments and could put additional pressure on our sales and margins.
If a resurgence of COVID-19 and associated shutdowns were to occur in Europe or China, this would likely have an adverse effect on our ability to manufacture and sell our products due to related shortages of materials and components. Depending on the severity of any such future shutdowns, we could experience a materially diminished ability to produce products and be exposed to significantly longer lead times. This would result in delayed or reduced revenue from the affected products in production and potentially higher operating costs.
Sales and Marketing
Our sales and marketing efforts have also been directly and indirectly affected by COVID-19. Most of our sales through Charlie’s and Don Polly are to resellers of our products, typically distributors or brick and mortar retail locations. Stay-at-home mandates across the U.S. and internationally created a challenge for these customers to maintain continuity in their businesses, and therefore we experienced lower sales volumes in some regions. Periodic labor shortages, indirectly related to COVID-19, have also influenced our customers’ ability to operate their businesses effectively. We’ve since seen activity approach pre-pandemic levels, however a resurgence of COVID-19, causing subsequent shutdowns and labor shortages, could have a significant effect on our business.
Historically, most of our business-to-business sales and marketing efforts have been generated through industry events in both the vapor products and hemp-derived products spaces. During 2019, we also initiated a program of in-store marketing events to help facilitate relationship building and sell-through for our retail partners. Beginning in 2020, the suspension of certain trade shows and disruption of business travel weakened our new customer pipeline, which negatively affected our sales during the years ended December 31, 2021 and 2020. Though trade show activity has since rebounded, it remains uncertain how the effects of COVID-19 will persist and what effect they will have on our sales and marketing efforts. In response, we have shifted some of our focus to digital marketing campaigns aimed at customer engagement and education. We also continue to allocate additional resources towards certain key distributors and retail partners that are better positioned to interact directly with our consumers and to continue growing our brands.
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Risks and Uncertainties
The Company operates in an environment that is subject to rapid changes and developments in laws and regulations that could have a significant impact on the Company’s ability to sell its products. Federal, state, and local governmental bodies across the United States have indicated that flavored e-cigarette liquid, vaporization products and certain other consumption accessories may become subject to new laws and regulations at the federal, state and local levels. Beginning in September 2019, certain states temporarily banned the sale of flavored e-cigarettes, and on January 2, 2020, the FDA issued an enforcement policy effectively banning the sale of flavored cartridge-based e-cigarettes marketed primarily by large manufacturers without prior authorization from the FDA. The application of any new laws or regulations that may be adopted in the future, at a federal, state, or local level, directly or indirectly implicating flavored e-cigarette liquid and products used for the vaporization of nicotine could significantly limit the Company’s ability to sell such products, result in additional compliance expenses, and/or require the Company to change its labeling and/or methods of distribution. Any ban of the sale of flavored e-cigarettes directly limits the markets in which the Company may sell its products. In the event the prevalence of such bans and/or changes in laws and regulations increase across the United States, or internationally, the Company’s business, results of operations and financial condition could be adversely impacted. In addition, the Company is presently seeking to obtain marketing authorization for certain of its nicotine based vapor products. Our PMTA applications were submitted in September 2020 on a timely basis, which if approved, will allow the Company to continue to sell certain of its products in the United States. At this date, Charlie’s PMTA remains among the select minority of applications submitted to the FDA that has not received an MDO or Refuse-to-File designation. However, it is possible that the FDA will request additional information or that the Company will need to amend its PMTA at some point in the future. The Company may also require additional financing in the future to support potential PMTA related expenses and general working capital. There is no assurance that regulatory approval to sell our products will be granted or that we can raise the additional financing required, and if not, this could have a significant impact on our sales.
On March 11, 2020, the World Health Organization designated the ongoing and evolving COVID-19 outbreak as a pandemic. The outbreak has caused substantial disruption in international and U.S. economies and markets as it continues to evolve. The outbreak is having a temporary adverse impact on our industry as well as our business, with regards to certain supply chain disruptions and sales volume. While the disruption from COVID-19 is currently expected to be temporary, there is uncertainty around the duration.
Recent Developments
Resignation of Brandon Stump
On October 29, 2021, Brandon Stump resigned from his position as: (i) Chief Executive Officer and Chairman of the Board of Directors; and (ii) all positions held for each direct and indirect subsidiary of the Company (each, a "Subsidiary"), including as a member of the Board of Directors of the Company and each Subsidiary.
In connection with Mr. Stump's resignation, the Company and Mr. Stump entered into an agreement regarding Mr. Stump's resignation (the "Termination Agreement"), which Termination Agreement is dated October 29, 2021. Pursuant to the Termination Agreement, in consideration for Mr. Stump agreeing to terminate his employment agreement with the Company, as amended and restated on February 12, 2020 (the "Employment Agreement"), and agreeing to certain restrictions and covenants, the Company will: (i) continue to pay Mr. Stump his base salary (as defined in the Employment Agreement), through April 22, 2022; (ii) pay Mr. Stump certain bonus compensation owed to Mr. Stump in an amount equal to $300,000, payable in installments of $75,000 on each of November 1, 2021, December 1, 2021, January 1, 2022, and February 1, 2022; and (iii) continue to make available to Mr. Stump certain employee benefits offered by the Company until April 22, 2022.
Reverse Stock Split
Our Board of Directors approved a reverse stock split of our authorized, issued, and outstanding shares of common stock, par value $0.001 per share (the “Common Stock”), at a ratio of 1-for-100 (the “Reverse Split”). The Reverse Split was effective as of June 16, 2021 (the “Effective Date”). All share and per share amounts in this Report have been retroactively adjusted to account for the reverse stock split.
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March 2021 Private Placement
On March 19, 2021, the Company entered into Securities Purchase Agreements by and between the Company and certain family trusts in which Mr. Brandon Stump, the Company's former Chief Executive Officer and significant shareholder of the Company, and Mr. Ryan Stump, the Company's Chief Operating Officer, are trustees and beneficiaries (the "Purchase Agreements"), for the private placement of an aggregate of 3,517,000 shares of its Common Stock, at a purchase price per share of $0.853 (the "Private Placement"), which Private Placement was consummated on March 22, 2021. The Private Placement resulted in gross proceeds to the Company of approximately $3.0 million. The Private Placement was undertaken pursuant to Rule 506 promulgated under the Securities Act of 1933, as amended, and was consummated in a transaction approved by the Company's independent directors in accordance with Rule 16b-3(d)(1) of the Securities Exchange Act of 1934, as amended.
Red Beard Holdings, LLC Note Payable
On April 1, 2020, the Company, Charlie's and its VIE, Don Polly, issued a secured promissory note (the "Red Beard Note") to one of the Company's largest stockholders, Red Beard Holdings, LLC ("Red Beard") in the principal amount of $750,000 (the "Principal Amount"), requiring a guaranteed minimum interest amount of $75,000 (“Minimum Interest”). The Red Beard Note is secured by all assets of the Company pursuant to the terms of a Security Agreement entered into by and between the Company and Red Beard (the "Red Beard Note Financing"). The Red Beard Note was subsequently amended on August 27, 2020, September 30, 2020, October 29, 2020, December 1, 2020, and January 19, 2021, ultimately increasing Principal Amount to $1.4 million and Minimum Interest to $150,000.
