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.
-31-
Table of Contents
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.
-32-
Table of Contents
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.
-33-
Table of Contents
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.
-34-
Table of Contents
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):
-35-
Table of Contents
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.
-36-
Table of Contents
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.
-37-
Table of Contents
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.
-38-
Table of Contents
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.
-39-
Table of Contents
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.
-40-
Table of Contents
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.
-41-
Table of Contents
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.
-42-
Table of Contents
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.
-43-
Table of Contents
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.
-44-
Table of Contents
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.
-45-
Table of Contents
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%.
-46-
Table of Contents
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.
-47-
Table of Contents
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) $ – $ – $ –
-48-
Table of Contents
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 – $ – –
-49-
Table of Contents
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.
2019 Omnibus Incentive Plan. The 2019 Omnibus Incentive Plan (the “2019 Plan”) was adopted by the Company’s Board of Directors on May 8, 2019, subject to stockholder approval and registration or qualification of the shares subject to the 2019 Plan with the federal and state securities authorities. The 2019 Plan reserved for issuance approximately 1.1 billion 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, 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 2019 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 2019 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 2019 Plan.
On December 22, 2021, our Board of Directors unanimously adopted resolutions by written consent approving an amendment to increase the number of shares of Common Stock available for issuance under the 2019 Plan by 15.0 million shares, from 11,072,542 to 26,072,542 shares (the “Plan Amendment”). Furthermore, the Company received written consents approving the 2019 Plan Amendment from holders of approximately 50.3% of our outstanding voting securities. In accordance with Rule 14c of the Securities Exchange Act of 1934, Our Board of Directors’ authority to implement the 2019 Plan Amendment became effective February 28, 2022, twenty calendar days after notification of our shareholders. The 2019 Plan Amendment will allow the Company to maintain a sufficient number of available shares for future grants under the 2019 Plan.
As of December 31, 2021, there were a total of 7,122,937 stock options outstanding pursuant to the 2019 Plan, 5,376,277 of which have vested.
Post-Employment Compensation, Pension Benefits, Nonqualified Deferred Compensation
There were no post-employment compensation, pension or nonqualified deferred compensation benefits earned by the Named Executive Officers during the year ended December 31, 2021.
-50-
Table of Contents
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The Company currently has two classes of voting securities issued and outstanding: (i) common stock and (ii) Series A Preferred. The following tables contain the beneficial ownership of our outstanding voting securities owned by:
(i) Each of our officers and directors;
(ii) All officer and directors as a group; and
Percent ownership is calculated based on 141,123 shares of Series A Preferred and 216,840,987 shares common stock outstanding as of April 12, 2022.
For purposes of this section, beneficial ownership is determined in accordance with the rules of the SEC. In computing the number of shares beneficially owned by a person and the percentage of ownership by that person in each table below, shares of voting common stock subject to rights held by that person to acquire such shares currently or within 60 days are deemed outstanding. Such shares are not deemed outstanding for the purpose of computing the percentage of ownership by any other person.
Beneficial Ownership of Series A Preferred
Name and Address (1) Series A Convertible Preferred Stock % Ownership of Class
Executive Officers and Directors
Scot Cohen
Keith Stump
Total Officers and Directors 6,750 4.8 %
Greater Than 5% Stockholders
Red Beard Holdings, LLC (2)
Hudson Bay Capital Management, LP (3)
777 Third Avenue, 30th Floor
Empery Asset Management, LP (4)
1 Rockefeller Plaza, Suite 1205
Altium Growth Fund, LP (5)
551 Fifth Avenue, 19th Floor
-51-
Table of Contents
Beneficial Ownership of Common Stock
Brandon Stump
Ryan Stump
Henry Sicignano
Matthew Montesano
David Allen
Adam Mirkovich
Scot Cohen (4)
Jeff Fox
Dr. Edward Carmines
Keith Stump
Greater Than 5% Stockholders
Vincent C. Smith (5)
Red Beard Holdings, LLC (6)
Iroquois Capital Management, LLC (7)
125 Park Avenue, 25th Floor
-52-
Table of Contents
ITEM 13. CERTAIN RELATIONSHIPS, RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
Certain Relationships and Related Transactions
On November 19, 2019, Charlie’s entered into commercial lease for the Company’s corporate headquarters in Costa Mesa, California (the “Lease”) with Brandon Stump, Ryan Stump and Keith Stump. Messrs. Stump, Stump and Stump purchased the property that is the subject of the Lease in July 2019. The Lease, which was effective as of September 1, 2019, on a month-to-month basis, was then formalized on November 1, 2019 to have a term of five years and a base rent rate of $22,940 per month, which rate is subject to annual adjustments based on the consumer price index, as may be mutually agreed upon by the parties to the Lease. The terms of the Lease were negotiated and approved by the independent members of the Board, and executed by the Company’s then Chief Financial Officer after reviewing a detailed analysis of comparable properties and rent rates compiled by an independent, third-party consultant.
