Hearte Enterprises(HTCR) - 2023 Q4 - Annual Report

Part I Business HeartCore Enterprises, Inc. offers CXM and DX software, U.S. IPO consulting, and expanded its U.S. presence via the Sigmaways acquisition - The company operates through two main business units: the Customer Experience (CX) division and the Digital Transformation (DX) division[18][19] - In 2022, the company launched its "GO IPO" business, providing consulting services to Japanese companies seeking U.S. stock exchange listings, which has helped offset sales declines in other divisions[21][185] - In February 2023, the company acquired a 51% controlling interest in Sigmaways, Inc., a U.S.-based software company, to expand its presence in the United States[22][191] Customer Base as of December 31, 2023 | Region | Total Customers | Paying Customers | Paying Customer % of Total | Non-Paying Customers | | :--- | :--- | :--- | :--- | :--- | | Japan | 949 | 691 | 72.8% | 280 | | Outside Japan | 24 | 1 | 0.1% | 23 | Our Business Segments - CX Division (CXM Platform): Provides a comprehensive suite of marketing, sales, service, and content management systems for mid-market B2B companies[18][50][52] - DX Division (Digital Transformation): Offers solutions like Robotic Process Automation (RPA) and process mining to automate business processes and accelerate digital transformation[19][81][86] - Go IPO Consulting Services: Assists private Japanese companies with U.S. IPOs, including S-1/F-1 filings, with fees ranging from $380,000 to $900,000 plus warrants for 1-4% of client share capital[118][119][121] Sales, Marketing, and Customers - The company employs a direct sales force and channel partnerships, with a sales and marketing organization of 16 employees as of December 31, 2023[123][124] - Marketing strategy focuses on driving brand awareness and demand through community evangelism, digital events, and content marketing, utilizing a 'try-before-you-buy' approach[127][128] - The company has a large, diversified customer base across various industries, including well-known clients, and for 2023, three customers accounted for more than 10% of revenue[129][130][131] Competition and Growth Strategy - The company competes in a highly fragmented market against cloud-based marketing automation providers, RPA software providers, and large-scale enterprise suites, leveraging its integrated CXM platform and open architecture for DX solutions[138][142][148] - CXM Growth Strategy: Focuses on growing its customer base, increasing revenue from existing customers through upselling, expanding internationally, and pursuing selective acquisitions[162][164][165] - DX Growth Strategy: Aims to acquire new enterprise customers, expand within the existing customer base by deploying more software robots, grow its partner network, and invest in technology leadership[168][169][170] Corporate Information and Developments - The company was incorporated in Delaware on May 18, 2021, and conducts its principal activities through its wholly-owned Japanese subsidiary, HeartCore Co., Ltd., established in 2009[188] - The company closed its initial public offering on February 14, 2022, raising gross proceeds of $15.0 million, with its common stock trading on the Nasdaq Capital Market under the symbol "HTCR"[226] - In June 2022, the Board approved a $3.5 million share repurchase program, which was fully utilized by September 30, 2022, with 1,349,390 shares repurchased and subsequently retired[228][229][230] - On October 26, 2023, the company received a deficiency notice from Nasdaq for failing to maintain the $1.00 minimum bid price requirement, with a deadline of April 23, 2024, to regain compliance[231][232] - As of December 31, 2023, the company had 99 full-time employees and leases office space in Tokyo and Okinawa, Japan, as well as Fremont, CA, USA[236][238][240] Risk Factors The company faces significant risks related to competition, corporate governance, operations, technology, and legal and regulatory compliance - Business and Financial Risks: The company operates in a highly competitive industry, is a holding company dependent on its subsidiary for cash flow, and may require additional funding which could dilute shareholders[250][253][254] - Corporate Governance and Ownership Risks: The company is a "controlled company" as its CEO holds over 50% of the voting power, exempting it from certain Nasdaq governance rules, which may prevent minority stockholders from influencing corporate decisions[250][389][390] - Operational Risks: Success is highly dependent on customer renewals and expansion, and the business faces risks from the ongoing effects of the COVID-19 pandemic, potential delisting under the HFCA Act if its auditor cannot be inspected by the PCAOB, and challenges in managing rapid growth[250][257][263] - Technology and Security Risks: The business is susceptible to service interruptions from third-party data centers, software defects, and security breaches, where unauthorized access to customer data could lead to significant liabilities and reputational damage[252][329][341] - Legal and Regulatory Risks: The company is subject to extensive regulations, particularly