Attached files
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
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For the quarterly period ended: September 30, 2016
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[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
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For the transition period from N/A to N/A
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Commission file number: 000-27145
SPENDSMART NETWORKS,
INC.
(Name of small business issuer in its charter)
Delaware
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33-0756798
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(State or jurisdiction of incorporation or
organization)
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(I.R.S. Employer Identification No.)
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805 Aerovista Pkwy, Suite 205
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San Luis Obispo California
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93401
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(Address and of principal
executive offices)
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(Zip Code)
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(877) 541-8398
(Issuer’s telephone number, including area code)
Indicate by check mark whether the issuer (1) filed all reports
required to be filed by Section 13 or 15(d) of the Exchange Act of
1934 during the past 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes ☒
No ☐
Indicate by check mark whether the registrant has submitted
electronically and posted on its corporate Web site, if any, every
Interactive Data File required to be submitted and posted pursuant
to Rule 405 of Regulation S-T during the preceding 12 months (or
for such shorter period that the registrant was required to submit
and post such files). Yes
☒ No
☐
Indicate by check mark whether registrant is a large accelerated
filer, an accelerated filer, a non-accelerated filer, or a smaller
reporting company. See the definitions of “large accelerated
filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange
Act.
Large accelerated filer
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☐
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Accelerated filer
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☐
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Non-accelerated filer
(Do not check if a smaller reporting company)
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☐
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Smaller reporting company
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☒
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Indicate by check mark whether the registrant is a shell company
(as defined in Rule 12b-2 of the Exchange Act).
Yes ☐
No ☒
As of November 11, 2016 there were 39,275,886 shares outstanding of
the issuer’s common stock, par value $0.001 per
share.
PART
I: Financial Information
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Item 1
– Financial Statements
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Condensed
Consolidated Balance Sheets as of September 30, 2016 (unaudited)
and December 31, 2015
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2
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Condensed
Consolidated Statements of Operations for the three months and nine
months ended September 30, 2016 and 2015 (unaudited)
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3
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Condensed
Consolidated Statements of Cash Flows for the nine months ended
September 30, 2016 and 2015 (unaudited)
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4
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Condensed
Consolidated Statements of Change in Stockholders’ Deficit
for the nine months ended September 30, 2016
(unaudited)
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5
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Notes
to Condensed Consolidated Financial Statements
(unaudited)
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6
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Item 2
– Management's Discussion and Analysis of Financial Condition
and Results of Operations
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22
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Item 3
– Quantitative and Qualitative Disclosures about Market
Risk
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28
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Item 4
– Controls and Procedures
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28
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PART
II: Other Information
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Item 1
– Legal Proceedings
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30
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Item
1A – Risk Factors
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30
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Item 2
– Unregistered Sales of Equity Securities and Use of
Proceeds
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42
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Item 3
– Defaults upon Senior Securities
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42
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Item 4
– Mine Safety Disclosures
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42
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Item 5
– Other Information
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42
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Item 6
– Exhibits
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42
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Signatures
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43
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FORWARD LOOKING STATEMENTS
In
addition to historical information, this Quarterly Report on Form
10-Q may contain statements relating to future results of
SpendSmart Networks, Inc. (including certain projections and
business trends) that are “forward-looking statements.”
Our actual results may differ materially from those projected as a
result of certain risks and uncertainties. These risks and
uncertainties include, but are not limited to, statements that
express or involve discussions with respect to predictions,
expectations, beliefs, plans, projections, objectives, assumptions
or future events or performance (often, but not always, using words
or phrases such as “expects” or “does not
expect”, “is expected”, “anticipates”
or “does not anticipate”, “plans”,
“targets”, “estimates” or
“intends”, or stating that certain actions, events or
results “may”, “could”,
“would”, “might” or “will” be
taken, occur or be achieved) are not statements of historical fact
and may be “forward-looking statements.” Such
forward-looking statements involve known and unknown risks,
uncertainties and other factors which may cause the actual results
or achievements of our Company to be materially different from any
future results or achievements of our Company expressed or implied
by such forward-looking statements. Such factors include, among
others, those set forth herein and those detailed from time to time
in our other Securities and Exchange Commission (“SEC”)
filings including those contained in our most recent Form 10-K.
These forward-looking statements are made only as of the date
hereof, and we undertake no obligation to update or revise the
forward-looking statements, whether as a result of new information,
future events or otherwise, except as otherwise required by law.
Our Company cautions readers not to place undue reliance on any
such forward-looking statements, which speak only as of the date
made. Our Company disclaims any obligation subsequently to revise
any forward-looking statements to reflect events or circumstances
after the date of such statements or to reflect the occurrence of
anticipated or unanticipated events. Also, there can be no
assurance that our Company will be able to raise sufficient capital
to continue as a going concern. Forward-looking statements may also
include, but are not limited to, statements about our ability to
grow our revenues, our history of losses, the impact of our debt
obligations on our liquidity and financial condition, our need for
additional financing, and dilution to our stockholders and price
adjustments related to certain of our warrants including those with
an exercise price related to certain performance
metrics.
PART I: Financial
Information
SPENDSMART
NETWORKS, INC.
Condensed Consolidated Balance
Sheets
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September 30,
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December 31,
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2016
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2015
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(unaudited)
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ASSETS
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Current assets:
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Cash
and cash equivalents
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$88,045
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$470,341
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Accounts
receivable, net of allowance for doubtful accounts of $405,000 at
September 30, 2016 and $295,759 at December 31, 2015
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632,176
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141,830
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Customer
short-term notes receivable, net of allowance for doubtful accounts
of $682,000 at September 30, 2016, and $632,422
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105,417
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276,168
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Other
current assets
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58,389
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11,100
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Total current assets
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884,027
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899,439
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Long-term assets:
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Customer
long-term notes receivable, net of allowance for doubtful accounts
of $348,000 at September 30, 2016, and $461,702 at
December 31, 2015
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119,696
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199,669
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Property
and equipment, net of accumulated depreciation of $1,396,223 on
September 30, 2016 and $1,035,960 on December 31, 2015
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827,841
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896,146
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Intangible
assets, net of accumulated amortization of $771,434 on September
30, 2016 and $626,579 on December 31, 2015
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1,425,720
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1,570,575
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Other
assets
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18,274
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18,274
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Total long-term assets
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2,391,531
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2,684,664
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Other assets held for sale
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-
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-
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TOTAL ASSETS
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$3,275,558
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$3,584,103
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LIABILITIES AND STOCKHOLDERS' DEFICIT
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Current liabilities:
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Convertible
notes
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$1,314,280
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$1,817,320
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Notes
payable
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-
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70,262
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Due
to related party
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65,000
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100,000
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Accounts
payable and accrued liabilities
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1,889,480
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1,867,233
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Accrued
interest payable
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55,843
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23,090
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Deferred
revenue
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814,064
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751,912
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Deferred
acquisition related payable
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-
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10,000
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Cash
received in connection with tender offer
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-
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661,424
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Derivative
liabilities - convertible options
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2,711
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179
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Derivative
liabilities - warrants
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2,343,255
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-
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Total
current liabilities
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6,484,633
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5,301,420
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Total liabilities
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6,484,633
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5,301,420
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Stockholders deficit:
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Series
C Preferred; $0.001 par value; 4,299,081 shares authorized;
3,690,729 and 3,700,729 shares issued and outstanding as of
September
30, 2016 and December 31, 2015, respectively
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3,691
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3,701
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Common
stock; $0.001 par value; 300,000,000 shares authorized; 39,275,886
and 20,458,761 shares issued and outstanding as of
September
30, 2016 and December 31, 2015, respectively
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39,276
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20,459
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Additional
paid-in capital
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94,206,979
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90,879,480
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Accumulated
deficit
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(97,459,021)
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(92,620,957)
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Total
stockholders' deficit
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(3,209,075)
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(1,717,317)
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TOTAL LIABILITIES AND STOCKHOLDERS’ DEFICIT
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$3,275,558
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$3,584,103
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See
accompanying notes to unaudited condensed consolidated financial
statements.
SPENDSMART
NETWORKS, INC.
Condensed Consolidated Statements of
Operations
(Unaudited)
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For the three months
ended September 30,
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For the nine months
ended September 30,
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2016
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2015
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2016
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2015
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Revenues:
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Mobile Marketing / Licensing
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$1,528,049
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$1,195,576
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$4,569,678
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$5,291,760
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Total revenues
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1,528,049
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1,195,576
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4,569,678
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5,291,760
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Operating expenses:
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Selling and marketing
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126,777
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13,955
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446,812
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642,242
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Personnel related
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1,030,774
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1,373,065
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3,554,440
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4,475,836
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Mobile Platform Processing
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301,606
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433,468
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909,649
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1,036,965
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Amortization of intangible assets
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48,285
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84,660
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144,855
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253,219
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General and administrative
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481,280
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1,332,498
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1,667,140
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2,654,748
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Bad debt
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100,531
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878,472
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163,323
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1,313,349
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Change in fair value of earn-out liability
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-
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-
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-
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(58,754)
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Total operating expenses
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2,089,253
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4,116,118
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6,886,219
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10,317,605
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Loss from operations
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(561,204)
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(2,920,542)
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(2,316,541)
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(5,025,845)
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Non-operating income (expense):
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Interest income
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8,254
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7,305
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33,461
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60,202
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Interest expense
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(33,733)
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-
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(104,323)
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-
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Other expense, net
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(21,161)
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-
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(81,000)
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-
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Amortization of debt discount
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(28,143)
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(188,972)
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(388,683)
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(325,910)
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Loss on extinguishment of debt
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-
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-
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(415,689)
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-
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Inducement for exercise of warrants
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-
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-
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(3,560,958)
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-
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Change in fair value of financial instruments
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812,869
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286,563
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1,995,669
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233,235
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Total non-operating income (loss)
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738,086
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104,896
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(2,521,523)
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(32,473)
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Net income (loss)
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$176,882
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$(2,815,646)
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$(4,838,064)
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$(5,058,318)
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Basic net income (loss) per share
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$0.01
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$(0.15)
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$(0.13)
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$(0.27)
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Diluted net income (loss) per share
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$(0.01)
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$(0.15)
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$(0.13)
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$(0.27)
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Basic weighted average common shares outstanding used in computing
net income (loss) per share
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39,315,995
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18,840,637
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36,877,988
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18,667,766
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Diluted weighted average common shares outstanding used in
computing net income (loss) per share
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51,454,161
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18,840,637
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36,877,988
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18,667,766
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See
accompanying notes to unaudited condensed consolidated financial
statements.
SPENDSMART NETWORKS, INC.
Statement of Changes in Stockholders' Deficit
For the nine months ended September 30, 2016
(unaudited)
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Series C Preferred
Stock
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Series A Preferred
Stock
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Common Stock
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Additional
Paid-in |
Accumulated
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Total Stockholder's
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Shares
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Par Value
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Shares
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Par Value
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Shares
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Par Value
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Capital
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Deficit
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Deficit
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Balance as of December 31, 2015
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3,700,729
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$3,701
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-
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$-
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20,458,761
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$20,459
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$90,879,480
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$(92,620,957)
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$(1,717,317)
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Conversions
of preferred stock to common stock
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(10,000)
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(10)
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-
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-
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60,000
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60
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(50)
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-
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-
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Warrant
exercises
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-
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-
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-
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-
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17,895,859
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17,896
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2,308,566
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2,326,462
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Issuance
of common stock for services
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-
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-
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-
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-
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700,000
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700
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77,300
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-
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78,000
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Issuance
of common stock for interest
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-
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-
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-
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-
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161,266
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161
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13,339
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13,500
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Warrant
modification
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-
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-
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-
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-
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-
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-
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43,895
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-
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43,895
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Stock
based compensation from stock options and warrants
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-
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-
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-
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-
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-
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-
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884,449
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-
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884,449
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Net
loss
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-
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-
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-
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-
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-
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-
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-
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(4,838,064)
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(4,838,064)
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Balance as of September 30, 2016
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3,690,729
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$3,691
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-
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$-
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39,275,886
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$39,276
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$94,206,979
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$(97,459,021)
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$(3,209,075)
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See accompanying notes to unaudited condensed consolidated
financial statements.
SPENDSMART
NETWORKS, INC.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
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For the nine months ended
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September 30,
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2016
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2015
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Cash flows from operating activities:
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Net loss
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$(4,838,064)
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$(5,058,318)
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Adjustments to reconcile net loss to net cash
used in operating activities
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Depreciation expense
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360,262
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807,002
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Amortization of intangible asset
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144,855
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253,219
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Amortization of debt discount
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388,683
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325,910
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Stock-based compensation
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884,449
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1,053,508
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Issuance of common stock for
services
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91,500
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293,166
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Change in fair value of financial
instruments
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(1,995,669)
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(233,235)
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Accrued interest income on notes receivable from
third party
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-
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(27,339)
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Accrued interest expenses on notes
payable
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50,087
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28,648
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Change in earn-out liability
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-
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(58,754)
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Inducement for exercise of warrants
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3,560,958
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-
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Extinguishment of convertible debt
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415,689
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-
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Provision for bad debt
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163,323
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1,313,349
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Changes in operating assets and
liabilities:
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Accounts receivable
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(651,880)
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(783,913)
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Customer short-term notes
receivable
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78,573
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(334,023)
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Customer long-term notes receivable
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170,362
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(137,461)
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Deferred revenue
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62,152
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(158,118)
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Prepaid insurance
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(47,289)
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6,090
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Other assets
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-
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(18,741)
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Accounts payable and accrued
liabilities
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27,680
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688,687
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Net cash used in operating
activities
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(1,134,329)
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(2,040,323)
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Cash flows from investing activities:
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Proceeds
from short-term notes receivable from third party
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-
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121,000
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Payment
of deferred acquisition payable-Intellectual Capital Mgmt,
LLC
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(10,000)
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(10,000)
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Software
development costs
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(291,957)
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(732,533)
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Purchase
of property and equipment
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-
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(305,326)
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Net cash used in investing activities
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(301,957)
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(926,859)
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Cash flows from financing activities:
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Net
proceeds from warrant exercises related to tender
offer
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1,179,252
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-
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Proceeds
from issuance of notes
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-
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200,000
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Proceeds
from issuance of related party financing
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-
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100,000
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Repayment
of notes
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(70,262)
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(37,627)
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Repayment
of notes to related parties
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(35,000)
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-
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Repayment
of convertible notes
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(200,000)
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-
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Proceeds
from issuance of convertible debt
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180,000
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1,488,500
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Net cash provided by financing activities
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1,053,990
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1,750,873
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Net decrease in cash and cash equivalents
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(382,296)
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(1,216,309)
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Cash and cash equivalents at beginning of the period
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470,341
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1,242,155
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Cash and cash equivalents at end of the period
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$88,045
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$25,846
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Non-cash Investing and
Financing Activities:
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The
Company had conversion of 47,500 shares of Series C preferred stock
into 190,000 shares of common stock during the nine months ended
September 30, 2015.
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The
Company issued 1,438,340 warrants in connection with convertible
debt during the nine months ended September 30, 2015.
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The
Company issued 26,479,217 warrants in connection with the exercise
of tender offer warrants during the nine months ended September 30,
2016.
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The
Company had a debt discount of $730,520 in connection with
convertible debt during the nine months ended September 30,
2015.
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The
Company had a debt discount of $50,738 in connection with
convertible debt during the nine months ended September 30,
2016.
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The
Company issued 17,895,859 shares of Common Stock in connection with
the exercise of tender offer warrants during the nine months ended
September 30, 2016.
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See accompanying notes to unaudited condensed consolidated
financial statements.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. Organization and Basis of Presentation
SpendSmart Networks, Inc. is a Delaware corporation (“the
Company”). The Company brings value added products
and mobile marketing solutions to consumers, merchants, and other
businesses. The accompanying unaudited condensed
consolidated financial statements include the accounts of the
Company and its wholly owned subsidiary SpendSmart Networks, Inc.,
a California corporation (SpendSmart-CA). All material intercompany
balances and transactions have been eliminated. The
accompanying unaudited condensed consolidated financial statements
should be read in conjunction with the financial statements
included in our Annual Report on Form 10-K for the year ended
December 31, 2015. The year-end balance sheet data was
derived from audited financial statements, but does not include all
disclosures required by accounting principles generally accepted in
the United States of America (“GAAP”). All
normal recurring adjustments which are necessary for the fair
presentation of the results for the interim periods are reflected
herein. Operating results for the nine-month period
ended September 30, 2016 are not necessarily indicative of results
to be expected for a full year.
2. Liquidity and Going Concern
As of December 31, 2015, the Company’s audited consolidated
financial statements included an opinion containing an explanatory
paragraph as to the uncertainty of the Company’s ability to
continue as a going concern. The Company has continued to incur net
losses through September 30, 2016 and has yet to establish
profitable operations. These factors among others create a
substantial doubt about the Company’s ability to continue as
a going concern at September 30, 2016. The Company’s
unaudited consolidated financial statements as of and for the
period ended September 30, 2016 do not contain any adjustments for
this uncertainty.
In an effort to reduce overhead, the Company reduced salaries by
10% during the first nine months of 2016 and issued options equal
to the value of the reduction. The Company also currently plans to
attempt to raise additional required capital through the sale of
unregistered shares of the Company’s preferred or common
stock. All additional amounts raised will be used for our future
investing and operating cash flow needs as well as payment of
previous debts. However, there can be no assurance that we will be
successful in consummating such financing. This description of our
recent financing and future plans for financing does not constitute
an offer to sell or the solicitation of an offer to buy our
securities, nor shall such securities be offered or sold in the
United States absent registration or an applicable exemption from
the registration requirements and certificates evidencing such
shares contain a legend stating the same.