On January 10, 2020, Bellerose CBD Trade Co. (“Bellerose”), an entity controlled by Brandon Stump, the Company’s former Chief Executive Officer, and Ryan Stump, the Company’s Chief Operating Officer, subleased 656 square feet from Don Polly within Don Polly’s warehouse located at 1288 S. Broadway, Denver, Colorado (the “Sublease”), for use as a retail sales location for Bellerose’s operations. Subsequent to entering into Sublease, Don Polly completed certain leasehold improvements to which Bellerose reimbursed Don Polly $25,396 for modifications that affected the subleased space. The Sublease had a base rent rate of $1,154 per month and was terminated on January 27, 2022. For the fiscal year ended December 31, 2021, Don Polly received $13,848 of lease income pursuant to the Sublease, as well as $18,362 of income from the sale of Don Polly Products to Bellerose.
-53-
Table of Contents
Director and Executive Officer Compensation
See “Executive Compensation” and “Director Compensation” for information regarding compensation of directors and executive officers.
Employment Agreements
We have entered into employment agreements with our executive officers. For more information regarding these agreements, see “Executive Compensation — Narrative to Summary Compensation Table and Outstanding Equity Awards at 2021 Fiscal Year End”.
Independent Directors
The Board has determined that Messrs. Cohen, Fox and Carmines may be considered independent directors as defined by the rules and regulations of the Nasdaq Stock Market.
In addition, the Board has determined that Mr. Cohen satisfies the definition of an “audit committee financial expert” under SEC rules and regulations. This designation does not impose any duties, obligations or liabilities on Mr. Cohen that are greater than those generally imposed on them as members of the Audit Committee and the Board, and his designation as an audit committee financial expert does not affect the duties, obligations or liability of any other member of the Audit Committee or the Board.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
On November 1, 2020, the Company was notified that the audit practice of Squar Milner, an independent register public accounting firm, was combined with Baker Tilly US, LLP (“Baker Tilly”) in a transaction pursuant to which Squar Milner combined its operations with Baker Tilly and certain of the professional staff and partners of Squar Milner joined Baker Tilly either as employees or partners of Baker Tilly. The following table presents approximate aggregate fees and other expenses for professional services rendered by Baker Tilly, our independent registered public accounting firm, for the audit of the Company’s annual financial statements for the years ended December 31, 2021, and 2020 and fees and other expenses for other services rendered during those periods.
Audit-Related Fees (2) $ - $ 7,500
Tax Fees (3) $ - $ -
All Other Fees $ - $ -
-54-
Table of Contents
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENTS AND SCHEDULES
Exhibit No. Description
21.1 Subsidiaries of Charlie's Holdings, Inc, filed herewith.
23.1 Consent of Squar Milner LLP, dated June 26, 2018, filed herewith.
101.SCH Inline XBRL Taxonomy Extension Schema
101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase
101.DEF Inline XBRL Taxonomy Extension Definition Linkbase
101.LAB Inline XBRL Taxonomy Extension Label Linkbase
101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase
ITEM 16. FORM 10-K SUMMARY
None.
-55-
Table of Contents
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, there unto duly authorized.
Date: April 12, 2022 CHARLIE’S HOLDINGS, INC.
By: /s/ Henry Sicignano
Henry Sicignano President (Principal Executive Officer)
/s/ Matthew P. Montesano
In accordance with the Securities Exchange Act of 1934, as amended, this Report has been signed below by the following persons on behalf of the Company and in the capacities and on the dates indicated.
