UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 2022
Commission File Number 001-33720
Remark Holdings, Inc.
| Delaware | 33-1135689 | |||||||||||||
| State of Incorporation | IRS Employer Identification Number | |||||||||||||
800 S. Commerce St.
Las Vegas, NV 89106
Address, including zip code, of principal executive offices
702-701-9514
Registrant’s telephone number, including area code
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class | Trading Symbol | Name of each exchange on which registered | ||||||||||||
| Common Stock, $0.001 par value per share | MARK | The Nasdaq Stock Market LLC | ||||||||||||
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
| Large accelerated filer | ☐ | Accelerated filer | ☐ | |||||||||||
| Non-accelerated filer | ☑ | Smaller reporting company | ☑ | |||||||||||
| Emerging growth company | ☐ | |||||||||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☑
As of November 11, 2022, a total of 106,407,769 shares of our common stock were outstanding.
TABLE OF CONTENTS
| PART I | ||||||||
| Item 1. | ||||||||
| Item 2. | ||||||||
| Item 3. | ||||||||
| Item 4. | ||||||||
| PART II | ||||||||
| Item 1. | ||||||||
| Item 1A. | ||||||||
| Item 2. | ||||||||
| Item 3. | ||||||||
| Item 4. | ||||||||
| Item 5. | ||||||||
| Item 6. | ||||||||
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
The matters discussed in this Quarterly Report on Form 10-Q (this “Form 10-Q”) include “forward-looking statements” about the plans, strategies, objectives, goals or expectations of Remark Holdings, Inc. and subsidiaries (“Remark”, “we”, “us”, “our”). You will find forward-looking statements principally in the sections entitled Risk Factors and Management’s Discussion and Analysis of Financial Condition and Results of Operations. Such forward-looking statements are identifiable by words or phrases indicating that Remark or management “expects,” “anticipates,” “plans,” “believes,” or “estimates,” or that a particular occurrence or event “will,” “may,” “could,” “should,” or “will likely” result, occur or be pursued or “continue” in the future, that the “outlook” or “trend” is toward a particular result or occurrence, that a development is an “opportunity,” “priority,” “strategy,” “focus,” that we are “positioned” for a particular result, or similarly-stated expectations. You should not place undue reliance on these forward-looking statements, which speak only as of the date of this report or such other report, release, presentation, or statement.
In addition to other risks and uncertainties described in connection with the forward-looking statements contained in this report and other periodic reports filed with the Securities and Exchange Commission (“SEC”), there are many important factors that could cause actual results to differ materially. Such risks and uncertainties include general business conditions, changes in overall economic conditions, our ability to integrate acquired assets, the impact of competition and other factors which are often beyond our control.
This should not be construed as a complete list of all of the economic, competitive, governmental, technological and other factors that could adversely affect our expected consolidated financial position, results of operations or liquidity. Additional risks and uncertainties not currently known to us or that we currently believe are immaterial also may impair our business, operations, liquidity, financial condition and prospects. We undertake no obligation to update or revise our forward-looking statements to reflect developments that occur or information that we obtain after the date of this report.
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
REMARK HOLDINGS, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(dollars in thousands, except share and per share amounts)
| September 30, 2022 | December 31, 2021 | ||||||||||
| (Unaudited) | |||||||||||
| Assets | |||||||||||
| Cash | $ | 376 | $ | 14,187 | |||||||
| Trade accounts receivable, net | 5,753 | 10,267 | |||||||||
| Inventory, net | 1,545 | 1,346 | |||||||||
| Investment in marketable securities | — | 42,349 | |||||||||
| Deferred cost of revenue | 5,630 | 589 | |||||||||
| Prepaid expense and other current assets | 1,550 | 5,774 | |||||||||
| Total current assets | 14,854 | 74,512 | |||||||||
| Property and equipment, net | 1,404 | 357 | |||||||||
| Operating lease assets | 118 | 194 | |||||||||
| Other long-term assets | 312 | 440 | |||||||||
| Total assets | $ | 16,688 | $ | 75,503 | |||||||
| Liabilities | |||||||||||
| Accounts payable | $ | 9,202 | $ | 10,094 | |||||||
| Advances from related parties | 870 | — | |||||||||
| Accrued expense and other current liabilities | 6,570 | 5,963 | |||||||||
| Contract liability | 293 | 576 | |||||||||
Notes payable, net of unamortized discount and debt issuance cost of $2,189 at December 31, 2021 | 14,418 | 27,811 | |||||||||
| Total current liabilities | 31,353 | 44,444 | |||||||||
| Operating lease liabilities, long-term | 25 | 25 | |||||||||
| Total liabilities | 31,378 | 44,469 | |||||||||
| Commitments and contingencies | |||||||||||
| Stockholders’ Equity (Deficit) | |||||||||||
Preferred stock, $0.001 par value; 1,000,000 shares authorized; zero issued | — | — | |||||||||
Common stock, $0.001 par value; 175,000,000 shares authorized; 106,407,769 and 105,157,769 shares issued and outstanding at September 30, 2022 and December 31, 2021, respectively | 106 | 105 | |||||||||
| Additional paid-in-capital | 366,263 | 364,239 | |||||||||
| Accumulated other comprehensive loss | (1,137) | (270) | |||||||||
| Accumulated deficit | (379,922) | (333,040) | |||||||||
| Total stockholders’ equity (deficit) | (14,690) | 31,034 | |||||||||
| Total liabilities and stockholders’ equity (deficit) | $ | 16,688 | $ | 75,503 | |||||||
See Notes to Unaudited Condensed Consolidated Financial Statements
REMARK HOLDINGS, INC. AND SUBSIDIARIES
Unaudited Condensed Consolidated Statements of Operations and Comprehensive Income (Loss)
(dollars in thousands, except per share amounts)
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2022 | 2021 | 2022 | 2021 | ||||||||||||||||||||
| $ | 2,812 | $ | 1,234 | $ | 10,037 | $ | 9,656 | ||||||||||||||||
| Cost and expense | |||||||||||||||||||||||
| Cost of revenue (excluding depreciation and amortization) | 2,459 | 854 | 8,576 | 5,858 | |||||||||||||||||||
| Sales and marketing | 270 | 882 | 606 | 2,281 | |||||||||||||||||||
| Technology and development | 41 | 635 | 1,004 | 3,490 | |||||||||||||||||||
| General and administrative | 6,726 | 5,493 | 14,598 | 10,672 | |||||||||||||||||||
| Depreciation and amortization | 43 | 35 | 121 | 150 | |||||||||||||||||||
| Total cost and expense | 9,539 | 7,899 | 24,905 | 22,451 | |||||||||||||||||||
| Operating loss | (6,727) | (6,665) | (14,868) | (12,795) | |||||||||||||||||||
| Other income (expense) | |||||||||||||||||||||||
| Interest expense | (1,365) | (438) | (5,325) | (1,053) | |||||||||||||||||||
| Change in fair value of warrant liability | — | 411 | — | 123 | |||||||||||||||||||
| Gain (loss) on investment | (348) | 78,917 | (26,356) | 78,917 | |||||||||||||||||||
| Gain on debt extinguishment | — | 425 | — | 425 | |||||||||||||||||||
| Other gain (loss), net | (493) | 96 | (342) | 116 | |||||||||||||||||||
| Total other income (expense), net | (2,206) | 79,411 | (32,023) | 78,528 | |||||||||||||||||||
| Loss before income taxes | (8,933) | 72,746 | (46,891) | 65,733 | |||||||||||||||||||
| Provision for income taxes | 9 | — | 9 | (9) | |||||||||||||||||||
| Net income (loss) | $ | (8,924) | $ | 72,746 | $ | (46,882) | $ | 65,724 | |||||||||||||||
| Other comprehensive income | |||||||||||||||||||||||
| Foreign currency translation adjustments | (445) | (9) | (867) | 46 | |||||||||||||||||||
| Comprehensive income (loss) | $ | (9,369) | $ | 72,737 | $ | (47,749) | $ | 65,770 | |||||||||||||||
| Weighted-average shares outstanding, basic | 105,290,553 | 100,140,650 | 105,290,553 | 100,087,288 | |||||||||||||||||||
| Weighted-average shares outstanding, diluted | 105,290,553 | 100,379,533 | 105,290,553 | 100,409,650 | |||||||||||||||||||
| Net income (loss) per share, basic | $ | (0.08) | $ | 0.73 | $ | (0.45) | $ | 0.66 | |||||||||||||||
| Net income (loss) per share, diluted | $ | (0.08) | $ | 0.72 | $ | (0.45) | $ | 0.65 | |||||||||||||||
See Notes to Unaudited Condensed Consolidated Financial Statements
REMARK HOLDINGS, INC. AND SUBSIDIARIES
Unaudited Condensed Consolidated Statements of Stockholders’ Equity (Deficit)
(in thousands, except number of shares)
| Three Months Ended September 30, 2022 | |||||||||||||||||||||||||||||||||||
| Common Stock Shares | Common Stock Par Value | Additional Paid-In Capital | Accumulated Other Comprehensive Income (Loss) | Accumulated Deficit | Total | ||||||||||||||||||||||||||||||
| Balance at June 30, 2022 | 105,157,769 | $ | 105 | $ | 365,263 | $ | (692) | $ | (370,998) | (6,322) | |||||||||||||||||||||||||
| Net loss | — | — | — | — | (8,924) | (8,924) | |||||||||||||||||||||||||||||
| Share-based compensation | — | — | 501 | — | — | 501 | |||||||||||||||||||||||||||||
| Common stock issued for services | 1,250,000 | 1 | 499 | — | — | 500 | |||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | (445) | — | (445) | |||||||||||||||||||||||||||||
Balance at September 30, 2022 | 106,407,769 | $ | 106 | $ | 366,263 | $ | (1,137) | $ | (379,922) | $ | (14,690) | ||||||||||||||||||||||||
| Three Months Ended September 30, 2021 | |||||||||||||||||||||||||||||||||||
| Common Stock Shares | Common Stock Par Value | Additional Paid-In Capital | Accumulated Other Comprehensive Income (Loss) | Accumulated Deficit | Total | ||||||||||||||||||||||||||||||
| Balance at June 30, 2021 | 99,918,941 | $ | 100 | $ | 352,394 | $ | (171) | $ | (367,534) | $ | (15,211) | ||||||||||||||||||||||||
| Net income | — | — | — | — | 72,746 | 72,746 | |||||||||||||||||||||||||||||
| Share-based compensation | — | — | 3,798 | — | — | 3,798 | |||||||||||||||||||||||||||||
| Common stock and stock warrants issued for cash | 4,237,290 | 4 | 4,610 | — | — | 4,614 | |||||||||||||||||||||||||||||
| Equity instrument exercises | 85,000 | — | 56 | — | — | 56 | |||||||||||||||||||||||||||||
| Common stock issuance upon note payable conversion | 876,493 | 1 | 1,104 | — | — | 1,105 | |||||||||||||||||||||||||||||
| Reclassification of warrant liability to equity | — | — | 1,602 | — | — | 1,602 | |||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | (9) | — | (9) | |||||||||||||||||||||||||||||
| Other | (9,000) | — | — | — | — | — | |||||||||||||||||||||||||||||
Balance at September 30, 2021 | 105,108,724 | $ | 105 | $ | 363,564 | $ | (180) | $ | (294,788) | $ | 68,701 | ||||||||||||||||||||||||
| Nine Months Ended September 30, 2022 | |||||||||||||||||||||||||||||||||||
| Common Stock Shares | Common Stock Par Value | Additional Paid-In Capital | Accumulated Other Comprehensive Income (Loss) | Accumulated Deficit | Total | ||||||||||||||||||||||||||||||
Balance at December 31, 2021 | 105,157,769 | $ | 105 | $ | 364,239 | $ | (270) | $ | (333,040) | $ | 31,034 | ||||||||||||||||||||||||
| Net loss | — | — | — | — | (46,882) | (46,882) | |||||||||||||||||||||||||||||
| Share-based compensation | — | — | 1,525 | — | — | 1,525 | |||||||||||||||||||||||||||||
| Common stock issued for services | 1,250,000 | 1 | 499 | — | — | 500 | |||||||||||||||||||||||||||||
| Equity instrument exercises | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | (867) | — | (867) | |||||||||||||||||||||||||||||
Balance at September 30, 2022 | 106,407,769 | $ | 106 | $ | 366,263 | $ | (1,137) | $ | (379,922) | $ | (14,690) | ||||||||||||||||||||||||
| Nine Months Ended September 30, 2021 | |||||||||||||||||||||||||||||||||||
| Common Stock Shares | Common Stock Par Value | Additional Paid-In Capital | Accumulated Other Comprehensive Income (Loss) | Accumulated Deficit | Total | ||||||||||||||||||||||||||||||
Balance at December 31, 2020 | 99,505,041 | $ | 100 | $ | 351,546 | $ | (226) | $ | (360,512) | $ | (9,092) | ||||||||||||||||||||||||
| Net income | — | — | — | — | 65,724 | 65,724 | |||||||||||||||||||||||||||||
| Share-based compensation | — | — | 3,823 | — | — | 3,823 | |||||||||||||||||||||||||||||
| Common stock and stock warrants issued for cash | 4,237,290 | 4 | 4,610 | — | — | 4,614 | |||||||||||||||||||||||||||||
| Equity instrument exercises | 498,900 | — | 879 | — | — | 879 | |||||||||||||||||||||||||||||
| Common stock issuance upon note payable conversion | 876,493 | 1 | 1,104 | — | — | 1,105 | |||||||||||||||||||||||||||||
| Reclassification of warrant liability to equity | — | — | 1,602 | — | — | 1,602 | |||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | 46 | — | 46 | |||||||||||||||||||||||||||||
| Other | (9,000) | — | — | — | — | — | |||||||||||||||||||||||||||||
Balance at September 30, 2021 | 105,108,724 | $ | 105 | $ | 363,564 | $ | (180) | $ | (294,788) | $ | 68,701 | ||||||||||||||||||||||||
See Notes to Unaudited Condensed Consolidated Financial Statements
REMARK HOLDINGS, INC. AND SUBSIDIARIES
Unaudited Condensed Consolidated Statements of Cash Flows
(dollars in thousands)
| Nine Months Ended September 30, | |||||||||||
| 2022 | 2021 | ||||||||||
Cash flows from operating activities: | |||||||||||
Net loss | $ | (46,882) | $ | 65,724 | |||||||
Adjustments to reconcile net loss to net cash used in operating activities: | |||||||||||
Change in fair value of warrant liability | — | (123) | |||||||||
Depreciation, amortization and impairments | 121 | 150 | |||||||||
Share-based compensation | 1,185 | 3,497 | |||||||||
Amortization of debt issuance costs and discount | 2,189 | 312 | |||||||||
| Finance fee | 283 | — | |||||||||
| Stock issuance for services performed | 500 | — | |||||||||
Loss on investment | 26,356 | (78,917) | |||||||||
| Gain on debt extinguishment | — | (425) | |||||||||
| Loss on disposal of long-lived assets | — | 30 | |||||||||
| Financing cost of converting note payable to common stock | — | 44 | |||||||||
| Provision for doubtful accounts | 2,278 | — | |||||||||
Other | (178) | 20 | |||||||||
Changes in operating assets and liabilities: | |||||||||||
Accounts receivable | 1,298 | (2,182) | |||||||||
| Inventory | (209) | (1,062) | |||||||||
| Deferred cost of revenue | (5,041) | — | |||||||||
Prepaid expense and other assets | 3,815 | 241 | |||||||||
Operating lease assets | 63 | 238 | |||||||||
Accounts payable, accrued expense and other liabilities | 826 | 2,047 | |||||||||
Contract liability | (245) | 435 | |||||||||
Operating lease liabilities | 6 | (146) | |||||||||
Net cash used in operating activities | (13,635) | (10,117) | |||||||||
Cash flows from investing activities: | |||||||||||
| Proceeds from sale of investment | 6,332 | 2,322 | |||||||||
Purchases of property, equipment and software | (175) | (155) | |||||||||
| Payment of amounts capitalized to software in progress | (999) | — | |||||||||
Net cash provided by (used in) investing activities | 5,158 | 2,167 | |||||||||
Cash flows from financing activities: | |||||||||||
Proceeds from issuance of common stock, net | — | 5,494 | |||||||||
Proceeds from debt issuance | — | 4,770 | |||||||||
| Advances from related parties | 2,386 | — | |||||||||
| Repayments of advances from related parties | (1,517) | — | |||||||||
Repayments of debt | (6,203) | — | |||||||||
Net cash provided by (used in) financing activities | (5,334) | 10,264 | |||||||||
Net change in cash | (13,811) | 2,314 | |||||||||
Cash: | |||||||||||
Beginning of period | 14,187 | 854 | |||||||||
End of period | $ | 376 | $ | 3,168 | |||||||
Supplemental cash flow information: | |||||||||||
Cash paid for interest | $ | 3,238 | $ | — | |||||||
Supplemental schedule of non-cash investing and financing activities: | |||||||||||
| Transfer of marketable securities to partially settle notes payable | $ | 9,661 | $ | — | |||||||
| Finance fee | $ | 283 | $ | — | |||||||
Issuance of common stock upon note payable conversion | $ | — | $ | 1,105 | |||||||
| Reclassification of warrant liability to equity | $ | — | $ | 1,602 | |||||||
| Reclassification of investment to marketable securities | $ | — | $ | 1,030 | |||||||
| $ | 340 | $ | 326 | ||||||||
See Notes to Unaudited Condensed Consolidated Financial Statements
REMARK HOLDINGS, INC. AND SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements
For the Nine Months Ended September 30, 2022 and 2021
NOTE 1. ORGANIZATION AND BUSINESS
Organization and Business
Remark Holdings, Inc. and its subsidiaries (“Remark”, “we”, “us”, or “our”) constitute a diversified global technology business with leading artificial intelligence (“AI”) and data-analytics solutions. The common stock of Remark Holdings, Inc. is listed on the Nasdaq Capital Market under the ticker symbol MARK.
