Birchtech Corp. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and the related notes that appear elsewhere within this report. Certain statements we make under this Item 2 constitute “forward-looking statements” under the Private Securities Litigation Reform Act of 1995. See “Forward-Looking Statements” in “Part I” preceding “Item 1 – Financial Statements.” You should consider our forward-looking statements in light of the risks discussed under the heading “Risk Factors” in Item 1A of Part I of our Annual Report on Form 10-K for the year ended December 31, 2021, as well as our unaudited condensed consolidated financial statements, related notes and other financial information appearing elsewhere in this report and our other filings with the Securities and Exchange Commission. Overview Midwest Energy Emissions Corp. (the “Company”, “we”, “us” and “our”) is an environmental services and technologies company developing and delivering patented and proprietary solutions to the global power industry. Our leading-edge services have been shown to achieve mercury emissions removal at a significantly lower cost and with less operational impact to coal-fired power plants than currently used methods, while maintaining and/or increasing power plant output and preserving the marketability of byproducts for beneficial use. North America is currently the largest market for our technology. The U.S. EPA MATS (Mercury and Air Toxics Standards) rule requires that all coal and oil-fired power plants in the U.S., larger than 25MWs, must limit mercury in its emissions to below certain specified levels, according to the type of coal burned. Power plants were required to begin complying with MATS on April 16, 2015, unless they were granted a one-year extension to begin to comply. MATS, along with many state and provincial regulations, form the basis for mercury emission capture at coal fired plants across North America. Under the MATS regulation, Electric Generating Units (“EGUs”) are required to remove about 90% of the mercury from their emissions. We believe that we continue to meet the requirements of the industry as a whole and our technologies have been shown to achieve mercury removal levels compliant with all state, provincial and federal regulations at a lower cost and with less plant impact than our competition. As is typical in this market, we are paid by the EGU based on how much of our material is injected to achieve the needed level of mercury removal. Our current clients pay us as material is delivered to their facility. Clients will use our material whenever their EGUs operate, although EGUs are not always in operation. EGUs typically may not be in operation due to maintenance reasons or when the price of power in the market is less than their cost to produce power. Thus, our revenues from EGU clients will not typically be a consistent stream but will fluctuate, especially seasonally as the market demand for power fluctuates. The MATS regulation has been subject to legal challenge since being enacted. In June 2015, the U.S. Supreme Court held that the EPA unreasonably failed to consider costs in determining whether it is “appropriate and necessary” to regulate hazardous air pollutants, including mercury, from power plants, but left the rule in place. On remand, following the Supreme Court’s instructions to consider costs, the EPA in April 2016 issued a final supplemental finding reaffirming the MATS rule on the ground that it is supported by the cost analysis the Supreme Court required. That supplemental finding remains under review by the D.C. Circuit. In April 2017, the EPA asked the court to place that litigation in abeyance, stating that the Agency then under the Trump Administration was reviewing the supplemental finding to determine whether it should be reconsidered in whole or in part. The court granted the EPA’s abeyance request which has remained in place. In April 2020, the EPA concluded that the 2016 supplemental finding was flawed in part due to its reliance on co-benefits to justify MATS and withdrew EPA’s 2016 “appropriate-and-necessary” determination as erroneous, but left the 2011 MATS rule in place pursuant to D.C. Circuit case law holding that a source category may only be removed from the list of categories to be regulated through a rigorous delisting process that cannot currently be satisfied by the EPA. Upon taking office, the Biden Administration in January 2021 directed the EPA to review the previous Administration’s actions on various environmental matters including the withdrawal of the “appropriate and necessary” determination, for conformity with Biden Administration environmental policy. In February 2021, the Biden Administration requested that the judicial review of the supplemental finding withdrawal be held in abeyance which was granted by the court and remains in place. On January 31, 2022, the EPA issued a proposal to revoke the reconsideration step made by the EPA in April 2020 and affirm that it is appropriate and necessary to regulate hazardous pollutants for coal and oil-fired EGUs. Nevertheless, legal challenges may continue with respect to the MATS regulation which could extend uncertainty over the status of MATS for a number of years. Investors should note that any changes to the MATS rule could have a negative impact on our business. 