3. Reclassification
Certain
reclassifications were made to the 2015 financial statement
presentation to conform to the 2016 financial statement
presentation. These reclassifications relate to immaterial
balances from discontinued operations, which have been included in
respective balances from continuing operations.
4. Summary of Significant Accounting Policies
The condensed consolidated financial statements have been prepared
in accordance with GAAP.
Loans Receivable and Accounts Receivable
The Company extended credit to its licensees in the normal course
of business and performs credit evaluations of its customers. The
Company no longer offers extended payment terms. Loans and accounts
receivable are stated at amounts due from customer’s net of
an allowance for doubtful accounts. Accounts that are outstanding
longer than the contractual payment terms are considered past due.
The Company determines its allowance for doubtful accounts by
considering a number of factors, including the length of time loan
and accounts receivable are past due and the customer's current
ability to pay its obligation to the Company. The Company writes
off loans and accounts receivable when they become
uncollectible.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Use of Estimates
The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities, fair value of financial
instruments, at the date of the consolidated financial statements
and the reported amounts of revenues and expenses during the
reporting period. Actual results could materially differ
from those estimates. Significant estimates inherent in the
preparation of the accompanying consolidated financial statements
include recoverability and useful lives of intangible assets, the
valuation allowance related to the Company's deferred tax assets,
the allowance for doubtful accounts related and notes and accounts
receivable, the fair value of stock options and warrants granted to
employees, consultants, directors, investors and placement agents,
notes, derivative liabilities (conversion option) and assumptions
used to fair value the inducement expense related to the warrant
tender offer.
Revenue Recognition
The Company generates revenues primarily in the form of set up
fees, license fees, messaging, equipment and marketing services
fees and value added mobile marketing and mobile commerce
services. License fees are charged monthly for support
services. Set-up fees primarily consist of fees for
website development services (including support and unspecified
upgrades and enhancements when and if they are available), training
and professional services that are not essential to functionality.
The Company offers two licenses consisting of our Engage license
and our Thrive license. The Company now offers both licenses
in a combined package known as the Customer Loyalty System License
(“CLS”). The revenues for
Engage, Thrive, and CLS license set-up fees are recognized over the
training and implementation periods of one month,
respectively.
The Company recognizes revenues when all of the following
conditions are met:
●
|
there is persuasive evidence of an arrangement;
|
●
|
the products or services have been delivered to the
customer;
|
●
|
the amount of fees to be paid by the customer is fixed or
determinable; and
|
●
|
The collection of the related fees is probable.
|
Signed agreements are used as evidence of an arrangement.
Electronic delivery occurs when we provide the customer with access
to the software. The Company assesses whether a fee is fixed or
determinable at the outset of the arrangement, primarily based on
the payment terms associated with the transaction. The Company
offered extended payment terms in 2014 and 2015 with regards to the
setup fee with typical terms of payment due between one and three
years from delivery of license. The Company no longer offers
extended payment terms. The Company assessed collectability of the
set-up fee based on a number of factors such as collection history
and creditworthiness of the licensee. If the Company determines
that collectability is not probable, revenue is deferred until
collectability becomes probable, generally upon receipt of
cash.
License arrangements may also include set-up fees for website
development, delivery of tablets, professional services and
training services, which are typically delivered within 30-60 days
of the contract term. In determining whether set-up fee revenues
should be accounted for separately from license revenues, we
evaluate whether the set-up fees are considered essential to the
functionality of the license using factors such as the nature of
our products; whether they are ready for use by the customer upon
receipt; the nature of our implementation services, which typically
do not involve significant customization to or development of the
underlying software code; the availability of services from other
vendors; whether the timing of payments for license revenues is
coincident with performance of
services; and whether milestones or acceptance criteria exist that
affect the realizability of the license fee. Substantially all of
our set-up fee arrangements are recognized as the services are
performed. Payments received in advance of services performed are
deferred and recognized when the related services are
performed.
We do not offer refunds and therefore have not recorded any sales
return allowance for any of the periods presented. Upon a periodic
review of outstanding accounts and notes receivable, amounts that
are deemed to be uncollectible are written off against the
allowance for doubtful accounts.
Deferred revenue consists substantially of amounts invoiced in
advance of revenue recognition for our products and services
described above. We recognize deferred revenue as revenue only when
the revenue recognition criteria are met.
SPENDSMART NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Cash and cash equivalents
The Company considers all investments with an original maturity of
three months or less to be cash equivalents. Cash equivalents
primarily represent funds invested in money market funds, bank
certificates of deposit and U.S. government debt securities whose
cost equals fair market value.
From time to time, the Company has maintained bank balances in
excess of insurance limits. The Company has not experienced any
losses with respect to cash. Management believes the Company is not
exposed to any significant credit risk with respect to its cash and
cash equivalents.
Property and Equipment
Property and equipment had been recorded at cost and depreciated
using the straight-line method over the estimated useful lives of
the related assets (generally three to five years). Costs incurred
for maintenance and repairs are expensed as incurred and
expenditures for major replacements and improvements are
capitalized and depreciated over their estimated remaining useful
lives. Depreciation expense for the three and nine months ended
September 30, 2016 and 2015 was $0 and $0, and $628,999 and
$535,286, respectively. Property and equipment has been fully
depreciated as of September 30, 2016.
Software Capitalization
The Company accounts for computer software used in the business in
accordance with ASC 350 “Intangibles-Goodwill and
Other”. ASC 350 requires computer software costs associated
with internal use software to be charged to operations as incurred
until certain capitalization criteria are met. Costs incurred
during the preliminary project stage and the post-implementation
stages are expensed as incurred. Certain qualifying costs incurred
during the application development stage are capitalized as
property, equipment and software. These costs generally consist of
internal labor during configuration, coding, and testing
activities. Capitalization begins when (i) the preliminary project
stage is complete, (ii) management with the relevant authority
authorizes and commits to the funding of the software project, and
(iii) it is probable both that the project will be completed and
that the software will be used to perform the function
intended. We capitalized $291,957 and $732,533,
respectively, in software development related to programming and
coding for new product development for the nine months ended
September 30, 2016 and 2015. Software amortization
expense for the three and nine months ended September 30, 2016 and
2015 was $128,765 and $360,262, and $82,456 and $178,003,
respectively.
Valuation of Long-Lived Assets
The Company records impairment losses on long-lived assets used in
operations when indicators of impairment are present and the
undiscounted cash flows estimated to be generated by those assets
are less than the assets’ carrying amount. If such assets are
considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amounts of the assets
exceed the estimated fair value of the assets. There has not been
any impairment recorded during the period ended September 30,
2016.
Income Tax Expense Estimates and Policies
As part of the income tax provision process of preparing the
Company’s financial statements, the Company is required to
estimate the Company’s provision for income taxes. This
process involves estimating current tax liabilities together with
assessing temporary differences resulting from differing treatments
of items for tax and accounting purposes. These differences result
in deferred tax assets and liabilities. Management then assesses
the likelihood that the Company deferred tax assets will be
recovered from future taxable income and to the extent believed
that recovery is not likely, a valuation allowance is established.
Further, to the extent a valuation allowance is established and
changes occur to this allowance in a financial accounting period,
such changes are recognized in the Company’s tax provision in
the Company’s condensed consolidated statement of operations.
The Company’s use of judgment in making estimates to
determine the Company’s provision for income taxes, deferred
tax assets and liabilities and any valuation allowance is recorded
against our net deferred tax assets.
The Company recognizes the benefit of an uncertain tax position
taken or expected to be taken on the Company’s income tax
returns if it is “more likely than not” that such tax
position will be sustained based on its technical merits. The
Company does not have any unrecognized tax benefits or accrued
penalties and interest. If such matters were to arise, the Company
would recognize interest and penalties related to income tax
matters in income tax expense.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Stock-Based Compensation
The Company accounts for stock based compensation arrangements
through the measurement and recognition of compensation expense for
all stock based payment awards to employees and directors based on
estimated fair values. The Company uses the Black-Scholes option
valuation model to estimate the fair value of the Company’s
stock options and warrants at the date of grant. The Black-Scholes
option valuation model requires the input of subjective assumptions
to calculate the value of options and warrants. The Company uses
historical company data among other information to estimate the
expected price volatility and the expected forfeiture rate and not
comparable company information.
Net Income (Loss) per Share
The Company calculates basic earnings per share (“EPS”)
by dividing the Company’s net income(loss) and comprehensive
net income (loss) applicable to common shareholders by the weighted
average number of common shares outstanding for the period, without
considering common stock equivalents. Diluted EPS is computed by
dividing net income or net loss and comprehensive net loss
applicable to common shareholders by the weighted average number of
common shares outstanding for the period and the weighted average
number of dilutive common stock equivalents, such as options and
warrants. Options and warrants are only included in the calculation
of diluted EPS when their effect is dilutive.
For the three months ended September 30, 2016 diluted earnings per
common share are computed by the numerator effected by the gain on
the change in fair value of the warrant liability and the
denominator is increased to include the number of additional
potential common shares from the warrants underlying the warrant
liability.
Diluted earnings per common shares were calculated using the
following net income and weighted average shares outstanding for
the three months ended September 30, 2016.
|
Three Months Ended September 30, 2016
|
|
|
Net
income
|
$176,882
|
Gain
on the change in fair value of the warrant liability
|
(389,658)
|
Diluted
earnings
|
$(212,776)
|
Weighted
average number of common and common equivalent shares
outstanding:
|
|
Basic
number of common shares outstanding
|
39,315,995
|
Dilutive
effect of warrants
|
12,138,166
|
Diluted
number of common and common stock equivalent shares
outstanding:
|
51,454,161
|
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
For the nine months ended September 30, 2016 and the three and nine
months ended September 30, 2015, diluted net loss per common share
is equal to the basic net loss per common share since all
potentially dilutive securities are anti-dilutive.
|
September 30,
|
|
|
2016
|
2015
|
Convertible
notes
|
8,719,640
|
1,512,500
|
Common
stock options
|
19,726,842
|
8,666,833
|
Investor
warrants
|
37,995,156
|
23,861,368
|
Compensation
warrants
|
1,981,667
|
1,895,000
|
Excluded
potentially dilutive securities
|
68,423,305
|
35,935,701
|
Derivatives - Warrant Liability
The Company accounts for the common stock warrants granted and
still outstanding as of September 30, 2016 in connection with
certain financing transactions (“Transactions”) in
accordance with the guidance contained in ASC 815-40-15-7D,
"Contracts in Entity's Own Equity" whereby under that provision
they do not meet the criteria for equity treatment and must be
recorded as a liability. Accordingly, the Company classifies the
warrant instrument as a liability at its fair value and adjusts the
instrument to fair value at each reporting period. This liability
is subject to re-measurement at each balance sheet date until
exercised, and any change in fair value is recognized in the
Company's statements of operations. The fair value of the warrants
issued by the Company in connection with the Transactions has been
estimated using a Monte Carlo simulation.
The Company accounted for certain of its outstanding warrants
issued in fiscal 2010, 2012 and 2013 (“2010 Warrants,”
“2012 Warrants” and “2013 Warrants, respectively)
as derivative liabilities. The 2010 Warrants were determined to be
ineligible for equity classification due to provisions of the
respective instruments that may result in an adjustment to their
conversion or exercise prices. The Company recognized gains of $0
and $47,209 in the fair value of derivatives for the nine months
ended September 30, 2016 and 2015, respectively. The Company
recognized a gain of $0 and $19,221 in the fair value of
derivatives for the three months ended September 30, 2016 and 2015,
respectively. These derivative liabilities which arose from the
issuance of the 2010 Warrants resulted in an ending balance of
derivative liabilities of $0 as of September 30, 2016 and December
31, 2015, respectively. These warrants expired in November
2015.
SPENDSMART NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
The Company accounts for certain of its outstanding warrants issued
in fiscal 2016 (“2016 Warrants”) as derivative
liabilities. The 2016 Warrants were determined to be ineligible for
equity classification due to provisions of the respective
instruments that may result in an adjustment to their conversion or
exercise prices. The Company recognized gains of $1,756,087 and $0
in the fair value of derivatives for the nine months ended
September 30, 2016 and 2015, respectively. The Company recognized
gains of $781,085 and $0 in the fair value of derivatives for the
three months ended September 30, 2016 and 2015, respectively. These
derivative liabilities which arose from the issuance of the 2016
Warrants resulted in an ending balance of derivative liabilities of
$2,343,255 and $0 as of September 30, 2016 and December 31, 2015,
respectively.
Debt discount and issuance costs
Debt issuance costs, including the value of warrants issued in
connection with debt financing and fees or costs paid to lender,
are presented in the consolidated balance sheets as a direct
deduction from the carrying amount of that debt.
The Company amortizes the discount to interest expense over the
term of the respective debt using the effective interest
method.
Derivatives – Bifurcated Conversion Option in Convertible
Notes
The
Company does not use derivative financial instruments to hedge
exposures to cash-flow, market or foreign-currency risks. However,
the Company has issued Convertible Notes with features that are
either (i) not afforded equity classification, (ii) embody risks
not clearly and closely related to host contracts, or (iii) may be
net-cash settled by the counterparty. As required by ASC 815,
Accounting for Derivative
Financial Instruments and Hedging Activities, in certain
instances, these instruments are required to be carried as
derivative liabilities, at fair value, in our financial
statements.
The
Convertible Notes issued during the year ended December 31, 2015
are subject to anti-dilution adjustments that allow for the
reduction in the Conversion Price, as defined in the agreement, in
the event the Company subsequently issues equity securities
including Common Stock or any security convertible or exchangeable
for shares of Common Stock for a price less than the current
conversion price. The Company bifurcated and accounted for the
conversion option in accordance with ASC 815 as a derivative
liability, since this conversion feature is not considered to be
indexed to the Company’s own stock.
The
Company’s derivative liability has been measured at fair
value at September 30, 2016 using a Monte-Carlo Simulation. Inputs
into the model require estimates, including such items as estimated
volatility of the Company’s stock, estimated probabilities of
additional financing, risk-free interest rate, and the estimated
life of the financial instruments being fair valued. In addition,
since the conversion price contains an anti-dilution adjustment,
the probability that the Conversion Price of the Notes would
decrease as the share price decreased was also incorporated into
the valuation calculation.
The
Company modified two existing Notes during the first quarter 2016
and three existing Notes during the second quarter, 2016. According
to FASB ASC 470-50, the modification is accounted for as a debt
extinguishment, whereby the new debt instrument is initially
recorded at fair value, and that amount is used to determine the
debt extinguishment gain or loss to be recognized and the effective
rate of the new instrument. We recognized a loss on the
extinguishment of debt of $415,689, of which $106,766 was related
to the repricing of warrants for the
nine months ended September 30, 2016.
The
Company recognized a gain of $239,582 and $186,026 in the fair
value of derivatives for the nine months ended September 30, 2016
and 2015, respectively. These derivative liabilities which arose
from the issuance of the convertible notes resulted in an ending
balance of derivative liabilities of $2,711 and $179 as of
September 30, 2016 and December 31, 2015, respectively. Subsequent
changes to the fair value of the derivative liabilities will
continue to require adjustments to their carrying value that will
be recorded as other income (in the event that their value
decreases) or as other expense (in the event that their value
increases). The fair value of these liabilities is estimated using
Monte Carlo pricing models that are based on the individual
characteristics of the Company’s warrants, preferred and
common stock, as well as assumptions for volatility, remaining
expected life, risk-free interest rate and, in some cases, credit
spread.
SPENDSMART NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Notes to Condensed Consolidated Financial Statements
Fair value of assets and liabilities
Fair value is defined as the price that would be received from
selling an asset or paid to transfer a liability in an orderly
transaction between market participants at the measurement date.
When determining the fair value for applicable assets and
liabilities, we consider the principal or most advantageous market
in which we would transact and we consider assumptions market
participants would use when pricing the asset or liability, such as
inherent risk, transfer restrictions, and risk of nonperformance.
This guidance also establishes a fair value hierarchy to prioritize
inputs used in measuring fair value as follows:
●
Level 1: Observable inputs such as quoted prices in active
markets;
●
Level 2: Inputs, other than quoted prices in active markets, that
are observable either directly or indirectly; and
●
Level 3: Unobservable inputs in which there is little or no market
data, which require the reporting entity to develop its own
assumptions.
The Company’s financial instruments are cash and cash
equivalents, accounts receivable, notes receivable, notes payable,
accounts payable and derivative liabilities. The recorded values of
cash equivalents, accounts receivable, notes receivable and
accounts payable approximate their fair values based on their
short-term nature. The fair value of derivative liabilities is
estimated using option pricing models that are based on the
individual characteristics of our warrants, preferred and common
stock, the derivative liability on the valuation date as well as
assumptions for volatility, remaining expected life, risk-free
interest rate and, in some cases, credit spread. The derivative
liabilities and earn-out liabilities are the only Level 3 fair
value measures.