We primarily sell AI-based products and services. We currently recognize substantially all of our revenue from China, with additional revenue from sales in the U.S.
Corporate Structure
We are a holding company incorporated in Delaware and not a Chinese operating company. As a holding company, we conduct most of our operations through our subsidiaries, each of which is wholly owned. We have historically conducted a significant part of our operations through contractual arrangements between our wholly-foreign-owned enterprise (“WFOE”) and certain variable interest entities (“VIEs”) based in China to address challenges resulting from laws, policies and practices that may disfavor foreign-owned entities that operate within industries deemed sensitive by the Chinese government. We were the primary beneficiary of the VIEs because the contractual arrangements governing the relationship between the VIEs and our WFOE, which included an exclusive call option agreement, exclusive business cooperation agreement, a proxy agreement and an equity pledge agreement, enabled us to (i) exercise effective control over the VIEs, (ii) receive substantially all of the economic benefits of the VIEs, and (iii) have an exclusive call option to purchase, at any time, all or part of the equity interests in and/or assets of the VIEs to the extent permitted by Chinese laws. Because we were the primary beneficiary of the VIEs, we consolidated the financial results of the VIEs in our consolidated financial statements in accordance with generally accepted accounting principles (“GAAP”).
We terminated all of the contractual arrangements between the WFOE and the VIEs and exercised our rights under the exclusive call option agreements between the WFOE and the VIEs such that, effective as of September 19, 2022, we obtained 100% of the equity ownership of the entities we formerly consolidated as VIEs and which we now consolidate as wholly-owned subsidiaries.
The following diagram illustrates our corporate structure, including our significant subsidiaries, as of the date of this Form 10-Q. The diagram omits certain entities which are immaterial to our results of operations and financial condition.
We are subject to certain legal and operational risks associated with having a significant portion of our operations in China. Chinese laws and regulations governing our current business operations, including the enforcement of such laws and regulations, are sometimes vague and uncertain and can change quickly with little advance notice. The Chinese government may intervene in or influence the operations of our China-based subsidiaries at any time and may exert more control over offerings conducted overseas and/or foreign investment in China-based issuers, which could result in a material change in our operations and/or the value of our securities. In addition, any actions by the Chinese government to exert more oversight and control over offerings that are conducted overseas and/or foreign investment in China-based issuers could significantly limit or completely hinder our ability to offer or continue to offer our securities to investors and cause the value of such securities to
significantly decline or become worthless. In recent years, the Chinese government adopted a series of regulatory actions and issued statements to regulate business operations in China, including those related to the use of variable interest entities, cybersecurity, data security, export control and anti-monopoly concerns. As of the date of this Form 10-Q, we have neither been involved in any investigations on cybersecurity review initiated by any Chinese regulatory authority, nor received any inquiry, notice or sanction. As of the date of this Form 10-Q, no relevant laws or regulations in China explicitly require us to seek approval from the China Securities Regulatory Commission (“CSRC”) for any securities listing. As of the date of this Form 10-Q, we have not received any inquiry, notice, warning or sanctions regarding our planned overseas listing from the CSRC or any other Chinese governmental authorities relating to securities listings. However, since these statements and regulatory actions are newly published, official guidance and related implementation rules have not all been issued. It is highly uncertain what potential impact such modified or new laws and regulations will have on our ability to conduct our business, accept investments or list or maintain a listing on a U.S. or foreign exchange.
As of the date of this Form 10-Q, we are not required to seek permissions from the CSRC, the Cyberspace Administration of China (the “CAC”), or any other entity that is required to approve our operations in China. Nevertheless, Chinese regulatory authorities may in the future promulgate laws, regulations or implement rules that require us or our subsidiaries to obtain permissions from such regulatory authorities to approve our operations or any securities listing.
Holding Foreign Companies Accountable Act
The Holding Foreign Companies Accountable Act (the “HFCA Act”) was enacted on December 18, 2020. The HFCA Act states if the Securities and Exchange Commission (the “SEC”) determines that a company has filed audit reports issued by a registered public accounting firm that has not been subject to inspection by the Public Company Accounting Oversight Board (the “PCAOB”) for three consecutive years beginning in 2021, the SEC shall prohibit such shares from being traded on a national securities exchange or in the over the counter trading market in the United States. On June 22, 2021, the U.S. Senate passed a bill which, if passed by the U.S. House of Representatives and signed into law, would reduce the number of consecutive non-inspection years required for triggering the prohibitions under the HFCA Act from three years to two. On December 2, 2021, the SEC adopted amendments to finalize rules implementing the submission and disclosure requirements in the HFCA Act. The rules apply to registrants that the SEC identifies as having filed an annual report with an audit report issued by a registered public accounting firm that is located in a foreign jurisdiction and that the PCAOB is unable to inspect or investigate completely because of a position taken by an authority in a foreign jurisdiction. On December 16, 2021, the PCAOB issued a report on its determination that it is unable to inspect or investigate completely PCAOB-registered public accounting firms headquartered in China and in Hong Kong because of positions taken by Chinese and Hong Kong authorities in those jurisdictions. The PCAOB has made such determination as mandated under the HFCA Act. Pursuant to each annual determination by the PCAOB, the SEC will, on an annual basis, identify issuers that have used non-inspected audit firms and thus are at risk of such suspensions in the future.
On August 26, 2022, the CSRC, the Ministry of Finance of the PRC, and the PCAOB signed a Statement of Protocol (the “Protocol”), taking the first step toward opening access for the PCAOB to completely inspect and investigate registered public accounting firms headquartered in mainland China and Hong Kong. Pursuant to the Protocol, the PCAOB shall have independent discretion to select any issuer audits for inspection or investigation and has the unfettered ability to transfer information to the SEC. However, uncertainties still exist as to compliance with the Protocol. Depending on the implementation of the Protocol, if the PCAOB continues to be prohibited from conducting complete inspections and investigations of PCAOB-registered public accounting firms in China, then China-based companies will be delisted pursuant to the HFCA Act despite the Protocol. Therefore, there is no assurance that the Protocol could give relief to China-based companies against the delisting risk from the application of the HFCA Act.
Our auditor, Weinberg & Company, an independent registered public accounting firm headquartered in the United States, is not subject to the determinations announced by the PCAOB on December 16, 2021. Our auditor is currently subject to PCAOB inspections and has been inspected by the PCAOB on a regular basis. However, if the PCAOB is unable to inspect the work papers of our accounting firm in the future, such lack of inspection could cause trading in our common stock to be prohibited under the HFCA Act, and as a result, an exchange may determine to delist our common stock. The delisting and the cessation of trading of our common stock, or the threat of our common stock being delisted and prohibited from being traded, may materially and adversely affect the value of your investment.
Transfer of Cash or Assets
Dividend Distributions
As of the date of this Form 10-Q, none of our subsidiaries have made any dividends or distributions to Remark.
We have never declared or paid dividends or distributions on our common equity. We currently intend to retain all available funds and any future consolidated earnings to fund our operations and continue the development and growth of our business; therefore, we do not anticipate paying any cash dividends.
Under Delaware law, a Delaware corporation’s ability to pay cash dividends on its capital stock requires the corporation to have either net profits or positive net assets (total assets less total liabilities) over its capital. If we determine to pay dividends on any of our common stock in the future, as a holding company, we may rely on dividends and other distributions on equity from our subsidiaries for cash requirements, including the funds necessary to pay dividends and other cash contributions to our stockholders.
Our WFOE’s ability to distribute dividends is based upon its distributable earnings. Current Chinese regulations permit our WFOE to pay dividends to its shareholder only out of its registered capital amount, if any, as determined in accordance with Chinese accounting standards and regulations, and then only after meeting the requirement regarding statutory reserve. If our WFOE incurs debt in the future, the instruments governing the debt may restrict its ability to pay dividends or make other payments to us. Any limitation on the ability of our WFOE to distribute dividends or other payments to us could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our businesses, pay dividends or otherwise fund and conduct our business. In addition, any cash dividends or distributions of assets by our WFOE to its stockholder are subject to a Chinese withholding tax of as much as 10%.
The Chinese government also imposes controls on the conversion of Chinese Renminbi (“RMB”) into foreign currencies and the remittance of currencies out of China. Therefore, we may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currency for the payment of dividends from our profits, if any. If we are unable to receive all of the revenues from our operations through our China-based subsidiaries, we may be unable to pay dividends on our common stock.
COVID-19
Our consolidated financial statements for the nine months ended September 30, 2022 were impacted by the effects of the COVID-19 pandemic. The response to the COVID-19 pandemic will likely continue to adversely affect our business and financial results, as could economic and geopolitical conditions in some international regions, and we do not yet know what will be the ultimate effects on our business. The COVID-19 pandemic caused a broad shift towards remote working arrangements for many businesses worldwide and injected uncertainty and delay into decision-making processes for such businesses. Varying degrees of preventative measures are still in place in China and other parts of the world, including city-wide lockdowns, travel restrictions, closures of non-essential businesses and other quarantine measures. In particular, the preventative measures in China as a result of the Chinese government’s “Zero-COVID” policy have significantly limited the operational capabilities of our China-based subsidiaries. Many cities across large swaths of China have recently been fully or partially locked down for weeks or even months, including economically significant regions such as Shanghai. Such lockdowns have had a material adverse impact on our business, including on the collection of our accounts receivable, and we expect them to continue to have a material adverse impact on our business until their imposition is ceased.
The full extent of the impact of the pandemic on our business and financial results will depend largely on future developments, including resurgences and further spread of existing or new COVID-19 variants, the duration of any remaining preventative measures implemented by domestic and foreign governments, the impact on capital and financial markets and the related impact on the financial circumstances of our customers, all of which are highly uncertain and cannot be predicted. The pandemic-related situation continues to change rapidly, and additional impacts of which we are not currently aware may arise. We are closely monitoring worldwide developments and are continually assessing the potential impact on our business.
Going Concern
During the nine months ended September 30, 2022, and in each fiscal year since our inception, we have incurred operating losses which have resulted in a stockholders’ deficit of $14.7 million as of September 30, 2022. Additionally, our operations have historically used more cash than they have provided. Subsequent to September 30, 2022, we did not make the required repayment of the outstanding loans under the Mudrick Loan Agreements by October 31, 2022, the maturity date. This constitutes an event of default for which we have not received a waiver as of the date of this Form 10-Q. Net cash used in operating activities was $13.6 million during the nine months ended September 30, 2022. As of September 30, 2022, our cash balance was $0.4 million.
Our history of recurring operating losses, working capital deficiencies and negative cash flows from operating activities give rise to, and management has concluded that there is, substantial doubt regarding our ability to continue as a going concern. Our independent registered public accounting firm, in its report on our consolidated financial statements for the year ended December 31, 2021, has also expressed substantial doubt about our ability to continue as a going concern. Our consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
We intend to fund our future operations and meet our financial obligations through revenue growth from our AI and data analytics offerings. We cannot, however, provide assurance that revenue, income and cash flows generated from our businesses will be sufficient to sustain our operations in the twelve months following the filing of this Form 10-Q. As a result, we are actively evaluating strategic alternatives including debt and equity financings.