On March 24, 2021, the Company and Red Beard entered into a Satisfaction and Release (the "Red Beard Release"), pursuant to which the Company made a payment to Red Beard in the amount of $1.55 million in exchange for an acknowledgment of satisfaction and full release of the Company by Red Beard from liability and obligations arising under the Red Beard Note.
Small Business Administration Loan Programs
On April 30, 2020, Charlie's, a wholly owned subsidiary of the Company, received approval to enter into a U.S. Small Business Administration ("SBA") Promissory Note (the " Charlie's PPP Loan") with TBK Bank, SSB (the "SBA Lender"), pursuant to the Paycheck Protection Program ("PPP") of the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act") as administered by the SBA (the "PPP Loan Agreement").
The Charlie's PPP Loan provided for working capital to CCD in the amount of $650,761. The Charlie's PPP Loan was set to mature on April 30, 2022 and accrued interest at a rate of 1.00% per annum. Payments of principal and interest were deferred for six months from the date of the Charlie's PPP Loan, or until November 30, 2020. Interest, however, continued to accrue during that time.
On April 14, 2020, Don Polly also obtained a loan pursuant to the PPP enacted under the CARES Act (the "Polly PPP Loan" and together with the Charlie's PPP Loan, the "PPP Loans") from Community Banks of Colorado, a division of NBH Bank (the "Polly Lender"). The Polly PPP Loan obtained by Don Polly provided for working capital to Don Polly in the amount of $215,600. The Polly PPP Loan was set to mature on April 14, 2022 and accrued interest at a rate of 1.00% per annum. Payments of principal and interest were deferred for six months from the date of the Polly PPP Loan, or until November 14, 2020. Interest continued to accrue during that time.
The aforementioned PPP Loans were made under the PPP enacted by Congress under the CARES Act. The CARES Act (including the guidance issued by SBA and U.S. Department of the Treasury) provides that all or a portion of the PPP Loans may be forgiven upon request from the respective borrower to the SBA Lender or the Polly Lender, as the case may be, subject to requirements in the PPP Loans and under the CARES Act.
On February 19, 2021, Don Polly received notice from the Polly Lender, that the Polly PPP Loan was fully repaid, and its promissory note was cancelled as a result of the loan forgiveness process set forth by the U.S. Small Business Administration. There is no further action required on the part of Don Polly to satisfy this liability.
On March 17, 2021, Don Polly obtained a second draw PPP loan (“Polly PPP Loan 2”) under the CARES Act from Polly Lender. The Polly PPP Loan 2 obtained by Don Polly provided general working capital in the amount of $184,200. The Polly PPP Loan 2 was set to mature on March 17, 2026 and accrued interest at a rate of 1.00% per annum. Payments of principal and interest were deferred, however interest continued to accrue during that time.
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On April 28, 2021, Charlie’s received notice from SBA Lender that the Charlie’s PPP Loan was fully repaid, and its promissory note was cancelled as a result of the loan forgiveness process set forth by the U.S. Small Business Administration. There is no further action required on the part of Charlie’s to satisfy this liability.
On November 9, 2021, Don Polly received notice from the Polly Lender, that the Polly PPP Loan 2 was fully repaid, and its promissory note was cancelled as a result of the loan forgiveness process set forth by the U.S. Small Business Administration. There is no further action required on the part of Don Polly to satisfy this liability.
On June 24, 2020, SBA authorized (under Section 7(b) of the Small Business Act, as amended) an Economic Injury Disaster Loan (“EID Loan”) to Don Polly in the amount of $150,000. Installment payments, including principal and interest of $731 monthly will begin twelve months from date of the EID Loan. The balance of principal and interest will be payable thirty years from the date of the EID Loan and interest will accrue at the rate of 3.75% per annum.
PMTA
During the quarter ended September 30, 2020, the FDA's Center for Tobacco Products informed us that our PMTA has received a valid submission tracking number, passed the FDA’s filing review phase, and recently entered the substantive review phase. To date, Charlie’s has invested over $4.4 million for our initial PMTA submission. We engaged a team of more than 200 professionals, including doctors, scientists, biostatisticians, data analysts, and numerous contract research organizations to create our comprehensive PMTA submission. During the quarter ended September 30, 2021, the FDA began issuing Marketing Denial Orders (“MDO”) for electronic nicotine delivery system (“ENDS”) products that lack evidence to demonstrate that permitting the marketing of such products would be appropriate for the protection of the public health. As of December 31, 2021, the Company had not received an MDO for any of its submissions. This news highlights our progress toward achieving full regulatory compliance and our objective of providing customers with a trusted product portfolio.
Basis of Presentation
The consolidated financial statements contained within this Annual Report and the disclosure in this Management’s Discussion and Analysis of Financial Condition and Results of Operations with respect to the years ended December 31, 2021 and 2020 have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). In the opinion of the Company, all adjustments, including normal recurring adjustments necessary to present fairly the financial position, results of operations, and cash flows of the Company for the interim period have been included.
Results of Operations for the Year Ended December 31, 2021 Compared to the Year Ended December 31, 2020
For the years ended
December 31, Change
($ in thousands)
Revenues:
Operating costs and expenses:
Other income (expense):
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Revenue
Revenue for the year ended December 31, 2021, increased approximately $4,804,000, or 28.8%, to approximately $21,496,000, as compared to approximately $16,692,000 for the year ended December 31, 2020, due to a $4,420,000 increase in our nicotine-based product sales, and a $384,000 increase in sales of our hemp-derived products. The increase in our nicotine-based vapor product sales is directly related to the launch of our Pacha Syn (formerly Pachamama Disposable) product line, which currently represents Charlie’s most important, fastest-growing product category. Pacha Syn Disposables became Charlie’s first-ever entrant into the rapidly expanding, disposable e-cigarette market and offer users a variety of premium flavors containing synthetic nicotine (not derived from tobacco) in a compact, discrete format. Uncertainty surrounding the FDA’s application review timeline, following the PMTA submission deadline, affected buying patterns of tobacco-derived nicotine products in the domestic vape market as customers reduced inventories of non-PMTA submitted products. In December 2020, the Prevent All Cigarette Tracking Act (“PACT Act”) was signed into law which requires that the United States Postal Service ("USPS") promulgate regulations clarifying the applicability of the prohibition on delivery sales of cigarettes to ENDS products. The resulting shipping and logistical challenges that ensued, affected industry-wide sales to consumers and smaller, single-location resellers.