A summary of quantitative information with respect to valuation
methodology and significant unobservable inputs used for the
Company’s warrant liabilities that are categorized within
Level 3 of the fair value hierarchy as of September 30, 2016 and
December 31, 2015 is as follows:
A summary of quantitative information with respect to valuation
methodology and significant unobservable inputs used for the
Company’s conversion options that are categorized within
Level 3 of the fair value hierarchy as of September 30, 2016 is as
follows:
Date
of Valuation
|
September 30, 2016
|
Stock
Price
|
$0.06
|
Volatility
(Annual)
|
112.2%
|
Strike
Price
|
$0.15
- $0.75
|
Risk-free
Rate
|
0.86 - 0.85%
|
Maturity
Date
|
10/2/16
- 6/26/19
|
At September 30, 2016 and December 31, 2015, the estimated Level 3
fair values of the liabilities measured on a recurring basis are as
follows:
|
|
Fair Value
Measurements at September 30, 2016:
|
||
|
Carrying Value
|
Level
1
|
Level
2
|
Level
3
|
|
|
|
|
|
Derivative
liability-warrants liability
|
$2,343,255
|
-
|
-
|
$2,343,255
|
Derivative
liability – convertible options
|
$2,711
|
-
|
-
|
$2,711
|
Total
securities
|
$2,345,966
|
$-
|
$-
|
$2,345,966
|
|
|
|
|
|
|
|
Fair Value
Measurements at December 31, 2015:
|
||
|
Carrying Value
|
Level 1
|
Level 2
|
Level 3
|
|
|
|
|
|
Earn-out
liability
|
$-
|
$-
|
$-
|
$-
|
Derivative
liability – convertible options
|
$179
|
$-
|
$-
|
$179
|
Total
securities
|
$179
|
$-
|
$-
|
$179
|
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
The following tables present the activity for Level 3 liabilities
for the nine months ended September 30, 2016:
Fair Value Measurements Using Level 3 Inputs
|
WarrantDerivative
Liability
|
ConversionNotes
|
Earn-outLiability
|
Total
|
Balance
- December 31, 2015
|
$-
|
179
|
-
|
$179
|
Additions
during the period
|
4,099,342
|
242,114
|
-
|
4,341,456
|
Total
Unrealized (gains) or losses include in net loss
|
(1,756,087)
|
(239,582)
|
-
|
(1,995,669)
|
Settlements
during the period
|
-
|
-
|
-
|
-
|
Transfers
in and/or out of Level 3
|
-
|
-
|
-
|
-
|
Balance
- September 30, 2016
|
$2,343,255
|
2,711
|
-
|
$2,345,966
|
Advertising
The Company expenses advertising costs as incurred. The Company has
no existing arrangements under which the Company provides or
receives advertising services from others for any consideration
other than cash. Advertising expenses (primarily in the form of
Internet direct marketing) totaled $49,537 and $102,949 for the
three months ended September 30, 2016 and 2015, respectively.
Advertising expenses (primarily in the form of Internet direct
marketing) totaled $125,607 and $255,517 for the nine months ended
September 30, 2016 and 2015, respectively.
Litigation
From time to time, the Company may become involved in litigation
and other legal actions. The Company estimates the range of
liability related to any pending litigation where the amount and
range of loss can be estimated. The Company records its best
estimate of a loss when the loss is considered probable. Where a
liability is probable and there is a range of estimated losses with
no best estimate in the range, the Company records a charge equal
to at least the minimum estimated liability for a loss contingency
when both of the following conditions are met: (i) information
available prior to issuance of the financial statements indicates
that it is probable that an asset had been impaired or a liability
had been incurred at the date of the financial statements and (ii)
the range of loss can be reasonably estimated.
Intangible assets
Intangible assets consist of intellectual property/technology,
customer lists, and trade-name/marks acquired in business
combinations under the purchase method of accounting are recorded
at fair value net of accumulated amortization since the acquisition
date. Amortization is calculated using the straight line method
over the estimated useful lives at the following annual
rates:
|
Useful Lives
|
IP/technology
|
10
|
Trade-name/marks
|
10
|
The Company reviews its finite-lived intangible assets for
impairment whenever events or changes in circumstances indicate
that the carrying amount of finite-lived intangible asset may not
be recoverable. Recoverability of a finite-lived intangible asset
is measured by a comparison of its carrying amount to the
undiscounted future cash flows expected to be generated by the
asset. If the asset is considered to be impaired, the impairment to
be recognized is measured by the amount by which the carrying
amount of the asset exceeds the fair value of the asset, which is
determined based on discounted cash flows. Amortization of
intangible assets was $144,855 and $253,219 for the nine months
ended September 30, 2016 and 2015, respectively, and $48,285 and
$84,660 for the three months ended September 30, 2016 and 2015,
respectively.
According to the Financial Accounting Standards Board Accounting
Standards Codification (“ASC”) 360 (“ASC
360”), a long-lived asset (group) that is held and used
should be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount (book value) of the
long-lived asset (group) might not be recoverable (i.e. information
indicates that an impairment might exist). As a result, companies
are not required to perform an impairment analysis (i.e. test the
asset (group) for recoverability and potentially measure an
impairment loss) if indicators of impairment are not present.
Instead, entities would assess the need the need for an impairment
write-down only if an indicator of impairment is present. Companies
are responsible for routinely assessing whether impairment
indicators are present.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Recently Issued Accounting Pronouncements
In February 2016, the FASB issued ASU 2016-02, Leases which amended
guidance for lease arrangements in order to increase transparency
and comparability by providing additional information to users of
financial statements regarding an entity's leasing activities. The
revised guidance seeks to achieve this objective by requiring
reporting entities to recognize lease assets and lease liabilities
on the balance sheet for substantially all lease arrangements. The
guidance, which is required to be adopted in the first quarter of
2019, will be applied on a modified retrospective basis beginning
with the earliest period presented. Early adoption is permitted. We
are currently evaluating the impact of adopting this guidance on
our consolidated financial statements.
On May 28, 2014, the FASB issued ASU 2014-09, Revenue from
Contracts with Customers as amended (Topic 606), with an effective
date for annual reporting periods beginning after December 15,
2017, including interim periods within that reporting period, for
public business entities. Earlier application is permitted only as
of annual reporting periods beginning after December 15, 2016,
including interim reporting periods within that reporting period.
The Company is evaluating the impact, if any, the pronouncement
will have on our financial statements.
In
August 2014, the FASB issued ASU
No. 2014-15, Presentation
of Financial Statements—Going Concern (“ASU
2014-15”), which
states management should evaluate whether there are conditions or
events, considered in the aggregate, that raise a substantial doubt
about the entity’s ability to continue as a going concern
within one year after the date that the financial statements are
issued. Management’s evaluation should be based on
relevant conditions and events that are known and likely to occur
at the date that the financial statements are issued. ASU
2014-15 will be effective for the annual period ending after
December 15, 2016, and for annual periods and interim periods
thereafter, however, early application is
permitted. Management does not expect the adoption of ASU
2014-15 to have a material impact on the Company’s
consolidated financial statements, although there may be additional
disclosures upon adoption.
On
March 30, 2016, the FASB issued ASU 2016-09, Compensation—Stock Compensation (Topic
718): Improvements to Employee Share-Based Payment
Accounting (“ASU 2016-09”). ASU 2016-09 simplifies several
aspects of the accounting for employee share-based payment
transactions including the accounting for income taxes,
forfeitures, and statutory tax withholding requirements, as well as
classification in the statement of cash flows. ASU 2016-09 will
take effect for fiscal years, and interim periods within those
fiscal years, beginning after December 15, 2017, with early
application permitted. Management does not expect the adoption of
ASU 2016-09 to have a material impact on the Company’s
consolidated financial statements, although there may be additional
disclosures upon adoption.
Segments
The Company operates in one reportable segment. Accordingly, no
segment disclosures have been presented herein.
5. Accounts Receivable, Short-Term and Long-Term Notes
Receivable
Management reviews accounts receivable, short-term and long-term
notes receivable on a monthly basis to determine if any receivables
are potentially uncollectible. An allowance for doubtful accounts
is determined based on a combination of historical experience,
length of time outstanding, customer credit worthiness, and current
economic trends. We recorded a bad debt expense of $163,323 during
the nine months ended September 30, 2016 and wrote off
uncollectable accounts during the nine months ended September 30,
2016 in the amount of $119,006. As of September 30, 2016, the
Company had recorded an allowance for doubtful accounts of
$1,435,000.
Notes receivable aged over 30 days past due are considered
delinquent and notes receivable aged over 60 days past due with
known collection issues are placed on non-accrual status. Interest
revenue is not recognized on notes receivable while on non-accrual
status. Cash payments received on non-accrual receivables are
applied towards the principal. When notes receivable on non-accrual
status are again less than 60 days past due, recognition of
interest revenue for notes receivable is resumed. The
Company charges interest rates on notes receivable averaging
14%. The Company recorded $33,461 in interest income for
the nine months ended September 30, 2016.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
The allowance for doubtful accounts on long-term receivables is the
Company's best estimate of the amount of probable credit losses
related to the Company's existing note receivables. The
allowance for doubtful accounts is the Company's best estimate of
probable credit losses related to trade receivables and notes
receivable based upon the aging of the receivables, historical
collection data, internal assessments of credit quality and the
economic conditions in the business subprime industry, as well as
in the economy as a whole. The Company charges off uncollectable
amounts against the reserve in the period in which it determines
they are uncollectable. Unearned income on notes receivable is
amortized using the effective interest method. The
Company determines the allowance for doubtful accounts related to
notes receivable based upon a reserve for known collection issues,
as well as a reserve based upon aging, both of which are based upon
history of such losses and current economic conditions. Based upon
the Company's methodology, the notes receivable balances with
reserves and the reserves associated with those balances are as
follows:
|
September 30, 2016
|
|||||
|
Gross
|
Reserve
|
Net
|
|||
|
Current
|
Long-Term
|
Current
|
Long-Term
|
Current
|
Long-Term
|
Customer
Notes Receivable
|
787,417
|
467,696
|
682,000
|
348,000
|
105,417
|
119,696
|
Accounts
Receivable
|
1,037,176
|
-
|
405,000
|
-
|
632,176
|
-
|
|
December 31, 2015
|
|||||
|
Gross
|
Reserve
|
Net
|
|||
|
Current
|
Long-Term
|
Current
|
Long-Term
|
Current
|
Long-Term
|
Customer
Notes Receivable
|
908,590
|
661,371
|
632,422
|
461,702
|
276,168
|
199,669
|
Accounts
Receivable
|
437,589
|
-
|
295,759
|
-
|
141,830
|
-
|
The roll forward of the allowance for doubtful accounts related to
notes receivable and accounts receivable is as
follows:
|
Notes Receivable
|
Accounts
Receivable
|
|
|
Current
|
Long-Term
|
Current
|
Balance
at December 31, 2015
|
$632,422
|
$461,702
|
$295,759
|
Incremental
Provision
|
92,178
|
(90,389)
|
161,534
|
Recoveries
|
-
|
-
|
800
|
Charge
offs
|
(42,600)
|
(23,313)
|
(53,093)
|
Balance
at September 30, 2016
|
$682,000
|
$348,000
|
$405,000
|
The allowance for doubtful accounts as a percentage of total
receivables was approximately 63% as of September 30, 2016 and
approximately 69% as of December 31, 2015.
The Company received a Secured Convertible Promissory Note (the
“Note”) for a principal amount of $410,000 from a third
party in September 2014. The Note bears interest at the rate of
5.25% per annum and matured in four months. For the nine months
ended September 30, 2015, the Company had recorded $12,846 of
interest income from this Note. $121,000 of the
principal amount was paid during the nine months ended 2015. The
remaining Note balance of $322,513 was written off as of the year
ended December 31, 2015.
6. Common Stock and Warrants
Common stock
During the nine months ended September 30, 2016, the company issued
17,895,859 shares of common stock related to the tender offer. The
Company issued 700,000 shares of common stock related to services
rendered and recognized expense of $78,000 and issued 161,266
shares of common stock related to interest due and recognized
expense of $13,500. 10,000 shares of Series C Stock converted to
60,000 shares of common shares during the nine months ended
September 30, 2016.
During the nine months ended September 30, 2015, the company
didn’t issue any common stock for services. 41,500 shares of
Series C Stock converted to 166,000 common shares during the nine
months ended September 30, 2015.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Tender Offer and Debt Conversion
Between December 11, 2015 and February 3, 2016, the Company entered
into agreements with investors, pursuant to which on February 3,
2016, warrant holders exercised 12,270,846 Warrants to purchase an
aggregate of 12,270,846 shares of our common stock for gross
proceeds of $1.84 million. The Company issued new warrants to
purchase an aggregate of 26,479,217 shares of common stock at an
exercise price of $0.15 per share, in consideration for the
immediate exercise of the warrants. In August, 2016, the exercise
price on 13,209,609 of these warrants was reduced to $0.01, as the
Company had not met its six month targets related to these
warrants. The following paragraph discusses the accounting
treatment related to this reduction.
The Warrants have a cash settlement feature; as a result, they were
classified as a derivative liability and recorded at fair value.
Fair value of the Warrants, in the total amount of $3,918,924 was
calculated using the Monte-Carlo model, using the following
assumptions: 68.7% expected volatility, a risk-free interest rate
of 0.91%, estimated life of 3 years and no dividend yield. The fair
value of the common stock was $0.148. The transaction was accounted
for as an inducement. ASC 470-20-40 addresses the accounting
for altered conversion privileges, including the issuance of
warrants or other securities (not provided for in the original
conversion terms) to induce conversion. As a result of this
transaction, the Company recognized an inducement expense of
$3,560,958 equal to the fair value of all securities and other
consideration transferred in the transaction in excess of the fair
value of securities issuable pursuant to the original conversion
terms, as of the date of the conversion.
In connection with the tender offer, investors converted $843,751
in Convertible Notes at a conversion price of $0.15 per share into
5,625,013 shares of our common stock during the first quarter,
2016.
On July
19, 2016, the Company issued the following Convertible Promissory
Notes: Joe Proto ($40,000), John Eyler ($40,000), Francis J. Liddy
($20,000), Isaac Blech ($40,000), and Transpac Investments Ltd.
($40,000). All of the individuals listed are members of the board
of directors. The Convertible Promissory Notes bear interest at the
rate of 9%, have a six month maturity date, and a mandatory
conversion into an upcoming financing in the event the Company
closes the financing and receives gross proceeds totaling at least
$200,000. The conversion rate will be at the same terms of the
financing. We recorded $1,598 in interest expense for the three and
nine months ended September 30, 2016.
On March 30 and 31, 2015, the Company closed on a private
offering and issued and sold 11.25 units (the “Units”)
to investors with each such Unit consisting of a 9% Convertible
Promissory Note with the principal face value of $50,000 (the
“Notes”) and a warrant to purchase 66,667 shares of the
Company’s common stock (the “Warrant”). The
Company also agreed to provide piggy-back registration rights to
the holders of the Units. The Notes have a term of twelve (12)
months, pay interest semi-annually at 9% per annum and can be
voluntarily converted by the holder into shares of common stock at
an exercise price of $0.75 per share, subject to adjustments for
stock dividends, splits, combinations and similar events as
described in the Notes. In addition, if the Company issues or sells
common stock at a price below the conversion price then in effect,
the conversion price of the Notes shall be adjusted downward to
such price but in no event shall the conversion price be reduced to
a price less than $0.50 per share. The Warrants have an exercise
price of $1.00 per share and have a term of four years. The holders
of the Warrants may exercise the Warrants on a cashless basis for
as long as the shares of common stock underlying the Warrants are
not registered on an effective registration statement. The
Company raised gross proceeds of $562,500 and issued warrants to
acquire 750,004 shares of common stock. The relative fair value
ascribed to the 750,004 warrants issued was $171,875 and was
recorded to additional paid-in capital.
The embedded conversion feature was bifurcated and accounted for as
a derivative liability at $164,300 on the day of issuance. The
remaining proceeds were allocated based on the relative fair value
of the debt and the warrant, and accordingly, $336,175 of debt
discount was recorded at issuance and was amortized over the term
of the debt using the effective interest method. The amount of debt
discount amortized for the nine months ended September 30, 2016 was
$119,479.
On March 29, 2016, the Company amended the March 30, 2015 9%
Convertible Promissory Note with a principal amount of $300,000 as
follows: the maturity date was extended to September 29, 2016, the
conversion price was lowered to $0.15 per share, the provision
limiting the conversion price adjustment to that of the Series C
Preferred Stock was removed, and an option to be repaid prior to
the maturity date in the event the Company raises capital in excess
of three million dollars was added. The Company also amended the
warrant issued in conjunction with the Convertible Promissory Note
reducing the exercise price to $0.15 and issued a new warrant to
purchase 400,002 shares of the Company's common stock with a $0.15
exercise price and a three year expiration. According to
FASB ASC 470-50, the modification is accounted for as a debt
extinguishment, whereby the new debt instrument is initially
recorded at fair value, and that amount is used to determine the
debt extinguishment gain or loss to be recognized and the effective
rate of the new instrument. We recognized a loss on the
extinguishment of debt of $147,566 for the nine months ended
September 30, 2016.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
On March 30, 2016, the Company amended the March 30, 2015 9%
Convertible Promissory Note with a principal amount of $262,500 as
follows: the maturity date was extended to September 30, 2016, the
conversion price was lowered to $0.15 per share, the provision
limiting the conversion price adjustment to that of the Series C
Preferred Stock was removed, and an option to be repaid prior to
the maturity date in the event the Company raises capital in excess
of three million dollars was added. The Company also amended the
warrant issued in conjunction with the Convertible Promissory Note
reducing the exercise price to $0.15 and issued a new warrant to
purchase 350,002 shares of the Company's common stock with a $0.15
exercise price and a three year expiration. According to
FASB ASC 470-50, the modification is accounted for as a debt
extinguishment, whereby the new debt instrument is initially
recorded at fair value, and that amount is used to determine the
debt extinguishment gain or loss to be recognized and the effective
rate of the new instrument. We recognized a loss on the
extinguishment of debt of $141,052 for the nine months ended
September 30, 2016.