Signature Title Date
/s/ Ryan Stump Ryan Stump Chief Operating Officer and Director April 12, 2022
/s/ Scot Cohen Scot Cohen Director April 12, 2022
/s/ Jeffrey Fox Jeffrey Fox Director April 12, 2022
/s/ Edward Carmines Edward Carmines Director April 12, 2022
-56-
Table of Contents
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and the Board of Directors
Charlie’s Holdings, Inc. and Subsidiaries
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Charlie’s Holdings, Inc. and its subsidiaries (the Company) as of December 31, 2021 and 2020, the related consolidated statements of operations, changes in stockholders' equity and cash flows for each of the years then ended, and the related notes to the consolidated financial statements (collectively referred to as the "consolidated financial statements"). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
Going Concern Uncertainty
The accompanying consolidated financial statements have been prepared assuming the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has continued to experience financial, supply chain and regulatory issues. These matters raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties.
Critical AuditMatter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
F-1
Table of Contents
Fair Value of Derivative Liabilities
Critical Audit Matter Description
As described in Note 10 to the consolidated financial statements, the Company previously issued warrants to purchase approximately 40 million shares of common stock. The warrants have a 5-year term and an exercise price of $0.44313, subject to adjustment for anti-dilution events. The Company is required to assess the fair value of warrant liabilities at each reporting period and recognize any change in the fair value as items of other income or expense, and accordingly uses various inputs to measure the outstanding warrants on a recurring basis to determine the fair value of the liability. The fair value of the warrant liabilities was approximately $899,000 as of December 31, 2021.
We identified the fair value estimation of derivative liabilities as a critical audit matter because auditing the Company's subsequent accounting for the derivative liabilities was complex due to the significant judgment required in the fair value measurement of the warrants and related changes in fair value recorded in other income or expense. The Company estimated the fair value of the warrants using a Monte Carlo simulation model, which included several assumptions involving a high degree of subjectivity.
How We Addressed the Matter in Our Audit
The primary procedures we performed to address this critical audit matter included:
/s/ Baker Tilly US LLP
We have served as the Company's auditor since 2018.
Irvine, California
April 12, 2022
F-2
Table of Contents
CHARLIE’S HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)
December 31, December 31,
ASSETS
Current assets:
Prepaid expenses and other current assets 755 450
Non-current assets:
Property, plant and equipment, net 431 531
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable and accrued expenses $ 4,068 $ 2,525
Notes payable, current portion - 1,400
Dividends payable - 1,650
Non-current liabilities:
Notes payable, net of current portion 150 1,016
Lease liabilities, net of current portion 433 762
Total non-current liabilities 583 1,778
COMMITMENTS AND CONTINGENCIES (see Note 12)
Stockholders' equity (deficit):
Convertible preferred stock ($0.001 par value); 1,800,000 shares authorized
Total stockholders' equity (deficit) 3,131 (5,996 )
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) $ 9,248 $ 6,525
The accompanying notes are an integral part of these consolidated financial statements.
F-3
Table of Contents
CHARLIE’S HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share amounts)
December 31,
Revenues:
Operating costs and expenses:
Cost of goods sold - product revenue 10,423 7,478
Research and development 24 3,378
Income (loss) from operations 565 (6,770 )
Other income (expense):
Interest expense (34 ) (134 )
Change in fair value of derivative liabilities 3,545 (300 )
Gain on debt extinguishment 1,060 -
Total other income (loss) 4,585 (417 )
Income (loss) before income taxes 5,150 (7,187 )
Income tax expense (342 ) -
Net earnings (loss) per share
Weighted average number of common shares outstanding
The accompanying notes are an integral part of these consolidated financial statements.
F-4
Table of Contents
CHARLIE’S HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT)
(in thousands)
Shares Par value Shares Par value Capital Deficit (Deficit)
Conversion of Series A convertible preferred stock - - 16,925 17 (17 ) - -
Reclassification of liability awards to equity - - - - 1,638 - 1,638
Issuance of common stock to related parties for cash - - 3,517 3 2,997 - 3,000
Conversion of Series A convertible preferred stock (62 ) - 13,977 14 (14 ) - -
Issuance of common stock for dividend payment - - 1,736 2 768 - 770
Fraction shares adjustment due to reverse split - - 3 - - - -
The accompanying notes are an integral part of these consolidated financial statements.
