Eastside Distilling(EAST) - 2019 Q3 - Quarterly Report

PART I Item 1. Financial Statements (unaudited) Unaudited Q3 2019 financials show significant asset and liability growth from acquisitions, increased net losses, and a sharp cash decline Condensed Consolidated Balance Sheets Total assets and liabilities surged due to acquisitions, while cash and equity sharply declined by September 30, 2019 Condensed Consolidated Balance Sheet Highlights (as of Sep 30, 2019 vs. Dec 31, 2018) | Balance Sheet Item | Sep 30, 2019 | Dec 31, 2018 | Change | | :--- | :--- | :--- | :--- | | Cash | $446,983 | $10,642,877 | -95.8% | | Inventories | $12,257,883 | $11,017,459 | +11.3% | | Intangible assets, net | $14,648,543 | $285,676 | +5027.7% | | Total Assets | $37,737,865 | $26,357,808 | +43.2% | | Total current liabilities | $3,857,789 | $2,372,584 | +62.6% | | Deferred Consideration (Azuñia) | $12,781,092 | $0 | N/A | | Total Liabilities | $23,941,831 | $7,606,690 | +214.7% | | Total Stockholders' Equity | $13,796,034 | $18,751,118 | -26.4% | Condensed Consolidated Statements of Operations Net sales significantly increased for Q3 and nine-month periods, but higher operating expenses led to a wider net loss Consolidated Statements of Operations Summary | Metric | Q3 2019 | Q3 2018 | YoY Change | 9 Months 2019 | 9 Months 2018 | YoY Change | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | Net Sales | $4,434,840 | $1,489,047 | +197.8% | $11,826,317 | $4,234,067 | +179.3% | | Gross Profit | $1,766,629 | $602,219 | +193.3% | $4,423,568 | $1,955,948 | +126.2% | | Loss from Operations | ($3,431,070) | ($2,086,207) | +64.5% | ($9,098,478) | ($5,150,300) | +76.7% | | Net Loss | ($3,544,299) | ($2,626,457) | +35.0% | ($9,436,225) | ($5,851,503) | +61.3% | | Basic & Diluted EPS | ($0.38) | ($0.42) | N/A | ($1.03) | ($1.07) | N/A | Condensed Consolidated Statements of Cash Flows Operating cash use improved, but increased investing and reduced financing led to a $10.2 million net cash decrease Consolidated Statements of Cash Flows Summary (Nine Months Ended Sep 30) | Cash Flow Activity | 2019 | 2018 | | :--- | :--- | :--- | | Net cash used in operating activities | ($7,922,275) | ($10,355,135) | | Net cash used in investing activities | ($3,803,008) | ($944,248) | | Net cash provided by financing activities | $1,529,389 | $13,569,457 | | Net decrease in cash | ($10,195,594) | $2,270,074 | | Cash - end of period | $446,983 | $4,856,389 | Notes to the Condensed Consolidated Financial Statements Notes detail business, accounting policies, and recent activities, highlighting financing dependence, recurring losses, and 2019 acquisitions - The company has incurred a net loss of $9.4 million for the nine months ended September 30, 2019, and has an accumulated deficit of $36.8 million, highlighting its historical dependence on debt and equity financing to fund operations[20] - On January 11, 2019, the company acquired Craft Canning + Bottling for a total consideration of $4.84 million, paid in stock, cash, and notes payable[72][73] - On September 12, 2019, the company acquired the Azuñia Tequila brand for deferred consideration estimated at $12.78 million, payable primarily in stock and contingent on future revenue performance[77][78][79] - A legal complaint was filed against the company on October 22, 2019, by two former employees alleging sex discrimination and harassment, seeking monetary damages of up to $560,000[108] Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses sales growth from acquisitions, declining gross margins, rising expenses, and critical liquidity concerns requiring additional capital Business Overview The company, a craft spirits producer, expands through market growth, strategic acquisitions, and leveraging key brands like Redneck Riviera and Azuñia - The company's strategy is to build on its local base, expand selectively, and use its public company status to support growth through strategic acquisitions[157][159] - Key brands and services driving growth include Redneck Riviera Whiskey (RRW), the newly acquired Azuñia tequila, and contract bottling/canning services via its MotherLode and Craft Canning subsidiaries[157][159] Results of Operations Sales surged due to acquisitions, but gross margin declined, and significantly higher operating expenses resulted in a wider net loss Sales Breakdown by Channel (Three Months Ended Sep 30) | Channel | 2019 | % of Total | 2018 | % of Total | | :--- | :--- | :--- | :--- | :--- | | Wholesale | $2,120,253 | 45% | $1,018,635 | 60% | | Private Label (Co-packing) | $2,389,269 | 50% | $455,155 | 27% | | Retail / Special Events | $237,293 | 5% | $225,058 | 13% | | Total | $4,746,815 | 100% | $1,698,848 | 100% | Gross Profit and Margin Comparison | Period | Gross Profit 2019 | Gross Margin 2019 | Gross Profit 2018 | Gross Margin 2018 | | :--- | :--- | :--- | :--- | :--- | | Three Months | $1,766,629 | 40% | $602,219 | 40% | | Nine Months | $4,423,568 | 37% | $1,955,948 | 46% | - The increase in General & Administrative