Intellicheck, Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (All dollar amounts are rounded to thousands, except shares and per share data) References made in this Quarterly Report on Form 10-Q to “we,” “our,” “us,” “Intellicheck,” or the “Company,” refer to Intellicheck, Inc. The following discussion and analysis of our financial condition and results of operations constitutes management’s review of the factors that affected our financial and operating performance for the six-month period ended June 30, 2022. This discussion should be read in conjunction with the financial statements and notes thereto contained elsewhere in this report and in our Annual Report on Form 10-K/A for the year ended December 31, 2021. Overview We are a prominent technology company that is engaged in developing, integrating and marketing identity authentication and threat identification solutions to address challenges that include bank and retail fraud prevention, law enforcement threat identification, and mobile and handheld access control and security for the government, military and commercial markets. Critical Accounting Policies and the Use of Estimates The preparation of our financial statements in conformity with accounting principles generally accepted in the United States (“GAAP”) requires management to make estimates and assumptions that affect the amounts reported in our financial statements and accompanying notes. Significant estimates and assumptions that affect amounts reported in the financial statements include impairment consideration and valuation of goodwill and intangible assets, deferred tax valuation allowances, allowance for doubtful accounts, revenue recognition (including breakage revenue), and the fair value of stock options under our equity compensation plans. Due to the inherent uncertainties involved in making estimates, actual results reported in future periods may be different from those estimates. We believe that there are several accounting policies that are critical to understanding our historical and future performance, as these policies affect the reported amounts of revenue and the more significant areas involving management’s judgments and estimates. These significant accounting policies relate to revenue recognition, equity compensation, deferred taxes, goodwill and intangible asset valuation and impairment, and commitments and contingencies. These policies and our procedures related to these policies are summarized below and described in further detail in the Notes to Financial Statements. Goodwill The excess of the purchase consideration over the fair value of the assets of acquired businesses is considered goodwill. Under authoritative guidance, purchased goodwill is not amortized, but rather it is periodically reviewed for impairment. We had goodwill of $8,102 as of June 30, 2022. For the year ended December 31, 2021, the Company performed its annual impairment test of goodwill in the fourth quarter. Under authoritative guidance, the Company can use industry and Company specific qualitative factors to determine whether it is more likely than not that impairment exists before performing step one of the quantitative goodwill impairment test. An entity is not required to calculate the fair value of a reporting unit unless the entity determines, based on a qualitative assessment, that it is more likely than not that its fair value is less than its carrying amount. Events or changes in circumstances which could trigger an impairment review include macroeconomic conditions, industry and market conditions, cost factors, overall financial performance, other entity specific events and sustained decrease in share price. We determined that no events occurred or circumstances changed during the six months ended June 30, 2022 that would more likely than not reduce the fair value of the Company below its carrying amounts. We will, however, continue to monitor our stock price and operations for any potential indicators of impairment. We will conduct the 2022 annual test for goodwill impairment in the fourth quarter, or at such time where an indicator of impairment appears to exist. 20 Intangible Assets Our intangible assets consist of patents and a software license. We determined that no events occurred, or circumstances changed during the six months ended June 30, 2022 that would more likely than not reduce our intangible assets below our carrying amounts. We will, however, continue to monitor any potential indicators of impairment. See Note 4, “Intangible Assets,” in the Notes to Financial Statements for details on the company’s intangible assets. Revenue Recognition and Deferred Revenue Most license fees and service revenues are generated from a combination of fixed-price and per-scan contracts. Under the per-scan revenue model, customers are charged a fee each time the customer scans an identity document, such as a driver’s license, with our software. Under the fixed-price revenue model customers are charged a fixed monthly fee either per device or physical business location to access our software. In certain instances, customization services are determined to be essential to the functionality of the delivered software. Under Accounting Standards Codification (“ASC”) 606, “Revenue from Contracts with Customers,” revenue is recognized when a customer obtains control of promised goods or services in an amount that reflects the consideration expected to be received in exchange for those goods or services. We measure revenue based on the consideration specified in a customer arrangement, and revenue is recognized when the performance obligations in an arrangement are satisfied. The Company adopted an additional revenue model where customers purchase a predetermined number of transactions for the term of the contract, where revenue for these transactions is recognized on a per transaction basis. The Company estimates the number of transactions that will be unused by the end of each contract period and recognized a portion of that revenue as breakage revenue each reporting period. Reference Note 2, “Significant Accounting Policies,” in the Notes to Financial Statements for additional details on the company’s recognized and deferred revenue. Equity Compensation