5 Table of Contents We remain focused on positioning the Company for short and long-term growth, including focusing on execution at our customer sites and on continual operation improvement. We continue to make refinements to all of our key products, as we continue to focus on the customer and its operations. As part of our overall strategy, we have a number of initiatives which we believe will be able to drive our short and long-term growth. We continue to seek new utility customers for our technology in order for them to meet the MATS requirements as well as maintaining our contractual arrangements with our current customers. We also seek license agreements with utilities while allowing them to use our SEA® technologies without our supply of products. During 2021 and early 2022, we have announced various supply contract extensions, new supply business and license agreements. We expect additional supply business and license agreements during the remainder of 2022 and thereafter, including converting certain licensees to supply customers. On February 25, 2019, we were able to complete the restructuring of our unsecured and secured debt obligations held by AC Midwest Energy LLC extending the maturity dates of these debts until August 2022 which was recently extended to August 2025 (see below) and eliminating quarterly principal payment requirements. Pursuant thereto, AC Midwest was issued an unsecured note with a principal amount outstanding of $13.2 million which was issued on February 25, 2019 pursuant to an Unsecured Note Financing Agreement entered into on such date with AC Midwest, pursuant to which AC Midwest exchanged a previously issued subordinated unsecured note in the principal amount of $13.0 million, together with all accrued and unpaid interest thereon, for a new unsecured note in the principal amount of $13.2 million. The unsecured note, which is now scheduled to mature on August 25, 2025, bears a zero cash interest rate. Pursuant to the Unsecured Note Financing Agreement, AC Midwest shall also be entitled to a profit participation preference which was equal to 1.0 times the original principal amount but has recently been adjusted (see below). The profit share is “non-recourse” and shall only be derived from and computed on the basis of, and paid from, Net Litigation Proceeds from claims relating to the Company’s intellectual property, Net Revenue Share, Adjusted Free Cash Flow and Equity Offering Net Proceeds (as such terms are defined in the Unsecured Note Financing Agreement, as amended). In addition, there remains outstanding to AC Midwest a principal balance of approximately $272,000 due under a secured note issued on November 29, 2016, in the original principal amount of approximately $9.6 million which also has a maturity date of August 25, 2022 and recently extended to August 2025. The secured note bears interest at a rate of 15.0% per annum, payable quarterly, although the interest rate was recently reduced to 9.0% per annum. On October 28, 2022, we executed Amendment No. 1 to Unsecured Note Financing Agreement with AC Midwest pursuant to which the maturity date of the AC Midwest Unsecured Note was extended to August 25, 2025. In addition, the parties agreed that the Profit Share be increased by $4,500,000 from $13,154,931 (representing 1.0 times the original principal amount) to $17,654,931. In addition, on October 28, 2022, we executed Amendment No. 4 to the Amended and Restated Financing Agreement with AC Midwest pursuant to which the maturity date of the AC Midwest Secured Note was extended to August 25, 2025. In addition, the interest rate on the remaining principal balance was reduced from 15.0% to 9.0% per annum. In June 2021, we announced that we had entered into a Debt Repayment and Exchange Agreement (the “Debt Repayment Agreement”) with AC Midwest which was expected to repay all existing secured and unsecured debt obligations held by AC Midwest. Pursuant to such agreement, we were to repay the existing $272,000 principal amount outstanding under the secured note in cash as well as the existing $13.2 million principal amount outstanding under the unsecured note held by AC Midwest through a combination of cash and stock. The non-recourse profit share under the unsecured note was to have been satisfied through a combination of cash and stock. The closing was subject to various conditions including but not limited to the completion of an offering of equity securities resulting in net proceeds of at least $12.0 million by December 31, 2021, which was extended to June 30, 2022. Such closing conditions were not met by June 30, 2022. On October 28, 2022, the parties agreed to terminate the Debt Repayment Agreement with immediate effect pursuant to which none of the parties shall have any further responsibility or liability thereunder. From June through October 2019, we raised $2,600,000 in a private placement offering of 12.0% unsecured convertible promissory notes and warrants sold and issued to certain accredited investors. In February 2021, $50,000 of such principal was voluntarily converted into shares of common stock, and in June 2021, the remaining principal balance of $2,550,000 was voluntarily converted by the holders thereof into shares of common stock of the Company. In July 2019, we announced that we had initiated patent litigation against defendants in the U.S. District Court for the District of Delaware for infringement of certain patents which relate to our two-part Sorbent Enhancement Additive (SEA ® ) process for mercury removal from coal-fired power plants. Between July 2020 and January 2021, we entered into agreements with each of the four major utility defendants in the patent litigation commenced in 2019 which agreements included certain monetary arrangements and pursuant to which we have dismissed all claims brought against