Resonate Blends, Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Statements Certain statements, other than purely historical information, including estimates, projections, statements relating to our business plans, objectives, and expected operating results, and the assumptions upon which those statements are based, are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements generally are identified by the words “believes,” “project,” “expects,” “anticipates,” “estimates,” “intends,” “strategy,” “plan,” “may,” “will,” “would,” “will be,” “will continue,” “will likely result,” and similar expressions. We intend such forward-looking statements to be covered by the safe-harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 and are including this statement for purposes of complying with those safe-harbor provisions. Forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties which may cause actual results to differ materially from the forward-looking statements. Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Actual results may differ materially from these expectations due to uncertainties related to the successful completion of our acquisition of Pegasus Specialty Vehicles, LLC, or our failure to complete such acquisition; the impact of the pendency of our acquisition on our business and operations; the timing and expected financing and the merger; the possibility that any or all of the various conditions to the consummation of the merger may not be satisfied or waived in a timely manner, if at all; the possibility of business disruptions due to transaction-related uncertainty; and the occurrence of any event, change or other circumstance that could give rise to the termination of the merger agreement. Other factors which could have a material adverse effect on our operations and future prospects on a consolidated basis include but are not limited to changes in economic conditions, legislative/regulatory changes, availability of capital, interest rates, competition, and generally accepted accounting principles. These risks and uncertainties should also be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. We undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise. Further information concerning our business, including additional factors that could materially affect our financial results, is included herein and in our other filings with the SEC, including the risks and uncertainties identified under the heading “Risk Factors” in the Company’s most recent Annual Report on Form 10-K. Overview Our History and Experience in the Cannabis Space On October 25, 2019, we announced our entry into the cannabis industry by acquiring Resonate Blends LLC (“Resonate Blends”), a California-based cannabis wellness lifestyle product company built on a proprietary system of experiential targets. Resonate Blends is a brand-focused cannabis organization offering premium brands of consistent quality. We also acquired Entourage Labs LLC (“Entourage Labs”), a sister company of Resonate Blends. Entourage Labs is the Intellectual Property (IP) subsidiary of Resonate Blends. For the first two years, we concentrated on releasing product and brand building in California and investigated state expansion efforts as well. Resonate followed the launch of its first six Koan products, based on The Resonate System, by releasing “Love” in Q1-2022 and “Sleep” Cordials in Q2-2022. To address the price sensitivity of the market, Resonate also produced multi-serve versions of our most popular Cordials which significantly reduced the cost per serving. The Resonate products were designed for the discriminating wellness— focused consumer and that market has been slower to develop than anticipated. The current buyers of cannabis products seem interested in purchasing the highest level of THC for the least amount of money. While we have won awards for our Koan Cordial brand, such as the LMCC award for “Best New Brand of 2021” and also a Cannabis Clio Award for “Packaging and Design”, the current environment in California has made it difficult to scale our business opportunities in a challenging market environment. Burdens such as overregulation, high taxes, price compression, the growth of the illicit market and the overpopulation of dispensaries in some areas, and no dispensaries in other areas – have made it difficult for many brands in California to succeed. 