F-5
Table of Contents
CHARLIE’S HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
For the years ended
December 31,
Cash Flows from Operating Activities:
Reconciliation of net income (loss) to net cash used in operating activities:
Provision for bad debt expense 109 60
Depreciation and amortization 210 181
Change in fair value of derivative liabilities (3,545 ) 300
Amortization of operating lease right-of-use asset 445 423
Gain from debt extinguishment (1,060 ) -
Subtotal of non-cash charges (3,289 ) 4,036
Changes in operating assets and liabilities:
Accounts receivable (219 ) (400 )
Prepaid expenses and other current assets (305 ) 279
Other assets 3 -
Accounts payable and accrued expenses 1,553 325
Deferred revenue (30 ) 177
Lease liabilities (456 ) (426 )
Net cash used in operating activities (1,347 ) (3,273 )
Cash Flows from Investing Activities:
Purchase of property, plant and equipment (110 ) (169 )
Net cash used in investing activities (110 ) (169 )
Cash Flows from Financing Activities:
Proceeds from issuance of common stock to related parties 3,000 -
Proceeds from issuance of notes payable 184 2,416
Repayment of notes payable (1,400 ) -
Dividend payment (883 ) -
Net cash provided by financing activities 901 2,416
Net decrease in cash (556 ) (1,026 )
Supplemental disclosure of cash flow information
Cash paid for interest $ 150 $ -
Cash paid for income taxes $ - $ -
Supplemental disclosure of cash flow information
Conversion of Series A convertible preferred stock $ 14 $ 17
Issuance of common stock for dividend payment $ 770 $ -
Accrued dividends payable on Series A convertible preferred stock $ - $ 1,650
Reclassification of liability awards to equity $ - $ 1,638
The accompanying notes are an integral part of these consolidated financial statements.
F-6
Table of Contents
CHARLIE’S HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1– DESCRIPTION OF THE BUSINESS AND BASIS OF PRESENTATION
Description of the Business
Charlie’s Holdings, Inc., (formerly True Drinks Holdings, Inc.) a Nevada corporation, together with its wholly owned subsidiaries and consolidated variable interest entity (collectively, the “Company”, “we”), currently formulates, markets and distributes premium, nicotine-based vapor products. The Company’s products are produced domestically through contract manufacturers for sale by select distributors, specialty retailers and third-party online resellers throughout the United States, as well as over 80 countries worldwide. The Company’s primary international markets include the United Kingdom, Italy, Spain, New Zealand, Australia, and Canada. In June 2019, The Company launched distribution, through Don Polly, a Nevada limited liability company that is owned by entities controlled by Brandon and Ryan Stump, the Company's former Chief Executive Officer and current Chief Operating Officer, respectively, and a consolidated variable interest for which the Company is the primary beneficiary (“Don Polly”), of certain premium vapor, ingestible and topical products containing hemp-derived cannabidiol (“CBD”) and other compounds derived from hemp. Our hemp-based products are produced, marketed and sold through, Don Polly, and the Company currently intends to develop and launch additional products containing hemp-derived cannabinoids in the future.
In addition to Don Polly, we also wholly-own Charlie’s Chalk Dust, LLC (“Charlie’s” or “CCD”), which also produces and sells our premium, nicotine-based vapor products.
The Company's Common Stock, par value $0.001 per share (the "Common Stock"), trades under the symbol "CHUC" on the OTCQB Venture Market.
Reverse Stock Split
The Company’s Board of Directors approved a reverse stock split of the Company’s authorized, issued and outstanding shares of Common Stock, par value $0.001 per share, 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 the Form 10-K have been retroactively adjusted to account for the reverse stock split.
Basis of Presentation
The consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”).
Going Concern Uncertainty Regarding the Legal and Regulatory Environment, Liquidity and Management’s plan of operation
The accompanying 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 obtain approval from the United States Food and Drug Administration ("FDA") to continue selling and marketing certain of 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 (“COVID-19”) in March 2020 has had a negative impact on the global economy and markets which has impacted the Company’s supply chain and 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 has a stockholders’ equity of approximately $3.1 million as of 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.