During the quarter ended March 31, 2021, we began to streamline our existing hemp-derived wellness product offering and pursue the developing market for products containing synthetically-derived cannabinoids, including Delta-8-THC and other Synthetic THC compounds. The addition of these new product categories, coupled with a narrowed focus in our existing portfolio, resulted in higher sales velocity and overall growth compared to the year ended December 31, 2020. We view this market segment as having higher growth potential and better alignment with our existing sales channels, and therefore, we will continue to develop and launch additional products in this category.
Cost of Revenue
Cost of revenue, which consists of direct costs of materials, direct labor, third party subcontractor services, and other overhead costs increased approximately $2,945,000 or 39.4%, to approximately $10,423,000, or 48.5% of revenue, for the year ended December 31, 2021, as compared to approximately $7,478,000, or 44.8% of revenue, for the year ended December 31, 2020. This cost, as a percent of revenue, increased due to a higher sales mix consisting of our Pacha Syn Disposable product line, which carries a lower margin per unit relative to our other vapor products. Cost of revenue was also negatively affected by a larger than normal provision for inventory obsolescence during the period related to certain of our hemp-derived wellness products, as well as higher per unit shipping costs due to implications of the Pact Act.
General and Administrative Expense
For the year ended December 31, 2021, total general and administrative expense decreased approximately $2,123,000 to approximately $8,750,000, or 40.7% of revenue, as compared to approximately $10,873,000, or 65.1% of revenue, for the year ended December 31, 2020. This decrease is primarily comprised of reductions of approximately $2,519,000 of non-cash stock-based compensation as well as $418,000 of salary and benefits expenses. The reduction in non-cash stock-based compensation is primarily due to the forfeiture of stock awards by Brandon Stump and Ryan Stump pursuant to the adoption of the Amended Employment Agreements entered February 12, 2020, as well as the conclusion of the vesting period for shares of Common Stock awarded to several employees in conjunction with the Share Exchange in April 2019. The decrease in salary and benefits costs is the result of lower overall salary expenses, Paid-Time-Off benefits and employee bonuses. This overall decrease in total general and administrative expense was offset by increases of $442,000 in professional fees as well as $372,000 of other general administrative expenses. The increase in professional fees was largely the result of several internal projects largely focused on the creation of a solution “network” necessary to effectively meet the requirements of both the Consolidated Appropriations Act of 2021 and the PACT Act as well as costs associated with certain corporate actions including our Reverse Split, completed June 16, 2021, and the private sale of 3,517,000 shares of our common stock to the Company’s founders Brandon Stump and Ryan Stump, completed March 23, 2021. Other general administrative expenses including, merchant account fees and bad debt provision, increased due to an increase in sales activity during the period.
Sales and Marketing Expense
For the year ended December 31, 2021, total sales and marketing expense increased to approximately $1,734,000 as compared to approximately $1,733,000 for the year ended December 31, 2020, which was primarily due to a shift in spending on product sales support materials and other marketing activities in favor of increased trade show attendance, as activity returned to pre-pandemic levels.
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Research and Development Expense
For the year ended December 31, 2021, total research and development expense decreased approximately $3,354,000, or 99.3%, to approximately $24,000 as compared to approximately $3,378,000 for the year ended December 31, 2020. During the year ended December 31, 2021, we incurred significantly less expense related to our PMTA submission, which resulted in lower overall research and development costs.
Income (Loss) from Operations
We generated income from operations of approximately $565,000 for the year ended December 31, 2021, as compared to loss from operations of approximately $6,770,000 for the year ended December 31, 2020. Net income (loss) is determined by adjusting income (loss) from operations by the following items:
Income Tax Expense
The Company’s income tax expense was $342,000, or 6.6% of income before income taxes, for the year ended December 31, 2021. The Company’s income tax expense was $0 for the year ended December 31, 2020.
Net Income (Loss)
For the years ended December 31, 2021, and 2020, we had a net income of $4,808,000 and net loss of $7,187,000, respectively.
Effects of Inflation
Inflation has not had a material impact on our business.
Liquidity and Capital Resources
As of December 31, 2021, we had working capital of approximately $2,460,000, which consisted of current assets of approximately $7,994,000 and current liabilities of approximately $5,534,000. This compares to negative working capital of approximately $6,020,000 at December 31, 2020. The current liabilities, as presented in the consolidated balance sheet at December 31, 2021 included elsewhere in this Report, primarily include approximately $4,068,000 of accounts payable and accrued expenses, approximately $238,000 of deferred revenue associated with product shipped but not yet received by customers, approximately $329,000 of lease liabilities, and $899,000 of derivative liability associated with the Investor and Placement Agent Warrants (the derivative liability of $899,000 is included in determining the working capital of $2,460,000 but is not expected to use any cash to ultimately satisfy the liability).
Our cash and cash equivalents balance at December 31, 2021 was approximately $866,000.
For the year ended December 31, 2021, we used cash from operations of $1,347,000, as compared to $3,273,000 for the year ended December 31, 2020. This decrease in the cash used by operations is due primarily to increased net income and accounts payables, but was offset by an increase in inventory.
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For the year ended December 31, 2021, we used cash for investment activities of $110,000 as compared to $169,000 for the year ended December 31, 2020. For the year ended December 31, 2021, the cash used for investment activities was primarily for the ongoing development and configuration of enterprise resource planning software. For the year ended December 31, 2020, the cash used for investment activities was primarily for the ongoing development and configuration of enterprise resource planning software.
For the year ended December 31, 2021, we generated cash from financing activities of $901,000 as compared to generated cash from financing activities of $2,416,000 for the year ended December 31, 2020. In the 2021 period, we generated cash from financing activities from the Polly PPP Loan 2 and the Private Placement. We paid cash dividends of $883,000 and notes payable of $1,400,000 during the year ended December 31, 2021. In the 2020 period, we generated cash from financing activities from the Red Beard Note, PPP Loans and EID Loan (as defined in Note 8 of Item 1, Part 1 of this Report).
Going Concern Uncertainty Regarding the Legal and Regulatory Environment, Liquidity and Management’s plan of operation
Our financial statements have been prepared assuming that the Company will continue as a going concern, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company operates in a rapidly changing legal and regulatory environment; new laws and regulations or changes to existing laws and regulations could significantly limit the Company’s ability to sell its products, and/or result in additional costs. Additionally, the Company was required to apply for FDA approval to continue selling and marketing its products used for the vaporization of nicotine in the United States. Currently, a substantial portion of the Company’s sales are derived from products that are subject to approval by the FDA. There was significant cost associated with the application process and there can be no assurance the FDA will approve previous and/or future application. In addition, the recent outbreak of Coronavirus in March 2020 has had a negative impact on the global economy and markets which could impact the Company’s supply chain and/or sales. For the year ended December 31, 2021, the Company generated income from operations of $565,000 and a consolidated net income of approximately $4,808,000 and the Company has stockholders’ equity of $3,131,000. During the year ended December 31, 2021, the Company’s working capital requirements changed significantly as inventory increased to $5.0 million, from $1.6 million as of December 31, 2020, and cash on hand decreased to approximately $0.9 million, from $1.4 million as of December 31, 2020. Though the Company’s balance sheet and overall performance generally improved during 2021, the issuance of one or several Marketing Denial Orders (“MDO”) from the FDA would increase the potential for inventory obsolescence and uncollectable accounts receivables. These regulatory risks, as well as other industry-specific challenges remain factors that raise substantial doubt about the Company’s ability to continue as a going concern. The financial statements do not include any adjustments to the carrying amount and classification of recorded assets and liabilities should the Company be unable to continue operations.