4 The legal cannabis industry Itself is laden with obstacles. There are significant restrictions on marketing activities and excessively high banking fees for compliant financial institutions. Layer upon layer of taxes raise prices of legal cannabis products so that they become cost prohibitive for customers. Many of the California dispensaries are in financial trouble and are unable to pay for the products that they have purchased. The distributor therefore prevents those accounts from ordering additional products. These and other constraints have made it difficult to build a successful business in the cannabis industry at this time. The cannabis industry is still in its infancy, so we expect continued headwinds. We recently pivoted to the cannabis consumption lounges for new revenue traction. These lounges are becoming popular in California, and we’ve teamed with several new lounges to introduce our six (6) Cordial blends into this new environment. The Company’s growth strategy is to create an innovative ecosystem of companies, investments and research that all support The Resonate System and its mission of empowering the wellness market. We have a product line of Cordials and have introduced our brand and products to the market through dispensaries in California and now into cannabis consumption lounges. Although we have had some success in establishing our presence in the California market, as of the date of this filing, we have not achieved significant revenues. We have a working capital deficit of $2,118,418 as of September 30, 2023, and we are wholly dependent on capital to fund our business operations. For these reasons, there are no assurances that we will be successful in this or any of our endeavors or become financially viable and continue as a going concern. Since late 2019, we have been attempting to raise money to implement our business plan but have not been able to secure all the funds necessary to do so. The lack of sufficient funds, the present economy, the restrictions on commercial banking and the saturated nature of the cannabis industry have prevented this from happening. We have recently relied on convertible loans for working capital expenses. These loans were mostly on unfavorable terms, such as discounted conversion rights, original discounts, equity incentives and restrictive covenants. As we have been unable to raise the capital necessary to fully implement our business plan, we recently commenced a search for other business opportunities that may benefit our shareholders and allow us to raise capital to build a stronger operation. The Merger Agreement with Pegasus Specialty Vehicles, LLC Recent negotiations with what we believe is a more viable business opportunity for the holding company has emerged. On June 20, 2023, we entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Pegasus Specialty Vehicles, LLC (“Pegasus”), and Pegasus Specialty Holdings LLC, an Ohio limited liability company and our wholly-owned subsidiary (“Merger Sub”). The Merger Agreement provides that at the closing (the “Closing”), subject to the terms and conditions set forth in the Merger Agreement, Merger Sub will merge with and into the Company (the “Merger”), with Pegasus surviving the Merger as a wholly-owned subsidiary of our company. At Closing of the Merger, the issued and outstanding common shares of Pegasus will automatically be converted into the right to receive an aggregate of 623,500 shares of Series AA Preferred Stock of Parent (the “Merger Consideration”). Each of our company, Pegasus, and Merger Sub has made various representations and warranties and agreed to certain covenants in the Merger Agreement, including a covenant by us that we would raise $3,000,000 less costs in new financing at Closing, with $500,000 of such amount less costs loaned pre-Closing to Pegasus under a secured promissory note. Pegasus has a covenant that it would grant a security interest to us in all of its assets on the $500,000 loan, subordinate to other security interests as to the same collateral. Consummation of the Merger is subject to the satisfaction or, if permitted by applicable law, waiver, by us, Pegasus, or both of various conditions. For Pegasus, these conditions include, without limitation, (i) an agreeable plan to spin out the existing cannabis assets and operations, (ii) an agreeable plan to transfer the outstanding shares of Series C Preferred Stock of our company to Brian Barrington simultaneously to the date of the aforementioned spin-out; (iii) an agreeable plan to retire the Series E Designation; (iv) financing by us of $3,000,000 less costs; (v) the filing of the Certificate of Designation for the Series AA Preferred Stock with the Secretary of State of Nevada; and (vi) certain other customary conditions. For us, these conditions include, without limitation, (i) a secured promissory note issued by Pegasus to us in the amount of $500,000 with the collateral being a UCC lien subordinate to other lenders; (ii) the payback by us of certain advances contributed by corporate officers and others in our company in an amount not to exceed $140,000; (iii) resolutions of the equity holders of Pegasus approving the Merger Agreement and the transactions contemplated; and (iv) certain other customary conditions. 