Conditions in the debt and equity markets, as well as the volatility of investor sentiment regarding macroeconomic and microeconomic conditions (in particular, as a result of the COVID-19 pandemic, global supply chain disruptions, inflation and other cost increases, and the geopolitical conflict in Ukraine), will play primary roles in determining whether we can successfully obtain additional capital. We cannot be certain that we will be successful at raising additional capital.
A variety of factors, many of which are outside of our control, affect our cash flow; those factors include the effects of the COVID-19 pandemic, regulatory issues, competition, financial markets and other general business conditions. Based on financial projections, we believe that we will be able to meet our ongoing requirements for at least the next 12 months with existing cash and based on the probable success of one or more of the following plans:
•develop and grow new product line(s)
•obtain additional capital through debt and/or equity issuances.
However, projections are inherently uncertain and the success of our plans is largely outside of our control. As a result, there is substantial doubt regarding our ability to continue as a going concern, and we may fully utilize our cash resources prior to December 31, 2022.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
We prepared the accompanying unaudited Condensed Consolidated Balance Sheet as of September 30, 2022, with the audited Consolidated Balance Sheet amounts as of December 31, 2021 presented for comparative purposes, and the related unaudited Condensed Consolidated Statements of Operations and Comprehensive Loss, the Condensed Consolidated Statements of Cash Flows and the Condensed Consolidated Statements of Stockholders’ Deficit in accordance with the instructions for Form 10-Q. In compliance with those instructions, we have omitted certain information and footnote disclosures normally included in annual consolidated financial statements prepared in accordance with U.S. GAAP, though management believes the disclosures made herein are sufficient to ensure that the information presented is not misleading.
Our results of operations and our cash flows as of the end of the interim periods reported herein do not necessarily indicate the results we may experience for the remainder of the year or for any other future period.
Management believes that we have included all adjustments (including those of a normal, recurring nature) considered necessary to fairly present our unaudited Condensed Consolidated Balance Sheet and our unaudited Condensed Consolidated
Statement of Stockholders’ Deficit, each as of September 30, 2022, as well as our unaudited Condensed Consolidated Statements of Operations and Comprehensive Loss and Condensed Consolidated Statements of Cash Flows for all periods presented. You should read our unaudited condensed consolidated interim financial statements and footnotes in conjunction with our consolidated financial statements and footnotes included within the Annual Report on Form 10-K for the year ended December 31, 2021 (the “2021 Form 10-K”).
Consolidation
We include all of our subsidiaries in our condensed consolidated financial statements, eliminating all significant intercompany balances and transactions during consolidation.
Use of Estimates
We prepare our consolidated financial statements in conformity with GAAP. While preparing our financial statements, we make estimates and assumptions that affect amounts reported and disclosed in the consolidated financial statements and accompanying notes. Accordingly, actual results could differ from those estimates. On an ongoing basis, we evaluate our estimates, including those related to accounts receivable, share-based compensation, deferred income taxes, and inventory reserve, among other items.
The impact of the COVID-19 pandemic continues to unfold. As a result, many of our estimates and assumptions required increased judgment and carry a higher degree of variability and volatility. As events continue to evolve and additional information becomes available, our estimates may change materially in future periods.
Cash
Our cash consists of funds held in bank accounts.
We maintain cash balances in United States dollars (“USD”), British pounds (“GBP”), RMB and Hong Kong dollars (“HKD”). The following table, reported in USD, disaggregates our cash balances by currency denomination (in thousands):
| September 30, 2022 | December 31, 2021 | ||||||||||
| Cash denominated in: | |||||||||||
| USD | $ | 5 | $ | 13,278 | |||||||
| RMB | 199 | 259 | |||||||||
| GBP | 166 | 644 | |||||||||
| HKD | 6 | 6 | |||||||||
| Total cash | $ | 376 | $ | 14,187 | |||||||
We maintain substantially all of our USD-denominated cash at a U.S. financial institution where the balances are insured by the Federal Deposit Insurance Corporation (“FDIC”) up to $250,000. At times, however, our cash balances may exceed the FDIC-insured limit. As of September 30, 2022, we do not believe we have any significant concentrations of credit risk. Cash held by our non-U.S. subsidiaries is subject to foreign currency fluctuations against the USD, although such risk is somewhat mitigated because we transfer U.S. funds to China to fund local operations. If, however, the USD is devalued significantly against the RMB, our cost to further develop our business in China could exceed original estimates.
Marketable Securities
Investment in marketable securities consists of marketable equity securities. We classify marketable securities as current or noncurrent based on the nature of the securities and their availability for use in current operations. Marketable securities are stated at fair value with all realized and unrealized gains and losses recognized in our Statement of Operations. The realized and unrealized gains and losses on marketable securities are determined using the specific identification method and quoted prices in an active market.
Fair Value of Financial Instruments
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (an exit price). When reporting the fair values of our financial instruments, we prioritize those fair value measurements into one of three levels based on the nature of the inputs, as follows:
Level 1: Valuations based on quoted prices in active markets for identical assets and liabilities;
Level 2: Valuations based on observable inputs that do not meet the criteria for Level 1, including quoted prices in inactive markets and observable market data for similar, but not identical instruments; and
Level 3: Valuations based on unobservable inputs, which are based upon the best available information when external market data is limited or unavailable.
The fair value hierarchy requires us to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value. For some products or in certain market conditions, observable inputs may not be available.
We believe the reported carrying amounts for cash, marketable securities, receivables, prepaids and other current assets, accounts payable, accrued expense and other current liabilities, and short-term debt approximate their fair values because of the short-term nature of these financial instruments.
Foreign Currency Translation
We report all currency amounts in USD. Our overseas subsidiaries, however, maintain their books and records in their functional currencies, which are GBP in the United Kingdom (“U.K.”) and RMB in China.
In general, when consolidating our subsidiaries with non-USD functional currencies, we translate the amounts of assets and liabilities into USD using the exchange rate on the balance sheet date, and the amounts of revenue and expense are translated at the average exchange rate prevailing during the period. The gains and losses resulting from translation of financial statement amounts into USD are recorded as a separate component of accumulated other comprehensive loss within stockholders’ deficit.
We used the exchange rates in the following table to translate amounts denominated in non-USD currencies as of and for the periods noted:
| 2022 | 2021 | ||||||||||
Exchange rates at September 30th: | |||||||||||
| GBP:USD | 1.113 | — | |||||||||
| RMB:USD | 0.141 | 0.155 | |||||||||
| HKD:USD | 0.127 | 0.129 | |||||||||
Average exchange rate during the nine months ended September 30th: | |||||||||||
| RMB:USD | 0.152 | 0.156 | |||||||||
| GBP:USD | 1.259 | — | |||||||||
Revenue Recognition
AI-Based Products
We generate revenue by developing AI-based products, including fully-integrated AI solutions which combine our proprietary technology with third-party hardware and software products to meet end-user specifications. Under one type of contract for our AI-based products, we provide a single, continuous service to clients who control the assets as we create them. Accordingly, we recognize the revenue over the period of time during which we provide the service. Under another type of contract, we have performance obligations to provide fully-integrated AI solutions to our customer and we recognize revenue at the point in time when each performance obligation is completed and delivered to, tested by and accepted by our customer.
We recognize revenue when we transfer control of the promised goods or services to our customers, and we recognize an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. If there is uncertainty related to the timing of collections from our customer, which may be the case if our customer is not the ultimate end user of our goods, we consider this to be uncertainty of the customer’s ability and intention to pay us when consideration is due. Accordingly, we recognize revenue only when we have transferred control of the goods or services and collectability of consideration from the customer is probable.
When customers pay us prior to when we satisfy our obligation to transfer control of promised goods or services, we record the amount that reflects the consideration to which we expect to be entitled as a contract liability until such time as we satisfy our performance obligation.
For contracts under which we have not yet completed the performance obligation, deferred costs are recorded for any amounts incurred in advance of the performance obligation.
For our contracts with customers, we generally extend short-term credit policies to our customers, typically up to one year for large-scale projects.
We record the incremental costs of obtaining contracts as an expense when incurred.
We offer extended warranties on our products for periods of to three years. Revenue from these extended warranties is recognized on a straight-line basis over the warranty contract term.
Other
We generate revenue from other sources, such as from advertising and marketing services or e-commerce activity in which we sell goods to our customers. We recognize the revenue from these contracts at the point in time when we transfer control of
the good sold to the customer or when we deliver the promised promotional materials or media content. Substantially all of our contracts with customers that generate Other revenue are completed within one year or less.
Inventory
We use the first-in first-out method to determine the cost of our inventory, then we report inventory at the lower of cost or net realizable value. We regularly review our inventory quantities on hand and record a provision for excess and obsolete inventory based primarily on our estimated sales forecasts. At September 30, 2022 and December 31, 2021, reserve for inventory was $0.9 million and $1.0 million, respectively.
Internal Use Software
We acquire or develop applications and other software that help us meet our internal needs with respect to operating our business. For such projects, planning cost and other costs related to the preliminary project stage, as well as costs incurred for post-implementation activities, are expensed as incurred. We capitalize costs incurred during the application development phase only when we believe it is probable the development will result in new or additional functionality. The types of costs capitalized during the application development phase include fees incurred with third parties for consulting, programming and other development activities performed to complete the software. We amortize our internal use software on a straight-line basis over an estimated useful life of three years. If we identify any internal use software to be abandoned, the cost less the accumulated amortization, if any, is recorded as amortization expense. Once we have fully amortized internal use software costs that we capitalized, we remove such amounts from their respective accounts.
Net Income (Loss) per Share
We calculate basic net income (loss) per share using the weighted-average number of common stock shares outstanding during the period. For the calculation of diluted net income (loss) per share, we give effect to all the shares of common stock that were outstanding during the period plus the number of additional common shares that would have been outstanding if all dilutive potential common shares had been issued, using the treasury stock method. Potential common shares are excluded from the computation when their effect is anti-dilutive. Dilutive potential shares of common stock consist of incremental shares of common stock issuable upon exercise of stock options and warrants.
For the three and nine months ended September 30, 2022 and 2021, there were no reconciling items related to the numerators of the net income (loss) per share calculations. The following table presents a reconciliation of the denominator of the basic net income (loss) per share calculation to that of the diluted net income (loss) per share calculation (in thousands):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2022 | 2021 | 2022 | 2021 | ||||||||||||||||||||
| Weighted-average shares outstanding, basic | 105,290,553 | 100,140,650 | 105,290,553 | 100,087,288 | |||||||||||||||||||
| Incremental shares resulting from assumed exercises of in-the-money stock options | — | 238,883 | — | 322,362 | |||||||||||||||||||
| Weighted-average shares outstanding, diluted | 105,290,553 | 100,379,533 | 105,290,553 | 100,409,650 | |||||||||||||||||||
Securities which may have affected the calculation of diluted earnings per share for the three and nine months ended September 30, 2022 if their effect had been dilutive include 15,123,752 outstanding stock options and 10,114,408 outstanding warrants to purchase common stock.
Segments
Existing GAAP, which establishes a management approach to segment reporting, defines operating segments as components of an entity about which separate, discrete financial information is available for evaluation by the chief operating decision maker. We have identified our Chief Executive Officer as our chief operating decision maker, who reviews operating results to make decisions about allocating resources and assessing performance based upon only one operating segment.
Recently Issued Accounting Pronouncements
In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-13 (“ASU 2016-13”), Measurement of Credit Losses on Financial Instruments (Topic 326). The ASU requires entities to use a forward-looking approach based on current expected credit losses to estimate credit losses on certain types of financial instruments, including trade receivables, which may result in the earlier recognition of allowances for losses. With regard to our financial reporting, ASU 2016-13 will be effective beginning January 1, 2023, and early adoption is permitted. We do not believe the impact of the ASU will be material to our financial position, results of operations and cash flows.
We have reviewed all accounting pronouncements recently issued by the FASB and the SEC. The authoritative pronouncements that we have already adopted did not have a material effect on our financial condition, results of operations, cash flows or reporting thereof, and except as otherwise noted above, we do not believe that any of the authoritative pronouncements that we have not yet adopted will have a material effect upon our financial condition, results of operations, cash flows or reporting thereof.
NOTE 3. CONCENTRATION OF RISK
Revenue and Accounts Receivable
The disaggregation of revenue tables in Note 4 demonstrate the concentration in our revenue from certain products and the geographic concentration of our business. We also have a concentration in the volume of business we transacted with customers, as during the nine months ended September 30, 2022, two of our customers represented about 55% and 23%, respectively, of our revenue, while during nine months ended September 30, 2021, our two largest customers represented about 32% and 21%, respectively, of our revenue. At September 30, 2022, accounts receivable from two of our customers represented about 32% and 18%, respectively, of our gross accounts receivable, while at December 31, 2021, accounts receivable from our three largest customers represented about 25%, 24% and 10%, respectively, of our gross accounts receivable.
NOTE 4. REVENUE
We primarily sell AI-based products and services based upon computer vision and other technologies.
We do not include disclosures related to remaining performance obligations because substantially all our contracts with customers have an original expected duration of one year or less or, with regard to our stand-ready obligations, the amounts involved are not material.
Disaggregation of Revenue
The following table presents a disaggregation of our revenue by category of products and services (in thousands):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2022 | 2021 | 2022 | 2021 | ||||||||||||||||||||
| $ | 2,681 | $ | 834 | $ | 9,699 | $ | 8,706 | ||||||||||||||||
| Other | 131 | 400 | 338 | 950 | |||||||||||||||||||
| Revenue | $ | 2,812 | $ | 1,234 | $ | 10,037 | $ | 9,656 | |||||||||||||||
The following table presents a disaggregation of our revenue by country (in thousands):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2022 | 2021 | 2022 | 2021 | ||||||||||||||||||||
| China | $ | 2,746 | $ | 840 | $ | 9,815 | $ | 6,053 | |||||||||||||||
| United States | 66 | 394 | 222 | 3,603 | |||||||||||||||||||
| Revenue | $ | 2,812 | $ | 1,234 | $ | 10,037 | $ | 9,656 | |||||||||||||||
Significant Judgments
When accounting for revenue we make certain judgments, such as whether we act as a principal or as an agent in transactions or whether our contracts with customers fall within the scope of current GAAP regarding revenue, that affect the determination of the amount and timing of our revenue from contracts with customers. Based on the current facts and circumstances related to our contracts with customers, none of the judgments we make involve an elevated degree of qualitative significance or complexity such that further disclosure is warranted in terms of their potential impact on the amount and timing of our revenue.