each of them and their affiliates, and such parties have withdrawn from petitions for Inter Partes Review with the U.S. Patent and Trademark Office. Such agreements entered into with such parties provide each of them and their affiliates with a non-exclusive license to certain Company patents (related to our two-part Sorbent Enhancement Additive (SEA ® ) process) for use in connection with such parties’ coal-fired power plants. One of the agreements has facilitated an ongoing business relationship with that party. The above-described proceedings are continuing with respect to the other parties involved. In May 2021, a U.S. District Court Magistrate Judge issued a report and recommendation that such litigation should be permitted to proceed against 16 refined coal defendants named in the action directly involved in the refined coal program and operations, and be dismissed against 12 other defendants, primarily affiliated entities of the refined coal operators. In September 2021, such report and recommendation was approved by the District Judge for the United States District Court for the District of Delaware which will allow us to proceed against certain refined coal entities named in the lawsuit. As a result of an application made by the Company to the Court in March 2022 to add additional parties to the action (all affiliated entities of the already named defendants), there are now 24 refined coal defendants named in the action. In connection with such application, the District Court Magistrate Judge ruled in April 2022 that certain parties could be added but denied the application with respect to certain others. The fact discovery portion of the litigation has concluded. A jury trial date has been scheduled for September 2023. 6 Table of Contents During the first quarter of 2021, we announced new technologies under development intended to improve the processing of rare earth elements (REEs) in North America. Such technologies were under development in conjunction with our collaboration with an Alabama third party entity and its affiliates and pursuant to a license and development agreement entered into in October 2019. In October 2022, such license and development agreement expired and has not been extended or renewed. Prior to expiration, such technologies were being evaluated and tested but had not yet been commercialized. We plan to evaluate and test other related technologies for the extracting of REEs from their solvent state which we have developed and do not involve any of the technologies subject to the expired license and development agreement. In addition to the $2.6 million in convertible notes which were converted into shares of common stock in the first and second quarters as described above, during the first quarter of 2021, we eliminated $1,830,000 of other convertible notes originally issued in 2013 and 2018 through conversions to shares of common stock. During the third quarter of 2021, we issued 20,000 shares of common stock to a certain holder of notes issued in 2013 for the conversion of outstanding principal in the amount of $10,000 and prepaid the outstanding principal balance of another of such notes issued in 2013 in the principal amount of $10,000. As a result, there are no convertible notes currently outstanding. Although we face a host of challenges and risks, we are optimistic about our future and expect our business to grow substantially. Effects of the COVID-19 Pandemic It should be noted that the coronavirus (COVID-19) pandemic has impacted various businesses throughout the world since early 2020, including travel restrictions and the extended shutdown of certain businesses in impacted geographic regions. During this time, we have continued to conduct our operations while responding to the pandemic with actions to mitigate adverse consequences to our employees, business, supply chain and customers. Nevertheless, the duration and scope of the COVID-19 pandemic continues to be uncertain. In view of such uncertainty, disruptions to our business could still occur including, but not limited to, the availability of raw materials and equipment, and disruptions to our workforce, or to our business relationships with other third parties. Results of Operations Revenues We generated revenues of approximately $7,486,000 and $5,020,000 for the three months ended September 30, 2022 and 2021, respectively and approximately $15,956,000 and $10,317,000 for the nine months ended September 30, 2022 and 2021, respectively. Such revenues were primarily derived from sorbent product sales which were approximately $7,383,00 and $4,688,000 for the three months ended September 30, 2022 and 2021, respectively and approximately $15,372,000 and $8,780,000 for the nine months ended September 30, 2022 and 2021, respectively. The increase in revenues from prior year period is primarily driven by increased sorbent product sales due to the increased supply demands in the coal-fired market as well as expansion of our customer base. Costs and Expenses Total costs and expenses were approximately $6,917,000 and $5,226,000 during the three months ended September 30, 2022 and 2021, respectively and approximately $16,892,000 and $12,671,000 during the nine months ended September 30, 2022 and 2021, respectively. The increase in total costs and expenses from the prior year periods is primarily attributable to the increase in cost of sales due primarily to increased sales, offset by a decrease in interest expense. In addition, there was a gain on extinguishment of debt recognized in the nine months ended September 30, 2021 in the approximate amount of $299,000, for which there was not a comparable item recognized in the current year. Cost of sales were approximately $5,105,000 and $3,241,000 for the three months ended September 30, 2022 and 2021, respectively and approximately $10,810,000 and $6,221,000 for the nine months ended September 30, 2022 and 2021, respectively. The year to date increase in cost of sales is primarily attributable to increased sales. Selling, general and administrative expenses were approximately $1,325,000 and $1,342,000 for the three months ended September 30, 2022 and 2021, respectively and approximately $4,286,000 and $4,060,000 for the nine months ended September 30, 2022 and 2021, respectively. 