During the second quarter 2015, the Company closed on private
offerings and issued and sold 11.00 units (the “Units”)
to investors with each such Unit consisting of a 9% Convertible
Promissory Note with the principal face value of $50,000 (the
“Notes”) and a warrant to purchase 66,667 shares of the
Company’s common stock (the “Warrant”). The
Company also agreed to provide piggy-back registration rights to
the holders of the Units. The Notes have a term of twelve (12)
months, pay interest semi-annually at 9% per annum and can be
voluntarily converted by the holder into shares of common stock at
an exercise price of $0.75 per share, subject to adjustments for
stock dividends, splits, combinations and similar events as
described in the Notes. In addition, if the Company issues or sells
common stock at a price below the conversion price then in effect,
the conversion price of the Notes shall be adjusted downward to
such price but in no event shall the conversion price be reduced to
a price less than $0.50 per share. The Warrants have an exercise
price of $1.00 per share and have a term of four years. The holders
of the Warrants may exercise the Warrants on a cashless basis for
as long as the shares of common stock underlying the Warrants are
not registered on an effective registration statement. The Company
raised gross proceeds of $550,000 and issued warrants to acquire
733,336 shares of common stock. The relative fair value ascribed to
the 750,004 warrants issued was $171,875 and was recorded to
additional paid-in capital.
The embedded conversion feature was bifurcated and accounted for as
a derivative liability at $228,700 on the day of issuance. The
remaining proceeds were allocated based on the relative fair value
of the debt and the warrant, and accordingly, $394,345 of debt
discount was recorded at issuance and is being amortized over the
term of the debt using the effective interest method. The amount of
debt discount amortized for the nine months ended September 30,
2016 was $164,290.
During the second quarter 2016, the Company amended three of the
outstanding 9% Convertible Promissory Notes with principal amounts
of $275,000, $75,000 and $150,000 as follows: the maturity dates
were extended to November 5, 2016, September 2, 2016, and September
26, 2016, respectively; the conversion price was lowered to $0.15
per share, the provision limiting the conversion price adjustment
to that of the Series C Preferred Stock was removed, and an option
to be repaid prior to the maturity date in the event the Company
raises capital in excess of three million dollars was added. The
Company also amended the warrant issued in conjunction with the
Convertible Promissory Note reducing the exercise price to $0.15
and issued new warrants to purchase 666,669 shares of the Company's
common stock with a $0.15 exercise price and a three year
expiration. According to FASB ASC 470-50, the modification
is accounted for as a debt extinguishment, whereby the new debt
instrument is initially recorded at fair value, and that amount is
used to determine the debt extinguishment gain or loss to be
recognized and the effective rate of the new instrument. We
recognized a loss on the extinguishment of debt of $127,071 for the
second quarter 2016.
On July 15, 2015, the Company issued a Convertible Promissory Note
in the principal amount of $400,000 inclusive of interest. The Note
was for a term of six months. The Note bears interest at twelve
percent per annum. The Note is secured by the assets of the
Company. The Note may be converted into shares of the
Company’s common stock at $0.75 per share. The Company also
issued the holder warrants to purchase 500,000 shares of the
Company’s common stock. The proceeds were allocated based on
the relative fair value of the debt and the warrant. The warrants
have an exercise price of $0.75 per share and have a term of two
years. The relative fair value ascribed to the 500,000 warrants
issued was approximately $49,000 and was recorded to additional
paid-in capital. This amount which was recorded as a debt discount
was amortized over the term of the debt using the effective
interest method. As part of the closing of the Tender Offer,
$200,000 of these notes converted into 1,333,334 shares of common
stock and the investor received common stock and 1,333,333 warrants
with a three year term at an exercise price of $0.15. The remaining
$200,000 of notes was paid in February 2016.
On October 5, 2015, the Company issued a Convertible Promissory
Note to an investor in the principal amount of $150,000. The Note
features a mandatory conversion feature obligating the holder to
participate and apply the principal and interest into a
“Qualified Financing” meaning a financing taking place
prior to January 31, 2016, wherein the Company receives gross
proceeds totaling at least $1,000,000. In the event the entire
principal plus accrued interest under this Note is not eligible for
conversion into a Qualified Financing, then any remaining balance
of this Note shall be converted into restricted common stock at the
price of the Qualified Financing and Holder shall receive three (3)
times any warrant coverage provided for in the Qualified Financing.
The Note bears interest at nine percent per annum and has a
maturity date of six months. The embedded conversion feature of the
note was bifurcated and accounted for as a derivative liability at
approximately $17,127 on the day of issuance. As part of the
closing of the Tender Offer, these notes converted into 1,029,918
shares of common stock and the investor received 3,089,754 warrants
with a three year term at an exercise price of $0.15.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
On November 12, 2015, the Company issued a Convertible Promissory
Note to an investor in the principal amount of $150,000. The Note
features a mandatory conversion feature obligating the holder to
participate and apply the principal and interest into a
“Qualified Financing” meaning a financing taking place
prior to January 31, 2016, wherein the Company receives gross
proceeds totaling at least $1,000,000. In the event the entire
principal plus accrued interest under this Note is not eligible for
conversion into a Qualified Financing, then any remaining balance
of this Note shall be converted into restricted common stock at the
price of the Qualified Financing and Holder shall receive three (3)
times any warrant coverage provided for in the Qualified Financing.
The Note bears interest at nine percent per annum and has a
maturity date of six months. The embedded conversion feature of the
note was bifurcated and accounted for as a derivative liability at
approximately $50 on the day of issuance. As part of the closing of
the Tender Offer, these notes converted into 1,000,987 shares of
common stock and the investor received 3,002,961 warrants with a
three year term at an exercise price of $0.15.
On November 13, 2015, the Company issued Convertible Promissory
Notes to five investors in the principal amount of $287,333. The
Notes feature a mandatory conversion feature obligating the holder
to participate and apply the principal and interest into a
“Qualified Financing” meaning a financing taking place
prior to January 31, 2016, wherein the Company receives gross
proceeds totaling at least $1,000,000. In the event the entire
principal plus accrued interest under this Note is not eligible for
conversion into a Qualified Financing, then any remaining balance
of this Note shall be converted into restricted common stock at the
price of the Qualified Financing and Holder shall receive three (3)
times any warrant coverage provided for in the Qualified Financing.
The Notes bears interest at nine percent per annum and has a
maturity date of six months. The embedded conversion feature of the
notes was bifurcated and accounted for as a derivative liability at
approximately $172 on the day of issuance. As part of the closing
of the Tender Offer, these notes converted into 1,937,105 shares of
common stock and the investors received 5,811,315 warrants with a
three year term at an exercise price of $0.15.
On November 16, 2015, the Company issued a Convertible Promissory
Note to an investor in the principal amount of $48,000. The Note
features a mandatory conversion feature obligating the holder to
participate and apply the principal and interest into a
“Qualified Financing” meaning a financing taking place
prior to January 31, 2016, wherein the Company receives gross
proceeds totaling at least $1,000,000. In the event the entire
principal plus accrued interest under this Note is not eligible for
conversion into a Qualified Financing, then any remaining balance
of this Note shall be converted into restricted common stock at the
price of the Qualified Financing and Holder shall receive three (3)
times any warrant coverage provided for in the Qualified Financing.
The Note bears interest at nine percent per annum and has a
maturity date of six months. The embedded conversion feature of the
note was bifurcated and accounted for as a derivative liability at
approximately $30 on the day of issuance. As part of the closing of
the Tender Offer, these notes converted into 323,669 shares of
common stock and the investor received 971,007 warrants with a
three year exercise term at an exercise price of
$0.15.
8. Convertible Preferred Stock
Series A Preferred Stock
At September 30, 2016 and December 31, 2015, the Company had 0
shares of Series A Cumulative Convertible Preferred Stock (the
“Series A Stock”) outstanding.
Series B Preferred Stock
At September 30, 2016 and December 31, 2015, the Company had 0
shares of Series B convertible preferred stock (“Series B
Stock”) outstanding.
Series C Convertible Preferred Stock
At September 30, 2016 and December 31, 2015, the Company had
3,690,729 and 3,700,729 shares, respectively, of Series C
convertible preferred stock (“Series C Stock”)
outstanding that were issued to investors for $3.00 per
share. 10,000 shares of Series C Stock converted to
60,000 shares common stock during the nine months ended September
30, 2016.
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
9. Net Income (Loss) per Share Applicable to Common
Stockholders
Options, warrants, and convertible debt outstanding were all
considered anti-dilutive for the nine months ended September 30,
2016 and 2015 due to net losses.
The following securities were not included in the diluted net
income (loss) per share calculation because their effect was
anti-dilutive as of the periods presented:
|
For the nine months ended
September 30,
|
|
|
2016
|
2015
|
Convertible
notes
|
8,719,640
|
1,512,500
|
Common
stock options
|
19,726,842
|
8,666,833
|
Investor
warrants
|
37,995,156
|
23,861,368
|
Compensation
warrants
|
1,981,667
|
1,895,000
|
Excluded
potentially dilutive securities
|
68,423,305
|
35,935,701
|
10. Stockholders’ Equity
Stock Options and Warrants
Warrant activity (including warrants issued to investors and for
consulting and advisory services) for the nine months ended
September 30, 2016 and 2015 was as follows:
|
For the nine months ended
|
|
|
September 30,
|
|
|
2016
|
2015
|
Beginning
balance outstanding
|
26,397,410
|
23,933,922
|
|
|
|
Expired
during the year
|
(2,045,624)
|
(160,894)
|
Exercised during
the year
|
(12,270,853)
|
-
|
Issued in
connection with issuance of convertible notes
|
1,416,673
|
1,983,340
|
Issued
in connection with tender offer exercise
|
26,479,217
|
-
|
Ending
balance outstanding
|
39,976,823
|
25,756,368
|
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Effective July 22, 2016, the Company cancelled the following stock
and stock options granted to its board of directors on March 21,
2016: (a) Joseph Proto, 350,000 restricted shares of common stock;
(b) John Eyler, options to purchase 464,331 shares of common stock;
(c) Pat Kolenik 350,000 restricted shares of common stock; (d)
Chris Leong, options to purchase 464,331 shares of common stock,
and (e) Isaac Blech, options to purchase 663,330 shares of common
stock.
The numbers and exercise prices of all options and warrants
outstanding at September 30, 2016 are as follows:
Shares Outstanding
|
Weighted Average Exercise Price
|
Expiration
Fiscal Period
|
158,476
|
8.37
|
4th
Qtr, 2016
|
34,749
|
7.99
|
1st
Qtr, 2017
|
1,349,183
|
6.90
|
2nd
Qtr, 2017
|
536,500
|
1.14
|
3rd
Qtr, 2017
|
1,162,088
|
6.45
|
4th
Qtr, 2017
|
10,000
|
6.60
|
1st
Qtr, 2018
|
750,000
|
0.25
|
4th
Qtr, 2018
|
37,548,317
|
0.37
|
1st
Qtr, 2019
|
1,850,007
|
0.44
|
2nd
Qtr, 2019
|
1,324,002
|
0.93
|
3rd
Qtr, 2019
|
2,603,000
|
1.15
|
4th
Qtr, 2019
|
486,250
|
0.92
|
1st
Qtr, 2020
|
1,704,446
|
0.19
|
4th
Qtr, 2020
|
4,785,376
|
0.12
|
1st
Qtr, 2021
|
2,592,997
|
0.09
|
2nd
Qtr, 2021
|
2,674,940
|
0.06
|
3rd
Qtr, 2021
|
133,334
|
7.05
|
4th Qtr, 2022
|
59,703,665
|
|
|
Stock-based Compensation
Results of operations for the three months ended September 30, 2016
and 2015 include stock based compensation costs totaling $192,842
and $199,207, respectively, all of which was charged to personnel
related expenses.
Results of operations for the nine months ended September 30, 2016
and 2015 include stock based compensation costs totaling $884,449
and $1,053,508, respectively, all of which was charged to personnel
related expenses.
For purposes of accounting for stock based compensation, the fair
value of each option and warrant award is estimated on the date of
grant using the Black-Scholes-Merton option pricing formula.
Compensation expense is recognized over the service period. The
following weighted average assumptions were utilized for the
calculations during the nine months ended September 30, 2016 and
2015:
|
For the nine months ended
|
|
|
September 30,
|
|
|
2016
|
2015
|
Expected
life (in years)
|
2.66
years
|
2.89
years
|
Weighted
average volatility
|
146.05%
|
108.92%
|
Forfeiture
rate
|
19.51%
|
14.21%
|
Risk-free
interest rate
|
.88%
|
.97%
|
Expected
dividend rate
|
0.00%
|
0.00%
|
SPENDSMART
NETWORKS, INC.
Notes to Condensed Consolidated Financial Statements
Notes to Condensed Consolidated Financial Statements
(Unaudited)
The weighted average expected option and warrant term for employee
stock options granted reflects the application of the simplified
method set out in SEC Staff Accounting Bulletin No. 107,
Share-Based
Payment (SAB 107). The
simplified method defines the life as the average of the
contractual term of the options and the weighted average vesting
period for all options. The Company utilized this approach as its
historical share option exercise experience does not provide a
reasonable basis upon which to estimate an expected term. Expected
volatilities are based on the historical volatility of the
Company’s stock. The Company estimated the forfeiture rate
based on our expectation for future forfeitures and (for the
purpose of computing stock based compensation given the contractual
vesting of the Company’s options and warrants outstanding)
the Company assumes that all options and warrants will vest. The
risk-free rate for periods within the contractual life of the
option is based on the U.S. Treasury yield in effect at or near the
time of grant. The Company has never declared or paid dividends and
has no plans to do so in the foreseeable
future.
As of September 30, 2016, $497,800 of total unrecognized
compensation cost related to unvested stock based compensation
arrangements is expected to be recognized over a weighted-average
period of 16.7 months.
11.
Notes Payable
On August 26, 2015, the Company entered into a Business Promissory
Note and Security Agreement with Bank of Lake Mills for the
principal sum of $200,000 and a daily interest rate of .22%. The
total repayment amount including interest and principal was
$244,637 to be paid pro-rata weekly ending February 22, 2016. For
the three and nine months ended September 30, 2016, we recorded
interest expense related to the note of $0 and $4,947,
respectively. As of February 25, 2016, the note has been fully
repaid.
12. Due to Related Party
On August 14, 2015 and September 28, 2015, the Company entered into
Loan Agreements with Alex Minicucci for the principal sum of
$65,000 and $35,000, respectively. The Loans include an interest
rate of 7%. The $35,000 Loan was repaid in February 2016. For the
three and nine months ended September 30, 2016, we recorded
interest expense related to the loans of $1,138 and $3,413,
respectively.
13. Subsequent Events
On
November 10, 2016, the Company amended one of the outstanding 9%
Convertible Promissory Notes with a principal amount of $150,000 as
follows: the maturity date was extended to May 5, 2017; the
interest rate for the extension period was increased to 15%; the
conversion price was changed to the per share price at the time of
the next financing of $2,000,000 or greater.
On November 8, 2016, the Company amended one of the outstanding 9%
Convertible Promissory Notes with a principal amount of $275,000 as
follows: the maturity date was extended to May 5, 2017; the
interest rate for the extension period was increased to 15%; the
conversion price was changed to the per share price at the time of
the next financing of $2,000,000 or greater. 50,000 shares of
common stock were issued to the borrower.
On
November 7, 2016, the Company issued a Convertible Promissory Note
to the Daniel Jonathan Blech Trust DTD 9/01/2005 in the amount of
$100,000. Mr. Blech, a member of the board of directors, is the
trustee. The Convertible Promissory Note bears an interest at the
rate of 9%, has a six month maturity date, and a voluntary
conversion into an upcoming financing in the event the Company
closes the financing and receives gross proceeds totaling at least
$200,000. The conversion rate will be at the same terms of the
financing. The note is subordinate to the notes issued in
2015.
The following discussion and analysis is intended as a review of
significant factors affecting our financial condition and results
of operations for the periods indicated. The discussion
should be read in conjunction with our consolidated financial
statements and the notes presented herein. In addition
to historical information, the following Management's Discussion
and Analysis of Financial Condition and Results of Operations
contain forward-looking statements that involve risks and
uncertainties. Our actual results could differ significantly from
those anticipated in these forward-looking statements as a result
of certain factors discussed in this Quarterly Report and our other
periodic reports filed with the Securities and Exchange
Commission.
Business Overview
We are a national full-service mobile and loyalty marketing agency
that offers a means for small and large business owners alike to
better connect with their consumers and generate sales. We do
business under the name “SMS Masterminds.” The core of
our business involves two licenses which include, among other
things, a proprietary SASS (software as a service) system,
proprietary marketing and sales training materials and
mobile-responsive website building software.
With our mobile and loyalty marketing programs and proprietary
responsive website building software, we provide proprietary
loyalty systems and a suite of digital engagement and marketing
services that help local merchants build relationships with
consumers and drive revenues. These services are sold, implemented
and supported both internally and by a network of certified digital
marketing specialists, aka “Certified Masterminds,” who
drive revenue and consumer relationships for merchants via loyalty
programs, custom mobile-responsive websites, review generation and
management, social media engagement, mobile marketing, mobile
commerce and financial tools, such as reward systems. We enter into
licensing agreements for our proprietary loyalty and mobile
marketing solutions and custom mobile-responsive website building
tools with “Certified Masterminds” which sell and
support the technology in their respective markets. We provide
extensive training materials, best practice guides and other
resources to our licensees, including access to a
“Mentor”, who is an existing successful
“Mastermind”. The licensees also utilize digital
loyalty tablets provided to their merchants. The loyalty tablets
are proprietary tablet devices set up in physical retail locations
where Consumers can enter their mobile phone number to
“opt-in” to receive notifications from the merchant and
participate in the merchant’s loyalty program.
Our business strategy consists of delivering and
managing:
(i)
Loyalty
platforms
a.
Merchant
funded rewards
b.
Loyalty
rewards tablet/kiosk
c.
Proprietary
rewards management system
(ii)
Mobile
marketing technology
a.
Text
and email promotion messaging
b.
Customer
analytics and propensity marketing
c.
Patent
pending ‘automated engagement’ engine
d.
Text2Win
sweepstakes features
(iii)
Enterprise level loyalty and mobile marketing
consulting
a.