expenses was primarily due to increased headcount from acquisitions, higher depreciation and amortization, and one-time costs related to bonuses, legal, and acquisition expenses[168][178] Liquidity and Capital Resources The company faces precarious liquidity with limited cash, relying on additional capital or positive cash flow to meet future operating needs - The company had only $0.4 million of cash on hand as of September 30, 2019[183] - The company's ability to meet its operating cash needs for the next 12 months is dependent on raising additional debt or equity capital and generating positive operating cash flow[183] - Management is seeking to leverage the company's large inventory and accounts receivable balances to help satisfy working capital needs[183] Item 3. Quantitative and Qualitative Disclosures About Market Risk The company is exempt from market risk disclosures as it qualifies as a smaller reporting company - The company is exempt from this disclosure requirement as it qualifies as a "smaller reporting company"[193] Item 4. Controls and Procedures Management concluded that disclosure controls and procedures were effective as of September 30, 2019, with no material changes to internal controls - The Chief Executive Officer and Chief Financial Officer concluded that the company's disclosure controls and procedures were effective as of September 30, 2019[195] - No material changes to internal control over financial reporting were identified during the quarter ended September 30, 2019[196] PART II Item 1. Legal Proceedings The company faces a legal complaint from former employees alleging discrimination and harassment, seeking up to $560,000 in damages - A complaint was filed against the company by two former employees alleging sex discrimination and sexual harassment, seeking damages up to $560,000. The company's insurer has accepted initial defense with a reservation of rights[108][199] Item 1A. Risk Factors The company faces significant risks including critical capital needs, brand dependence, executive turnover, supply chain reliance, industry competition, and stock-related issues Risks Relating to Our Business Key business risks include the urgent need for capital, ongoing operating losses, dependence on the Redneck Riviera brand, executive turnover, and reliance on limited suppliers - The company requires additional capital to continue operations, and failure to obtain it could severely limit growth and operations[201][202] - The company has incurred significant operating losses, reporting a net loss of $3.5 million for Q3 2019 and an accumulated deficit of $36.8 million, and expects losses to continue[205] - Recent significant changes to the executive leadership team, including the resignations of the CEO and CFO, have the potential to disrupt operations[216] - The regulatory landscape for CBD products is uncertain and evolving, which could adversely affect the company's new 'Outlandish' beverage line[228][229][230] Risks Related to Our Industry Industry risks include intense competition, changing consumer preferences, potential impact from marijuana legalization, extensive government regulation, and product liability concerns - The global spirits industry is highly competitive and dominated by large international companies with substantially greater financial and marketing resources[258] - Demand may be adversely affected by changing consumer trends, economic downturns, and health concerns. The legalization of marijuana in key states could also reduce alcohol sales[253][256] - The business is subject to extensive government regulation and taxation. The favorable federal excise tax rate under the Craft Modernization and Tax Reform Act of 2017 is not guaranteed to remain in effect after its initial two-year period[262][263] Risks Related to Our Common Stock Common stock risks include thin trading, potential Nasdaq delisting due to non-compliance, limited authorized shares for future financing, and significant stockholder influence - The company's common stock is thinly traded, which may lead to price volatility and make it difficult for investors to sell their shares[272][273] - The company faces a risk of delisting from Nasdaq. As of November 12, 2019, it was not in compliance with the majority independent Board and independent audit committee requirements[276] - The company's ability to raise capital is constrained by its limited number of authorized shares of common stock (15 million authorized vs. over 11 million outstanding or subject to conversion)[289] Item 2. Unregistered Sales of Equity Securities and Use of Proceeds In September 2019, the company raised $1.26 million in net proceeds from a private offering of units, each comprising common stock and a warrant - In September 2019, the company raised $1,262,497 in net proceeds from a private offering of 280,555 units at $4.50 per unit[293] - Each unit included one common share and a three-year warrant to purchase 0.5 shares at an exercise price of $5.50[293]