7 Table of Contents Interest expense related to the financing of capital was approximately $318,000 and $507,000 for the three months ended September 30, 2022 and 2021, respectively and approximately $1,320,000 and $2,302,000 for the nine months ended September 30, 2022 and 2021, respectively. The decrease is due to the 2021 stock conversion incentives provided to certain notes and accelerated interest expense upon conversion of notes, partially offset by the reduced interest on the notes payable as notes were converted to stock as well as the unsecured note reaching its original maturity of August 25, 2022. The breakdown of interest expense for the three and nine months ended September 30, 2022 and 2021 is as follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 (In thousands) (In thousands) Interest expense on notes payable $ 15 $ 13 $ 37 $ 265 Accelerated interest expense upon conversion of notes - - - 343 Additional interest upon conversion of notes - - - 221 Amortization of discount of notes payable 285 463 1,204 1,382 Amortization of debt issuance costs 18 31 79 91 $ 318 $ 507 $ 1,320 $ 2,302 Loss on change in fair value of profit share liability (relating to the restructured unsecured debt obligation held by AC Midwest Energy LLC) were approximately $168,000 and $476,000 for the three and nine months ended September 30, 2022, respectively. The change is primarily attributed to an increase in the fair value of the profit share liability. There were no significant changes to the underlying model during the three and nine months ended September 30, 2022. Loss on change in fair value of profit share liability (relating to the restructured unsecured debt obligation held by AC Midwest Energy LLC) were approximately $137,000 and $387,000 for the three and nine months ended September 30, 2021, respectively. The change is primarily attributed to an increase in the fair value of the profit share liability. There were no significant changes to the underlying model during the three and nine months ended September 30, 2021. Gain on forgiveness of debt of $299,300 relates to the loan proceeds we received in April 2020 pursuant to the Paycheck Protection Program (“PPP”) under the CARES Act. Such loan was forgiven in January 2021 pursuant to the applicable PPP requirements. Net Income (Loss) For the three months ended September 30, 2022 and 2021, we had net income of approximately $569,000 and a net loss $207,000, respectively. Such change was primarily due to an increase in sales and a decrease in interest expense. For the nine months ended September 30, 2022 and 2021, we had a net loss of approximately $935,000 and $2,354,000, respectively. Such change was primarily due to an increase in sales and a decrease in interest expense. Liquidity and Capital Resources We had approximately $1,257,000 in cash on our balance sheet at September 30, 2022 compared to approximately $1,388,000 at December 31, 2021. Total current assets were approximately $6,078,000 and total current liabilities were approximately $3,891,000 at September 30, 2022, resulting in working capital of approximately $2,187,000. This compares to total current assets of approximately $3,791,000 and total current liabilities of approximately $15,483,000 at December 31, 2021, resulting in a working capital deficit of approximately $11,692,000. Our accumulated deficit was approximately $68.1 million at September 30, 2022 compared to $67.1 million at December 31, 2021. Additionally, we had a net loss in the amount of approximately $935,000 and cash used in operating activities of approximately $357,000 for the nine months ended September 30, 2022. 8 Table of Contents As reflected in the condensed consolidated financial statements, we had approximately $1.3 million in cash at September 30, 2022. In addition, we had cash used in operating activities of $0.4 million for the nine months ended September 30, 2022, had working capital of $2.2 million and an accumulated deficit of $68.1 million at September 30, 2022, and had a net loss in the amount of approximately $0.9 million for the nine months ended September 30, 2022. At September 30, 2022, all existing secured and unsecured debt held by our principal lender, excluding the profit share liability, in the principal amount of approximately $12.9 million was scheduled to mature on October 31, 2022. The accompanying condensed consolidated financial statements as of September 30, 2022 have been prepared assuming we will continue as a going concern. On October 28, 2022, our principal lender agreed to extend the maturity date of all of its existing secured and unsecured debt in the principal amount of approximately $12.9 million from October 31, 2022 to August 25, 2025. As a result, such liabilities have been reclassified as long-term liabilities in the condensed consolidated financial statements as of September 30, 2022. Based upon such