Monthly
hands on reviews by our “Certified
Masterminds”
b.
Campaign
creation and optimization
c.
Localized
support
(iv)
Proprietary
mobile-responsive website building platform
a.
Software allowing licensees and merchants to create and
administer their websites
b.
Audits
of existing merchant websites
c.
Integration
of social media streams and consumer reviews into
websites
Corporate History
On February 11, 2014, we acquired substantially all of the assets
of Intellectual Capital Management, LLC, dba “SMS
Masterminds.” On September 18, 2014, we acquired
substantially all of the web related assets of TechXpress, Inc., a
California corporation. TechXpress provides personalized website,
eCommerce and mobile app development services as well as marketing
tools and analytics. On November 26, 2014, in an effort to reduce
expenses as well as focus our resources on our mobile marketing and
related software technology programs and platforms, we began the
wind down of the prepaid card division of the company which was
effectively completed in January 2015.
Results of Operations
Comparison of Results of Operations for the Three Months Ended
September 30, 2016 and 2015
Revenue
The Company had total revenues of $1,528,049 and $1,195,576 for the
three months ended September 30, 2016 and 2015,
respectively.
Our revenues increased $332,473 over the prior year due to
increased clients compared to the third quarter of
2015.
Selling and marketing expenses
Selling and marketing expenses were $126,777 and $13,955 for the
three months ended September 30, 2016 and 2015, respectively. The
increase of $112,822 was mostly due to our continued focus on
marketing efforts on those territories where we had a better
opportunity to expand.
Personnel related expenses
Personnel related expenses were $1,030,774 and $1,373,065 for the
three months ended September 30, 2016 and 2015, respectively. This
amounted to a decrease of $342,291 or a 24.9%
decrease. Overall decreases in personnel related
expenses were due to lower option grants in 2016 made to employees
and directors coupled with lower payroll costs due to decreased
headcount.
Processing expenses
Processing expenses were $301,606 and $433,468 for the three months
ended September 30, 2016 and 2015, respectively. These include text
messages, kiosk tablets, and servers.
Amortization of intangible assets
Amortization of intangible assets was $48,285 and $84,660 for the
three months ended September 30, 2016 and 2015,
respectively. The decrease of $36,375 was mainly due to
our SMS and TechXpress intangible asset impairments at December 31,
2015 and the lower remaining amortization.
General and administrative expenses
General and administrative expenses totaled $481,280 and $1,322,498
for the three months ended September 30, 2016 and 2015,
respectively. The majority of this difference related to the
accelerated deprecation that was taken during the third quarter,
2015, for our office equipment and kiosks.
Bad debt expense
Bad debt expenses totaled $100,531 and $878,472 for the three
months ended September 30, 2016 and 2015,
respectively. This decrease of $777,941 was due to
increased reserves on our allowance for doubtful accounts in
2015.
Earn-out liability expense
The change in fair value of Earn-out liability expenses totaled $0
for the three months ended September 30, 2016 and 2015,
respectively. We recorded the change in earn-out
liability due to our updated operating assumptions in the
underlying valuation related to the SMS acquisition.
Comparison of Non-operating Income and Expense for the Three Months
Ended September 30, 2016 and 2015
For the three months ended September 30, 2016 and 2015, net
interest income totaled $8,254 and $7,305, respectively. This was
due to the remaining balances on our financed
accounts.
For the three months ended September 30, 2016 and 2015, interest
expense totaled $33,733 and $0, respectively. This related to our
convertible notes and our notes payable financings during
2016.
For the three months ended September 30, 2016 and 2015, other
expense totaled $21,161 and $0, respectively.
For the three months ended September 30, 2016 and 2015,
amortization of debt discount totaled $28,143 and $188,972,
respectively. This was due to the convertible notes financings in
2016 and 2015.
During the three months ended September 30, 2016 and 2015, we
recognized a gain and loss from the change in the fair value of
derivative liabilities of $812,869 and $286,563, respectively.
These derivative liabilities are the fair value of warrants issued
in fiscal 2010 with anti-dilution privileges and warrants issued in
fiscal 2012 with certain registration privileges and the warrants
issued in 2016 in connection with the tender offer with a cash
settlement feature.
Comparison of Net Income (Loss) and Net Income (Loss) per Share for
the Three Months Ended September 30, 2016 and 2015
For the three months ended September 30, 2016 and 2015, our net
income (loss) was $176,882 and ($2,815,646), respectively. Our
basic net income (loss) per share was $0.01 and ($0.15) for the
three months ended September 30, 2016 and 2015, respectively.
Common stock equivalents and outstanding options and warrants were
not included in the calculations due to their effect being
anti-dilutive. Our diluted net income (loss) per share was ($0.01)
and ($0.15) for the three months ended September 30, 2016 and 2015,
respectively.
Comparison of Results of Operations for the Nine Months Ended
September 30, 2016 and 2015
Revenue
The Company had total revenues of $4,569,678 and $5,291,760 for the
nine months ended September 30, 2016 and 2015,
respectively.
Our revenues decreased $722,082 over the prior year due to lower
overall licensee acquisitions compared to the first nine months of
2015. This was due to the high number of customer financings
completed in 2015 for new sales. In 2016, we stopped financing new
sales to licensees in order to reduce our bad debt
losses.
Selling and marketing expenses
Selling and marketing expenses were $531,812 and $642,242 for the
nine months ended September 30, 2016 and 2015, respectively. The
decrease of $110,430 was mostly due to lower marketing expenses in
the first two quarters of 2016 compared to the first two quarters
of 2015.
Personnel related expenses
Personnel related expenses were $3,554,440 and $4,475,836 for the
nine months ended September 30, 2016 and 2015, respectively. This
amounted to a decrease of $921,396 or a 20.6%
decrease. Overall decreases in personnel related
expenses were due to lower option grants in 2016 made to employees
and directors coupled with lower payroll costs due to decreased
headcount.
Processing expenses
Processing expenses were $909,649 and $1,036,965 for the nine
months ended September 30, 2016 and 2015, respectively. These
include text messages, kiosk tablets, and servers.
Amortization of intangible assets
Amortization of intangible assets was $144,855 and $253,219 for the
nine months ended September 30, 2016 and 2015,
respectively. The decrease of $108,364 was mainly due to
our SMS and TechXpress intangible asset impairments at December 31,
2015 and the lower remaining amortization.
General and administrative expenses
General and administrative expenses totaled $1,667,140 and
$2,654,748 for the nine months ended September 30, 2016 and 2015,
respectively. The majority of this difference related to the
accelerated deprecation that was taken during the third quarter
2015, for our office equipment and kiosks.
Bad debt expense
Bad debt expenses totaled $163,323 and $1,313,349 for the nine
months ended September 30, 2016 and 2015, respectively. This
decrease of $1,150,026 was due to increased reserves on our
allowance for doubtful accounts in 2015 resulting from previous
financings.
Earn-out liability expense
The change in fair value of Earn-out liability expenses totaled $0
and ($58,754) for the nine months ended September 30, 2016 and
2015, respectively. We recorded the change in earn-out
liability due to our updated operating assumptions in the
underlying valuation related to the SMS acquisition.
Comparison of Non-operating Income and Expense for the Nine Months
Ended September 30, 2016 and 2015
For the nine months ended September 30, 2016 and 2015, net interest
income totaled $33,461 and $60,202, respectively. This was due to
the lowered remaining balances on our financed
accounts.
For the nine months ended September 30, 2016 and 2015, interest
expense totaled $104,323 and $0, respectively. This related to our
convertible notes and our notes payable financings during
2016.
For the nine months ended September 30, 2016 and 2015, other
expense totaled $81,000 and $0, respectively.
For the nine months ended September 30, 2016 and 2015, amortization
of debt discount totaled $388,683 and $325,910, respectively. This
increase was due to the increased number of convertible notes
financings in 2016 compared to 2015.
For the nine months ended September 30, 2016 and 2015, we
recognized a loss on extinguishment of debt of $415,689 and $0,
respectively. This increase was due to the convertible notes
modifications completed in 2016.
For the nine months ended September 30, 2016 and 2015, tender offer
expense totaled $3,560,958 and $0, respectively. This increase was
due to the inducement given to exercise warrants in
2016.
During the nine months ended September 30, 2016 and 2015, we
recognized a gain from the change in the fair value of derivative
liabilities of $1,995,669 and $233,235, respectively. These
derivative liabilities are the fair value of warrants issued in
fiscal 2010 with anti-dilution privileges and warrants issued in
fiscal 2012 with certain registration privileges and the warrants
issued in 2016 in connection with the tender offer with a cash
settlement feature.
Comparison of Net Loss and Net Loss per Share for the Nine Months
Ended September 30, 2016 and 2015
For the nine months ended September 30, 2016 and 2015, our net loss
was $4,838,064 and $5,058,318, respectively. Our basic and diluted
net loss per share was ($0.13) and ($0.27) for the nine months
ended September 30, 2016 and 2015, respectively. Common stock
equivalents and outstanding options and warrants were not included
in the calculations due to their effect being
anti-dilutive.
Liquidity and Capital Resources
We have primarily financed our operations to date through the sale
of unregistered equity. At September 30, 2016, our total current
assets were $884,027. Total current liabilities were $6,484,633 and
our stockholders’ deficit totaled ($3,209,075).
We may raise additional funding through the sale of unregistered
common stock and warrants although there can be no assurance that
we will be successful in raising such funds. This description of
our recent financing and our future plans does not constitute an
offer to sell or the solicitation of an offer to buy our
securities, nor shall such securities be offered or sold in the
United States absent registration or an applicable exemption from
the registration requirements and certificates evidencing such
shares contain a legend stating the same.
We had a decrease in cash for the year of $382,000. We
had cash outlays relating to payments of notes payable and accounts
payable of approximately $278,000, software development outlays of
approximately $292,000, and increases in net receivables of
$403,000 offset by cash provided by warrant exercises in connection
with our tender offer of approximately $1,179,000 and notes payable
of $180,000.
Our cash and cash equivalents balance at September 30, 2016 totaled
$88,045.
Going Concern
As noted above (and by our independent registered public accounting
firm in their report on our consolidated financial statements as of
and for the year ended December 31, 2015), there exists substantial
doubt about our ability to continue as a going concern. The Company
has continued to incur net losses through September 30, 2016 and
has yet to establish profitable operations. These factors among
others create a substantial doubt about the Company’s ability
to continue as a going concern at September 30, 2016. Our condensed
consolidated financial statements at September 30, 2016 do not
contain any adjustments related to the outcome of this
uncertainty.
Contractual Obligations
With the exception of employment agreements, debt agreements, and
lease agreements described elsewhere herein, we have no outstanding
contractual obligations through the date of this report that are
not cancellable at our Company’s option.
Critical Accounting Policies Involving Management Estimates and
Assumptions
Management’s discussion and analysis of our financial
condition and results of operations are based upon our consolidated
financial statements which are prepared in accordance with
accounting principles that are generally accepted in the United
States (“U.S. GAAP”). The preparation of these
financial statements requires us to make estimates and judgments
that affect the reported amounts of assets and liabilities, related
disclosure of contingent assets and liabilities at the date of the
financial statements, and the reported amounts of revenues and
expenses during the reporting period. We continually evaluate our
estimates and judgments and we base our estimates and judgments on
historical experience and other factors that we believe to be
reasonable under the circumstances. Materially different results
can occur as circumstances change and additional information
becomes known.
In preparing our consolidated financial statements in conformity
with U.S. GAAP, we must make a variety of estimates that affect the
reported amounts and related disclosures. We have identified the
following accounting policies that we believe require application
of management’s most subjective judgments, often requiring
the need to make estimates about the effect of matters that are
inherently uncertain and may change in subsequent periods. Our
significant accounting policies are described in more detail in the
notes to consolidated financial statements included elsewhere in
this filing. If actual results differ significantly from our
estimates and projections, there could be a material effect on our
financial statements.
Revenue Recognition
We generate revenues primarily in the form of set up fees,
recurring license fees, messaging, equipment and marketing services
fees and value added mobile marketing and mobile commerce
services. License fees are charged monthly for our
support services. Set-up fees primarily consist of fees
for website development services (including support and unspecified
upgrades and enhancements when and if they are available), training
and professional services that are not essential to
functionality.
We recognize revenues when all of the following conditions are
met:
●
there is persuasive evidence of an arrangement;
●
the products or services have been delivered to the
customer;
●
the amount of fees to be paid by the customer is fixed or
determinable; and
●
the collection of the related fees is probable.
Signed agreements are used as evidence of an arrangement.
Electronic delivery occurs when we provide the customer with access
to the software via a username and password. We assess whether a
fee is fixed or determinable at the outset of the arrangement,
primarily based on the payment terms associated with the
transaction. The Company offered extended payment terms in 2014 and
2015 with regards to the setup fee with typical terms of payment
due between one and three years from delivery of license. We
assessed collectability of the set-up fee based on a number of
factors such as collection history and creditworthiness of the
customer. If we determine that collectability is not probable,
revenue is deferred until collectability becomes probable,
generally upon receipt of cash.
License arrangements may also include set-up fees such as website
development, delivery of tablets, professional services and
training services, which are typically delivered within 90 days of
the contract term. In determining whether set-up fee revenues
should be accounted for separately from license revenues, we
evaluate whether the set-up fees are considered essential to the
functionality of the license using factors such as the nature of
our products; whether they are ready for use by the customer upon
receipt; the nature of our implementation services, which typically
do not involve significant customization to or development of the
underlying software code; the availability of services from other
vendors; whether the timing of payments for license revenues is
coincident with performance of services; and whether milestones or
acceptance criteria exist that affect the realization of the
license fee. Substantially all of our set-up fees arrangements are
recognized as the services are performed. Payments received in
advance of services performed are deferred and recognized when the
related services are performed.
We do not offer refunds and therefore have not recorded any sales
return allowance for any of the periods presented. Upon a periodic
review of outstanding accounts receivable under the extended
payment terms, amounts that are not being paid timely are deemed to
be uncollectible and are written off against the allowance for
doubtful accounts.
Deferred revenue consists substantially of amounts invoiced in
advance of revenue recognition for our products and services
described above. We recognize deferred revenue as revenue only when
the revenue recognition criteria are met.
Stock Based Compensation
We account for stock based compensation arrangements through the
measurement and recognition of compensation expense for all stock
based payment awards to employees and directors based on estimated
fair values. We use the Black-Scholes option valuation model to
estimate the fair value of our stock options and warrants at the
date of grant. The Black-Scholes option valuation model requires
the input of subjective assumptions to calculate the value of
options and warrants. We use historical company data among other
information to estimate the expected price volatility and the
expected forfeiture rate and not comparable company information,
due to the lack of comparable publicly traded companies that exist
in our industry.
Derivatives
We account for certain of our outstanding warrants and bifurcated
conversion options as derivative liabilities. These derivative
liabilities are ineligible for equity classification due to
provisions of the instruments that may result in an adjustment to
their conversion or exercise prices. The fair value of these
liabilities is estimated using option pricing models that are based
on the individual characteristics of our warrants, price for our
preferred and common stock on the valuation date as well as
assumptions for volatility, remaining expected life, risk-free
interest rate and, in some cases, credit spread.
Recent Accounting Pronouncements
In February 2016, the FASB issued ASU 2016-02, Leases which amended
guidance for lease arrangements in order to increase transparency
and comparability by providing additional information to users of
financial statements regarding an entity's leasing activities. The
revised guidance seeks to achieve this objective by requiring
reporting entities to recognize lease assets and lease liabilities
on the balance sheet for substantially all lease arrangements. The
guidance, which is required to be adopted in the first quarter of
2019, will be applied on a modified retrospective basis beginning
with the earliest period presented. Early adoption is permitted. We
are currently evaluating the impact of adopting this guidance on
our consolidated financial statements.
On May 28, 2014, the FASB issued ASU 2014-09, Revenue from
Contracts with Customers as amended (Topic 606), with an effective
date for annual reporting periods beginning after December 15,
2016, including interim periods within that reporting period, for
public business entities. Earlier application is permitted only as
of annual reporting periods beginning after December 15, 2016,
including interim reporting periods within that reporting period.
The Company is evaluating the impact, if any, the pronouncement
will have on both historical and future financial positions and
results of operations.
In
August 2014, the FASB issued ASU
No. 2014-15, Presentation
of Financial Statements—Going Concern (“ASU
2014-15”), which
states management should evaluate whether there are conditions or
events, considered in the aggregate, that raise a substantial doubt
about the entity’s ability to continue as a going concern
within one year after the date that the financial statements are
issued. Management’s evaluation should be based on
relevant conditions and events that are known and likely to occur
at the date that the financial statements are issued. ASU
2014-15 will be effective for the annual period ending after
December 15, 2016, and for annual periods and interim periods
thereafter, however, early application is
permitted. Management does not expect the adoption of ASU
2014-15 to have a material impact on the Company’s
consolidated financial statements, although there may be additional
disclosures upon adoption.
On
March 30, 2016, the FASB issued ASU 2016-09, Compensation—Stock Compensation (Topic
718): Improvements to Employee Share-Based Payment
Accounting (“ASU 2016-09”). ASU 2016-09 simplifies several
aspects of the accounting for employee share-based payment
transactions including the accounting for income taxes,
forfeitures, and statutory tax withholding requirements, as well as
classification in the statement of cash flows. ASU 2016-09 will
take effect for fiscal years, and interim periods within those
fiscal years, beginning after December 15, 2017, with early
application permitted. Management does not expect the adoption of
ASU 2016-09 to have a material impact on the Company’s
consolidated financial statements, although there may be additional
disclosures upon adoption.
Off-Balance Sheet Arrangements
We did not have any off-balance sheet arrangements as of September
30, 2016.
Intentionally omitted pursuant to Item 305(e) of Regulation
S-K.
Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to
ensure that information required to be disclosed in our Securities
and Exchange Commission Act of 1934 reports is recorded, processed,
summarized and reported within the time periods specified in the
Securities and Exchange Commission’s rules and forms and that
such information is accumulated and communicated to our management,
including our Chief Executive Officer, as appropriate, to allow for
timely decisions regarding required disclosure. 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, and management is
required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures. As required by
Securities and Exchange Commission Rule 13a-15(e) and 15d-15(e), we
carried out an evaluation, under the supervision and with the
participation of our management, including our Chief Executive
Officer, of the effectiveness of the design and operation of our
disclosure controls and procedures as of the end of the period
covered by this report. Based on the foregoing, our Chief Executive
Officer concluded that our disclosure controls and procedures were
not operating effectively as of September 30, 2016. Our disclosure
controls and procedures were not effective because of the
“material weakness” described below.
Based on management's evaluation as of September 30, 2016, our
management identified the material weaknesses set forth below in
our internal control over financial reporting:
(i)
The Company's process for internally reporting material information
in a systematic manner to allow for timely filing of material
information is ineffective, due to its inherent limitations from
being a small company, and there exist material weaknesses in
internal control over financial reporting that contribute to the
weaknesses in our disclosure controls and procedures. These
weaknesses include:
●
insufficient segregation of duties and oversight of work performed
in our finance and accounting function due to limited personnel;
and
●
lack of controls in place to ensure that all material transactions
and developments impacting the financial statements are
reflected.
To remediate these control weaknesses, we intend to implement
segregation of duties, a system of internal reviews and checks and
balances to strengthen our controls during 2017. We intend to
develop and implement a written set of policies and procedures for
our operations.
Our company's management concluded that in light of the material
weaknesses described above, our company did not maintain effective
internal control over financial reporting as of September 30, 2016
based on the criteria set forth in Internal
Control—Integrated Framework (2013) issued by the
COSO.
Changes in Internal Controls over Financial Reporting
There have been no changes in our internal control over financial
reporting that occurred since December 31, 2015 for the nine month
period ended September 30, 2016 that have materially affected, or
are reasonably likely to materially affect, our internal control
over financial reporting.
From time to time and in the course of business, we may become
involved in various legal proceedings seeking monetary damages and
other relief. The amount of any ultimate liability from such claims
cannot be determined. On January 1, 2014, Intellectual Capital
Management, LLC dba SMS Masterminds was named in a potential
class-action lawsuit titled Telford v. Intellectual Capital, et al,
filed in the United States District Court Eastern District of New
York relating to alleged violations of the Telephone Consumer
Protection Act of 1991 (the “TCPA”). The Company
believed the Plaintiff’s allegations had no merit but based
upon the economics of continued litigation, the Company resolved
the lawsuit in May 2015 for the sum of $34,612, and the action is
no longer pending. On July 8, 2015, Intellectual Capital
Management, LLC dba SMS Masterminds and SpendSmart Networks, Inc.
were named in a potential class-action lawsuit entitled Peter
Marchelos, et al v. Intellectual Capital Management, et al, filed
in the United States District Court Eastern District of New York
relating to alleged violations of the Telephone Consumer Protection
Act of 1991. This litigation involves the same licensee and
merchant as the Telford lawsuit and the same attorneys represent
the plaintiffs in this action. The claim of one of the two
plaintiffs was resolved for $1,701. The Company believes the
Plaintiff’s allegations have no merit. There are no other
legal claims currently pending or threatened against us that in the
opinion of our management would be likely to have a material
adverse effect on our financial position, results of operations or
cash flows.
Item 1A – Risk Factors
Investment in our common stock involves a high degree of risk. You
should carefully consider the risks described below together with
all of the other information included in this herein before making
an investment decision. If any of the following risks
actually occur, our business, financial condition or results of
operations could suffer. In that case, the market price of our
common stock could decline, and you may lose all or part of your
investment.
Risks Related to Our Business
OUR FAILURE TO OBTAIN ADDITIONAL ADEQUATE FINANCING WOULD
MATERIALLY AND ADVERSELY AFFECT OUR BUSINESS.
We cannot be certain that we will ever generate sufficient revenues
and gross margin to achieve profitability in the
future. Our failure to significantly increase revenues
or to raise additional adequate and necessary financing would
seriously harm our business and operating results. We
have incurred significant costs in building, launching and
marketing our Products as well as in our acquisition of
substantially all of the assets of SMS Masterminds. We anticipate
incurring additional expenses relating to customer account
acquisitions, marketing, and building our infrastructure. If we
fail to achieve sufficient revenues and gross margin with our
Products, or our revenues grow more slowly than anticipated, or if
our operating or capital expenses increased more than is expected
or cannot be reduced in the event of lower revenues, our business
will be materially and adversely affected and an investor could
suffer the loss of a significant portion or all of his investment
in our Company.
THERE ARE RISKS ASSOCIATED WITH THE ACQUISITION OF SMS
MASTERMINDS.
An integral part of our current, proposed growth strategy was the
consummation of the acquisition of substantially all of the assets
of Intellectual Capital Management dba SMS Masterminds. The SMS
Masterminds transaction involved a number of risks and presented
financial, managerial and operational challenges, including:
increased expenses, including legal, administrative and
compensation expenses resulting from newly hired employees;
increased costs to integrate personnel, customer base and business
practices of the acquired assets; adverse effects on reported
operating results due to possible write-down of goodwill associated
with the acquisition; and dilution to stockholders due to the
issuance of securities in the proposed transaction.
THERE ARE RISKS ASSOCIATED WITH THE ACQUISITION OF THE TECHXPRESS
WEB BUSINESS.
Part of our growth strategy was the consummation of the acquisition
of substantially all of the web assets of TechXpress. The
TechXpress transaction involved a number of risks and presented
financial, managerial and operational challenges, including:
diversion of management’s attention from running the existing
business; increased expenses, including legal, administrative and
compensation expenses resulting from newly hired employees;
increased costs to integrate personnel, customer base and business
practices of the acquired assets; adverse effects on reported
operating results due to possible write-down of goodwill associated
with the acquisition; and dilution to stockholders due to the
issuance of securities.
WE FACE COMPETITION FROM OTHER MOBILE AND LOYALTY
SYSTEMS.
We face competition from other companies with similar product
offerings. Many of these companies have longer operating
histories, greater name recognition and substantially greater
financial, technical and marketing resources than
us. Many of these companies also have more extensive
customer bases, broader customer relationships and broader industry
alliances than us, including relationships with many of our
potential customers. Increased competition from any of these
sources could result in our failure to achieve and maintain an
adequate level of customers and market share to support the cost of
our operations.
WE HAVE LIMITED RESOURCES TO DEVELOP OUR PRODUCT
OFFERINGS.
Our ability to successfully access the capital markets at the same
time that our Company has required funding for the development and
marketing of our product offerings is challenging. This
has caused and will likely continue to cause us to restrict funding
of the development of our products and to favor the development of
one product offering over the other based on their relative
estimated potentials for commercial success as evaluated by our
management. We may require additional debt and/or equity
financing to pursue our growth strategy. Given our limited
operating history and existing losses, there can be no assurance
that we will be successful in obtaining additional financing.
Furthermore, the issuance by us of any additional securities
pursuant to any future fundraising activities undertaken by us
would dilute the ownership of existing shareholders and may reduce
the price of our common stock. Furthermore, debt
financing, if available, will require payment of interest and may
involve restrictive covenants that could impose limitations on our
operating flexibility. Our current focus is our Mobile and Loyalty
Marketing program. The failure of this program to be
commercially successful would substantially harm our business and
results of operations. Our failure to successfully
obtain additional future funding may jeopardize our ability to
continue our business and operations. Furthermore, in
the future we may determine that it is in the best interest of our
Company to severely curtail, license, jointly develop with a third
party or sell one of our product offerings, which may be on terms
which limit the revenue potential of the product offering to our
Company.
WE RELY ON THIRD-PARTY SUPPLIERS AND DISTRIBUTORS THAT ARE SPECIFIC
TO OUR BUSINESS SUCH AS CELLULAR SERVICE PROVIDERS, INTERNET
SERVICE PROVIDERS, PROGRAMMERS, AND SOCIAL NETWORKS.
We will be dependent on other companies to provide necessary
products and services in connection with key elements of our
business. Any interruption in our ability to utilize these
services, or comparable quality replacements would severely harm
our business and results of operations. Should any of
these adverse contingencies result, they could substantially harm
our business and results of operations and an investor could suffer
the loss of a significant portion or all of his investment in our
Company.
CHANGES IN LAWS AND REGULATIONS TO WHICH WE ARE SUBJECT, OR TO
WHICH WE MAY BECOME SUBJECT, MAY INCREASE OUR COSTS OF OPERATION,
DECREASE OUR OPERATING REVENUES AND DISRUPT OUR
BUSINESS.
Changes in laws and regulations or the interpretation or
enforcement thereof may occur that could increase our compliance
and other costs of doing business, require significant systems
redevelopment, or render our products or services less profitable
or obsolete, any of which could have an adverse effect on our
results of operations. We could face more stringent Telephone
Consumer Protection Act regulations, as well as more stringent
compliance with which could be expensive and time consuming.
Changes in laws and regulations governing the way our products and
services are sold or in the way those laws and regulations are
interpreted or enforced could adversely affect our ability to
distribute our products and the cost of providing those products
and services. If onerous regulatory requirements were imposed on
the sale of our products and services, the requirements could lead
to a loss of merchants and subscribers, which in turn could
materially and adversely impact our operations.
THE DODD-FRANK WALL STREET REFORM AND CONSUMER PROTECTION ACT MAY
HAVE A SIGNIFICANT ADVERSE IMPACT ON OUR BUSINESS, RESULTS OF
OPERATIONS AND FINANCIAL CONDITION.
In July 2010, President Obama signed into law the Dodd-Frank Wall
Street Reform and Consumer Protection Act (“DFA”). The
DFA, as well as regulations promulgated thereunder, could have a
significant adverse impact on the Company’s business, results
of operations and financial condition.
The DFA has resulted in increased scrutiny and oversight of
consumer financial services and products, primarily through the
establishment of the Consumer Financial Protection Bureau
(“CFPB”) within the Federal Reserve. The CFPB has broad
rulemaking and enforcement authority over providers of pre-paid
cards, among other credit providers. The CFPB has the authority to
write regulations under federal consumer financial protection laws,
and to enforce those laws. The CFPB regulations have yet to be
fully promulgated and depending on how the CFPB functions, it could
have a material adverse impact on our business. The impact this new
regulatory regime will have on the Company’s business is
uncertain at this time.
Many provisions of the DFA require the adoption of rules to
implement. In addition, the DFA mandates multiple studies, which
could result in additional legislative or regulatory action.
Therefore, the ultimate consequences of the DFA and its impact on
our Company’s business, results of operations and financial
condition remain uncertain.
WE ARE SUBJECT TO VARIOUS PRIVACY RELATED REGULATIONS, INCLUDING
THE GRAMM-LEACH-BLILEY ACT WHICH MAY INCLUDE AN INCREASED COST OF
COMPLIANCE.
We are subject to various laws, rules and regulations related to
privacy, information security and data protection, including the
Gramm-Leach-Bliley Act, and we could be negatively impacted by
these laws, rules and regulations. The Gramm-Leach-Bliley Act
guidelines require, among other things, that each financial
institution develop, implement and maintain a written,
comprehensive information security program containing safeguards
that are appropriate to the financial institution’s size and
complexity, the nature and scope of the financial
institution’s activities and the sensitivity of any customer
information at issue. Our management believes that we are currently
operating in compliance with these regulations. However, continued
compliance with these laws, rules and regulations regarding the
privacy, security and protection of customer and employee data, or
the implementation of any additional privacy rules and regulations,
could result in higher compliance and technology costs for our
Company.
OUR BUSINESS COULD SUFFER IF THERE IS A DECLINE IN THE USE OF SMS
SERVICES OR THERE ARE ADVERSE DEVELOPMENTS WITH RESPECT TO THE SMS
SERVICES INDUSTRY IN GENERAL.
As the mobile services industry evolves, consumers may find SMS
services to be less attractive than other mobile messaging and
communication services. Consumers might not use SMS services if
less expensive services and technologies are offered. If
consumer acceptance of SMS services as a form of communication does
not continue to develop or develops more slowly than expected or if
there is a shift form of mobile communications it could have a
material adverse effect on our financial position and results of
operations.
A DATA SECURITY BREACH COULD EXPOSE US TO LIABILITY AND PROTRACTED
AND COSTLY LITIGATION, AND COULD ADVERSELY AFFECT OUR REPUTATION
AND OPERATING REVENUES.
We, as part of the processing of payment from our licensees, and
the banks that previously issued our cards, network acceptance
members and/or third-party processors receive, transmit and store
confidential customer and other information in connection with
payments related to our licensees as well as the previous sales and
uses of our prepaid cards. Encryption software and the other
technologies used to provide security for storage, processing and
transmission of confidential customer and other information may not
be effective to protect against data security breaches by third
parties. The risk of unauthorized circumvention of such security
measures has been heightened by advances in computer capabilities
and the increasing sophistication of hackers. Improper access to
our or these third parties’ systems or databases could result
in the theft, publication, deletion or modification of confidential
customer and other information. A data security breach of the
systems on which sensitive cardholder data and account information
are stored could lead to fraudulent activity involving our products
and services, reputational damage and claims or regulatory actions
against us. If we are sued in connection with any data security
breach, we could be involved in protracted and costly litigation.
If unsuccessful in defending that litigation, we might be forced to
pay damages and/or change our business practices or pricing
structure, any of which could have a material adverse effect on our
operating revenues and profitability. We would also likely have to
pay (or indemnify the banks that issue our cards for) fines,
penalties and/or other assessments imposed as a result of any data
security breach. Further, a significant data security breach could
lead to additional regulation, which could impose new and costly
compliance obligations. In addition, a data security breach at the
bank that issues our cards, network acceptance members or
third-party processors could result in significant reputational
harm to us and cause the use and acceptance of our cards to
decline, either of which could have a significant adverse impact on
our operating revenues and future growth
prospects.
OUR ABILITY TO PROTECT OUR INTELLECTUAL PROPERTY AND PROPRIETARY
TECHNOLOGY SURROUNDING OUR SMS MESSAGING, WEB TOOLS, WEBSITE
BUILDING TOOLS AND PREPAID CARDS IS UNCERTAIN.
Our future success may depend significantly on our ability to
protect our proprietary rights to the intellectual property upon
which our products and services will be based. Any
patents we obtain in the future may be challenged by re-examination
or otherwise invalidated or eventually be found unenforceable. Both
the patent application process and the process of managing patent
disputes can be time consuming and expensive. Competitors may
attempt to challenge or invalidate our patents, or may be able to
design alternative techniques or devices that avoid infringement of
our patents, or develop products with functionalities that are
comparable to ours. In the event a competitor infringes upon our
patent or other intellectual property rights, litigation to enforce
our intellectual property rights or to defend our patents against
challenge, even if successful, could be expensive and time
consuming and could require significant time and attention from our
management. We may not have sufficient resources to enforce our
intellectual property rights or to defend our patents against
challenges from others.
WE ARE DEPENDENT UPON CONSUMER TASTES WITH RESPECT TO PREFERRED
METHODS OF MOBILE COMMUNICATION FOR THE SUCCESS OF OUR PRODUCTS AND
SERVICES.
Our product offerings’ acceptance by consumers and their
consequent generation of revenues will depend upon a variety of
unpredictable factors, including:
●
Public taste, which is always subject to change;
●
The quantity and popularity of other communication platforms;
and
●
The fact that the sales methods chosen for the products and
services we market may be ineffective.
For any of these reasons, our programs may be commercially
unsuccessful. If we are unable to market products which
are commercially successful, we may not be able to recoup our
expenses and/or generate sufficient revenues. In the event that we
are unable to generate sufficient revenues, we may not be able to
continue operating as a viable business and an investor could
suffer the loss of a significant portion or all of his investment
in our Company.
THE MOBILE ADVERTISING MARKET MAY DETERIORATE OR DEVELOP MORE
SLOWLY THAN EXPECTED, WHICH COULD HARM OUR BUSINESS.
Advertising on mobile connected devices is an emerging industry
sector. Advertisers have historically spent a smaller portion of
their advertising budgets on mobile media as compared to
traditional advertising methods, such as television, newspapers,
radio and billboards, or internet advertising such banner
ads. Future demand and market acceptance for mobile
advertising is uncertain. Many advertisers still have limited
experience with mobile advertising and may continue to devote
larger portions of their advertising budgets to more traditional
offline or online personal computer-based advertising, instead of
shifting additional advertising resources to mobile advertising. In
addition, our current and potential advertiser clients may
ultimately find mobile advertising to be less effective than
traditional advertising media or marketing methods or other
technologies for promoting their products and services, and they
may even reduce their spending on mobile advertising from current
levels as a result. If the market for mobile advertising
deteriorates, or develops more slowly than expected, we may not be
able to increase our revenue.
SMS MASTERMINDS IS ONE OF THE DEFENDANTS NAMED IN A POTENTIAL
CLASS-ACTION LAWSUIT FILED IN THE UNITED STATES DISTRICT COURT
EASTERN DISTRICT OF NEW YORK RELATING TO ALLEGED VIOLATIONS OF THE
TELEPHONE CONSUMER PROTECTION ACT.