We account for the issuance of equity awards to employees in accordance with ASC 718, “Compensation – Stock Compensation”, which requires that the cost resulting from all equity payment transactions be recognized in the financial statements. This pronouncement establishes fair value as the measurement objective in accounting for equity payment arrangements and requires all companies to apply a fair value-based measurement method in accounting for all equity payment transactions with employees. Reference Note 8, “Equity Compensation,” in the Notes to Financial Statements for details on the company’s equity compensation plans. Reference Note 2, “Significant Accounting Policies,” for a discussion of the 2021 equity compensation accounting oversights and remediations. Deferred Income Taxes Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and net operating loss carry forwards. Deferred tax assets and liabilities are measured using expected tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. We have recorded a full valuation allowance for our net deferred tax assets as of June 30, 2022, due to the uncertainty of our ability to realize those assets. Reference Note 7, “Income Taxes,” in the Notes to Financial Statements for details on the company’s income taxes. Commitments and Contingencies We are not currently involved in any legal or regulatory proceeding, or arbitration, the outcome of which is expected to have a material adverse effect on our business. The above listing is not intended to be a comprehensive list of all of our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by generally accepted accounting principles, with no need for management’s judgment in their application. There are also areas in which management’s judgment in selecting any available alternative would not produce a materially different result. 21 Results of Operations (All dollar amounts are rounded to thousands, except shares and per share data) COMPARISON OF THE THREE MONTHS ENDED JUNE 30, 2022 TO THE THREE MONTHS ENDED JUNE 30, 2021 Revenues for the three months ended June 30, 2022 decreased $789, or 16%, to $4,008 compared to $4,797 for the same period of 2021. The decrease in revenues is primarily the result of lower equipment revenues in the current period. Excluding equipment sales, revenues for the three months ended June 30, 2022 increased $556, or 16%, compared to the same period of 2021. SaaS revenue, which consists of software licensed on a subscription basis, increased $694 or 21% to $3,928 for the three months ended June 30, 2022 compared to $3,234 for the same period of 2021. Gross profit increased $316, or 9%, to $3,644 for three months ended June 30, 2022 from $3,328 for the same period of 2021. Our gross profit, as a percentage of revenues, was 91% and 69% for the three months ended June 30, 2022 and 2021, respectively. The increase in gross profit percentage is primarily due to lower equipment revenues in the current period. Excluding equipment sales, our gross profit as a percentage of revenues was 93% for both quarters ended June 30, 2022 and 2021. Operating expenses, which consist of selling, general and administrative and research and development expenses, increased $577, or 14%, to $4,742 for the three months ended June 30, 2022 compared to $4,165 for the same period of 2021. The increase in operating expenses was driven by higher personnel expenses, professional fees and marketing expenses. As a result of the factors noted above, the Company had a net loss of $1,098 for the three months ended June 30, 2022 as compared to a net loss of $836 for the three months ended June 30, 2021. COMPARISON OF THE SIX MONTHS ENDED JUNE 30, 2022 TO THE SIX MONTHS ENDED JUNE 30, 2021 Revenues for the six months ended June 30, 2022 decreased $257, or 3%. to $7,403 compared to $7,660 for the same period of 2021. The decrease in revenues in the six months ended June 30, 2022 is primarily the result of lower equipment revenues in the six months ended June 30, 2022 compared to the same period of 2021. Excluding equipment sales, revenues for the six months ended June 30, 2022 increased $1,088 or 18%, compared to the same period of 2021. SaaS revenue increased $1,272 or 21% to $7,281 for the six months ended June 30, 2022 compared to $6,009 for the same period of 2021. Gross profit increased by $752, or 13%, to $6,723 for six months ended June 30, 2022 from $5,971 for same period of 2021.Our gross profit, as a percentage of revenues, was 91% and 78% for the six months ended June 30, 2022 and 2021, respectively. The increase in gross profit as a percentage of revenues was due to the lower sales of equipment, which have lower gross profit margins, in the first six months of 2021. Excluding equipment sales, our gross profit as a percentage was 92% and 93% for the six months ended June 30, 2022 and 2021, respectively. Operating expenses, which consist of selling, general and administrative and research and development expenses, decreased $2,158 or 19% to $9,289 for the six months ended June 30, 2022 compared to $11,447 for the six months ended June 30, 2021. This decrease is primarily due to lower equity compensation expenses in the current period, driven by the liability award reclassification adjustments recorded during the first six months of 2021. During the six months ended June 30, 2021, the Company recorded a $10 gain on the forgiveness of an unsecured promissory note. As a result of the factors noted above, the Company incurred a net loss of $2,566 for the six months ended June 30, 2022 compared to a net loss of $5,461 for the six months ended June 30, 2021. 