Management's plans depend on its ability to increase revenues and continue its business development efforts, including the expenditure of approximately $4,400,000 to date, to complete the PMTA registration process. On March 23, 2021,The Company closed a $3,000,000 capital raise through the private sale of 3,517,000 shares of its common stock to the Company’s founders Brandon Stump and Ryan Stump. The Company used the proceeds to fund future growth, increase working capital, retire outstanding debt, and for other general corporate purposes. However, the Company mayrequire additional financing in the future should the FDA require additional testing for one, or several, of the Company’s PMTA submissions. There can be no assurance that such financing will be available on acceptable terms, or at all, and there can be no assurance that any such arrangement, if required or otherwise sought, would be available on terms deemed to be commercially acceptable and, in the Company’s best interests.
Off-Balance Sheet Arrangements
The Company has no off-balance sheet arrangements other than operating lease commitments.
Critical Accounting Policies
Included below is a discussion of critical accounting policies used in the preparation of our financial statements. While all these significant accounting policies impact our financial condition and results of operations, we view certain of these policies as critical. Policies determined to be critical are those policies that have the most significant impact on our financial statements and require management to use a greater degree of judgment and estimates. Actual results may differ from those estimates.
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We believe that given current facts and circumstances, it is unlikely that applying any other reasonable judgments or estimate methodologies would cause a material effect on our consolidated results of operations, financial position or liquidity for the periods presented in this report.
The accounting policies identified as critical are as follows:
Revenue Recognition
The Company recognizes revenues in accordance with Accounting Standards Codification (“ASC”) 606 – Contracts with Customers. Revenues are generated from contracts with customers that consist of sales to retailers and distributors. Contracts with customers are generally short term in nature with the delivery of product as a single performance obligation. Revenue from the sale of product is recognized at the point in time when the single performance obligation has been satisfied and control of the product has transferred to the customer. In evaluating the timing of the transfer of control of products to customers, The Company considers several indicators, including significant risks and rewards of products, the right to payment, and the legal title of the products. Based on the assessment of control indicators, sales are generally recognized when products are received by customers. Shipping generally occurs prior to the transfer of control to the customer and is therefore accounted for as a fulfillment expense. In circumstances where shipping and handling activities occur after the customer has obtained control of the product, the Company has elected to account for shipping and handling activities as a fulfillment cost rather than an additional promised service. Contract durations are generally less than one year, and therefore costs paid to obtain contracts, which generally consist of sales commissions, are recognized as expense in the period incurred. Revenue is measured by the transaction price, which is defined as the amount of consideration expected to be received in exchange for providing goods to customers. The transaction price is adjusted for estimates of known or expected variable consideration, which includes refunds and returns as well as incentive offers, volume rebates, and promotional discounts on current orders. Our volume rebates are short-term in nature and reset on a quarterly basis. Sales returns are generally not material to the financial statements, and do not comprise a significant portion of variable consideration. Estimates for sales returns are based on, among other things, an assessment of historical trends, information from customers, and anticipated returns related to current sales activity. These estimates are established in the period of sale and reduce revenue in the period of the sale. Variable consideration related to incentive offers and promotional programs are recorded as a reduction to revenue based on amounts the Company expects to collect. Estimates are regularly updated and the impact of any adjustments are recognized in the period the adjustments are identified. In many cases, key sales terms such as pricing and quantities ordered are established at the time an order is placed and incentives have very short-term durations.
Amounts billed and due from customers are short term in nature and are classified as receivables since payments are unconditional and only the passage of time related to credit terms is required before payments are due. The Company does not grant payment financing terms greater than one year. Payments received in advance of revenue recognition are recorded as deferred revenue.
Accounts receivable is recorded at the invoiced amount and does not bear interest. We determine the allowance for doubtful accounts by regularly evaluating individual customer receivables and considering a customer’s financial condition, credit history and current economic conditions and set up an allowance for doubtful accounts when collection is uncertain. Customers’ accounts are written off against the allowance when all attempts to collect have been exhausted. Recoveries of accounts receivable previously written off are recorded as income when received. As of December 31, 2021, and 2020, the allowance for bad debt totaled $109,000 and $355,000, respectively.
Inventories
Inventories primarily consist of finished goods and are stated at the lower of cost (determined by the average cost method) or net realizable value. We calculate estimates of excess and obsolete inventories determined primarily by reviewing inventory on hand, historical sales activity, industry trends and expected net realizable value. As of December 31, 2021, and 2020, the reserve for excess and obsolete inventories totaled $156,000 and $179,000, respectively.
Stock-Based Compensation
We account for all stock-based compensation using a fair value-based method. The fair value of equity-classified awards granted to employees is estimated on the date of the grant using the Black-Scholes option-pricing model, or it is based on valuation observed from publicly traded companies in a similar industry, often with a discount for lack of marketability applied. The related stock-based compensation expense is recognized over the vesting period during which an employee is required to provide service in exchange for the award. We measure the fair value of liability-classified awards using a Monte Carlo valuation model. Compensation cost is recognized over the service period and is remeasured at each reporting period through settlement.
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Income Taxes
Income taxes are computed under the liability method. This method requires the recognition of deferred tax assets and liabilities for temporary differences between the financial reporting basis and the tax basis of our assets and liabilities. The impact on deferred taxes of changes in tax rates and laws, if any, are applied to the years during which temporary differences are expected to be settled and are reflected in the consolidated financial statements in the period of enactment. A valuation allowance is recorded when it is more likely than not that some of the deferred tax assets will not be realized.
Financial statement effects of a tax position are initially recognized when it is more likely than not, based on the technical merits, that the position will be sustained upon examination by a taxing authority. A tax position that meets the more-likely-than-not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that meets the more-likely-than-not threshold of being realized upon ultimate settlement with a taxing authority. We recognize potential accrued interest and penalties related to unrecognized tax benefits as income tax expense.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 8. FINANCIAL STATEMENTS
The audited consolidated financial statements of Charlie’s Holdings, Inc., including the notes thereto, together with the report thereon of Baker Tilly LLP, our independent registered public accounting firm (PCAOB ID: 23), are included in this Annual Report on Form 10-K as a separate section beginning on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures.
Our management, with the participation of our President, the principal executive officer, and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures pursuant to Rule 13a-15 under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of the end of the period covered by this Annual Report on Form 10-K. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.
Based on our evaluation, our President, the principal executive officer, and Chief Financial Officer concluded that, as of December 31, 2021, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and that such information is accumulated and communicated to our management, including our President, the principal executive officer, and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
(b)Management’s Annual Report on Internal Control over Financial Reporting.