5 The Merger Agreement contains certain termination rights including the right of the parties to mutually agree upon termination, and by each of Pegasus and our company unilaterally if the other party has committed a violation of the covenants, representations and warranties in the Merger Agreement. The Merger Agreement, the Merger, and the transactions contemplated thereby were unanimously approved by the board of directors of our company, and unanimously approved by the board of directors of Pegasus and Merger Sub. The Closing of the Merger is expected to occur as soon as practicable after the satisfaction or waiver of all the conditions to Closing in the Merger Agreement, which is currently expected to be in the 4th quarter of calendar year 2023. Also on June 20, 2023, we signed a Securities Purchase Agreement (the “Purchase Agreement”) with an accredited investor (the “Investor”), pursuant to which we issued and sold to the Investor a 15% OID Senior Promissory Note (non-convertible), dated June 20, 2023, in the principal amount of $575,000 (the “Note”). The Note is secured by all of Pegasus’ assets under a separate security agreement between the Investor and Pegasus. We received $500,000 from the Note after applying the original issue discount to the Note, $30,000 of which was used to pay a commission to a broker as placement agent and $30,000 was paid to the lender for its legal fees, and the balance was tendered to us to lend to Pegasus under a Loan and Security Agreement (described below) (the “Loan”). The maturity date for repayment of the Note is September 20, 2023, and the Note bears interest at 15% per annum starting 60 days after issuance and interest payable in cash monthly thereafter. We may prepay the Note at any time, but if we repay the Note after 60 days, it is required to pay a premium of 104% of the principal amount. As additional consideration, we agreed to issue to the Investor 1,318,000 shares of our common stock as commitment shares. We are required to issue additional commitment shares in the event the Note is not prepaid at 60 days. Pursuant to a Registration Rights Agreement (the “Registration Agreement”), we have agreed to register the Investor shares with the SEC no later than 90 days from the issuance of the Note. In the Purchase Agreement, we agreed to certain restrictive covenants, including a restriction on borrowing and a most favored nation clause in favor of Investor for any future offerings not specifically exempted. Also on June 20, 2023, we and Pegasus entered into a Loan and Security Agreement in the principal amount of $575,000 whereby we lent to Pegasus funds received from the June 20, 2023 Purchase Agreement less expenses secured by all of Pegasus’ assets but subordinate to the security interest of Investor and other lenders of Pegasus. Pegasus is a manufacturer built on an innovative business model and manufacturing architecture providing best-in-class traditional, electric (EV) and hydrogen solutions to the multi-billion dollar school bus industry and also the broader specialty vehicle market. This leads us to believe that we will be revising our business plan and focus over the coming weeks and months. If this opportunity does not develop, however, we will continue to both seek new opportunities and look for capital to continue with our efforts in the cannabis industry. The principal executive office is located at 26565 Agoura Road, Suite 200, Calabasas, CA 91302. The executive telephone number is (571) 888-0009. 6 Results of Operation for Three and Nine Months Ended September 30, 2023 and 2022 Revenues We have generated $0 and $16,468 in sales for the three and nine months ended September 30, 2023, respectively, as compared with $10,429 and $40,917 in sales for the three and nine months ended September 30, 2022, respectively, on our current product line. We don’t anticipate increased revenues on our seven Cordials including our newly launched Sleep Cordial, for the rest of 2023, due to the challenging market conditions we have experienced in the cannabis industry in California, as disclosed above. There can be no assurances, however, that customers will positively react to our products. For these reasons, there are no assurances that we will be successful in this or any of our endeavors or become financially viable and continue as a going concern. As explained above, we are currently under contract of the Merger Agreement to enter the electric vehicle (EV) bus and clean energy specialty vehicle sector. If this opportunity develops, subject to closing conditions and the availability of financing, we may be revising our business plan and focus over the coming months. Gross Profit We paid $0 and $13,257 in cost of revenues for the three and nine months ended September 30, 2023, respectively, resulting in a gross profit of $0 and $3,211 for the three nine months ended September 30, 2023, respectively. We paid $9,718 and $24,996 in cost of revenues for the three and nine months ended September 30, 2022, respectively, resulting in a gross profit of $711 and $15,921 for the three and nine months ended September 30, 2022, respectively. We have had little historical data to compare our margins for the sale of our new products, which were introduced into the retail channel in late Q2 of 2021. If we