F-
7
Table of C
ontents
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 Premarket Tobacco Application (“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 has 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.
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. Beginning in September 2019, certain states temporarily banned the sale of flavored e-cigarettes, and several states and municipalities are considering implementing similar restrictions. 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. 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 other ENDS products, 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 tobacco-derived nicotine e-liquid products. The Company’s applications were submitted in September 2020 on a timely basis, which if approved, will allow the Company to continue to sell its approved products in the United States. Beginning in August 2021, the FDA began issuing Marketing Denial Orders (“MDO”) for ENDS products that lack evidence to demonstrate that permitting the marketing of such products would be appropriate for the protection of the public health. The Company has not received an MDO for any of its submissions, however there is no assurance that regulatory approval to sell our products will be granted or that we would be able to raise additional financing if required, which 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 and continues to cause a substantial disruption in international and U.S. economies and markets. 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. The impact from COVID-19 has affected our supply chain, and if disruptions from the COVID-19 outbreak are prolonged, it will continue to have an adverse impact on our business.
NOTE 2– SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its two100% wholly owned subsidiaries, Charlie’s Chalk Dust, LLC and Bazi, Inc, and Don Polly, LLC, a consolidated variable interest for which the Company is the primary beneficiary. All inter-company balances and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.
F-
8
Table of Contents
Fair Value of Financial Instruments
U.S. GAAP requires disclosing the fair value of financial instruments to the extent practicable for financial instruments which are recognized or unrecognized in the balance sheet. The fair value of the financial instruments disclosed herein is not necessarily representative of the amount that could be realized or settled, nor does the fair value amount consider the tax consequences of realization or settlement.
In assessing the fair value of financial instruments, the Company uses a variety of methods and assumptions, which are based on estimates of market conditions and risks existing at the time. The fair value of derivative liabilities was estimated using a Monte Carlo simulation method, based on both observable and unobservable inputs. For certain instruments, including cash and cash equivalents, accounts receivable, accounts payable, and accrued expenses, it was estimated that the carrying amount approximated fair value because of the short maturities of these instruments.
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 expenses 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. 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.
Cash and Cash Equivalents
The Company considers all liquid investments purchased with original maturities of ninety days or less to be cash equivalents.
AccountsReceivable
Accounts receivable are recorded at the invoiced amount and do 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 establish 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.
F-
9
Table of Contents
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.
Plant, Property and Equipment
Property and equipment are stated at cost. Depreciation and amortization are provided for using the straight-line method, in amounts sufficient to charge the cost of depreciable assets to operations over their estimated service lives. Repairs and maintenance costs are charged to operations as incurred.
Costs for capital assets not yet placed into service are capitalized as construction in progress on the consolidated balance sheets and will be depreciated once placed into service.
The Company assesses its long-lived assets for impairment whenever facts and circumstances indicate that the carrying amounts may not be fully recoverable. To analyze recoverability, the Company projects undiscounted net future cash flows over the remaining lives of such assets. If these projected undiscounted net future cash flows are less than the carrying amounts, an impairment loss would be recognized, resulting in a write-down of the assets with a corresponding charge to earnings. The impairment loss is measured based upon the difference between the carrying amounts and the fair values of the assets.
Leases
Subsequent to the adoption of the new leasing standard on January 1, 2019, the Company recognizes a lease asset for its right to use the underlying asset and a lease liability for the corresponding lease obligation. The Company determines whether an arrangement is, or contains a lease at contract inception. Operating leases with a duration greater than one year are included in right-of-use assets, lease liabilities, and lease liabilities, net of current portion in the Company’s consolidated balance sheets. Right-of-use assets and liabilities are recognized at the lease commencement date based on the present value of lease payments over the lease term. In determining the net present value of lease payments, the Company uses its incremental borrowing rate based on the information available at the lease commencement date. The incremental borrowing rate represents the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company considers a lease term to be the noncancelable period that it has the right to use the underlying asset.