Section 404(a) of the Sarbanes-Oxley Act of 2002 requires that management document and test the Company’s internal control over financial reporting and include in this Annual Report on Form 10-K a report on management's assessment of the effectiveness of our internal control over financial reporting.
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Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) of the Exchange Act. Under the supervision of our principal executive and financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based upon the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on that evaluation, our principal executive and financial officer concluded that our internal control over financial reporting was effective as of December 31, 2021.
This Annual Report on Form 10-K does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financing reporting because we are not an “accelerated filer” or a “large accelerated filer”. Our management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to rules of the SEC that permit us to provide only management’s report in this Annual Report on Form 10-K.
(c) Changes in internal control over financial reporting.
There were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15 of the Exchange Act that occurred during the period ended December 31, 2021, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Although we have modified our workplace practices due to the COVID-19 pandemic, resulting in some of our employees working remotely since March 2020, this has not materially affected our internal controls over financial reporting. We continue to monitor and assess the COVID-19 situation on our internal controls to minimize the impact on their design and operating effectiveness.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Directors and Executive Officers
The Company’s Board of Directors (the “Board”) and executive officers consist of the persons named in the table below. Each director serves for a one-year term, until his or her successor is elected and qualified, or until earlier resignation or removal. Our Bylaws provide that the authorized number of directors shall be fixed by the Board from time to time. The directors and executive officers are as follows:
Name Age Position
Henry Sicignano 54 President (Principal Executive Officer)
Matthew P. Montesano 36 Chief Financial Officer
Ryan Stump 33 Chief Operating Officer and Director
Adam Mirkovich 36 Chief Information Officer
Scot Cohen 52 Director
Jeffrey Fox 58 Director
Edward Carmines 67 Director
The following biographical information regarding the foregoing directors and officers of the Company is presented below:
Henry Sicignano, President (Principal Executive Officer). Mr. Sicignano was appointed as President of the Company on April 1, 2021. Prior to joining the Company, Mr. Sicignano held multiple positions, including Chief Executive Officer of 22nd Century Group, Inc. (NYSE American: XXII), a plant-based biotechnology company that is focused on tobacco harm reduction, very low nicotine content tobacco, and hemp/cannabis research from March 2015 through July 2019. He also served as President and as a member of the Board of Directors with 22nd Century from January 2011 through July 2019. In addition, from December 2014 to August 2018, Mr. Sicignano served on the Board of Directors of Anandia Laboratories, Inc., a cannabis-focused science company that was sold to Aurora Cannabis (NYSE: ACB). Mr. Sicignano holds a B.A. Degree in Government from Harvard College and an M.B.A. Degree from Harvard University.
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Matthew P. Montesano, Chief Financial Officer. Mr. Montesano was appointed as Chief Financial officer of the Company on May 10, 2021. Prior to his appointment, and since 2014, Mr. Montesano has served as Chief Financial Officer of Charlie’s Chalk Dust, LLC, the Company’s largest and most profitable operating division. Beginning in 2019, he also began serving as the Chief Financial Officer of Don Polly, LLC, the Company’s hemp-derived products division. Prior to joining the Company, Mr. Montesano worked for L’Oreal USA in a variety of corporate finance positions for the company’s Professional Products and Salon Centric divisions. Prior to L’Oreal USA, Mr. Montesano worked for KeyBanc Capital Markets as an investment banker where he focused on debt, equity and merger and acquisitions transactions in the industrials space.
Ryan Stump, Director and Chief Operating Officer. Mr. Stump was appointed as a director and the Company’s Chief Marketing Officer on April 26, 2019 in connection with the Share Exchange. Mr. Stump has served as the Chief Operating Officer of Charlie’s since 2014, during which time he has been responsible for all global operations of Charlie’s. Prior to joining Charlie’s, Mr. Stump worked as an Associate Territory Manager and then as a Territory Manager for ConMed, a medical sales device company, from 2010 to 2013. Mr. Stump also co-founded and continues to be engaged with multiple companies, including The Ohio House since 2011, the Buckeye Recovery Network since 2017, and The Mend California since 2018. Mr. Stump earned a B.S. and B.A. in Sports Marketing and Marketing from Duquesne University
The Board of Directors believes that Mr. Stump’s experience operating high growth companies, as well as entrepreneurial experience, is valuable to the Board as it manages the Company’s anticipated continued growth.
Adam Mirkovich, Chief Information Officer. Mr. Mirkovich was appointed as the Company’s Chief Information Officer on May 20, 2019. Mr. Mirkovich has over a decade of experience managing supply chains for consumer products. Mr. Mirkovich has served as an independent management consultant specializing in building and optimizing value chains for startups and growth stage companies in the beverage, nicotine vape, and nutritional supplements industries since 2013. Prior to joining the Company, Mr. Mirkovich served as the Chief Operating Officer of Orchid Ventures, Inc. (CSE: ORCD), a multi-state premium cannabis vape company, from September 2018 to April 2019. From December 2014 to February 2016, Mr. Mirkovich served as the Director of Supply Chain and Operations at Space Jam Juice, LLC, a distributor of premium vapor products. From November 2010 to April 2013, Mr. Mirkovich served as the Product Lifecycle Management Program Manager for Niagara Bottling, LLC, a leading bottled water manufacturer. While there, he led the product revision, introduction, and discontinuance practices for customers’ private labeled water, flavored, and carbonated beverages. Prior to that, Mr. Mirkovich served as a member of the Supply Chain Logistics team at Niagara Bottling, providing strategic support of company expansion activities and tactical support of purchasing, production planning, and multi-region logistics in North American operations. Mr. Mirkovich earned a Bachelor of Science degree in Business Administration and Economics from Chapman University.
Scot Cohen,Director. Mr. Cohen was appointed to the Board in March 2013 and is the Founder and Managing Partner of V3 Capital Partners, a private investment firm focused on early-stage companies primarily in the consumer products industry, and Co-Manager of Red Fortune Fund, a private equity fund based in Hong Kong. Mr. Cohen also is the Founder of Petro River Oil, LLC and Chairman of Petro River Oil Corp. (OTCBB: PTRC), a publicly traded oil and gas producer with assets in Kansas and Oklahoma, and Petro Spring, a global oil and gas technology solutions provider. Prior to creating V3 Capital Partners, Mr. Cohen was the Founder and Managing Partner at Iroquois Capital Opportunity Fund, a special situations private equity investment fund, and a Co-Founder of Iroquois Capital, a hedge fund with investments in small and micro-cap private and public companies. Mr. Cohen currently serves as a director on the Board of Directors of Wrap Technologies, Inc. (NASDAQ: WRTC), and is active in philanthropic activities with numerous charities including the Jewish Enrichment Council. Mr. Cohen received a Bachelor of Science degree from Ohio University in 1991.
The Board of Directors believes Mr. Cohen’s success with multiple private investment firms, his extensive contacts within the investment community, and his financial expertise are a valuable resource to the Company’s efforts to expand and implement its business plan.