Contract Assets and Contract Liabilities
We do not currently generate material contract assets. During the nine months ended September 30, 2022, our contract liability changed only as a result of routine business activity.
During the nine months ended September 30, 2022 and 2021, the amount of revenue we recognized that was included in the beginning balance of Contract liability was not material.
During the nine months ended September 30, 2022 and 2021, we did not recognize revenue from performance obligations that were satisfied in previous periods.
NOTE 5. TRADE ACCOUNTS RECEIVABLE
| September 30, 2022 | December 31, 2021 | ||||||||||
| Gross accounts receivable balance | $ | 9,184 | $ | 11,551 | |||||||
| Allowance for bad debt | (3,431) | (1,284) | |||||||||
| Accounts receivable, net | $ | 5,753 | $ | 10,267 | |||||||
Generally, it is not unusual for Chinese entities to pay their vendors on longer timelines than the timelines typically observed in U.S. commerce. However, as a result of the ongoing lockdowns related to China’s Zero-COVID policy, we have had to re-evaluate the amounts receivable from customers based on recent information and, as a result, we increased our reserve for doubtful accounts by $2.3 million.Trade receivables related to our China-based subsidiaries AI projects, including $3.0 million of trade receivables from projects related to work with our China Business Partner (see Note 15 for more information regarding our China Business Partner and related accounting), represent 99% of our gross trade receivables.
NOTE 6. INVESTMENT
In 2009, we co-founded a U.S.-based venture, Sharecare, Inc. (“Legacy Sharecare”), to build a web-based platform that simplifies the search for health and wellness information. The other co-founders of Legacy Sharecare were Dr. Mehmet Oz, HARPO Productions, Discovery Communications, Jeff Arnold and Sony Pictures Television. At December 31, 2021, we reported our $1.0 million investment in Legacy Sharecare as an investment in unconsolidated affiliate.
On July 1, 2021, Legacy Sharecare completed a business combination with Falcon Capital Acquisition Corp., a special purpose acquisition company, as a result of which the common stock of the surviving entity of such business combination (“New Sharecare”) became listed on the Nasdaq Stock Market LLC. In connection with the completion of such business combination, the shares of common stock of Legacy Sharecare that we held immediately prior to the business combination converted into approximately $2.3 million in cash and approximately 9.4 million shares of common stock of New Sharecare. We do not maintain a seat on the board of directors of New Sharecare. The cash received was recorded as a realized gain on the investment, and the investment is revalued at fair value at the end of each reporting period using the closing sales price of the shares on the principal securities exchange on which such shares are then traded.
As of December 31, 2021, the value of our 9,431,920 shares of common stock of New Sharecare was $42.3 million based upon the closing stock price of New Sharecare, an input we classify in Level 1 of the fair value hierarchy. We sold 3,181,920 shares of New Sharecare during the nine months ended September 30, 2022 for cash of $6.3 million.
On July 2, 2022, we received a Notice of Trigger Event and Mandatory Payment from our senior lenders, which required that we make a prepayment of our senior secured loans (which are described in Note 11) by delivering to each lender shares of common stock of New Sharecare in the fair market amount applicable to each such lender to prepay our senior secured loans. On July 11, 2022, we delivered our remaining 6,250,000 shares of New Sharecare, which reduced the outstanding principal amount on our senior secured loans by approximately $9.7 million, and as a result, we no longer own any equity interests in New Sharecare as of such date.
The total net loss on investment during the nine months ended September 30, 2022 was $26.4 million.
NOTE 7. PREPAID EXPENSE AND OTHER CURRENT ASSETS
The following table presents the components of prepaid expense and other current assets (in thousands):
| September 30, 2022 | December 31, 2021 | ||||||||||
| $ | — | $ | 3,980 | ||||||||
Other receivables | 7 | 9 | |||||||||
Prepaid expense | 1,285 | 1,558 | |||||||||
Deposits | 252 | 221 | |||||||||
Other current assets | 6 | 6 | |||||||||
Total | $ | 1,550 | $ | 5,774 | |||||||
NOTE 8. PROPERTY AND EQUIPMENT
Property and equipment consist of the following (in thousands, except estimated lives):
| Estimated Life (Years) | September 30, 2022 | December 31, 2021 | |||||||||||||||
| Vehicles | 3 | $ | 153 | — | |||||||||||||
| Computers and equipment | 3 | 1,132 | $ | 1,133 | |||||||||||||
| Furniture and fixtures | 3 | 42 | 42 | ||||||||||||||
| Software | 3 | 4,886 | 5,055 | ||||||||||||||
| Leasehold improvements | 3 | 203 | 196 | ||||||||||||||
| Software development in progress | 1,136 | 128 | |||||||||||||||
| Total property, equipment and software | $ | 7,552 | $ | 6,554 | |||||||||||||
| Less accumulated depreciation | (6,148) | (6,197) | |||||||||||||||
| Total property, equipment and software, net | $ | 1,404 | $ | 357 | |||||||||||||
For the nine months ended September 30, 2022 and 2021, depreciation (and amortization of software) expense was $0.1 million and $0.2 million, respectively.
NOTE 9. LEASES
We lease office space under contracts we classify as operating leases. None of our leases are financing leases.
The following table presents the detail of our lease expense, which is reported in General and administrative expense (in thousands):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2022 | 2021 | 2022 | 2021 | ||||||||||||||||||||
Operating lease expense | $ | 65 | $ | 73 | $ | 206 | $ | 236 | |||||||||||||||
Short-term lease expense | 430 | 182 | 1,211 | 812 | |||||||||||||||||||
Lease expense | $ | 495 | $ | 255 | $ | 1,417 | $ | 1,048 | |||||||||||||||
We reported within operating cash flows for the nine months ended September 30, 2022 and 2021, $0.2 million and $0.2 million, respectively, of cash paid for amounts included in the measurement of operating lease liabilities.
As of September 30, 2022, our operating leases had a weighted-average remaining lease term of approximately 13 months, and we used a weighted-average discount rate of approximately 13% to measure our operating lease liabilities.
Maturity of Lease Liabilities
The following table presents information regarding the maturities of undiscounted remaining operating lease payments, with a reconciliation to the amount of the liabilities representing such payments as presented in our September 30, 2022 Consolidated Balance Sheet (in thousands):
| Operating lease liabilities maturing during the next: | |||||
| One year | $ | 116 | |||
| Two years | 26 | ||||
| Total lease payments | $ | 142 | |||
| Less: Imputed interest/present value discount | (9) | ||||
| Present value of cash flows | $ | 133 | |||
| Lease liabilities on balance sheet: | |||||
| $ | 108 | ||||
| Long-term | 25 | ||||
| Total lease liabilities | $ | 133 | |||
Significant Judgments
When accounting for our leases, we make certain judgments, such as whether a contract contains a lease or what discount rate to use, that affect the determination of the amount of our lease assets and liabilities. Based on the current facts and circumstances related to our contracts, none of the judgments we make involve an elevated degree of qualitative significance or complexity such that further disclosure is warranted.
NOTE 10. ACCRUED EXPENSE AND OTHER CURRENT LIABILITIES
The following table presents the components of Accrued expense and other current liabilities (in thousands):
| September 30, 2022 | December 31, 2021 | ||||||||||
| Accrued compensation and benefit-related expense | $ | 1,109 | $ | 821 | |||||||
| Accrued interest | 713 | 385 | |||||||||
| Other accrued expense | 1,368 | 1,073 | |||||||||
| Other payables | 2,145 | 2,324 | |||||||||
| 800 | 600 | ||||||||||
| Operating lease liability - current | 108 | 187 | |||||||||
| 99 | 439 | ||||||||||
| Other current liabilities | 228 | 134 | |||||||||
Total | $ | 6,570 | $ | 5,963 | |||||||
NOTE 11. NOTES PAYABLE (IN DEFAULT)
The following table presents our notes payable (in thousands) as of:
| September 30, 2022 | December 31, 2021 | ||||||||||
| Principal balance of Mudrick Loans | $ | 14,418 | $ | 30,000 | |||||||
| Unamortized discount and debt issuance cost | — | (2,189) | |||||||||
| Notes payable, net of unamortized discount and debt issuance cost | $ | 14,418 | $ | 27,811 | |||||||
On December 3, 2021, we entered into senior secured loan agreements (the “Original Mudrick Loan Agreements” and as amended by the First Amendment (as defined below), the “Mudrick Loan Agreements”) with certain of our subsidiaries as guarantors (the “Guarantors”) and certain institutional lenders affiliated with Mudrick Capital Management, LP (collectively, “Mudrick”), pursuant to which Mudrick extended credit to us consisting of term loans in the aggregate principal amount of $30.0 million (as amended, the “Mudrick Loans”). The Mudrick Loans, as amended, bear interest at 18.5% per annum (originally 16.5% per annum), which is payable on the last business day of each month. All amounts outstanding under the Mudrick Loans, as amended, including all accrued and unpaid interest, will be due and payable in full on October 31, 2022 (originally due on July 31, 2022). To secure the payment and performance of the obligations under the Mudrick Loan Agreements, we, together with the Guarantors, have granted to TMI Trust Company, as the collateral agent for the benefit of Mudrick, a first priority lien on, and security interest in, all assets of Remark and the Guarantors, subject to certain customary exceptions. The Mudrick Loan Agreements contain representations, warranties, events of default, indemnifications and other provisions customary for financings of this type. The occurrence of any event of default under the Mudrick Loan Agreements may result in the principal amount outstanding and unpaid interest thereon becoming immediately due and payable.
In connection with our entry into the Mudrick Loan Agreements, we paid to Mudrick an upfront fee equal to 5.0% of the amount of the Mudrick Loans, which amount was netted against the drawdown of the Mudrick Loans. We recorded the upfront fee as a debt discount of $1.5 million, and recorded debt issuance cost totaling $1.1 million. We amortized the discount on the Mudrick Loans and the debt issuance cost over the life of the Mudrick Loans and, during the nine months ended September 30, 2022, we amortized $2.2 million of such discount and debt issuance cost.
On August 3, 2022, we entered into a First Amendment to the Original Mudrick Loan Agreements (the “First Amendment”), pursuant to which, Mudrick agreed, among other things, to (i) waive certain existing events of default under the Mudrick Loan Agreements, (ii) extend the original July 31, 2022 maturity date to October 31, 2022 (provided, however, that if we prepay the principal amount of the loans in an amount of at least $5 million, the maturity date will be automatically extended to November 30, 2022), and (iii) defer payment of interest for the month of July 2022 to August 31, 2022. In addition, on and after the effective date of the First Amendment, the outstanding loans under the Mudrick Loan Agreements will bear interest at 18.5% per annum, payable on the last business day of each month commencing on August 31, 2022. We have also agreed to commence marketing and sale efforts with respect to our Bikini.com business. In consideration for Mudrick’s agreement to enter into the First Amendment and extend the maturity date, we agreed to pay Mudrick an amendment and extension payment in the amount of 2.0% of the unpaid principal balance of the loans outstanding as of the date of the First Amendment, or approximately $0.3 million, which was added to the principal balance of the loans as of the effective date of the First Amendment.
We did not make the required repayment of the outstanding loans under the Mudrick Loan Agreements by October 31, 2022, the maturity date. This constitutes an event of default for which we have not received a waiver as of the date of this Form 10-Q. While we are actively engaged in discussions with Mudrick regarding a resolution of the event of default, we cannot provide any assurance that we will be successful in obtaining a waiver or that Mudrick will forebear from taking any enforcement actions against us.
During the nine months ended September 30, 2022, we repaid $6.2 million of principal and, as described in more detail in Note 6, we delivered all remaining shares of New Sharecare to Mudrick on July 11, 2022, in partial settlement of the Mudrick Loans, resulting in a reduction of approximately $9.7 million of principal.
NOTE 12. COMMITMENTS AND CONTINGENCIES
At September 30, 2022, we had no material commitments outside the normal course of business.
Contingencies
As of September 30, 2022, we were neither a defendant in any material pending legal proceeding nor are we aware of any material threatened claims against us and, therefore, we have not accrued any contingent liabilities.
Registration Rights Agreement
On September 27, 2021, we entered into a securities purchase agreement (the “Armistice Purchase Agreement”) with Armistice Capital Master Fund Ltd. (“Armistice Capital”) pursuant to which we issued shares of our common stock together with warrants to purchase our common stock, subject to certain customary anti-dilution adjustments (the “Armistice Warrants”).
In connection with our entry into the Armistice Purchase Agreement, we also entered into a registration rights agreement with Armistice Capital, pursuant to which we are obligated to file one or more registration statements, as necessary, to register under the Securities Act of 1933, as amended, the resale of the shares we issued to Armistice Capital and the shares underlying the Armistice Warrants (collectively, the “Armistice Registrable Securities”) and to obtain effectiveness of such registration statement no later than 90 days following September 27, 2021. The registration statement we filed to register the resale of the Armistice Registrable Securities was declared effective on October 31, 2022 (the “Armistice Resale Registration Statement”). As of September 30, 2022, we had already accrued a total of $1.0 million, equal to the maximum amount of liquidated damages we are required to pay under the Armistice Registration Rights Agreement for failing to satisfy our obligation to timely obtain effectiveness of the Armistice Resale Registration Statement. During the nine months ended September 30, 2022, we paid $0.2 million of this amount, resulting in an unpaid amount of $0.8 million included in other accrued expense at September 30, 2022.
Bid Price Deficiency
On February 25, 2022, we received written notice from the Listing Qualifications Department of The Nasdaq Stock Market LLC (“Nasdaq”) notifying us that, for a period of 30 consecutive business days, the bid price of our common stock closed below the minimum of $1.00 per share required for continued listing on the Nasdaq Capital Market pursuant to Nasdaq Listing Rule 5550(a)(2) (the “Bid Price Rule”). In accordance with Nasdaq Listing Rule 5810(c)(3)(A), we had 180 calendar days, or until August 24, 2022, to regain compliance with the Bid Price Rule.
On August 30, 2022, we received a staff determination letter from Nasdaq stating that we did not regain compliance with the Bid Price Rule and we were not eligible for a second 180-day grace period because we did not comply with the minimum $5,000,000 Stockholders’ Equity initial listing requirement for the Nasdaq Capital Market. We appealed Nasdaq’s delisting determination to a Hearings Panel (the “Panel”), which heard our presentation at a hearing held on October 6, 2022.