The operating lease right-of-use assets also include any lease payments made and exclude lease incentives. Lease expense is recognized on a straight-line basis over the expected lease term. Variable lease expenses are recorded when incurred.
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 and 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.
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, or all of the deferred tax assets will not be realized.
F-
10
Table of Contents
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.
Research and Development
We expense the cost of research and development as incurred. Research and development expenses include costs incurred in funding research and development activities, license fees, and other external costs. Nonrefundable advance payments for goods and services that will be used in future research and development activities are expensed when the activity is performed or when the goods have been received, rather than when payment is made.
Segments
Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the chief operating decision-maker in making decisions regarding resource allocation and assessing performance. The Company views its operations and manages its business in one operating segment.
The following table disaggregates revenue from our single operating segment by geographic market and customer type for the periods ending December 31, 2021 and 2020, respectively:
Geographic Market
International 17 % 19 %
United States 83 % 81 %
Customer Type
Distribution 62 % 57 %
Recently Issued Accounting Pronouncements
Measurement of Credit Losses on Financial Instruments
In June 2016 the FASB issued ASU 2016-13, Measurement of Credit Losses on Financial Instruments, which supersedes current guidance requiring recognition of credit losses when it is probable that a loss has been incurred. The standard requires the establishment of an allowance for estimated credit losses on financial assets, including trade and other receivables, at each reporting date. The ASU will result in earlier recognition of allowances for losses on trade and other receivables and other contractual rights to receive cash. This standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2022. Early adoption is permitted. The Company does not believe the impact of adopting this standard will be material to its consolidated financial statements and related disclosures.
Income Taxes
In December 2019, the FASB issued ASU No.2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes (“ASU 2019-12”), which is intended to simplify various aspects related to accounting for income taxes. ASU 2019-12 removes certain exceptions to the general principles in Topic 740 and also clarifies and amends existing guidance to improve consistent application. This guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020, with early adoption permitted. On January 1, 2021, the Company adopted this standard without any material impact on its consolidated financial statements and related disclosures.
F-
11
Table
of Contents
Debt – Debt with conversion and Other Options
In August 2020, the FASB issued ASU No.2020-06, Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, which simplifies accounting for convertible instruments by removing major separation models required under current GAAP. The ASU removes certain settlement conditions that are required for equity contracts to qualify for the derivative scope exception and it also simplifies the diluted earnings per share calculation in certain areas. The ASU is effective for the Company on December 1, 2022, Early adoption is permitted, but no earlier than December 1, 2021. The Company elected to early adopt this guidance on January 1, 2022 and there will be no impact on its consolidated financial statements and related disclosures.
Earnings per Share
In May 2021, the FASB issued ASU 2021-04, Earnings Per Share (Topic 260), Debt-Modifications and Extinguishments (Subtopic 470-50), Compensation-Stock Compensation (Topic 718), and Derivatives and Hedging-Contracts in Entity’s Own Equity (Subtopic 815-40). This ASU reduces diversity in an issuer’s accounting for modifications or exchanges of freestanding equity-classified written call options (for example, warrants) that remain equity classified after modification or exchange. This ASU provides guidance for a modification or an exchange of a freestanding equity-classified written call option that is not within the scope of another Topic. It specifically addresses: (1) how an entity should treat a modification of the terms or conditions or an exchange of a freestanding equity-classified written call option that remains equity classified after modification or exchange; (2) how an entity should measure the effect of a modification or an exchange of a freestanding equity-classified written call option that remains equity classified after modification or exchange; and (3) how an entity should recognize the effect of a modification or an exchange of a freestanding equity-classified written call option that remains equity classified after modification or exchange. This ASU will be effective for all entities for fiscal years beginning after December 15, 2021. An entity should apply the amendments prospectively to modifications or exchanges occurring on or after the effective date of the amendments. Early adoption is permitted, including adoption in an interim period. The Company does not believe the impact of adopting this standard will be material to its consolidated financial statements and related disclosures.