Jeffrey Fox, Director. Mr. Fox was appointed to the Board effective July 16, 2019. He has been a leading business strategist, brand marketing authority and general management executive for some of the world's largest restaurant and consumer companies including roles as Chief Brand & Concept Officer for Pizza Hut, Co-founder of Collider LLC, a cultural marketing strategy firm, Managing Director of the California office of advertising agency Foote, Cone and Belding (FCB), various positions with the Yum! Brands and within Sony's interactive and PlayStation video game divisions, and Hill & Knowlton Public Relations. He is currently a member of the board of directors of Cici’s Pizza and Flix Brewhouse. Mr. Fox holds a bachelor's degree in Journalism from San Diego State University and received a master's degree in Mass Communications from California State University, Northridge.
The Board of Directors believes that Mr. Fox’s strong experience in brand building across several diverse Fortune 100 consumer product companies will be significantly valuable to the Company as it continues to rapidly grow its product offerings and launch new brands and products around the world.
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Dr. Edward Carmines, Director.Dr. Carmines was appointed to the Board effective March 2, 2022.He is currently Chief Scientific Officer of Chemular, Inc., where he designs and directs scientific and regulatory programs for PMTAs for a host of contract clients across a wide range of tobacco product categories. He also currently serves as an Advisory Board Member of Sparq Life, Inc, focusing on the science of inhalation of non-tobacco products, and Principal for Carmines Consulting, LLC, where Dr. Carmines consults to the regulated tobacco industry in the field of toxicology and regulatory affairs. Previously, Dr. Carmines managed the safety of novel and oral tobacco products as a scientist with R.J. Reynolds Tobacco Co. From 1996-2009, Dr. Carmines served as a principal scientist for Philip Morris USA (Altria Client Services, Inc.), where he developed guidelines for safely testing cigarette ingredients and components based on the FDA Red Book. Dr. Carmines received a B.S. degree in Chemistry and a Ph.D. degree in Toxicology from the Medical College of Virginia (Virginia Commonwealth University).
The Board of Directors believes that Dr. Carmines extensive experience within the nicotine industry and navigating the regulatory process relating to the nicotine industry is significantly valuable to the Company due to the ongoing and evolving nature of the Company’s industry.
Other than as described above, there have been no events under any bankruptcy act, no criminal proceedings and no judgments or injunctions material to the evaluation of the ability and integrity of any director or nominee set forth above during the past ten years.
Corporate Governance
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Exchange Act requires our officers, directors, and persons who beneficially own more than ten percent of our common stock to file reports of ownership and changes in ownership with the SEC. Officers, directors, and greater-than-ten-percent stockholders are also required by the SEC to furnish us with copies of all Section 16(a) forms that they file.
Based solely upon a review of these forms that were furnished to us, we believe that none of our officers and directors failed to timely file at least one report due under Section 16(a) during the year ended December 31, 2021.
Code of Ethics
We have adopted a Code of Ethics that applies to all of our directors, officers and employees, a copy of which is attached as an exhibit to our Annual Report on Form 10-K, filed with the SEC on April 1, 2019.
Board Leadership Structure
The Board does not have a policy regarding the separation of the roles of the Chief Executive Officer and Chair of the Board, as the Board believes it is in the best interest of the Company and its stockholders to make that determination based on the position and director of the Company and the membership of the Board from time to time.
Board Role in Risk Assessment
Management, in consultation with outside professionals, as applicable, identifies risks associated with the Company’s operations, strategies and financial statements. In addition, risk assessments were also performed through periodic reports received by the Audit Committee from management, counsel and the Company’s independent registered public accountants relating to risk assessment and management. Audit Committee members met privately in executive sessions with representatives of the Company’s independent registered public accountants during and prior to the year ended December 31, 2021. The Board also provides risk oversight through its periodic reviews of the financial and operational performance of the Company.
Director Nominations
The Board nominates directors for election at the Company’s annual meeting of stockholders and appoints new directors to fill vacancies when they arise, and has the responsibility to identify, evaluate and recruit qualified candidates to the Board for such nomination or appointment.
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The Board of Directors identifies director nominees by first considering those current members of the Board who are willing to continue service. Current members of the Board with skills and experience that are relevant to our business and who are willing to continue service are considered for re-nomination, balancing the value of continuity of service by existing members of the Board with that of obtaining a new perspective. Nominees for director are selected by a majority of the members of the Board. Although the Company does not have a formal diversity policy, in considering the suitability of director nominees, the Board considers such factors as it deems appropriate to develop a Board that is diverse in nature and comprised of experienced and seasoned advisors. Factors considered by the Board include judgment, knowledge, skill, diversity, integrity, experience with businesses and other organizations of comparable size, including experience in the software and/or technology industries, software, intellectual property, business, finance, administration or public service, the relevance of a candidate’s experience to our needs and experience of other Board members, experience with accounting rules and practices, the desire to balance the considerable benefit of continuity with the periodic injection of the fresh perspective provided by new members, and the extent to which a candidate would be a desirable addition to the Board and any committees of the Board.
A stockholder who wishes to recommend a prospective nominee for the Board may notify the Secretary of the Company in writing with any supporting material the stockholder considers appropriate. Nominees recommended by stockholders are considered in the same way as nominees suggested from other sources.
In addition, the Company’s Bylaws contain provisions that address the process by which a stockholder may nominate an individual to stand for election to the Board at the Company’s annual meeting of stockholders. In order to nominate a candidate for director, a stockholder must give timely notice in writing to the Secretary of the Company and otherwise comply with the provisions of the Company’s Bylaws. Information required by the Company’s Bylaws to be in the notice include: the name, contact information and share ownership information for the candidate and the person making the nomination, and other information about the nominee that must be disclosed in proxy solicitations under Section 14 of the Exchange Act and its related rules and regulations. The Board may also require any proposed nominee to furnish such other information as may reasonably be required by the Board to determine the eligibility of such proposed nominee to serve as director of the Company. The recommendation should be sent to: Secretary, Charlie’s Holdings, Inc., 1007 Brioso Drive, Costa Mesa, California 92627.
Board of Directors;Attendance at Meetings
The Board held 13 meetings and acted by unanimous written consent 7 times during the year ended December 31, 2021. Each director attended at least 75% of Board meetings during the year ended December 31, 2021. We have no formal policy with respect to the attendance of Board members at annual meetings of shareholders, but encourage all incumbent directors and director nominees to attend each annual meeting of shareholders.
Board Committees and Charters
As of December 31, 2021, the Board had a standing Audit Committee. Currently, the Board does not have an active compensation committee or nominating and corporate governance committee. Instead, the full Board currently administers the duties of each of these committees, and will likely do so for the foreseeable future. Written charters for each of the Board’s active committees are available on the Company’s website at www.charliesholdings.com under “Investors/Corporate Governance”.
Audit Committee
As of December 31, 2021, the Audit Committee consisted of Messrs. Cohen (Chair) and Fox. The Audit Committee met four times during the year ended December 31, 2021.