From time to time and in the course of business, we may become
involved in various legal proceedings seeking monetary damages and
other relief. The amount of any ultimate liability from such claims
cannot be determined. On January 1, 2014, Intellectual Capital
Management, LLC dba SMS Masterminds was named in a potential
class-action lawsuit titled Telford v. Intellectual Capital, et al,
filed in the United States District Court Eastern District of New
York relating to alleged violations of the Telephone Consumer
Protection Act of 1991 (the “TCPA”). The Company
believed the Plaintiff’s allegations had no merit but based
upon the economics of continued litigation, the Company resolved
the lawsuit in May 2015 for the sum of $34,612, and the action is
no longer pending. On July 8, 2015, Intellectual Capital
Management, LLC dba SMS Masterminds and SpendSmart Networks, Inc.
were named in a potential class-action lawsuit entitled Peter
Marchelos, et al v. Intellectual Capital Management, et al, filed
in the United States District Court Eastern District of New York
relating to alleged violations of the Telephone Consumer Protection
Act of 1991. This litigation involves the same licensee and
merchant as the Telford lawsuit and the same attorneys represent
the plaintiffs in this action. The claim of one of the two
plaintiffs was resolved for $1,701. The Company believes the
Plaintiffs’ allegations have no merit and is vigorously
defending the action. Because this lawsuit is in an early stage, we
are unable to predict the outcome of the lawsuit and the possible
loss or range of loss, if any, associated with its resolution or
any potential effect the lawsuit may have on our operations. There
are no other legal claims currently pending or threatened against
us that in the opinion of our management would be likely to have a
material adverse effect on our financial position, results of
operations or cash flows.
IF MOBILE CONNECTED DEVICES, THEIR OPERATING SYSTEMS OR CONTENT
DISTRIBUTION CHANNELS, INCLUDING THOSE CONTROLLED BY OUR PRIMARY
COMPETITORS, DEVELOP IN WAYS THAT PREVENT OUR ADVERTISING FROM
BEING DELIVERED TO OUR USERS, OUR ABILITY TO GROW OUR BUSINESS WILL
BE IMPAIRED.
Our mobile marketing business model depends upon the continued
compatibility of our mobile advertising platform with most mobile
connected devices, as well as the major operating systems that run
on them. The design of mobile devices and operating systems is
controlled by third parties with whom we do not have any formal
relationships. These parties frequently introduce new devices, and
from time to time they may introduce new operating systems or
modify existing ones.
OUR MOBILE MARKETING SERVICES ARE PROVIDED ON MOBILE COMMUNICATIONS
NETWORKS THAT ARE OWNED AND OPERATED BY THIRD PARTIES WHO WE DO NOT
CONTROL AND THE FAILURE OF ANY OF THESE NETWORKS WOULD ADVERSELY
AFFECT OUR ABILITY TO DELIVER OUR SERVICES TO OUR
CUSTOMERS.
Our mobile marketing and advertising platform is dependent on the
reliability of mobile operators who maintain sophisticated and
complex mobile networks. Such mobile networks have historically,
and particularly in recent years, been subject to both rapid growth
and technological change. If the network of a mobile operator with
which we are integrated should fail, including because of new
technology incompatibility, the degradation of network performance
under the strain of too many mobile consumers using it, or a
general failure from natural disaster or political or regulatory
shut-down, we will not be able provide our services to customers
through such mobile network. This in turn, would impair our
reputation and business, potentially resulting in a material,
adverse effect on our financial results.
THE SUCCESS OF OUR MOBILE MARKETING BUSINESS DEPENDS, IN PART, ON
WIRELESS CARRIERS CONTINUING TO ACCEPT OUR CUSTOMERS' MESSAGES FOR
DELIVERY TO THEIR SUBSCRIBER BASE.
We depend on wireless carriers to deliver our customers' messages
to their subscriber base. Wireless carriers often impose standards
of conduct or practice that significantly exceed current legal
requirements and potentially classify our messages as "spam," even
where we do not agree with that conclusion. In addition, the
wireless carriers use technical and other measures to attempt to
block non-compliant senders from transmitting messages to their
customers; for example, wireless carriers block short codes or
Internet Protocol addresses associated with those senders. There
can be no guarantee that our, or short codes registered to us, will
not be blocked or blacklisted or that we will be able to
successfully remove ourselves from those lists. Although our
services typically require customers to opt-in to a campaign,
minimizing the risk that its customers' messages will be
characterized as spam, blocking of this type could interfere with
its ability to market products and services of its customers and
communicate with end users and could undermine the effectiveness of
our customers' marketing campaigns. To date we have not experienced
any material blocking of our messages by wireless carriers, but any
such blocking could have an adverse effect on our business and
results of operations.
MOBILE CONNECTED DEVICE USERS MAY CHOOSE NOT TO ALLOW ADVERTISING
ON THEIR DEVICES.
The success of our mobile marketing business model depends on our
ability to deliver targeted, highly relevant ads to consumers on
their mobile connected devices. Targeted advertising is done
primarily through analysis of data, much of which is collected on
the basis of user-provided permissions. This data might include a
device's location or data collected when device users view an
advertisement or video or when they click on or otherwise engage
with an advertisement. Users may elect not to allow data sharing
for targeted advertising for a number of reasons, such as privacy
concerns, or pricing mechanisms that may charge the user based upon
the amount or types of data consumed on the device. Users may also
elect to opt out of receiving targeted advertising from our
platform. In addition, the designers of mobile device operating
systems are increasingly promoting features that allow device users
to disable some of the functionality, which may impair or disable
the delivery of ads on their devices, and device manufacturers may
include these features as part of their standard device
specifications. Although we are not aware of any such products that
are widely used in the market today, as has occurred in the online
advertising industry, companies may develop products that enable
users to prevent ads from appearing on their mobile device screens.
If any of these developments were to occur, our ability to deliver
effective advertising campaigns on behalf of our advertiser clients
would suffer, which could hurt our ability to generate
revenue.
WE MAY NOT BE ABLE TO ENHANCE OUR MOBILE MARKETING AND ADVERTISING
PLATFORM TO KEEP PACE WITH TECHNOLOGICAL AND MARKET DEVELOPMENTS,
OR TO REMAIN COMPETITIVE AGAINST POTENTIAL NEW ENTRANTS IN OUR
MARKETS.
The market for mobile marketing and advertising services is
emerging and is characterized by rapid technological change,
evolving industry standards, frequent new product introductions and
short product life cycles. Our current platform or platforms we may
offer in the future may not be acceptable to marketers and
advertisers. To keep pace with technological developments, satisfy
increasing customer requirements and achieve acceptance of our
marketing and advertising campaigns, we will need to enhance our
current mobile marketing solutions and continue to develop and
introduce on a timely basis new, innovative mobile marketing
services offering compatibility, enhanced features and
functionality on a timely basis at competitive prices. Our
inability, for technological or other reasons, to enhance, develop,
introduce and deliver compelling mobile marketing services in a
timely manner, or at all, in response to changing market
conditions, technologies or customer expectations could have a
material adverse effect on our operating results or could result in
our mobile marketing services platform becoming obsolete. Our
ability to compete successfully will depend in large measure on our
ability to maintain a technically skilled development and
engineering staff and to adapt to technological changes and
advances in the industry, including providing for the continued
compatibility of our mobile marketing services platform with
evolving industry standards and protocols. In addition, as we
believe the mobile marketing market is likely to grow
substantially, other companies which are larger and have
significantly more capital to invest than us may emerge as
competitors. New entrants could seek to gain market
share by introducing new technology or reducing pricing. This may
make it more difficult for us to sell our products and services,
and could result in increased pricing pressure, reduced profit
margins, increased sales and marketing expenses or the loss of
market share or expected market share, any of which may
significantly harm our business, operating results and financial
condition.
OUR SALES EFFORTS WITH LICENSEES REQUIRES SIGNIFICANT TIME AND
EXPENSE.
Attracting new licensees requires substantial time and expense, and
we may not be successful in establishing new relationships or in
maintaining or advancing current relationships. Further, it may be
difficult for our licensees to identify, engage and market to
potential merchant clients who do not currently spend on mobile
advertising or are unfamiliar with our current services or
platform. Furthermore, many merchant’s purchasing and design
decisions typically require input from multiple internal
constituencies.
The novelty of our services and our business model often requires
us to spend substantial time and effort educating potential
licensees about our offerings, including providing demonstrations
and comparisons against other available services. This process can
be costly and time-consuming. If we are not successful in
streamlining our sales processes with licensees or successfully
assisting licensees in selling to merchants, our ability to grow
our business may be adversely affected.
IF WE CANNOT INCREASE THE CAPACITY OF OUR MOBILE ADVERTISING
TECHNOLOGY PLATFORM TO MEET MERCHANT OR DEVICE USER DEMAND, OUR
BUSINESS WILL BE HARMED.
We must be able to continue to increase the capacity of our
technology platform in order to support substantial increases in
the number of merchants and device users, to support an increasing
variety of advertising formats and to maintain a stable service
infrastructure and reliable service delivery for our mobile
advertising campaigns. If we are unable to efficiently and
effectively increase the scale of our mobile advertising platform
to support and manage a substantial increase in the number of
merchants and mobile device users, while also maintaining a high
level of performance, the quality of our services could decline and
our reputation and business could be seriously harmed. In addition,
if we are not able to support emerging mobile advertising formats
or services preferred by advertisers, we may be unable to obtain
new advertising clients or may lose existing advertising clients,
and in either case our revenue could decline.
SYSTEM FAILURES COULD SIGNIFICANTLY DISRUPT OUR OPERATIONS AND
CAUSE US TO LOSE ADVERTISER CLIENTS OR ADVERTISING
INVENTORY.
Our success depends on the continuing and uninterrupted performance
of our own internal systems, which are utilized to send messages,
and monitor the performance of advertising campaigns. Our revenue
depends on the technological ability of our platform to deliver
ads. Sustained or repeated system failures that interrupt our
ability to provide services to clients, including technological
failures affecting our ability to deliver ads quickly and
accurately and to process mobile device users' responses to ads,
could significantly reduce the attractiveness of our services to
advertisers and reduce our revenue. Our systems are vulnerable to
damage from a variety of sources, including telecommunications
failures, power outages, malicious human acts and natural
disasters. In addition, any steps we take to increase the
reliability and redundancy of our systems may be expensive and may
not be successful in preventing system failures.
ACTIVITIES OF LICENSEES OR MERCHANTS COULD DAMAGE OUR REPUTATION OR
GIVE RISE TO LEGAL CLAIMS AGAINST US.
A merchant’s promotion of their products and services may not
comply with federal, state and local laws, including, but not
limited to, laws and regulations relating to mobile communications.
Failure of a licensee or merchant to comply with federal, state or
local laws or our policies could damage our reputation and expose
us to liability under these laws. We may also be liable to third
parties for content in the ads it delivers if the artwork, text or
other content involved violates copyrights, trademarks or other
intellectual property rights of third parties or if the content is
defamatory, unfair and deceptive, or otherwise in violation of
applicable laws. Although we generally receive assurance from
licensees that ads are lawful and that they have the right to use
any copyrights, trademarks or other intellectual property included
in a communication, and although we are normally indemnified by the
licensees, a third party or regulatory authority may still file a
claim against us. Any such claims could be costly and
time-consuming to defend and could also hurt our reputation within
the mobile advertising industry. Further, if we are exposed to
legal liability, we could be required to pay substantial fines or
penalties, redesign our business methods, discontinue some of its
services or otherwise expend significant resources.
SOFTWARE AND COMPONENTS THAT WE INCORPORATE INTO OUR MOBILE
ADVERTISING PLATFORM MAY CONTAIN ERRORS OR DEFECTS, WHICH COULD
HARM OUR REPUTATION AND HURT ITS BUSINESS.
We use a combination of custom and third-party software, including
open source software, in building our mobile advertising platform.
Although we test software before incorporating it into our
platform, we cannot guarantee that all of the third-party
technology that we incorporate will not contain errors, bugs or
other defects. We continue to launch enhancements to our mobile
advertising platform, and cannot guarantee any such enhancements
will be free from these kinds of defects. If errors or other
defects occur in technology that we utilize in our mobile
advertising platform, it could result in damage to our reputation
and losses in revenue, and we could be required to spend
significant amounts of additional resources to fix any
problems.
OUR INABILITY TO USE SOFTWARE LICENSED FROM THIRD PARTIES, OR OUR
USE OF OPEN SOURCE SOFTWARE UNDER LICENSE TERMS THAT INTERFERE WITH
OUR PROPRIETARY RIGHTS, COULD DISRUPT OUR BUSINESS.
Our technology platform incorporates software licensed from third
parties, including some software, known as open source software,
which we use without charge. Although we monitor our use of open
source software, U.S. or foreign courts have not interpreted the
terms of many open source licenses to which we are subject, and
there is a risk that such licenses could be construed in a manner
that imposes unanticipated conditions or restrictions on our
ability to provide our platform to our clients. In the future, we
could be required to seek licenses from third parties in order to
continue offering our platform, which licenses may not be available
on terms that are acceptable to us, or at all. Alternatively, we
may need to re-engineer our platform or discontinue use of portions
of the functionality provided by our platform. In addition, the
terms of open source software licenses may require us to provide
software that we develop to others on unfavorable license terms.
Our inability to use third-party software could result in
disruptions to our business, or delays in the development of future
offerings or enhancements of existing offerings, which could impair
our business.
IF OUR MOBILE MARKETING AND ADVERTISING SERVICES PLATFORM DOES NOT
SCALE AS ANTICIPATED, OUR BUSINESS WILL BE HARMED.
We must be able to continue to scale to support potential ongoing
substantial increases in the number of users in our actual
commercial environment, and maintain a stable service
infrastructure and reliable service delivery for our mobile
marketing and advertising campaigns. In addition, we must continue
to expand our service infrastructure to handle growth in customers
and usage. If our mobile marketing services platform does not
efficiently and effectively scale to support and manage a
substantial increase in the number of users while maintaining a
high level of performance, the quality of our services could
decline and our business will be seriously harmed. In addition, if
we are unable to secure data center space with appropriate power,
cooling and bandwidth capacity, we may not be able to efficiently
and effectively scale our business to manage the addition of new
customers and overall mobile marketing campaigns.
IF A PORTION OF OUR BUSINESS MODEL IS DEEMED TO BE A FRANCHISE OUR
BUSINESS COULD BE INTERUPTED.
Although our business model related to the Mobile and Loyalty
Program is based upon a license, we cannot guarantee that any
state’s franchise department will not find our model to be a
franchise and require a transition to said model with possible
associated penalties, fees, costs, and business delays and
interruptions.
OUR BUSINESS PRACTICES WITH RESPECT TO DATA MAY GIVE RISE TO
LIABILITIES OR REPUTATIONAL HARM AS A RESULT OF GOVERNMENTAL
REGULATION, LEGAL REQUIREMENTS OR INDUSTRY STANDARDS RELATING TO
CONSUMER PRIVACY AND DATA PROTECTION.
In the course of providing services, we transmit and store
information related to mobile devices and the ads we place with
that user's consent. Federal, state and international laws and
regulations govern the collection, use, retention, sharing and
security of data that we collect across our mobile marketing
platform. We strive to comply with all applicable laws,
regulations, policies and legal obligations relating to privacy and
data protection. However, it is possible that these requirements
may be interpreted and applied in a manner that is inconsistent
from one jurisdiction to another and may conflict with other rules
or our practices. Any failure, or perceived failure, by us to
comply with U.S. federal, state, or international laws, including
laws and regulations regulating privacy or consumer protection,
could result in proceedings or actions against us by governmental
entities or others. From time to time, there are several ongoing
lawsuits filed against companies in our industry alleging various
violations of privacy-related laws. These proceedings could hurt
our reputation, force us to spend significant amounts in defense of
these proceedings, distract our management, increase our costs of
doing business, adversely affect the demand for our services and
ultimately result in the imposition of monetary
liability.
The regulatory framework for privacy issues worldwide is evolving,
and various government and consumer agencies and public advocacy
groups have called for new regulation and changes in industry
practices, including some directed at the mobile industry in
particular. It is possible that new laws and regulations will be
adopted in the United States and internationally, or existing laws
and regulations may be interpreted in new ways, that would affect
our business, particularly with regard to location-based services,
collection or use of data to target ads and communication with
consumers via mobile devices.
The U.S. government, including the Federal Trade Commission, or
FTC, and the Department of Commerce, has announced that it is
reviewing the need for greater regulation of the collection of
consumer information, including regulation aimed at restricting
some targeted advertising practices. The FTC has also proposed
revisions to the Children's Online Privacy Protection Act, or
COPPA, that could, if adopted, create greater compliance burdens on
us. COPPA imposes a number of obligations, such as obtaining
parental permission, on website operators to the extent they
collect certain information from children who are under 13 years
old. The proposed changes would broaden the applicability of COPPA,
including the types of information that would be subject to these
regulations, and could apply to information that we or our clients
collect through mobile devices or apps that is not currently
subject to COPPA.
As we expand our operations globally, compliance with regulations
that differ from country to country may also impose substantial
burdens on its business. In particular, the European Union has
traditionally taken a broader view as to what is considered
personal information and has imposed greater obligations under data
privacy regulations. In addition, individual EU member countries
have had discretion with respect to their interpretation and
implementation of the regulations, which has resulted in variation
of privacy standards from country to country. In January 2012, the
European Commission announced significant proposed reforms to its
existing data protection legal framework, including changes in
obligations of data controllers and processors, the rights of data
subjects and data security and breach notification requirements.
The EU proposals, if implemented, may result in a greater
compliance burden if SMS Masterminds delivers ads to mobile device
users in Europe. Complying with any new regulatory requirements
could force us to incur substantial costs or require us to change
our business practices in a manner that could compromise our
ability to effectively pursue its growth strategy.