NOTE 3– FAIR VALUE MEASUREMENTS
In accordance with ASC 820 (Fair Value Measurements and Disclosures), the Company uses various inputs to measure the outstanding warrants on a recurring basis to determine the fair value of the liability. ASC 820 also establishes a hierarchy categorizing inputs into three levels used to measure and disclose fair value. The hierarchy gives the highest priority to quoted prices available in active markets and the lowest priority to unobservable inputs. An explanation of each level in the hierarchy is described below:
Level 1 - Unadjusted quoted prices in active markets for identical instruments that are accessible by the Company on the measurement date
Level 2 - Quoted prices in markets that are not active or inputs which are either directly or indirectly observable
Level 3 - Unobservable inputs for the instrument requiring the development of assumptions by the Company
F-
12
Table of Conte
nts
The following table classifies the Company’s liabilities measured at fair value on a recurring basis into the fair value hierarchy as of December 31, 2021 and 2020 (amounts in thousands):
Fair Value at December 31, 2021
Total Level 1 Level 2 Level 3
Liabilities:
Derivative liability - Warrants 899 - - 899
Total liabilities $ 899 $ - $ - $ 899
Fair Value at December 31, 2020
Total Level 1 Level 2 Level 3
Liabilities:
Derivative liability - Warrants 4,444 - - 4,444
Total liabilities $ 4,444 $ - $ - $ 4,444
There were no transfers between Level 1,2 or 3 during the years ended December 31, 2021 and 2020.
The following table presents changes in Level 3 liabilities measured at fair value for the years ended December 31, 2021 and 2020. Both observable and unobservable inputs were used to determine the fair value of positions that the Company has classified within the Level 3 category. Unrealized gains and losses associated with liabilities within the Level 3 category include changes in fair value that were attributable to both observable (e.g., changes in market interest rates) and unobservable (e.g., changes in unobservable long- dated volatilities) inputs (amounts in thousands).
Derivative liability - Warrants
Change in fair value 300
Change in fair value (3,545 )
A summary of the weighted average (in aggregate) significant unobservable inputs (Level 3 inputs) used in the Monte Carlo simulation measuring the Company’s derivative liabilities that are categorized within Level 3 of the fair value hierarchy as of December 31, 2021 and 2020 is as follows:
For the years ended
December 31,
Contractual term (years) 6.00 6.00
Volatility (annual) 85.0 % 75.0 %
Risk-free rate 0.9 % 0.5 %
Dividend yield (per share) 0 % 0 %
On April 26, 2019 (the “Closing Date”), the Company entered into a Securities Exchange Agreement (“Share Exchange”) with each of the former members (“Members”) of Charlie’s, and certain direct investors in the Company (“Direct Investors”), pursuant to which the Company acquired all outstanding membership interests of Charlie’s beneficially owned by the Members in exchange for the issuance by the Company of units. Immediately prior to, and in connection with, the Share Exchange, Charlie’s consummated a private offering of membership interests that resulted in net proceeds to Charlie’s of approximately $27.5 million (the “Charlie’s Financing”). In conjunction with the Share Exchange, the Company issued to holders of its Series A Convertible Preferred Stock (“Series A Preferred”) warrants to purchase an aggregate of 31,028,996 shares of Common Stock (the “Investor Warrants”) and to its placement agent Katalyst Securities LLC warrants to purchase an aggregate of 9,308,699 shares of Common Stock (the “Placement Agent Warrants”). Both the Investor Warrants and Placement Agent Warrants have a five-year term and a strike price of $0.44313 per share. Due to the exercise features of these warrants, they are not considered to be indexed to the Company’s own stock and are therefore not afforded equity treatment in accordance with ASC Topic 815, Derivatives and Hedging (“ASC 815”). In accordance with ASC 815, the Company has recorded the Investor Warrants and Placement Agent Warrants as derivative instruments on its consolidated balance sheet. ASC 815 requires derivatives to be recorded on the balance sheet as an asset or liability and to be measured at fair value. Changes in fair value are reflected in the Company’s earnings for each reporting period.
F-
13
Table of Contents
Table of Contents
NOTE 4 - PROPERTY AND EQUIPMENT
Property and Equipment detail as of December 31, 2021, and 2020 are as follows (amounts in thousands):
December 31, 2021 December 31, 2020 Estimated Useful Life (in Years)
Machinery and equipment $ 42 $ 38 5
Leasehold improvements 380 380 Lesser of lease term or estimated useful life