On October 17, 2022, we received a written decision from the Panel granting our request for continued listing on Nasdaq, subject to the conditions that, on January 11, 2023, we will have demonstrated compliance with the Bid Price Rule by evidencing a closing price of $1.00 or more per share for a minimum of 10 consecutive trading sessions, and that we provide prompt notification of any significant events that occur during the period ending on January 11, 2023 that may affect our compliance with Nasdaq rules.
NOTE 13. STOCKHOLDERS' EQUITY (DEFICIT)
Warrants
The following table summarizes information related to our equity-classified stock warrant issuances as of and for the dates and periods noted:
| Shares | Weighted Average Exercise Price Per Share | Weighted-Average Remaining Contractual Term | Aggregate Intrinsic Value (in thousands) | ||||||||||||||||||||
| Outstanding at December 31, 2021 | 10,114,408 | $ | 4.01 | 4.7 | $ | — | |||||||||||||||||
| Granted | — | — | |||||||||||||||||||||
| Exercised | — | — | |||||||||||||||||||||
| Forfeited, cancelled or expired | — | — | |||||||||||||||||||||
| Outstanding at September 30, 2022 | 10,114,408 | $ | 4.01 | 3.9 | $ | — | |||||||||||||||||
Share-Based Compensation
On September 2, 2022, we issued 1,250,000 shares of our common stock with a fair value of $0.5 million to a vendor in exchange for services performed.
We are authorized to issue equity-based awards under our 2014 Incentive Plan, our 2017 Incentive Plan and our 2022 Incentive Plan, each of which our stockholders have approved. We also award cash bonuses (“China Cash Bonuses”) to our employees in China, which grants are not subject to a formal incentive plan and which can only be settled in cash. We grant such awards to attract, retain and motivate eligible officers, directors, employees and consultants. Under each of the plans, we have granted shares of restricted stock and options to purchase common stock to our officers and employees with exercise prices equal to or greater than the fair value of the underlying shares on the grant date.
Stock options and China Cash Bonuses generally expire 10 years from the grant date. All forms of equity awards and China Cash Bonuses vest upon the passage of time, the attainment of performance criteria, or both. When participants exercise stock options, we issue any shares of our common stock resulting from such exercise from new authorized and unallocated shares available at the time of exercise.
The following table summarizes activity under our equity incentive plans related to equity-classified stock option grants as of and for the dates and periods noted:
| Shares | Weighted Average Exercise Price Per Share | Weighted-Average Remaining Contractual Term | Aggregate Intrinsic Value (in thousands) | ||||||||||||||||||||
| Outstanding at December 31, 2021 | 14,839,020 | $ | 3.30 | 6.1 | $ | 159 | |||||||||||||||||
| Granted | 384,732 | 0.49 | |||||||||||||||||||||
| Exercised | — | — | |||||||||||||||||||||
| Forfeited, cancelled or expired | (100,000) | 1.41 | |||||||||||||||||||||
| Outstanding at September 30, 2022 | 15,123,752 | $ | 3.25 | 5.4 | $ | — | |||||||||||||||||
| Exercisable at December 31, 2021 | 12,776,520 | 3.62 | 5.7 | $ | 957 | ||||||||||||||||||
| Exercisable at September 30, 2022 | 14,334,752 | 3.35 | 5.3 | $ | — | ||||||||||||||||||
The following table summarizes activity related to our liability-classified China Cash Bonuses as of and for the dates and periods noted:
| Shares | Weighted Average Exercise Price Per Share | Weighted-Average Remaining Contractual Term | Aggregate Intrinsic Value (in thousands) | ||||||||||||||||||||
| Outstanding at December 31, 2021 | 1,036,000 | $ | 3.97 | 5.4 | $ | 159 | |||||||||||||||||
| Forfeited, cancelled or expired | (299,500) | 4.69 | |||||||||||||||||||||
| Outstanding at September 30, 2022 | 736,500 | $ | 3.68 | 6.2 | $ | — | |||||||||||||||||
| Exercisable at December 31, 2021 | 886,000 | 4.41 | 4.9 | $ | — | ||||||||||||||||||
| Exercisable at September 30, 2022 | 676,500 | 3.88 | 6.1 | $ | — | ||||||||||||||||||
The following table presents the change in the liability associated with our China Cash Bonuses included in Accrued expense and other current liabilities (in thousands):
| Nine Months Ended September 30, | Year Ended December 31, | ||||||||||
| 2022 | 2021 | ||||||||||
Balance at beginning of period | $ | 439 | $ | 679 | |||||||
Share-based compensation expense related to China Cash Bonuses | (340) | (240) | |||||||||
Balance at end of period | $ | 99 | $ | 439 | |||||||
On July 27, 2020, the compensation committee of our board of directors approved grants to employees, directors and other service providers, excluding our CEO, of options to purchase approximately 5.4 million shares of our common stock. The option agreements governing the grants contain a stipulation that, regardless of vesting, such options do not become exercisable unless and until stockholders approve an amendment to our Amended and Restated Certificate of Incorporation to increase in the number of authorized shares of our common stock in an amount sufficient to allow for the exercise of the options and we have filed a corresponding Certificate of Amendment to our Amended and Restated Certificate of Incorporation reflecting such increase in the number of authorized shares of our common stock.
On July 8, 2021, our stockholders approved an amendment to our Amended and Restated Certificate of Incorporation to increase the number of authorized shares of our common stock to 175,000,000, and we filed a Certificate of Amendment to our Amended and Restated Certificate of Incorporation with the Secretary of State of the State of Delaware on July 9, 2021 to reflect this amendment, which became effective immediately upon filing.
As a result of the increase in the number of authorized shares of our common stock, we determined that July 8, 2021 was the grant date for accounting purposes of the stock options we originally issued on July 27, 2020. The grant date fair value of the options granted on July 27, 2020 was approximately $6.3 million. To estimate the fair value of the options with an accounting grant date of July 8, 2021, we used the Black-Scholes-Merton option pricing model with an expected volatility of 85%, a risk-free interest rate of 0.34%, and expected term of six years and no expected dividends.
Effective as of January 25, 2022, we entered into a one-year agreement with a consultant that requires us to issue to him each month an option to purchase shares of our common stock. The number of shares purchasable under each option contract to be granted is based upon certain agreed terms and assumptions, and each such option contract is intended to compensate the consultant with an aggregate fair value of $15,000. As of September 30, 2022, we had issued to the consultant options to purchase 384,732 shares of our common stock, and such options collectively represented a total share-based compensation expense of approximately $0.1 million.
The following table presents a breakdown of share-based compensation cost included in operating expense (in thousands):
| Nine Months Ended September 30, | |||||||||||
| 2022 | 2021 | ||||||||||
| Stock options | $ | 1,525 | $ | 3,823 | |||||||
| China Cash Bonuses | (340) | (326) | |||||||||
| Total | $ | 1,185 | $ | 3,497 | |||||||
We record share-based compensation expense in the books of the subsidiary that incurs the expense, while for equity-classified stock options we record the change in additional paid-in capital on the corporate entity because the corporate entity’s equity underlies such stock options.
The following table presents information regarding unrecognized share-based compensation cost associated with stock options and China Cash Bonuses:
| September 30, 2022 | |||||
| Unrecognized share-based compensation cost for non-vested awards (in thousands): | |||||
| Stock options | 597 | ||||
| China Cash Bonuses | 7 | ||||
| Weighted-average years over which unrecognized share-based compensation expense will be recognized: | |||||
| Stock options | 0.3 | ||||
| China Cash Bonuses | 0.3 | ||||
NOTE 14. RELATED PARTY TRANSACTIONS
As of September 30, 2022, we owed approximately $0.9 million to members of management representing various operating expense payments made on our behalf. Approximately $0.5 million was repaid in October 2022.
NOTE 15. CHINA BUSINESS PARTNER
We interact with an unrelated entity (the “China Business Partner”) in more than one capacity. Firstly, since 2020, we have been working with the China Business Partner to earn revenue by obtaining business from some of the largest companies in China. Secondly, our artificial intelligence business in the U.S. has, to date, purchased substantially all of its inventory from a subsidiary of the China Business Partner which manufactures certain equipment to our specifications; though, during the six months ended September 30, 2022, we did not make a material amount of such purchases. In addition, a member of our senior leadership team maintains a role in the senior management structure of the China Business Partner.
As of December 31, 2021, $4.0 million remained outstanding of the amount we advanced to the China Business Partner pursuant to an agreement between the two entities. Under the executed agreement, we had an obligation to advance as much as an aggregate amount of $5.1 million over the loan term of five years, and we could elect to convert amounts due to it under the agreement into equity of the China Business Partner upon any equity financing the China Business Partner undertook during the term of the agreement. The business purpose for the advances was to allow the China Business Partner to purchase and modify hardware to integrate with our software and market such integrated product to potential customers, including some of the largest companies in China. During the three months ended March 31, 2022, the China Business Partner repaid the advances in full.
During the three and nine months ended September 30, 2022, we recognized approximately $1.9 million and $5.3 million, respectively, of revenue from the relationship with the China Business Partner. At September 30, 2022, we had $3.0 million of accounts receivable from the China Business partner.
NOTE 16. SUBSEQUENT EVENTS
Ionic Transactions
On October 6, 2022, we entered into a debenture purchase agreement (the “Debenture Purchase Agreement”) with Ionic Ventures, LLC (“Ionic”), pursuant to which we issued a convertible subordinated debenture in the original principal amount of $2,778,000 (the “Debenture”) to Ionic for a purchase price of $2,500,000. The Debenture accrues interest at a rate of 8% per annum. The interest rate on the Debenture increases to a rate of 15% per annum if the Debenture is not fully paid or converted by February 6, 2023 (the “Trigger Date”) or upon the occurrence of certain trigger events, including, without limitation, the suspension from trading or the delisting of our common stock from Nasdaq and the occurrence of any material adverse effect. In addition, if the Debenture is not fully paid or converted by the Trigger Date, the original principal amount of the Debenture will be deemed to have been $3,334,000 from the issuance date. The Debenture matures on June 6, 2023.
The Debenture automatically converts into shares of common stock at the earlier of (i) the effective date of a registration statement registering the resale of the shares which may be issued upon conversion of the Debenture and pursuant to the ELOC Purchase Agreement (as defined below) (the “Ionic Resale Registration Statement”) and (ii) 181 days after the issuance date of the Debenture.
The number of shares of common stock issuable upon conversion of the Debenture shall be determined by dividing the outstanding balance under the Debenture (including all accrued and unpaid interest and accrued and unpaid late charges, if any) by a conversion price that is the lower of (x) 80% (or 70% if our common stock is not then trading on Nasdaq) of the average of the 10 lowest volume-weighted average prices (“VWAPs”) over a specified measurement period following the conversion date, and (y) $0.50 (the “Fixed Conversion Price”), subject to full ratchet anti-dilution protection in the event we issue certain equity securities at a price below the then Fixed Conversion Price.
On November 7, 2022, we entered into an amendment to the Debenture Purchase Agreement with Ionic, pursuant to which we and Ionic agreed to amend and restate the Debenture to provide that (i) in no event will the conversion price under the Debenture be below a floor price of $0.10 (such price, as may be appropriately adjusted for any stock dividend, stock split, stock combination or other similar transaction, the “Floor Price”), and (ii) in the event the actual conversion price is less than the Floor Price, (A) Ionic will be entitled to that number of Settlement Conversion Shares issuable with an assumed conversion price equal to the Floor Price, and (B) we will be required to make a cash payment to Ionic on or prior to the Maturity Date of an amount that is calculated by subtracting the number of shares of common stock issuable at an assumed conversion price equal to the Floor Price from the number of shares of common stock issuable at the actual conversion price, multiplied by a price equal to the average of the 10 lowest VWAPs during the specified measurement period.
Additionally, in the event of a bankruptcy, we are required to redeem the Debenture in cash in an amount equal to the then outstanding balance of the Debenture multiplied by 120%, subject, however, to the provisions of a subordination and intercreditor agreement between Ionic and Mudrick. The Debenture further provides that we will not effect the conversion of any portion of the Debenture, and the holder thereof will not have the right to a conversion of any portion of the Debenture, to the extent that after giving effect to such conversion, the holder together with its affiliates would beneficially own more than 4.99% of the outstanding shares of our common stock immediately after giving effect to such conversion (the “Beneficial Ownership Limitation”).
Also, on October 6, 2022, we entered into a purchase agreement (the “ELOC Purchase Agreement”) with Ionic, which provides that, upon the terms and subject to the conditions and limitations set forth therein, we have the right to direct Ionic to purchase up to an aggregate of $50,000,000 of shares of our common stock over the 36-month term of the ELOC Purchase Agreement. Under the ELOC Purchase Agreement, after the satisfaction of certain commencement conditions, including, without limitation, the effectiveness of the Ionic Resale Registration Statement, and (ii) pursuant to the ELOC Purchase Agreement (collectively, the “Ionic Resale Registration Statement”) and that the Debenture shall have been fully converted into shares of common stock or shall otherwise have been fully redeemed and settled in all respects in accordance with the terms of the Debenture, we have the right to present Ionic with a purchase notice (each, a “Purchase Notice”) directing Ionic to purchase any amount up to $3,000,000 of our common stock per trading day, at a per share price (the “Purchase Price”) equal to 90% (or 80% if our common stock is not then trading on Nasdaq) of the average of the 5 lowest VWAPs over a specified measurement period. With each purchase under the ELOC Purchase Agreement, we are required to deliver to Ionic an additional number of shares equal to 2.5% of the number of shares of common stock deliverable upon such purchase.
In addition, Ionic will not be required to buy any shares of our common stock pursuant to a Purchase Notice on any trading day on which the closing trade price of our common stock is below $0.25. We will control the timing and amount of sales of our common stock to Ionic. Ionic has no right to require any sales by us, and is obligated to make purchases from us as directed solely by us in accordance with the ELOC Purchase Agreement. The ELOC Purchase Agreement provides that we will not be required or permitted to issue, and Ionic will not be required to purchase, any shares under the ELOC Purchase Agreement if such issuance would violate Nasdaq rules, and we may, in our sole discretion, determine whether to obtain stockholder approval to issue shares in excess of 19.99% of our outstanding shares of common stock if such issuance would require stockholder approval under Nasdaq rules. Ionic has agreed that neither it nor any of its agents, representatives and affiliates will engage in any direct or indirect short-selling or hedging our common stock during any time prior to the termination of the ELOC Purchase Agreement.