22 Liquidity and Capital Resources As of June 30, 2022, we had cash and cash equivalents of $11,957, working capital (defined as current assets minus current liabilities) of $9,121, total assets of $24,194 and stockholders’ equity of $18,360. During the six months ended June 30, 2022, we used net cash of $1,538 in operating activities as compared to net cash used of $1,075 in the six months ended June 30, 2021. Cash used in investing activities was $156 for the six months ended June 30, 2022 compared to cash used in investing activities of $182 for the six months ended June 30, 2021. Cash generated by financing activities was zero for the six months ended June 30, 2022 compared to cash generated by financing activities of $76 for the six months ended June 30, 2021. We are closely monitoring the impact of the COVID-19 pandemic on all aspects of our business and including how it may impact our customers, employees and vendors. We did incur disruptions during the year ended December 31, 2021 from COVID-19 and we are unable to predict the impact that this pandemic will have on us going forward, including our financial position, results of operations and cash flows, the impact on our customers and the related demand for our services due to numerous uncertainties. We currently anticipate that our available cash, expected cash from operations and availability under the revolving line of credit, will be sufficient to meet our anticipated working capital and capital expenditure requirements for at least the next 12 months from the date of filing. Reference Note 5, “Debt,” in the Notes to Financial Statements for details on the Company’s revolving line of credit. We keep the option open to raise additional funds to respond to business contingencies which may include the need to fund more rapid expansion, fund additional marketing expenditures, develop new markets for our technology, enhance our operating infrastructure, respond to competitive pressures, or acquire complementary businesses or necessary technologies. There can be no assurance that we will be able to secure the additional funds when needed or obtain such on terms satisfactory to us, if at all. The specific terms of any future offering, including the prices and use of proceeds, will be determined at the time of any such offering and will be described in detail in a prospectus supplement which will be filed with the SEC at the time of the offering. We are not currently involved in any legal or regulatory proceeding, or arbitration, the outcome of which is expected to have a material effect on our business. Net Operating Loss Carry Forwards Our available net operating loss (“NOL”) at December 31, 2021 was approximately $18.0 million. The federal and state NOLs are available to offset future taxable income and begin to expire in 2021. Adjusted EBITDA We use Adjusted EBITDA as a non-GAAP financial performance measurement. Adjusted EBITDA is calculated by adjusting net loss for certain items such gains on debt forgiveness and other income and certain addbacks such as income taxes, depreciation, amortization and equity compensation expenses. Adjusted EBITDA is provided to investors to supplement the results of operations reported in accordance with GAAP. Management believes that Adjusted EBITDA provides an additional tool for investors to use in comparing our financial results with other companies that also use Adjusted EBITDA in their communications to investors. By excluding non-cash charges such as impairments of long-lived assets and goodwill, amortization, depreciation and equity compensation, as well as non-operating charges for interest and income taxes, investors can evaluate our operations and can compare the results on a more consistent basis to the results of other companies. In addition, Adjusted EBITDA is one of the primary measures management uses to monitor and evaluate financial and operating results. We consider Adjusted EBITDA to be an important indicator of our operational strength and performance of our business and a useful measure of our historical operating trends. However, there are significant limitations to the use of Adjusted EBITDA since it excludes gains on debt forgiveness, other income, impairments of long-lived assets and goodwill, and equity compensation, all of which impact our profitability, as well as depreciation and amortization related to the use of long-term assets which benefit multiple periods. We believe that these limitations are compensated by providing Adjusted EBITDA only with GAAP net loss and clearly identifying the difference between the two measures. Consequently, Adjusted EBITDA should not be considered in isolation or as a substitute for net loss presented in accordance with GAAP. Adjusted EBITDA as defined by us may not be comparable with similarly named measures provided by other entities. 23 A reconciliation of GAAP net loss to Non-GAAP Adjusted EBITDA follows: (Unaudited) Three Months Ended Six Months Ended June 30, June 30, 2022 2021 2022 2021 Net loss $ (1,098 ) $ (836 ) $ (2,566 ) $ (5,461 ) Reconciling items: Gain on forgiveness of unsecured promissory note - - - (10 ) Interest and other income - (1 ) - (5 ) Depreciation and amortization 69 41 139 84 Equity compensation including liability classified awards 446 749 1,038 5,294 Adjusted EBITDA $ (583 ) $ (47 ) $ (1,389 ) $ (98 ) Off-Balance Sheet Arrangements We have never entered into any off-balance sheet financing arrangements and have not established any special purpose entities. We have not guaranteed any debt or commitments of other entities or entered into any options on non-financial assets. Forward Looking Statements This document contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, particularly statements anticipating future growth in revenues, loss from operations and cash flow. Words such as “anticipates,” “estimates,” “expects,” “projects,” “intends,” “plans,” “believes” and words and terms of similar substance used in connection with any discussion of future operating or financial performance identify forward-looking statements. These forward-looking statements are based on management’s current expectations and beliefs about future events. As with any projection or forecast, they are inherently susceptible to uncertainty and changes in circumstances, and the Company is under no obligation to, and expressly disclaims any obligation to, update or alter its forward-looking statements whether as a result of such changes, new information, subsequent events or otherwise. Item 3. Quantitative and Qualitative Disclosures About Market Risk Financial instruments, which subject us to concentrations of credit risk, consist primarily of cash and cash equivalents. We maintain cash and cash equivalents in two financial institutions and perform periodic evaluations of the relative credit standing of these institutions. 24