concerning data privacy (e.g., CCPA, GDPR), and could face liability if its technology is found to infringe on the intellectual property rights of others[252][347][355] Cybersecurity The company is developing a comprehensive cybersecurity risk management program, overseen by executive management and the Board, to protect systems and data - The company is implementing a cybersecurity risk management program to protect confidential information and critical systems, which is integrated into its enterprise risk management[414][415] - Key components of the program include risk assessments, a dedicated security team, employee training, an incident response plan, and a vendor management policy[423] - Executive management, along with an IT service provider, is responsible for managing cybersecurity risks, while the Board of Directors provides oversight and receives periodic updates[416][418] Properties The company leases its corporate headquarters in Tokyo, Japan, and maintains additional leased office spaces in Okinawa, Tokyo, and Fremont, California Leased Office Properties | Location | Entity | Square Feet (approx.) | Lease End Date | | :--- | :--- | :--- | :--- | | Shinagawa-ku, Tokyo, Japan | Corporate HQ | 7,863 | September 2025 | | Naha-city, Okinawa, Japan | Office | 890 | August 2024 | | Chiyoda-ku, Tokyo, Japan | HeartCore Capital Advisors | 1,379 | June 2026 | | Fremont, CA, USA | Sigmaways, Inc. | 765 | December 2024 | Legal Proceedings The company is not currently involved in any legal proceedings expected to have a material adverse effect on its business or financial condition - From time to time, the company is involved in various legal proceedings arising from the normal course of business[246][425] - As of the report date, management believes there are no pending legal proceedings that would have a material adverse effect on the company's business or financial condition[246][425] Part II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities The company's common stock trades on Nasdaq, and it completed a $3.5 million share repurchase in 2022 while maintaining equity incentive plans for compensation - The company's common stock is listed on The Nasdaq Capital Market under the symbol "HTCR", with 20,842,690 shares outstanding as of December 31, 2023[429][430] - A share repurchase program authorized for up to $3.5 million was completed between June and September 2022, resulting in the repurchase of 1,349,390 shares at an average price of $2.59, which were subsequently retired[441][442][443] - The company has two equity incentive plans, the 2021 Plan and the 2023 Plan, authorizing shares for issuance to employees, directors, and contractors[432][439] Management's Discussion and Analysis of Financial Condition and Results of Operations For FY2023, revenues increased 147.7% to $21.8 million, driven by acquisitions and IPO consulting, resulting in a $4.9 million net loss and reduced cash position Results of Operations Comparison of Results of Operations (2023 vs. 2022) | Financial Metric | 2023 | 2022 | Change ($) | Change (%) | | :--- | :--- | :--- | :--- | :--- | | Total Revenues | $21,845,830 | $8,818,312 | $13,027,518 | 147.7% | | Gross Profit | $8,067,414 | $3,351,295 | $4,716,119 | 140.7% | | Gross Margin | 36.9% | 38.0% | - | -1.1 ppt | | Loss from Operations | ($4,119,355) | ($6,696,079) | $2,576,724 | -38.5% | | Net Loss | ($4,876,700) | ($6,677,466) | $1,800,766 | -27.0% | | Net Loss Attributable to HeartCore | ($4,189,890) | ($6,677,466) | $2,487,576 | -37.3% | - The 147.7% increase in total revenues was mainly driven by $8.8 million from customized software development services following the Sigmaways acquisition and a $4.8 million increase in GO IPO consulting services[466] - Selling expenses decreased by 46.4% to $1.5 million, primarily due to a $1.1 million reduction in advertising and investor relations expenses that were higher in 2022 following the company's IPO[472] - General and administrative expenses rose by 46.7% to $9.7 million, largely due to a $1.6 million increase in salaries and welfare from the Sigmaways acquisition and increased executive remuneration[476] - Net loss decreased by 27.0% to $4.9 million in 2023 from $6.7 million in 2022, reflecting higher revenues and gross profit that outpaced the growth in operating expenses[484] Liquidity and Capital Resources Key Balance Sheet and Cash Flow Data | Metric | Dec 31, 2023 | Dec 31, 2022 | | :--- | :--- | :--- | | Cash and Cash Equivalents | $1,012,479 | $7,177,326 | | Working Capital | ($1,016,662) | $4,887,444 | | Net Cash Used in Operating Activities | ($4,331,209) | ($4,808,547) | | Net Cash Used in Investing Activities | ($1,780,952) | ($12,200) | | Net Cash Provided by Financing Activities | $136,194 | $8,915,341 | - The significant decrease in cash was primarily due to the cash used for the acquisition of Sigmaways ($725k) and capital expenditures ($526k), combined with cash used in operations[491] - Net cash used in operating activities decreased slightly, mainly due to a lower net loss, offset by non-cash revenue from warrants received as part of consulting services[491][494] - Financing