In addition to compliance with government regulations, we
voluntarily participate in several trade associations and industry
self-regulatory groups that promulgate best practices or codes of
conduct addressing the provision of location-based services,
delivery of promotional content to mobile devices, and tracking of
device users or devices for the purpose of delivering targeted
advertising. We could be adversely affected by changes to these
guidelines and codes in ways that are inconsistent with our
practices or in conflict with the laws and regulations of U.S. or
international regulatory authorities. If we are perceived as not
operating in accordance with industry best practices or any such
guidelines or codes with regard to privacy, our reputation may
suffer and we could lose relationships with advertiser or developer
partners.
WE DEPEND ON THIRD PARTY PROVIDERS FOR A RELIABLE INTERNET
INFRASTRUCTURE AND THE FAILURE OF THESE THIRD PARTIES, OR THE
INTERNET IN GENERAL, FOR ANY REASON WOULD SIGNIFICANTLY IMPAIR OUR
ABILITY TO CONDUCT OUR BUSINESS.
We outsource all of our data center facility management to third
parties who host the actual servers and provide power and security
in multiple data centers in each geographic location. These third
party facilities require uninterrupted access to the
Internet. If the operation of our servers is interrupted
for any reason, including natural disaster, financial insolvency of
a third party provider, or malicious electronic intrusion into the
data center, our business would be significantly
damaged. As has occurred with many Internet-based
businesses, on occasion in the past, we have been subject to
"denial-of-service" attacks in which unknown individuals bombarded
its computer servers with requests for data, thereby degrading the
servers' performance. While we have historically been successful in
relatively quickly identifying and neutralizing these attacks, we
cannot be certain that we will be able to do so in the future. If
either a third party facility failed, or our ability to access the
Internet was interfered with because of the failure of Internet
equipment in general or we become subject to malicious attacks of
computer intruders, our business and operating results will be
materially adversely affected.
Financial Risks
OUR FINANCIAL STATEMENTS HAVE BEEN PREPARED ASSUMING THAT OUR
COMPANY WILL CONTINUE AS A GOING CONCERN.
The factors described herein raise substantial doubt about our
ability to continue as a going concern. Our financial statements do
not include any adjustments that might result from this
uncertainty. The report of our independent registered public
accounting firm included an explanatory paragraph expressing
substantial doubt about our ability to continue as a going concern
in their audit report for the years ended December 31, 2015 and
2014. If we cannot generate the required revenues
and gross margin to achieve profitability or obtain additional
capital on acceptable terms, we will need to substantially revise
our business plan or cease operations and an investor could suffer
the loss of a significant portion or all of his investment in our
Company.
CURRENT MACRO-ECONOMIC CONDITIONS COULD ADVERSELY AFFECT THE
FINANCIAL VIABILITY OF OUR COMPANY.
Continuing recessionary conditions in the global economy threaten
to cause further tightening of the credit and equity markets and
more stringent lending and investing standards. The persistence of
these conditions could have a material adverse effect on our access
to further needed capital. In addition, further deterioration in
the economy could adversely affect our corporate results, which
could adversely affect our financial condition and
operations.
WE DO NOT EXPECT TO PAY DIVIDENDS FOR THE FORESEEABLE FUTURE, AND
WE MAY NEVER PAY DIVIDENDS AND, CONSEQUENTLY, THE ONLY OPPORTUNITY
FOR INVESTORS TO ACHIEVE A RETURN ON THEIR INVESTMENT IS IF A
TRADING MARKET DEVELOPS AND INVESTORS ARE ABLE TO SELL THEIR SHARES
FOR A PROFIT OR IF OUR BUSINESS IS SOLD AT A PRICE THAT ENABLES
INVESTORS TO RECOGNIZE A PROFIT.
We currently intend to retain any future earnings to support the
development and expansion of our business and do not anticipate
paying cash dividends for the foreseeable future. Our payment of
any future dividends will be at the discretion of our Board of
Directors after taking into account various factors, including but
not limited to our financial condition, operating results, cash
needs, growth plans and the terms of any credit agreements that we
may be a party to at the time. In addition, our ability to pay
dividends on our common stock may be limited by state law.
Accordingly, we cannot assure investors any return on their
investment, other than in connection with a sale of their shares or
a sale of our business. At the present time there is a limited
trading market for our shares. Therefore, holders of our securities
may be unable to sell them. We cannot assure investors that an
active trading market will develop or that any third party will
offer to purchase our business on acceptable terms and at a price
that would enable our investors to recognize a profit.
OUR NET OPERATING LOSS (“NOL”) CARRY-FORWARD IS
LIMITED.
We have recorded a valuation allowance amounting to our entire net
deferred tax asset balance due to our lack of a history of
earnings, possible statutory limitations on the use of tax loss
carry-forwards generated in the past and the future expiration of
our NOL. This gives rise to uncertainty as to whether
the net deferred tax asset is realizable. Internal
Revenue Code Section 382, and similar California rules, place a
limitation on the amount of taxable income that can be offset by
carry-forwards after a change in control (generally greater than a
50% change in ownership). As a result of these
provisions, it is likely that given our acquisition of The
SpendSmart Payments Company-CA, SMS Masterminds, and TechXpress,
future utilization of the NOL will be severely
limited. Our inability to use our Company’s
historical NOL, or the full amount of the NOL, would limit our
ability to offset any future tax liabilities with its
NOL.
Corporate and Other Risks
LIMITATIONS ON DIRECTOR AND OFFICER LIABILITY AND INDEMNIFICATION
OF OUR COMPANY’S OFFICERS AND DIRECTORS BY US MAY DISCOURAGE
STOCKHOLDERS FROM BRINGING SUIT AGAINST AN OFFICER OR
DIRECTOR.
Our Company’s articles of incorporation and bylaws provide,
with certain exceptions as permitted by governing state law, that a
director or officer shall not be personally liable to us or our
stockholders for breach of fiduciary duty as a director, except for
acts or omissions which involve intentional misconduct, fraud or
knowing violation of law, or unlawful payments of dividends. These
provisions may discourage stockholders from bringing suit against a
director for breach of fiduciary duty and may reduce the likelihood
of derivative litigation brought by stockholders on our behalf
against a director.
WE ARE RESPONSIBLE FOR THE INDEMNIFICATION OF OUR OFFICERS AND
DIRECTORS.
Should our officers and/or directors require us to contribute to
their defense, we may be required to spend significant amounts of
our capital. Our articles of incorporation and bylaws as well as an
indemnification agreement also provide for the indemnification of
our directors, officers, employees, and agents, under certain
circumstances, against attorney's fees and other expenses incurred
by them in any litigation to which they become a party arising from
their association with or activities on behalf of our Company. This
indemnification policy could result in substantial expenditures,
which we may be unable to recoup. If these expenditures are
significant, or involve issues which result in significant
liability for our key personnel, we may be unable to continue
operating as a going concern.
OUR EMPLOYEES, EXECUTIVE OFFICERS, DIRECTORS AND INSIDER
STOCKHOLDERS BENEFICIALLY OWN OR CONTROL A SUBSTANTIAL PORTION OF
OUR OUTSTANDING COMMON STOCK, WHICH MAY LIMIT YOUR ABILITY AND THE
ABILITY OF OUR OTHER STOCKHOLDERS, WHETHER ACTING ALONE OR
TOGETHER, TO PROPOSE OR DIRECT THE MANAGEMENT OR OVERALL DIRECTION
OF OUR COMPANY.
Additionally, this concentration of ownership could discourage or
prevent a potential takeover of our Company that might otherwise
result in an investor receiving a premium over the market price for
his shares. Approximately half of our outstanding shares of common
stock is beneficially owned and controlled by a group of insiders,
including our employees, directors and executive officers.
Accordingly, our employees, directors, executive officers and
insider shareholders may have the power to control the election of
our directors and the approval of actions for which the approval of
our stockholders is required. If you acquire shares of our common
stock, you may have no effective voice in the management of our
Company. Such concentrated control of our Company may
adversely affect the price of our common stock. Our principal
stockholders may be able to control matters requiring approval by
our stockholders, including the election of directors, mergers or
other business combinations. Such concentrated control may also
make it difficult for our stockholders to receive a premium for
their shares of our common stock in the event we merge with a third
party or enter into different transactions which require
stockholder approval. These provisions could also limit the price
that investors might be willing to pay in the future for shares of
our common stock.
WE ARE DEPENDENT FOR OUR SUCCESS ON A FEW KEY
EMPLOYEES.
Our inability to retain those employees would impede our business
plan and growth strategies, which would have a negative impact on
our business and the value of your investment. Our success depends
on the skills, experience and performance of key members of our
Company. Each of those individuals may voluntarily
terminate his employment with our Company at any time. Were we to
lose one or more of these key employees, we would be forced to
expend significant time and money in the pursuit of a replacement,
which would result in both a delay in the implementation of our
business plan and the diversion of limited working capital. We do
not maintain a key man insurance policy on any of our key
employees.
SHOULD WE BE SUCCESSFUL IN TRANSITIONING TO A COMPANY GENERATING
SIGNIFICANT REVENUES, WE MAY NOT BE ABLE TO MANAGE OUR GROWTH
EFFECTIVELY, WHICH COULD ADVERSELY AFFECT OUR OPERATIONS AND
FINANCIAL PERFORMANCE.
The ability to manage and operate our business as we execute our
growth strategy will require effective planning. Significant rapid
growth could strain our internal resources, leading to a lower
quality of customer service, reporting problems and delays in
meeting important deadlines resulting in loss of market share and
other problems that could adversely affect our financial
performance. Our efforts to grow could place a significant strain
on our personnel, management systems, infrastructure and other
resources. If we do not manage our growth effectively, our
operations could be adversely affected, resulting in slower growth
and a failure to achieve or sustain profitability.
Capital Market Risks
OUR COMMON STOCK IS THINLY TRADED, SO YOU MAY BE UNABLE TO SELL AT
OR NEAR ASK PRICES OR AT ALL IF YOU NEED TO SELL YOUR SHARES TO
RAISE MONEY OR OTHERWISE DESIRE TO LIQUIDATE YOUR
SHARES.
There is limited market activity in our stock and we may be too
small to attract the interest of many brokerage firms and analysts.
We cannot give you any assurance that a broader or more active
public trading market for our common stock will develop or be
sustained. While we are trading on OTCQB, the trading volume we
will develop may be limited by the fact that many major
institutional investment funds, including mutual funds, as well as
individual investors follow a policy of not investing in
over-the-counter stocks and certain major brokerage firms restrict
their brokers from recommending over-the-counter stocks because
they are considered speculative, volatile, thinly traded and the
market price of the common stock may not accurately reflect the
underlying value of our Company. The market price of our
common stock could be subject to wide fluctuations in response to
quarterly variations in our revenues and operating expenses,
announcements of new products or services by us, significant sales
of our common stock, including “short” sales, the
operating and stock price performance of other companies that
investors may deem comparable to us, and news reports relating to
trends in our markets or general economic conditions.
THE APPLICATION OF THE “PENNY STOCK” RULES TO OUR
COMMON STOCK COULD LIMIT THE TRADING AND LIQUIDITY OF THE COMMON
STOCK, ADVERSELY AFFECT THE MARKET PRICE OF OUR COMMON STOCK AND
INCREASE YOUR TRANSACTION COSTS TO SELL THOSE SHARES.
As long as the trading price of our common stock is below $5 per
share, our common stock will be subject to the “penny
stock” rules, unless we otherwise qualify for an exemption
from the “penny stock” definition. The “penny
stock” rules impose additional sales practice requirements on
certain broker-dealers who sell securities to persons other than
established customers and accredited investors (generally those
with a net worth in excess of $1,000,000 or annual income exceeding
$200,000 or $300,000 together with their spouse). These
regulations, if they apply, require the delivery, prior to any
transaction involving a penny stock, of a disclosure schedule
explaining the penny stock market and the associated risks. Under
these regulations, certain brokers who recommend such securities to
persons other than established customers or certain accredited
investors must make a special written suitability determination
regarding such a purchaser and receive such purchaser’s
written agreement to a transaction prior to sale. The Financial
Industry Regulatory Authority, or FINRA, has adopted sales practice
requirements which may also limit a stockholder's ability to buy
and sell our stock. In addition to the "penny stock" rules
described above, FINRA has adopted rules that require that in
recommending an investment to a customer, a broker-dealer must have
reasonable grounds for believing that the investment is suitable
for that customer. Prior to recommending speculative low priced
securities to their non-institutional customers, broker-dealers
must make reasonable efforts to obtain information about the
customer's financial status, tax status, investment objectives and
other information. These regulations may have the effect of
limiting the trading activity of our common stock, reducing the
liquidity of an investment in our common stock and increasing the
transaction costs for sales and purchases of our common stock as
compared to other securities. The stock market in general and the
market prices for penny stock companies in particular, have
experienced volatility that often has been unrelated to the
operating performance of such companies. These broad market and
industry fluctuations may adversely affect the price of our stock,
regardless of our operating performance. Stockholders
should be aware that, according to SEC Release No. 34-29093, the
market for penny stocks has suffered in recent years from patterns
of fraud and abuse. Such patterns include 1) control of the market
for the security by one or a few broker-dealers that are often
related to the promoter or issuer; 2) manipulation of prices
through prearranged matching of purchases and sales and false and
misleading press releases; 3) boiler room practices involving
high-pressure sales tactics and unrealistic price projections by
inexperienced sales persons; 4) excessive and undisclosed bid-ask
differential and markups by selling broker-dealers; and 5) the
wholesale dumping of the same securities by promoters and
broker-dealers after prices have been manipulated to a desired
level, along with the resulting inevitable collapse of those prices
and with consequent investor losses. The occurrence of these
patterns or practices as well as the regulatory disclosure
requirements set forth above could increase the volatility of our
share price, may limit investors’ ability to buy and sell our
securities and have an adverse effect on the market price for our
shares of common stock.
WE MAY NOT BE ABLE TO ATTRACT THE ATTENTION OF MAJOR BROKERAGE
FIRMS, WHICH COULD HAVE A MATERIAL ADVERSE IMPACT ON THE MARKET
VALUE OF OUR COMMON STOCK.
Security analysts of major brokerage firms may not provide coverage
of our common stock since there is no incentive to brokerage firms
to recommend the purchase of our common stock. The absence of such
coverage limits the likelihood that an active market will develop
for our common stock. It will also likely make it more difficult to
attract new investors at times when we require additional
capital.
WE MAY BE UNABLE TO LIST OUR COMMON STOCK ON NASDAQ OR ON ANY
SECURITIES EXCHANGE.
Although we intend to apply to list our common stock on NASDAQ in
the future, we cannot assure you that we will be able to meet the
initial listing standards, including the minimum per share price
and minimum capitalization requirements, or that we will be able to
maintain a listing of our common stock on this trading. Until such
time as we qualify for listing on NASDAQ or another national
securities exchange, our common stock will continue to trade on
OTCQB or another over-the-counter quotation system where an
investor may find it more difficult to dispose of shares or obtain
accurate quotations as to the market value of our common stock. In
addition, rules promulgated by the SEC impose various practice
requirements on broker-dealers who sell securities that fail to
meet certain criteria set forth in those rules to persons other
than established customers and accredited
investors. Consequently, these rules may deter
broker-dealers from recommending or selling our common stock, which
may further affect the liquidity of our common stock. It would also
make it more difficult for us to raise additional
capital.
FUTURE SALES OF OUR EQUITY SECURITIES COULD PUT DOWNWARD SELLING
PRESSURE ON OUR SECURITIES, AND ADVERSELY AFFECT THE STOCK
PRICE.
There is a risk that this downward pressure may make it impossible
for an investor to sell his or her securities at any reasonable
price, if at all. Future sales of substantial amounts of our equity
securities in the public market, or the perception that such sales
could occur, could put downward selling pressure on our securities,
and adversely affect the market price of our common
stock.
WE HAVE IDENTIED A MATERIAL WEAKNESS IN OUR INTERNAL CONTROL OVER
FINANCIAL REPORTING. IF WE FAIL TO DEVELOP OR MAINTAIN AN EFFECTIVE
SYSTEM OF INTERNAL CONTROLS, WE MAY NOT BE ABLE TO ACCURATELY
REPORT OUR FINANCIAL RESULTS OR PREVENT FRAUD. AS A RESULT, CURRENT
AND POTENTIAL STOCKHOLDERS COULD LOSE CONFIDENCE IN OUR FINANCIAL
REPORTING, WHICH WOULD HARM OUR BUSINESS AND THE TRADING PRICE OF
OUR STOCK.
During the preparation of our consolidated financial statements for
the year ended December 31, 2015, we and our independent registered
public accounting firm identified deficiencies in our internal
control over financial reporting, as defined in the standards
established by the Public Company Accounting Oversight Board. See
“Report of Management on Internal Control over Financial
Reporting.” Management determined the control deficiencies
constitute a material weakness in our internal control over
financial reporting.
The existence of a material weakness could result in errors in our
financial statements, cause us to fail to meet our reporting
obligations and cause investors to lose confidence in our reported
financial information, leading to a decline in the trading price of
our stock.
None
not previously disclosed.
Not
applicable.
Not
applicable.
Not
applicable.
Exhibit
No.
|
Description
|
31.1*
|
Certification
pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act
of 1934, by Chief Executive Officer
|
|
|
32.1*
|
Certification
pursuant to 18 U.S.C. §1350 by Chief Executive
Officer
|
|
|
31.2*
|
Certification
pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act
of 1934, by Chief Financial Officer
|
|
|
32.2*
|
Certification
pursuant to 18 U.S.C. §1350 by Chief Financial
Officer
|
|
|
*
|
Filed
as an exhibit to this report
|
SIGNATURES
In accordance with the requirements of the Exchange Act of 1934,
the registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
|
The
SpendSmart Networks, Inc., a Delaware
corporation
By: /s/ LUKE WALLACE
Luke Wallace, Chief Executive Officer
November 14, 2016
By: /s/ BRETT
SCHNELL
Brett Schnell, Chief Financial Officer
November
14, 2016
|
-43-