The ELOC Purchase Agreement may be terminated by us if certain conditions to commence have not been satisfied by December 31, 2022. The ELOC Purchase Agreement may also be terminated by us at any time after commencement, at our discretion; provided, however, that if we sold less than $25,000,000 to Ionic (other than as a result of our inability to sell shares to Ionic as a result of the Beneficial Ownership Limitation, our failure to have sufficient shares authorized or our failure to obtain stockholder approval to issue more than 19.99% of our outstanding shares), we will pay to Ionic a termination fee of $500,000, which is payable, at our option, in cash or in shares of common stock at a price equal to the closing price on the day immediately preceding the date of receipt of the termination notice. Further, the ELOC Purchase Agreement will automatically terminate on the date that we sell, and Ionic purchases, the full $50,000,000 amount under the agreement or, if the full amount has not been purchased, on the expiration of the 36-month term of the ELOC Purchase Agreement.
Concurrently with entering into the Debenture Purchase Agreement and the ELOC Purchase Agreement, we also entered into a registration rights agreement with Ionic (the “Registration Rights Agreement”), in which we agreed to file with the SEC one or more registration statements, as necessary, and to the extent permissible and subject to certain exceptions, to register under the Securities Act of 1933, as amended, the resale of the shares of our common stock issuable upon conversion of the Debenture, the shares of common stock that may be issued to Ionic under the ELOC Purchase Agreement and the shares of common stock that may be issued to Ionic if we fail to comply with our obligations in the Registration Rights Agreement. The Registration Rights Agreement requires that we file, within 30 days after signing, the Ionic Resale Registration Statement and use commercially reasonable efforts to have the Ionic Resale Registration Statement declared effective by the SEC on or before the earlier of (i) 90 days after signing (or 120 if such registration statement is subject to full review by the SEC) and (ii) the 2nd business day after we are notified we will not be subject to further SEC review. If we fail to file or have the Ionic Resale Registration Statement declared effective by the specified deadlines, then in each instance, we will issue to Ionic 150,000 shares of our common stock within 2 trading days after such failure, and with respect to the Conversion Shares, we will additionally pay in cash, as liquidated damages, an amount equal to 2% of the amount then currently outstanding under the Debenture for failure to file and have the Ionic Resale Registration Statement declared effective by the same deadlines set forth above for each 30-day period after each such failure. We filed the Ionic Resale Registration Statement on November 7, 2022.
Nasdaq Hearing
On October 17, 2022, we received a written decision from the Nasdaq Hearings Panel granting our request for continued listing on Nasdaq, subject to the conditions that, on January 11, 2023, we will have demonstrated compliance with the Bid Price Rule by evidencing a closing price of $1.00 or more per share for a minimum of 10 consecutive trading sessions, and that we provide prompt notification of any significant events that occur during the period ending on January 11, 2023 that may affect our compliance with Nasdaq rules.
Mudrick Loans
On October 6, 2022, we entered into a Provisional Waiver and Consent Agreement (the “Mudrick Waiver”) to the Mudrick Loan Agreements. Pursuant to the Mudrick Waiver, Mudrick agreed, among other things, to (i) waive certain then-existing events of default under the Mudrick Loan Agreements, (ii) defer payment of interest for the months of July, August and September 2022 to October 6, 2022, the closing date of the Debenture Purchase Agreement, and (iii) consent to the issuance of the Debenture and the other transactions contemplated by the Debenture Purchase Agreement. In connection with the Mudrick Waiver, we became a party to a Subordination and Intercreditor Agreement with Mudrick and Ionic, pursuant to which Ionic agreed, among other things, that all of our obligations to Ionic under the Debenture will be fully and unconditionally junior and subordinate in right of cash payment to the prior satisfaction in full of our obligation to Mudrick.
We did not make the required repayment of the outstanding loans under the Mudrick Loan Agreements by October 31, 2022, the maturity date. This constitutes an event of default for which we have not received a waiver as of the date of this Form 10-Q. While we are actively engaged in discussions with Mudrick regarding a resolution of the event of default, we cannot provide any assurance that we will be successful in obtaining a waiver or that Mudrick will forebear from taking any enforcement actions against us. As of the date of this Form 10-Q, the principal amount outstanding, together with interest on the unpaid principal balance of the Mudrick Loan, is $14.7 million.
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read our discussion and analysis of our financial condition and results of operations for the three and six months ended September 30, 2022 in conjunction with our condensed consolidated financial statements and notes thereto set forth in Part I, Item 1 of this Quarterly Report on Form 10-Q. Such discussion and analysis includes forward-looking statements that involve risks and uncertainties and that are not historical facts, including statements about our beliefs and expectations. You should also read Business, Risk Factors and Special Note Regarding Forward-Looking Statements in this Form 10-Q.
OVERVIEW
We are a diversified global technology business with leading AI and data-analytics, as well as a portfolio of digital media properties.
OUR BUSINESS
Corporate Structure
We are a holding company incorporated in Delaware and not a Chinese operating company. As a holding company, we conduct most of our operations through our subsidiaries, each of which is wholly owned. We have historically conducted a significant part of our operations through contractual arrangements between our WFOE and certain VIEs based in China to address challenges resulting from laws, policies and practices that may disfavor foreign-owned entities that operate within industries deemed sensitive by the Chinese government. We were the primary beneficiary of the VIEs because the contractual arrangements governing the relationship between the VIEs and our WFOE, which included an exclusive call option agreement, exclusive business cooperation agreement, a proxy agreement and an equity pledge agreement, enabled us to (i) exercise effective control over the VIEs, (ii) receive substantially all of the economic benefits of the VIEs, and (iii) have an exclusive call option to purchase, at any time, all or part of the equity interests in and/or assets of the VIEs to the extent permitted by Chinese laws. Because we were the primary beneficiary of the VIEs, we consolidated the financial results of the VIEs in our consolidated financial statements in accordance with GAAP.
We terminated all of the contractual arrangements between the WFOE and the VIEs and exercised our rights under the exclusive call option agreements between the WFOE and the VIEs such that, effective as of September 19, 2022, we obtained 100% of the equity ownership of the entities we formerly consolidated as VIEs and which we now consolidate as wholly-owned subsidiaries.
The following diagram illustrates our corporate structure, including our significant subsidiaries, as of the date of this Form 10-Q. The diagram omits certain entities which are immaterial to our results of operations and financial condition.
27 | Financial Statement Index | |||||||
We are subject to certain legal and operational risks associated with having a significant portion of our operations in China. Chinese laws and regulations governing our current business operations, including the enforcement of such laws and regulations, are sometimes vague and uncertain and can change quickly with little advance notice. The Chinese government may intervene in or influence the operations of our China-based subsidiaries at any time and may exert more control over offerings conducted overseas and/or foreign investment in China-based issuers, which could result in a material change in our operations and/or the value of our securities. In addition, any actions by the Chinese government to exert more oversight and control over offerings that are conducted overseas and/or foreign investment in China-based issuers could significantly limit or completely hinder our ability to offer or continue to offer our securities to investors and cause the value of such securities to
28 | Financial Statement Index | |||||||
significantly decline or become worthless. In recent years, the Chinese government adopted a series of regulatory actions and issued statements to regulate business operations in China, including those related to the use of variable interest entities, cybersecurity, data security, export control and anti-monopoly concerns. As of the date of this Form 10-Q, we have neither been involved in any investigations on cybersecurity review initiated by any Chinese regulatory authority, nor received any inquiry, notice or sanction. As of the date of this Form 10-Q, no relevant laws or regulations in China explicitly require us to seek approval from the CSRC for any securities listing. As of the date of this Form 10-Q, we have not received any inquiry, notice, warning or sanctions regarding our planned overseas listing from the CSRC or any other Chinese governmental authorities relating to securities listings. However, since these statements and regulatory actions are newly published, official guidance and related implementation rules have not all been issued. It is highly uncertain what potential impact such modified or new laws and regulations will have on our ability to conduct our business, accept investments or list or maintain a listing on a U.S. or foreign exchange.
As of the date of this Form 10-Q, we are not required to seek permissions from the CSRC, the CAC or any other entity that is required to approve our operations in China. Nevertheless, Chinese regulatory authorities may in the future promulgate laws, regulations or implement rules that require us or our subsidiaries to obtain permissions from such regulatory authorities to approve our operations or any securities listing.
Holding Foreign Companies Accountable Act
The HFCA Act was enacted on December 18, 2020. The HFCA Act states if the SEC determines that a company has filed audit reports issued by a registered public accounting firm that has not been subject to inspection by the PCAOB for three consecutive years beginning in 2021, the SEC shall prohibit such shares from being traded on a national securities exchange or in the over the counter trading market in the United States. On June 22, 2021, the U.S. Senate passed a bill which, if passed by the U.S. House of Representatives and signed into law, would reduce the number of consecutive non-inspection years required for triggering the prohibitions under the HFCA Act from three years to two. On December 2, 2021, the SEC adopted amendments to finalize rules implementing the submission and disclosure requirements in the HFCA Act. The rules apply to registrants that the SEC identifies as having filed an annual report with an audit report issued by a registered public accounting firm that is located in a foreign jurisdiction and that the PCAOB is unable to inspect or investigate completely because of a position taken by an authority in a foreign jurisdiction. On December 16, 2021, the PCAOB issued a report on its determination that it is unable to inspect or investigate completely PCAOB-registered public accounting firms headquartered in China and in Hong Kong because of positions taken by Chinese and Hong Kong authorities in those jurisdictions. The PCAOB has made such determination as mandated under the HFCA Act. Pursuant to each annual determination by the PCAOB, the SEC will, on an annual basis, identify issuers that have used non-inspected audit firms and thus are at risk of such suspensions in the future.
On August 26, 2022, the CSRC, the Ministry of Finance of the PRC, and the PCAOB signed the Protocol, taking the first step toward opening access for the PCAOB to completely inspect and investigate registered public accounting firms headquartered in mainland China and Hong Kong. Pursuant to the Protocol, the PCAOB shall have independent discretion to select any issuer audits for inspection or investigation and has the unfettered ability to transfer information to the SEC. However, uncertainties still exist as to compliance with the Protocol. Depending on the implementation of the Protocol, if the PCAOB continues to be prohibited from conducting complete inspections and investigations of PCAOB-registered public accounting firms in China, then China-based companies will be delisted pursuant to the HFCA Act despite the Protocol. Therefore, there is no assurance that the Protocol could give relief to China-based companies against the delisting risk from the application of the HFCA Act.
Our auditor, Weinberg & Company, an independent registered public accounting firm headquartered in the United States, is not subject to the determinations announced by the PCAOB on December 16, 2021. Our auditor is currently subject to PCAOB inspections and has been inspected by the PCAOB on a regular basis. However, if the PCAOB is unable to inspect the work papers of our accounting firm in the future, such lack of inspection could cause trading in our common stock to be prohibited under the HFCA Act, and as a result, an exchange may determine to delist our common stock. The delisting and the cessation of trading of our common stock, or the threat of our common stock being delisted and prohibited from being traded, may materially and adversely affect the value of your investment.
29 | Financial Statement Index | |||||||
Transfer of Cash or Assets
Dividend Distributions
As of the date of this Form 10-Q, none of our subsidiaries have made any dividends or distributions to Remark.
We have never declared or paid dividends or distributions on our common equity. We currently intend to retain all available funds and any future consolidated earnings to fund our operations and continue the development and growth of our business; therefore, we do not anticipate paying any cash dividends.
Under Delaware law, a Delaware corporation’s ability to pay cash dividends on its capital stock requires the corporation to have either net profits or positive net assets (total assets less total liabilities) over its capital. If we determine to pay dividends on any of our common stock in the future, as a holding company, we may rely on dividends and other distributions on equity from our subsidiaries for cash requirements, including the funds necessary to pay dividends and other cash contributions to our stockholders.
Our WFOE’s ability to distribute dividends is based upon its distributable earnings. Current Chinese regulations permit our WFOE to pay dividends to its shareholder only out of its registered capital amount, if any, as determined in accordance with Chinese accounting standards and regulations, and then only after meeting the requirement regarding statutory reserve. If our WFOE incurs debt in the future, the instruments governing the debt may restrict its ability to pay dividends or make other payments to us. Any limitation on the ability of our WFOE to distribute dividends or other payments to us could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our businesses, pay dividends or otherwise fund and conduct our business. In addition, any cash dividends or distributions of assets by our WFOE to its stockholder are subject to a Chinese withholding tax of as much as 10%.
The Chinese government also imposes controls on the conversion of RMB into foreign currencies and the remittance of currencies out of China. Therefore, we may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currency for the payment of dividends from our profits, if any. If we are unable to receive all of the revenues from our operations through our China-based subsidiaries, we may be unable to pay dividends on our common stock.
AI Business
Through the proprietary data and AI software platform we developed, our Remark AI business in the U.S. and the KanKan AI business in the Asia-Pacific region generate revenue by delivering AI-based computer vision products, computing devices and software-as-a-service solutions for businesses in many industries. In addition to the other work that we have ramped up, we continue partnering with top universities on research projects targeting algorithm, artificial neural network and computing architectures which we believe keeps us among the leaders in technology development. Our research team continues to participate in various computer vision competitions at which it wins or ranks near or at the top.
We continue to market Remark AI’s innovative AI-based solutions to customers in the retail, urban life cycle and workplace and food safety markets. We have also begun to expand our AI-based safety solutions to railway customers in the transportation market.
Retail Solutions. Utilizing a client’s existing cameras and IoT devices placed throughout the store, Remark AI’s retail solutions swiftly analyze real-time customer shopping behavior, such as time of store entry and shelf-browsing habits, and provide managers with a customer heatmap that reflects traffic patterns. Purchase history is also analyzed, leading to relevant offers for future purchase conversions, and customers for their continued loyalty through a special VIP status that brings customized promotions and coupons along with attentive customer service. Remark AI’s retail solutions allow retailers and store managers to make better data-driven decisions regarding store layout, item placement, and pricing strategy, all while anonymizing customers’ identities to protect their privacy.
Urban Life Cycle Solutions. We offer and have installed several solutions in what we call the urban life cycle category. Our urban life cycle solutions include our AI community system which assists in building “smart” communities by enhancing community security and safety. We also have AI solutions that help to make schools “smart” by (i) providing an accurate and convenient method for student check-in and check-out, (ii) providing an autonomous method of campus monitoring that enhances students’ safety by, for example, monitoring students for elevated body temperatures that could indicate viral
30 | Financial Statement Index | |||||||
infections such as influenza or COVID-19, detecting trespassers, detecting dangerous behaviors or physical accidents that could result in injury, and (iii) monitoring the school kitchen for safety violations.