activities provided minimal cash in 2023, compared to 2022 which included $13.8 million in net proceeds from the initial public offering[493][495] Controls and Procedures As of December 31, 2023, management concluded that disclosure controls and internal control over financial reporting were ineffective due to a material weakness in accounting personnel - Management concluded that as of December 31, 2023, the company's disclosure controls and procedures were not effective[514] - A material weakness was identified due to a lack of sufficient financial reporting and accounting personnel with appropriate knowledge of U.S. GAAP and SEC reporting requirements[514] - Management's assessment concluded that the company's internal control over financial reporting was not effective as of December 31, 2023[517] Part III Directors, Executive Officers and Corporate Governance The company, led by CEO Sumitaka Yamamoto (50.9% ownership), operates as a Nasdaq-listed controlled company, exempt from certain governance rules, but maintains an independent Audit Committee - Sumitaka Yamamoto serves as Chairman of the Board, CEO, and President, with the board consisting of six directors[524][525] - The company is a "controlled company" because CEO Sumitaka Yamamoto beneficially owns approximately 50.9% of the voting power[389][539] - As a controlled company, it is exempt from and does not have a compensation committee or a nominating and corporate governance committee[540][547][548] - The Board has an Audit Committee composed of three independent directors: Ferdinand Groenewald (Chair), Heather Neville, and Koji Sato[542][543] Executive Compensation For FY2023, CEO Sumitaka Yamamoto's total compensation was $525,102, with executives having employment agreements and the company maintaining equity incentive plans and director compensation 2023 Summary Compensation for Named Executive Officers | Name and Position | Year | Salary ($) | Total ($) | | :--- | :--- | :--- | :--- | | Sumitaka Yamamoto (CEO) | 2023 | $525,102 | $525,102 | | Prakash Sadasivam (CSO) | 2023 | $316,000 | $316,000 | | Kimio Hosaka (COO) | 2023 | $159,102 | $159,102 | | Keisuke Kuno (CX VP) | 2023 | $145,831 | $145,831 | - The company has employment agreements with its executives that specify salary, benefits, and termination provisions, including severance payments for termination without "Cause" or resignation for "Good Reason"[570][575] - The company has a 2021 Equity Incentive Plan with 2,400,000 shares authorized and a 2023 Equity Incentive Plan with 2,000,000 shares authorized for granting various stock-based awards[605][650] - Non-employee directors receive an annual cash fee of $50,000, paid quarterly, with Audit Committee members receiving an additional $4,000 annually and the chair receiving an extra $3,000[599][600] Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters As of December 31, 2023, CEO Sumitaka Yamamoto beneficially owned 50.9% of common stock, with management and directors collectively owning 64.3%, and 2,004,330 shares available for future equity issuance Security Ownership of Major Shareholders and Management (as of Dec 31, 2023) | Name of Beneficial Owner | Shares Beneficially Owned | Percentage of Ownership | | :--- | :--- | :--- | | Sumitaka Yamamoto (CEO & Chairman) | 10,607,159 | 50.9% | | Prakash Sadasivam (CSO & Director) | 2,500,000 | 12.0% | | Daishin Yasui (5% Stockholder) | 2,325,425 | 11.2% | | All executive officers and directors as a group (9 persons) | 13,400,381 | 64.3% | - As of December 31, 2023, there were 2,004,330 securities remaining available for future issuance under the company's equity compensation plans[676][677] Certain Relationships and Related Transactions, and Director Independence The Audit Committee reviews related party transactions, including a $227,704 loan receivable from a CEO-controlled entity, and the Board has determined three of its six directors are independent - The Audit Committee is responsible for reviewing and approving all related party transactions[681] - The company has a loan receivable from Heartcore Technology Inc., an entity controlled by CEO Sumitaka Yamamoto, with an outstanding balance of $227,704 as of December 31, 2023, down from $294,919 in 2022[684][790] - The Board of Directors has determined that three of its six members (Ferdinand Groenewald, Heather Neville, and Koji Sato) are independent[686] Principal Accountant Fees and Services For FY2023, the company paid MaloneBailey, LLP $620,000 in total fees, including $560,000 for audit and $60,000 for audit-related services, all pre-approved by the Audit Committee Accountant Fees (MaloneBailey, LLP) | Fee Category | 2023 | 2022 | | :--- | :--- | :--- | | Audit Fees | $560,000 | $560,000 | | Audit-Related Fees | $60,000 | $0 | | Tax Fees | $0 | $0 | | All Other Fees | $0 | $0 | | Total | $620,000 | $560,000 | Part IV Exhibits and Financial Statement Schedules This section references the Index to Financial Statements and the Exhibit Index, detailing all exhibits filed as part of the annual report - This item refers to the financial statements beginning on page F-1 and the exhibits listed in the Exhibit Index[694]