The Audit Committee assisted the Board in fulfilling its legal and fiduciary obligations in matters involving the Company’s accounting, auditing, financial reporting, internal control and legal compliance functions by approving the services performed by the Company’s independent accountants and reviewing their reports regarding the Company’s accounting practices and systems of internal accounting controls. The Audit Committee was responsible for the appointment, compensation, retention and oversight of the independent accountants and for ensuring that the accountants are independent of management.
Compensation Committee
As noted above, the Board currently does not have an active compensation committee. Instead, the full Board currently administers the duties that are typically allocated to the compensation committee, and will likely do so for the foreseeable future.
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Nominating and Corporate Governance Committee
As noted above, the Board currently does not have an active nominating and corporate governance committee. Instead, the full Board currently administers the duties that are typically allocated to the nominating and corporate governance committee, and will likely do so for the foreseeable future.
ITEM 11. EXECUTIVE COMPENSATION
Summary Compensation Table
The following table sets forth the compensation paid to the following persons for our fiscal years ended December 31, 2021 and 2020:
(a) our principal executive officer;
President 2020 $ - $ - $ - $ -
Former Named Executive Officers
(2) Mr. Sicignano was appointed as President of the Company on April 1, 2021.
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Outstanding Equity Awards at Fiscal Year-End 2021
The following table sets forth all equity awards held by our Named Executive Officers at December 31, 2021:
Henry Sicignano President - - - -
Ryan Stump Chief Operating Officer – – – –
Former Named Executive Officers
Brandon Stump Former Chief Executive Officer and Chairman of the Board – – – –
Executive Compensation Arrangements
Employment Agreements
Brandon Stump (Former CEO). On April 26, 2019, in connection with the Share Exchange and his appointment as Chief Executive Officer, the Company and Mr. Brandon Stump entered into an employment agreement (the “B. Stump Employment Agreement”) pursuant to which (i) Mr. Stump serves as the Company’s Chief Executive Officer, initially for a term of three years, renewable for one-year periods thereafter; (ii) Mr. Stump is subject to a non-competition requirement for three years after his termination; (iii) Mr. Stump is subject to a non-solicitation requirement for one year after his termination, and be entitled to receive the following compensation for his services as Chief Executive Officer: (a) an annual base salary of $500,000, which shall increase on an annual basis by an amount not less than $25,000 per year, as determined by the Compensation Committee of the Company’s Board, (b) an annual cash bonus of up to $750,000 per year, which cash bonus will be determined based on the Company’s achievement of audited gross revenue targets of $35.0 million per year, as more particularly set forth in the B. Stump Employment Agreement, (c) certain milestone based bonuses, (d) an annual award of shares of common stock having an aggregate value equal to one-half of Mr. Stump’s annual base salary in effect for such year, which shares shall vest quarterly in equal amounts over a three year period commencing on the issuance date, (e) participation in the Company’s retirement plan, if any, (f) reimbursement of all reasonable business-related expense incurred by Mr. Stump, (e) full health insurance coverage for he and his dependents, and at least $5.0 million of life insurance, (g) 21 paid vacation days per year, and (h) an automobile allowance of $750 per month.
The B. Stump Employment Agreement provided that, in the event of Mr. Stump’s death or disability, or for Cause, as defined in the B. Stump Employment Agreement, the Company may terminate the B. Stump Employment Agreement; provided, however, that at no time may the Company terminate him without Cause. Mr. Stump may terminate the B. Stump Employment Agreement at any time for any reason. In the event that his employment is terminated by him without Good Reason, as defined in the B. Stump Employment Agreement, or by the Company for Good Cause as a result of a Change in Control, he shall be entitled to the following compensation: (i) any earned but unpaid salary through the termination date, (ii) unpaid and unreimbursed expense, (iii) earned but unpaid bonuses, and (iv) any accrued vacation days; provided, however, that in the event that the B. Stump Employment Agreement is terminated by Mr. Stump for any reason, he shall also be entitled to one year’s severance, consisting of one year’s base salary, milestone bonuses and certain other benefits. In the event his employment is terminated by the Company without Cause or Mr. Stump terminates it for Good Reason, as defined in the B. Stump Employment Agreement, then he shall be entitled to the following compensation: (i) all amounts due to him through the termination date, (ii) full vesting of any and all previously granted equity-based incentive awards, and (iii) health insurance coverage for a period of 18 months after the termination date. In addition, effective upon a Change in Control, regardless of whether the B. Stump Employment Agreement is terminated, his base salary for the year in which the Change in Control occurred and any years thereafter shall automatically increase by 20% and the milestone bonuses shall automatically decrease by 30%.
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The B. Stump Employment Agreement was amended on February 12, 2021. The terms of the amendment are identical to the terms of the Amended Employment Agreement set forth under “Ryan Stump”.
On October 29, 2021, Brandon Stump resigned from his position as: (i) Chief Executive Officer, Chair of the Board of Directors, and a member of the Board of Directors of the Company; and (ii) all positions held for each direct and indirect subsidiary of the Company (each, a "Subsidiary"), including as a member of the Board of Directors of each Subsidiary. In connection with Mr. Stump's resignation, the Company and Mr. Stump entered into an agreement regarding Mr. Stump's resignation (the "Resignation Agreement"), which Resignation Agreement is dated October 29, 2021. Pursuant to the Resignation Agreement, in consideration for Mr. Stump agreeing to terminate the B. Stump Employment Agreement, and agreeing to certain restrictions and covenants, the Company will: (i) continue to pay Mr. Stump his base salary (as defined in the B. Stump Employment Agreement), through April 22, 2022; (ii) pay Mr. Stump certain bonus compensation owed to Mr. Stump in an amount equal to $300,000, payable in installments of $75,000 on each of November 1, 2021, December 1, 2021, January 1, 2022, and February 1, 2022; and (iii) continue to make available to Mr. Stump certain employee benefits offered by the Company until April 22, 2022.
Ryan Stump. On April 26, 2019, in connection with the Share Exchange and his appointment as Chief Operating Officer, the Company and Mr. Ryan Stump entered into an employment agreement (the “R. Stump Employment Agreement”), pursuant to which (i) Mr. Stump serves as the Company’s Chief Operating Officer for a term of three years, renewable for one-year periods thereafter, during which time he shall report to the Company’s Chief Executive Officer; (ii) Mr. Stump is subject to a non-competition requirement for three years after his termination; (iii) Mr. Stump is subject to a non-solicitation requirement for one year after his termination, and be entitled to receive the following compensation for his services as Chief Operating Officer: (a) an annual base salary of $500,000, which shall increase on an annual basis by amount that is not less than $25,000 per year, as determined by the Compensation Committee of the Company’s Board, (b) an annual cash bonus of up to $750,000 per year, which cash bonus will be determined based on the Company’s achievement of a gross revenue target of $35.0 million per year, as more particularly set forth in the R. Stump Employment Agreement, (c) certain milestone based bonuses, (d) an annual award of shares of Common Stock having an aggregate value equal to one-half of Mr. Stump’s annual base salary in effect for such year, which shares shall vest quarterly in equal amounts over a three year period commencing on the issuance date, (e) participation in the Company’s retirement plan, if any, (f) reimbursement of all reasonable business-related expense incurred by Mr. Stump, (e) full health insurance coverage for he and his dependents, and at least $5.0 million of life insurance, (g) 21 paid vacation days per year, and (h) an automobile allowance of $750 per month.