In traffic management, our solutions assist in monitoring traffic for various violations by automatically detecting, capturing, and obtaining evidence regarding violations such as speeding, running red lights, driving against the flow of traffic and even using counterfeit registration plates. Additionally, our solutions provide constant road-condition monitoring, providing control centers with real-time information on traffic conditions such as areas of congestion or other traffic anomalies.
Workplace and Food Safety Solutions. The monitoring and detection capabilities of our solutions ensure that workers are practicing established food safety protocols, wearing the proper personal protective equipment, and complying with local health codes. From commercial kitchens to factories to construction work zones, our safety-compliance algorithms manage regulatory functions, review hygienic and equipment status while checking and alerting management regarding violations.
Railway Safety Solutions. In railway settings, our product known as the Smart Sentry uses the Smart Safety Platform (the “SSP”), a specialized version of the software platform we developed, to provide intrusion-detection capabilities that allow customers to monitor railroad tracks, rail yards and other sensitive areas around the clock, in all weather conditions and at varying distances. The Smart Sentry, which customers can deploy as an individual unit or as a system of units, detects when pedestrians or vehicles are crossing a railway or entering the railway tracks as a train is approaching, and then alerts customer personnel to the situation so action can be taken to prevent hazardous incidents from happening. When deployed in multiple-unit systems, each Smart Sentry unit works in concert with the other units to relay warnings that give train operators sufficient time to respond to the track intrusions from miles away. Using the Smart Sentry’s high-end cameras and other hardware, the SSP also gathers and analyzes data on railway traffic and weather conditions along various railways to provide valuable, actionable information to railway personnel. In the near future, we expect to add more safety features to Smart Sentry, such as the ability to detect worn or otherwise damaged track and the ability to identify stationary obstacles like fallen rocks or trees.
Biosafety Solutions. We repurposed and improved our existing urban life cycle solution that we were selling to make schools in China “smart” schools to build a product line of high-quality, highly-effective thermal imaging solutions that leverage our innovative software.
We sell our Remark AI Thermal Kits to customers needing the ability to scan crowds and areas of high foot traffic for indications that certain persons with elevated temperatures may require secondary screening. Though the kits are semi-customizable, they generally consist primarily of a thermal imaging camera, a calibrating device, a computer to monitor the video feed, supporting equipment and our AI software. Once set up and calibrated, the kits scan a large number of people each minute, providing both thermally enhanced and standard video feeds that allow our customers to evaluate high volumes of people at large gatherings.
Our Remark AI rPad thermal imaging devices, usually mounted on a wall or a single-post stand, are designed for customers needing the ability to scan individuals on a one-by-one basis in situations where rapid, high-volume scanning is not necessary, such as at a customer’s office entrances where employees can be scanned as they enter for indications of an elevated temperature that may require secondary screening. In addition to thermal scanning, we can customize our AI software embedded in the rPad to perform additional safety and security functions including identifying persons for authorized entry.
Other Businesses
Though our focus remains on our AI and data analytics solutions, which produce substantially all of our revenue, we will continue to operate the Bikini.com e-commerce business until such time as we can sell such business in the near future. We also have continued developing a metaverse that we believe can lead to opportunities in other verticals to which we can apply our AI expertise and develop new revenue streams for our investors.
31 | Financial Statement Index | |||||||
Overall Business Outlook
The innovative AI and data analytics solutions we already sell will continue to serve as the backbone of our efforts to expand our business not only in the Asia-Pacific region, where we believe there still are fast-growth AI market opportunities for our solutions, but also in the United States and Europe, where we see a tremendous number of requests for AI products and solutions in the workplace and public safety markets. We continue to pursue large business opportunities, but anticipating when, or if, we can close these opportunities is difficult. Quickly deploying our software solutions in the market segments we have identified, in which we may face a number of large, well-known competitors, is also difficult.
The response to the COVID-19 pandemic will likely continue to adversely affect our business and financial results, as could economic and geopolitical conditions in some international regions, and we do not yet know what will be the ultimate effects on our business. The COVID-19 pandemic caused a broad shift towards remote working arrangements for many businesses worldwide and injected uncertainty and delay into decision-making processes for such businesses. Varying degrees of preventative measures are still in place in China and other parts of the world, including city-wide lockdowns, travel restrictions, closures of non-essential businesses and other quarantine measures. In particular, the preventative measures in China as a result of the Chinese government’s “Zero-COVID” policy have significantly limited the operational capabilities of our China-based subsidiaries. Many cities across large swaths of China have recently been fully or partially locked down for weeks or even months, including economically significant regions such as Shanghai. Such lockdowns have had a material adverse impact on our business and we expect them to continue to have a material adverse impact on our business at least through the third quarter of 2022.
The full extent of the impact of the pandemic on our business and financial results will depend largely on future developments, including resurgences and further spread of existing or new COVID-19 variants, the duration of any remaining preventative measures implemented by domestic and foreign governments, the impact on capital and financial markets and the related impact on the financial circumstances of our customers, all of which are highly uncertain and cannot be predicted. The pandemic-related situation continues to change rapidly, and additional impacts of which we are not currently aware may arise. We are closely monitoring worldwide developments and are continually assessing the potential impact on our business.
Inflation and Supply Chain
Other than the impact of inflation on the general economy, we do not believe that inflation has had a material effect on our operations to date. However, there is a risk that our operating costs could be subject to inflationary pressures in the future, which would have the effect of increasing our operating costs and put additional stress on our working capital resources.
We have not experienced any supply chain disruptions that have had a material effect on our operations to date. As our business begins to expand in the U.S. based initially on our SSP software, we could be subjected to the risk of supply chain disruptions with regard to high-technology products such as servers and related equipment that we use to train our AI software algorithms and which we plan to sell to customers to support operation of the SSP.
Business Developments During 2022
The COVID-19 pandemic caused renewed lockdowns in China, which made it difficult for us to interact with our clients and vendors. While we were able to complete several larger projects during the first half of 2022, primarily during the first quarter, including construction projects obtained through our China Business Partner and projects related to school campuses, ongoing lockdowns throughout the second and third quarters prevented us from being able to complete as many projects as we otherwise had planned to complete this year.
32 | Financial Statement Index | |||||||
The following table presents our revenue categories as a percentage of total consolidated revenue during the three and nine months ended September 30, 2022 and 2021.
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2022 | 2021 | 2022 | 2021 | ||||||||||||||||||||
| AI-based products and services | 95 | % | 68 | % | 97 | % | 90 | % | |||||||||||||||
| Advertising and other | 5 | % | 32 | % | 3 | % | 10 | % | |||||||||||||||
CRITICAL ACCOUNTING POLICIES
During the nine months ended September 30, 2022, we made no material changes to our critical accounting policies as we disclosed them in Part II, Item 7 of our 2021 Form 10-K.
RESULTS OF OPERATIONS
The following tables summarize our operating results for the three and nine months ended September 30, 2022, and the discussion following the table explains material changes in such operating results compared to the three and nine months ended September 30, 2021.
| (dollars in thousands) | Three Months Ended September 30, 2022 | Change | |||||||||||||||||||||
| 2022 | 2021 | Dollars | Percentage | ||||||||||||||||||||
| Revenue, including amounts from China Business Partner | $ | 2,812 | $ | 1,234 | $ | 1,578 | 128 | % | |||||||||||||||
| Cost of revenue | 2,459 | 854 | 1,605 | 188 | % | ||||||||||||||||||
| Sales and marketing | 270 | 882 | (612) | (69) | % | ||||||||||||||||||
| Technology and development | 41 | 635 | (594) | (94) | % | ||||||||||||||||||
| General and administrative | 6,726 | 5,493 | 1,233 | 22 | % | ||||||||||||||||||
| Depreciation and amortization | 43 | 35 | 8 | 23 | % | ||||||||||||||||||
| Interest expense | (1,365) | (438) | (927) | 212 | % | ||||||||||||||||||
| Change in fair value of warrant liability | — | 411 | (411) | (100) | % | ||||||||||||||||||
| Gain on investment | (348) | 78,917 | (79,265) | (100) | % | ||||||||||||||||||
| Gain on debt extinguishment | — | 425 | (425) | (100) | % | ||||||||||||||||||
| Other gain (loss), net | (493) | 96 | (589) | (614) | % | ||||||||||||||||||
| Provision for income taxes | 9 | — | 9 | ||||||||||||||||||||
| Net loss | (8,924) | 72,746 | (81,670) | (112) | % | ||||||||||||||||||
33 | Financial Statement Index | |||||||
| (dollars in thousands) | Nine Months Ended September 30, | Change | |||||||||||||||||||||
| 2022 | 2021 | Dollars | Percentage | ||||||||||||||||||||
| Revenue, including amounts from China Business Partner | $ | 10,037 | $ | 9,656 | $ | 381 | 4 | % | |||||||||||||||
| Cost of revenue | 8,576 | 5,858 | 2,718 | 46 | % | ||||||||||||||||||
| Sales and marketing | 606 | 2,281 | (1,675) | (73) | % | ||||||||||||||||||
| Technology and development | 1,004 | 3,490 | (2,486) | (71) | % | ||||||||||||||||||
| General and administrative | 14,598 | 10,672 | 3,926 | 37 | % | ||||||||||||||||||
| Depreciation and amortization | 121 | 150 | (29) | (19) | % | ||||||||||||||||||
| Interest expense | (5,325) | (1,053) | (4,272) | 406 | % | ||||||||||||||||||
| Change in fair value of warrant liability | — | 123 | (123) | (100) | % | ||||||||||||||||||
| Gain (loss) on investment | (26,356) | 78,917 | (105,273) | (133) | % | ||||||||||||||||||
| Gain on debt extinguishment | — | 425 | (425) | (100) | % | ||||||||||||||||||
| Other gain (loss), net | (342) | 116 | (458) | (395) | % | ||||||||||||||||||
| Provision for income taxes | 9 | (9) | 18 | (200) | % | ||||||||||||||||||
| Net loss | (46,882) | 65,724 | (112,606) | (171) | % | ||||||||||||||||||
Revenue and Cost of Revenue. During the three and nine months ended September 30, 2022, we completed larger AI-related projects than in the comparable periods of the prior year, including projects associated with our collaboration with an unrelated entity (the “China Business Partner”), resulting in $1.9 million and $3.7 million more revenue, respectively. Decreases in U.S. revenue during the three months ended September 30, 2022 of $0.2 million from advertising related to the daily fantasy sports project and approximately $0.1 million from our e-commerce business partially offset the increase in revenue from China. Decreases in U.S. revenue during the nine months ended September 30, 2022 of approximately $2.8 million from AI data intelligence services and advertising related to a daily fantasy sports project that was not repeated in the current year and $0.4 million from our biosafety business due to a decline in demand, partially offset the increased revenue from China.
The increase in cost of revenue during the three and nine months ended September 30, 2022 was related to our completion of larger projects in China as described above, partially offset by the decrease in cost of revenue associated with the U.S. revenue decreases described above.
Sales and marketing. The decrease in sales and marketing expense during the three and nine months ended September 30, 2022 resulted because the prior year to date included $0.6 million and $1.9 million, respectively, that we advanced to our China Business partner, and such amount was classified as marketing expense. During the nine months ended September 30, 2022, the $1.9 million was partially offset by approximately $0.6 million resulting from our completion of orders from a client that resulted from our joint efforts with our China Business Partner. Because we had provided money to our China Business Partner in 2021 for the business development efforts that resulted in the customer orders, we had recorded the $0.6 million as an offset to the expense. Changes in other expense categories, including shares-based compensation expense and payroll and benefits expense, contributed to the overall change in sales and marketing expense but were individually immaterial and not representative of material trends.
Technology and development. During the three months ended September 30, 2022, we reclassified a refundable tax credit we received from the government of the United Kingdom resulting from our research and development activities in its jurisdiction from Other gain to technology and development expense. Consulting fees decreased $1.3 million during the nine months ended September 30, 2022, because we no longer needed certain third-party services after our acquisition, in an immaterial business combination, of our U.K. subsidiary. Additionally, the tax credit from the United Kingdom reduced the expense and share-based compensation expense decreased $0.4 million during the same period.
General and administrative. During the three and nine months ended September 30, 2022, as a result of the ongoing lockdowns related to China’s Zero-COVID policy, we have had to re-evaluate the amounts receivable from customers based on recent information and, as a result, we increased our reserve for doubtful accounts by $2.3 million. Additionally, we experienced an increase of $0.8 million in legal and other professional fees primarily in connection with financings that were completed after the end of the quarter and the filing of amendments to registration statements, and increases of $0.7 million and $1.7 million, respectively, in certain business development expenses as we work to expand our client base. The increases were partially offset by a decrease of $2.8 million and $1.8 million, respectively, in share-based compensation expense. Also during the nine months ended September 30, 2022, our payroll and benefits increased $0.7 million.
Interest expense. We executed the Original Mudrick Loan Agreements in December 2021, pursuant to which we obtained the Mudrick Loans in the aggregate principal amount of $30.0 million. The Mudrick Loans bore interest at 16.5% through July 2022 and, following an amendment, now bear interest at 18.5%. The Mudrick Loans were the primary cause of the increase in interest expense during the three and nine months ended September 30, 2022. The same period of the prior year included significantly less debt principal outstanding, with such principal bearing lower interest rates than on the Mudrick Loans. Included as part of interest expense during the nine months ended September 30, 2022 was $2.2 million of amortization of debt discount and debt issuance cost related to the Mudrick Loans, as well as a $0.3 million amendment and extension fee related to the First Amendment to the Mudrick Loan Agreements.
Gain (loss) on investment. On July 1, 2021, as the result of a business combination involving Legacy Sharecare and New Sharecare, our equity in Legacy Sharecare converted into cash and shares of publicly traded common stock of New Sharecare. As a result of the common stock of New Sharecare being traded on a national securities exchange, we were able to remeasure our investment at fair value. Since July 1, 2021, the value of the New Sharecare stock has declined significantly, which caused the decrease from a large gain on investment during the three and nine months ended September 30, 2021, to the small gain during the three months ended September 30, 2022 and the loss of $26.4 million during the nine months ended September 30, 2022.
Gain on debt extinguishment. During the third quarter of 2021, we received notification that our previously-outstanding Paycheck Protection Program loan had been forgiven, resulting in a gain of approximately $0.4 million.
Change in fair value of warrant liability. After reclassifying our warrants to equity on August 31, 2021, we are no longer required to routinely remeasure them at fair value.
Other gain (loss). Other loss during the nine months ended September 30, 2022 increased over the other gain we recorded during the same period of the prior year because we accrued $0.4 million of liquidated damages during the second quarter of 2022 related to the Armistice Resale Registration Statement which became effective after the time frame during which we were required to ensure it became effective.