extension of the maturity date of such secured and unsecured debt, our current cash position and our recent revenue growth, management believes substantial doubt regarding our ability to continue as a going concern has been mitigated. We believe the Company will have sufficient working capital to fund operations for at least the next twelve months from the date of issuance of these financial statements. Total Assets Total assets were approximately $9,987,000 at September 30, 2022 versus approximately $8,135,000 at December 31, 2021. The change in total assets is primarily attributable to an increase in accounts receivable. Total Liabilities Total liabilities were approximately $20,176,000 at September 30, 2022 versus approximately $18,374,000 at December 31, 2021. The increase is primarily due to an increase in accounts payable and accrued expenses, together with an increase in outstanding debt as a result of the amortization of discount and issuance costs and new $250,000 short term loan obtained in the second quarter of 2022 from a related party. Operating Activities Net cash used in operating activities consists of net loss, adjusted by certain non-cash items, and changes in operating assets and liabilities. Net cash used in operating activities was approximately $368,000 for the nine months ended September 30, 2022 compared to net cash used in operating activities of approximately $306,000 for the nine months ended September 30, 2021. Investing Activities Net cash used in investing activities was approximately $11,000 for the nine months ended September 30, 2022 due to the purchase of property and equipment. There was no net cash provided or used in investing activities for the nine months ended September 30, 2021. 9 Table of Contents Financing Activities Net cash provided by financing activities was approximately $247,000 for the nine months ended September 30, 2022 compared to net cash provided by financing activities of approximately $581,000 for the nine months ended September 30, 2021. During the nine months ended September 30, 2022, we received a $250,000 short term loan from a related party. During the nine months ended September 30, 2021, we received $299,000 from the issuance of a note pursuant to a Second PPP Loan we received under the CARES Act and $247,000 from the exercise of warrants. Critical Accounting Policies and Estimates For detailed information regarding our critical accounting policies and estimates, see our financial statements and notes thereto included in this Report and in our Annual Report on Form 10-K for the year ended December 31, 2021. There have been no material changes to our critical accounting policies and estimates from those disclosed in our most recent Annual Report on Form 10-K. Non-GAAP Financial Measures Adjusted EBITDA To supplement our consolidated financial statements presented in accordance with GAAP and to provide investors with additional information regarding our financial results, we consider and are including herein Adjusted EBITDA, a Non-GAAP financial measure. We view Adjusted EBITDA as an operating performance measure and, as such, we believe that the GAAP financial measure most directly comparable to it is net income (loss). We define Adjusted EBITDA as net income adjusted for interest and financing fees, income taxes, depreciation, amortization, stock based compensation, and other non-cash income and expenses. We believe that Adjusted EBITDA provides us an important measure of operating performance because it allows management, investors, debtholders and others to evaluate and compare ongoing operating results from period to period by removing the impact of our asset base, any asset disposals or impairments, stock based compensation and other non-cash income and expense items associated with our reliance on issuing equity-linked debt securities to fund our working capital. 10 Table of Contents Our use of Adjusted EBITDA has limitations as an analytical tool, and this measure should not be considered in isolation or as a substitute for an analysis of our results as reported under GAAP, as the excluded items may have significant effects on our operating results and financial condition. Additionally, our measure of Adjusted EBITDA may differ from other companies’ measure of Adjusted EBITDA. When evaluating our performance, Adjusted EBITDA should be considered with other financial performance measures, including various cash flow metrics, net income and other GAAP results. In the future, we may disclose different non-GAAP financial measures in order to help our investors and others more meaningfully evaluate and compare our future results of operations to our previously reported results of operations. The following table shows our reconciliation of net loss to adjusted EBITDA for the three and nine months ended September 30, 2022 and 2021, respectively: For the Three Months Ended For the Nine Months Ended September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 (In thousands) (In thousands) Net income (loss) $ 569 $ (207 ) $ (935 ) $ (2,354 ) Non-GAAP adjustments: Depreciation and amortization 62 63 175 210 Interest 318 507 1,320 2,302 Change in fair value of profit share 169 137 476 387 Gain on extinguishment of debt - - - (299 ) Stock based compensation 47 197 497 453 Adjusted EBITDA $ 1,165 $ 697 $ 1,533 $ 698 Item 3. Quantitative and Qualitative Disclosures about Market Risk. We are a smaller reporting company as defined by Rule 12b-2 of the Securities Exchange Act of 1934 and are not required to provide the information under this item. 11 Table of Contents