The Company may terminate the R. Stump Employment Agreement in the event of Mr. Stump’s death or disability, or for Cause, as defined in the R. Stump Employment Agreement; provided, however, that at no time may the Company terminate him without Cause. Mr. Stump may terminate the R. Stump Employment Agreement at any time for any reason. In the event that his employment is terminated by him without Good Reason, as defined in the R. Stump Employment Agreement, or by the Company for Good Cause as a result of a Change in Control, he shall be entitled to the following compensation: (i) any earned but unpaid salary through the termination date, (ii) unpaid and unreimbursed expense, (iii) earned but unpaid bonuses, and (iv) any accrued vacation days; provided, however, that in the event that the R. Stump Employment Agreement is terminated by Mr. Stump for any reason, he shall also be entitled to one year’s severance, consisting of one year’s base salary, milestone bonuses and certain other benefits. In the event that his employment is terminated by the Company without Cause or he terminates it for Good Reason, as defined in the R. Stump Employment Agreement, then Mr. Stump shall be entitled to the following compensation: (i) all amounts due to him through the termination date, (ii) full vesting of any and all previously granted equity-based incentive awards, and (iii) health insurance coverage for a period of 18 months after the termination date. In addition, effective upon a Change in Control, regardless of whether the R. Stump Employment Agreement is terminated, his base salary for the year in which the Change in Control occurred and any years thereafter shall automatically increase by 20% and the milestone bonuses shall automatically decrease by 30%.
On February 12, 2020, the Board of Directors (the “Board”) of the Company, entered into a form of Amended and Restated Employment Agreement with Mr. Stump (the “Amended Employment Agreement”) effective February 12, 2020.
The terms of the Amended Employment Agreements have been amended as follows: (i) the annual equity awards based upon, among other conditions, the Company’s market capitalization and a percentage of base salary have been eliminated; however, the awards based on financial milestones remain in full force and effect; and (ii) payment of the 2019 bonuses have been deferred, resulting in the accrual of such bonuses on the books and records of the Company. All other terms of the respective Employment Agreements for Messrs. Stump and Stump will remain in full force and effect subject to further review by the Board as it deems necessary and appropriate.
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Henry Sicignano. On April 1, 2021,the Board of Directors of the Company entered into an Employment Agreement (the "Agreement") with Henry Sicignano III, MBA, pursuant to which the Company appointed Mr. Sicignano to serve as President of the Company. Pursuant to the Agreement, Mr. Sicignano will serve as President for an initial period of two years, renewable on an annual basis unless earlier terminated by the Company or Mr. Sicignano. Mr. Sicignano was awarded 1,500,000 restricted shares (subject to forfeiture) (“Restricted Shares”) of the Company. Mr. Sicignano will have all the rights of a shareholder of the Company with respect to voting the 1,500,000 restricted shares awarded under this grant and share adjustments, receipt of dividends (if any) and distributions (if any) on such shares. Restricted Shares will be subject to forfeiture in 750,000 share increments on April 1, 2022and April 1, 2023, and will also be subject to additional forfeiture-release features set forth in Addendum A to the Employment Agreement of Henry Sicignano, III, included in the Company’s 8-K filed April 6, 2021. The grant date fair value of the 1,500,000 restricted shares was approximately $65,000.
Director Compensation
The Company’s Director Compensation Plan currently provides that non-employee directors receive (a) a $60,000 annual retainer, payable in equal monthly installments in cash and (b) reimbursement for expenses related to Board meeting attendance and committee participation. In addition, directors receive a one-time grant of an option to purchase 25 million shares of the Company’s common stock at an exercise price equal to the closing price of the Company’s common stock on the date of issuance, as reported on the OTCQB Venture Market. Directors that were also employees of the Company did not receive additional compensation for serving on the Board.
The following table discloses certain information concerning the compensation of the Company’s non-employee directors for the year ended December 31, 2021:
Name Fees Earned or Paid in Cash ($) Equity Awards ($) (1) Total ($)
Keith Stump (2) $ – – –
Edward Carmines (4) $ – $ – $ –
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Outstanding Equity Awards as of December31, 2021
The following table sets forth all equity awards held by our Named Executive Officers at December 31, 2021:
Henry Sicignano President – – – –
Ryan Stump Chief Operating Officer – – – –
Former Named Executive Officers
Brandon Stump Former Chief Executive Officer and Chairman of the Board – – – –
Equity Compensation Plan Information
The following table includes information as of December 31, 2021 for our equity compensation plans:
(a) (b) (c)
Equity compensation plans not approved by stockholders – $ – –
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2013 Stock Incentive Plan. The 2013 Stock Incentive Plan (the “2013 Plan”) was adopted by the Company’s Board of Directors on December 31, 2013. The 2013 Plan initially reserved for issuance 0.2 million shares of common stock for issuance to all employees (including, without limitation, officers and directors who are also employees) of the Company or any subsidiary of the Company (each a “Subsidiary”), any non-employee director, consultants and independent contractors of the Company or any Subsidiary, and any joint venture partners (including, without limitation, officers, directors and partners thereof) of the Company or any Subsidiary. Awards under the 2013 Plan may be made in the form of: (i) incentive stock options within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended, once the 2013 Plan has been approved by a majority of the Company’s stockholders; (ii) stock options that do not qualify as incentive stock options; and/or (iii) awards of shares that are subject to certain restrictions specified in the 2013 Plan. On May 8, 2019, the Board of Directors authorized increasing the number of shares reserved for issuance under the plan to a total of 0.65 million shares of common stock and to ratify the issuance of any and all awards made prior to that date, subject to stockholder approval.
During the year ended December 31, 2018, the Company did not issue any restricted stock awards pursuant to the 2013 Plan; however, the Company issued an aggregate total of 346,529 stock option awards pursuant to the 2013 Plan during the 2018 fiscal year.
Subsequent to the year ended December 31, 2018, on May 16, 2019, the Board approved an amendment to all of the outstanding stock options held by Mr. Sherman that were issued under the 2013 Plan, in the aggregate amount of 359,720, to extend the expiration date of such stock options by five years.
As of the date of the Share Exchange, April 26, 2019, a total of approximately 91.7 million awards were issued under 2013 Plan, consisting entirely of outstanding stock options. As of December 31, 2021, approximately 0.6 million of these stock options remain vested and exercisable.
The Company will not grant any additional awards or shares of common stock under the Prior Plan beyond those that are currently outstanding.