LIQUIDITY AND CAPITAL RESOURCES
Overview
During the nine months ended September 30, 2022, and in each fiscal year since our inception, we have incurred net losses which have resulted in a stockholders’ deficit of $14.7 million as of September 30, 2022. Additionally, our operations have historically used more cash than they have provided. Net cash used in operating activities was $13.6 million during the nine months ended September 30, 2022. As of September 30, 2022, our cash balance was $0.4 million.
Mudrick Loans
On December 3, 2021, we entered into the Original Mudrick Loan Agreements pursuant to which Mudrick extended credit to us consisting of term loans in the aggregate principal amount of $30.0 million. The Mudrick Loans, as amended by the First Amendment, bear interest at 18.5% per annum (originally 16.5% per annum), which is payable on the last business day of each month. All amounts outstanding under the Mudrick Loans, as amended, including all accrued and unpaid interest, will be due and payable in full on October 31, 2022 (originally due on July 31, 2022). To secure the payment and performance of the obligations under the Mudrick Loan Agreements, we, together with the Guarantors, have granted to TMI Trust Company, as the collateral agent for the benefit of Mudrick, a first priority lien on, and security interest in, all assets of Remark and the Guarantors, subject to certain customary exceptions. The Mudrick Loan Agreements contain representations, warranties, events of default, indemnifications and other provisions customary for financings of this type. The occurrence of any event of default
under the Mudrick Loan Agreements may result in the principal amount outstanding and unpaid interest thereon becoming immediately due and payable. In connection with our entry into the Mudrick Loan Agreements, we paid to Mudrick an upfront fee equal to 5.0% of the amount of the Mudrick Loans, which amount was netted against the drawdown of the Mudrick Loans. We recorded the upfront fee as a debt discount of $1.5 million, and recorded debt issuance cost totaling $1.1 million. We amortized the discount on the Mudrick Loans and the debt issuance cost over the life of the Mudrick Loans and, during the nine months ended September 30, 2022, we amortized $2.2 million of such discount and debt issuance cost.
On August 3, 2022, we entered into the First Amendment with Mudrick, pursuant to which, Mudrick agreed, among other things, to (i) waive certain existing events of default under the Mudrick Loan Agreements, (ii) extend the original July 31, 2022 maturity date to October 31, 2022 (provided, however, that if we prepay the principal amount of the loans in an amount of at least $5 million, the maturity date will be automatically extended to November 30, 2022), and (iii) defer payment of interest for the month of July 2022 to August 31, 2022. In addition, on and after the effective date of the First Amendment, the outstanding loans under the Mudrick Loan Agreements will bear interest at 18.5% per annum, payable on the last business day of each month commencing on August 31, 2022. We have also agreed to commence marketing and sale efforts with respect to our Bikini.com business. In consideration for Mudrick’s agreement to enter into the First Amendment and extend the maturity date, we agreed to pay Mudrick an amendment and extension payment in the amount of 2.0% of the unpaid principal balance of the loans outstanding as of the date of the First Amendment, or approximately $0.3 million, which was added to the principal balance of the loans as of the effective date of the First Amendment.
On October 6, 2022, we also entered into the Mudrick Waiver to the Mudrick Loan Agreements. Pursuant to the Mudrick Waiver, Mudrick agreed, among other things, to (i) waive certain existing events of default under the Mudrick Loan Agreements, (ii) defer payment of interest for the months of July, August and September 2022 to October 6, 2022, the closing date of the Debenture Purchase Agreement, and (iii) consent to the issuance of the Debenture and the other transactions contemplated by the Debenture Purchase Agreement. In connection with the Mudrick Waiver, we became a party to a Subordination and Intercreditor Agreement with Mudrick and Ionic, pursuant to which Ionic agreed, among other things, that all of our obligations to Ionic under the Debenture will be fully and unconditionally junior and subordinate in right of cash payment to the prior satisfaction in full of our obligation to Mudrick.
We did not make the required repayment of the outstanding loans under the Mudrick Loan Agreements by October 31, 2022, the maturity date. This constitutes an event of default for which we have not received a waiver as of the date of this Form 10-Q. While we are actively engaged in discussions with Mudrick regarding a resolution of the event of default, we cannot provide any assurance that we will be successful in obtaining a waiver or that Mudrick will forebear from taking any enforcement actions against us. As of the date of this Form 10-Q, the principal amount outstanding, together with interest on the unpaid principal balance of the Mudrick Loan, is $14.4 million.
Ionic Transactions
On October 6, 2022, we entered into the Debenture Purchase Agreement with Ionic, pursuant to which we issued the Debenture in the original principal amount of $2,778,000 to Ionic for a purchase price of $2,500,000. The Debenture accrues interest at a rate of 8% per annum. The interest rate on the Debenture increases to a rate of 15% per annum if the Debenture is not fully paid or converted by February 6, 2023 or upon the occurrence of certain trigger events, including, without limitation, the suspension from trading or the delisting of our common stock from Nasdaq and the occurrence of any material adverse effect. In addition, if the Debenture is not fully paid or converted by the February 6, 2023, the original principal amount of the Debenture will be deemed to have been $3,334,000 from the issuance date. The Debenture matures on June 6, 2023. The terms of the Debenture are further described in Note 16 in the Notes to Unaudited Condensed Consolidated Financial Statements included in this report.
Also, on October 6, 2022, we entered into the ELOC Purchase Agreement with Ionic, which provides that, upon the terms and subject to the conditions and limitations set forth therein, we have the right to direct Ionic to purchase up to an aggregate of $50,000,000 of shares of our common stock over the 36-month term of the ELOC Purchase Agreement. Under the ELOC Purchase Agreement, after the satisfaction of certain commencement conditions, including, without limitation, the effectiveness of the Ionic Resale Registration Statement and that the Debenture shall have been fully converted into shares of common stock or shall otherwise have been fully redeemed and settled in all respects in accordance with the terms of the Debenture, we have the right to present Ionic with a Purchase Notice directing Ionic to purchase any amount up to $3,000,000 of our common stock per trading day, at the Purchase Price equal to 90% (or 80% if our common stock is not then trading on Nasdaq) of the average of the 5 lowest VWAPs over a specified measurement period. With each purchase under the ELOC Purchase Agreement, we are required to deliver to Ionic an additional number of shares equal to 2.5% of the number of shares of common stock deliverable upon such purchase. See Note 16 in the Notes to Unaudited Condensed Consolidated Financial Statements included in this report for additional detail regarding the ELOC Purchase Agreement.
Our history of recurring operating losses, working capital deficiencies and negative cash flows from operating activities give rise to substantial doubt regarding our ability to continue as a going concern.
We intend to fund our future operations and meet our financial obligations through revenue growth from our AI offerings, as well as through sales of our thermal-imaging products. We cannot, however, provide assurance that revenue, income and cash flows generated from our businesses will be sufficient to sustain our operations in the twelve months following the filing of this Form 10-Q. As a result, we are actively evaluating strategic alternatives including debt and equity financings.
Conditions in the debt and equity markets, as well as the volatility of investor sentiment regarding macroeconomic and microeconomic conditions (in particular, as a result of the COVID-19 pandemic, global supply chain disruptions, inflation and other cost increases, and the geopolitical conflict in Ukraine), will play primary roles in determining whether we can successfully obtain additional capital.
A variety of factors, many of which are outside of our control, affect our cash flow; those factors include the effects of the COVID-19 pandemic, regulatory issues, competition, financial markets and other general business conditions. Based on financial projections, we believe that we will be able to meet our ongoing requirements for at least the next 12 months with existing cash and based on the probable success of one or more of the following plans:
•develop and grow new product line(s)
•obtain additional capital through equity issuances.
However, projections are inherently uncertain and the success of our plans is largely outside of our control. As a result, there is substantial doubt regarding our ability to continue as a going concern, and we may fully utilize our cash resources prior to December 31, 2022.
Cash Flows - Operating Activities
During the nine months ended September 30, 2022, we used $3.5 million more cash in operating activities than we did during the same period of the prior year. The increase in cash used in operating activities is primarily the result of the timing of payments related to elements of working capital.
Cash Flows - Investing Activities
Investing activities during the nine months ended September 30, 2022 provided $6.3 million in proceeds from the sale of a portion of our marketable securities, compared to $2.3 million received in the same period of 2021 from the transaction in which Legacy Sharecare became New Sharecare.
Cash Flows - Financing Activities
During the nine months ended September 30, 2022, we repaid $6.2 million of the Mudrick Loans and received $1.5 million of advances from senior management representing various operating expense payments made on our behalf, while the prior year period’s financing activity included $4.8 million of net debt proceeds plus $5.5 million of proceeds from issuances of our common stock shares.
Off-Balance Sheet Arrangements
We currently have no off-balance sheet arrangements.
Recently Issued Accounting Pronouncements
Please refer to Note 2 in the Notes to Unaudited Condensed Consolidated Financial Statements included in this report for a discussion regarding recently issued accounting pronouncements which may affect us.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
We maintain a set of disclosure controls and procedures designed to provide reasonable assurance that the information we must disclose in reports we file or submit under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. We designed our disclosure controls with the objective of ensuring we accumulate and communicate this information to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.
Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of the design and operations of our disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under Exchange Act, as of the end of the period covered by this report. Based upon that evaluation, our management, including our principal executive officer and principal financial officer, concluded that, because of the material weaknesses in our internal control over financial reporting related to: (i) insufficient documentary evidence that we had reviewed information underlying manual journal entries at a sufficient level of detail, (ii) insufficient documentation of our consideration of appropriate revenue recognition criteria for certain contracts arising from our AI business in China, (iii) an aggregation of deficiencies in our monitoring and activity-level controls related to processes in our AI business in China including accounts payable, accrued liabilities, payroll and fixed assets, and (iv) failure to retain documentary evidence of all inventory purchases and the insufficient evaluation of the impact of discounted sales transactions on the valuation of our inventory, all of which we described in our 2021 Form 10-K, our disclosure controls and procedures were not effective at a reasonable assurance level as of September 30, 2022.
Changes in Internal Control over Financial Reporting
In our 2021 Form 10-K, we disclosed that management had determined that material weaknesses in our internal control over financial reporting (described above) existed. As of the date of this report, the implementation of the plan developed by management to remediate the underlying causes of the material weaknesses and improve the design and operating effectiveness of internal control over financial reporting and our disclosure controls continues. Such implementation has been slowed by various factors, including the COVID-19 pandemic. As a result, there was no change in our internal control over financial reporting during such period that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 1A. RISK FACTORS
Investing in our common stock involves a high degree of risk. You should carefully consider the risk factors set forth below together with the risk factors discussed in Part I, Item 1A of our 2021 Form 10-K, which could materially affect our business, financial condition or operating results. The risks described below and in our 2021 Form 10-K are not the only risks we face. Additional risks and uncertainties that we are unaware of may become important factors that affect us. If any of these risks actually occur, our business, financial condition or operating results may suffer, the trading price of our common stock could decline, and you may lose all or part of your investment.
Our concentration of customers could have a material adverse effect on us.
Our concentration of customers could have a material adverse effect on us. During the nine months ended September 30, 2022, two of our customers represented about 55% and 23%, respectively, of our revenue for such period. During the nine months ended September 30, 2021, our two largest customers represented about 32% and 21%, respectively, of our revenue for such period. At September 30, 2022, accounts receivable from two of our customers represented about 32% and 18%, respectively, of our gross accounts receivable, while at December 31, 2021, accounts receivable from our three largest customers represented about 25%, 24% and 10%, respectively, of our gross accounts receivable. This concentration of customers leaves us exposed to the risks associated with the loss of one or more of these significant customers, which would materially and adversely affect our revenues and results of operations.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
On September 2, 2022, we issued 1,250,000 shares of our common stock with a fair value of $0.5 million to a vendor in exchange for services performed.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
We did not make the required repayment of the outstanding loans under the Mudrick Loan Agreements by October 31, 2022, the maturity date. This constitutes an event of default for which we have not received a waiver as of the date of this Form 10-Q. While we are actively engaged in discussions with Mudrick regarding a resolution of the event of default, we cannot provide any assurance that we will be successful in obtaining a waiver or that Mudrick will forebear from taking any enforcement actions against us. As of the date of this Form 10-Q, the principal amount outstanding, together with interest on the unpaid principal balance of the Mudrick Loan, is $14.7 million.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS
| Incorporated Herein By Reference To | ||||||||||||||||||||||||||
| Exhibit Number | Description | Document | Filed On | Exhibit Number | ||||||||||||||||||||||
| S-1 | 11/07/2022 | 4.8 | ||||||||||||||||||||||||
| DEF 14A | 04/29/2022 | N/A | ||||||||||||||||||||||||
| 8-K | 08/08/2022 | 10.1 | ||||||||||||||||||||||||
| 8-K | 10/11/2022 | 10.1 | ||||||||||||||||||||||||
| 8-K | 10/11/2022 | 10.2 | ||||||||||||||||||||||||
| 8-K | 10/11/2022 | 10.3 | ||||||||||||||||||||||||
| 8-K | 10/11/2022 | 10.4 | ||||||||||||||||||||||||
| 8-K | 10/11/2022 | 10.5 | ||||||||||||||||||||||||
| S-1 | 11/07/2022 | 10.2 | ||||||||||||||||||||||||
| 101 | The following financial statements from our Quarterly Report on Form 10-Q for the quarter ended September 30, 2022, formatted in Inline XBRL: (i) Condensed Consolidated Balance Sheets as of September 30, 2022 and December 31, 2021; (ii) Unaudited Condensed Consolidated Statements of Operations and Comprehensive Loss for the three and nine months ended September 30, 2022 and 2021; (iii) Unaudited Condensed Consolidated Statements of Stockholders’ Deficit for the three and nine months ended September 30, 2022 and 2021; (iv) Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2022 and 2021; and (v) Notes to Unaudited Condensed Consolidated Financial Statements. | |||||||||||||||||||||||||
| 104 | The cover page from our Quarterly Report on Form 10-Q for the quarter ended September 30, 2022, formatted in Inline XBRL (included as Exhibit 101). | |||||||||||||||||||||||||
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| REMARK HOLDINGS, INC. | ||||||||||||||
| Date: | November 14, 2022 | By: | /s/ Kai-Shing Tao | |||||||||||
| Kai-Shing Tao | ||||||||||||||
| Chairman and Chief Executive Officer | ||||||||||||||
| (principal executive, financial and accounting officer) | ||||||||||||||