are unable to consummate the Merger Agreement with Pegasus, we hope our work to continue to penetrate the market. We are also implementing new packaging configurations which we expect to stabilize our overall gross margin. Operating Expenses Our operating expenses were $46,975 and $195,627 for the three and nine months ended September 30, 2023, respectively, as compared with $218,876 and $1,164,706 for the three and nine months ended September 30, 2022, respectively. The main drivers for the overall decrease in operating expenses in 2023 were the reduction of legal, professional fees and salaries as well as a significant decrease in non-cash management fees. Unless we engage in a business combination Pegasus, our continued focus on sales, advertising, marketing and new product development costs to support our planned growth is expected to increase throughout 2023, subject to the issues we have been experiencing in the industry, as explained above. We spent $316,683 less on advertising for the nine months ended September 30, 2023, than for the nine months ended September 30, 2022. We spent more on advertising for the nine months ended September 30, 2022 to introduce our Koan Cordials to the California retail channel, perform Search Engine Optimization (SEO), conduct Programmatic advertising, hire a professional agency to promote our Cordials on social media channels and other general advertising methods. Professional fees decreased by $73,472 for the nine months ended September 30, 2023, over the nine months ended September 30, 2022. Our professional fees were less for this quarter compared to the same quarter last year, but we expect that professional fees will increase in 2023 as we continue to ramp up operations or if we engage in a business combination with Pegasus as described above. General and administrative expenses decreased by $36,462 for the nine months ended September 30, 2023, over the nine months ended September 30, 2022. We expect general and administrative expenses to remain fairly constant throughout 2023, but expenses could increase significantly if we engage in a business combination with Pegasus. 7 Officer compensation decreased by $336,000 for the nine months ended September 30, 2023, over the nine months ended September 30, 2022. Our officer compensation was less for this quarter compared to the same quarter last year as we suspended payments of officer salaries during 2023, but we expect that officer compensation will increase in 2023 as we continue to ramp up operations or if we engage in a business combination with Pegasus as described above. Non-cash management fees decreased by $206,462 for the nine months ended September 30, 2023, over the nine months ended September 30, 2022. Our non-cash management fees were less for this quarter compared to the same quarter last year as we did not issue shares for services during 2023, but non-cash management fees may increase in 2023 as we continue to ramp up operations or if we engage in a business combination with Pegasus as described above. Other Income / Expense We had other expense of $181,195 and $819,016 for the three and nine months ended September 30, 2023, respectively, compared with other income of $280,267 and $1,912,657 for the three and nine months ended September 30, 2022, respectively. Our other expense for the nine months ended September 30, 2023 was mainly attributable a loss on the change in derivative liability, interest expense and the amortization of debt issuance costs. Our other income for the nine months ended September 30, 2022 was mainly attributable the gain on revaluation of derivative liabilities. Net Income / Loss We had net losses of $228,170 and $1,011,432 for the three and nine months ended September 30, 2023, respectively, as compared with net income of $61,102 and $763,872 for the three and nine months ended September 30, 2022, respectively. Liquidity and Capital Resources As of September 30, 2023, we had total current assets of $941,471 consisting of $588 in cash, $120,000 in other receivables, $720,000 in a deposit on the acquisition of Pegasus Specialty Vehicles and $100,883 in inventories. Our total current liabilities as of September 30, 2023 were $2,960,056. We had a working capital deficit of $2,018,585 as of September 30, 2023 compared with a working capital deficit of $1,170,940 as of December 31, 2022. Cash Flows Provided by / Used in Operating Activities Operating activities provided $89,816 in cash for the nine months period ended September 30, 2023, compared with cash used of $1,476,854 for the nine months period ended September 30, 2022. Our positive operating cash flow for the nine months period ended September 30, 2023, was largely the result of an increase in accounts payable and accrued expenses. Our negative operating cash flow for the nine months ended September 30, 2022 was largely the result of our unrealized gain on derivative liability of $2,213,527, offset by our net income of $763,872. Cash Flows Used in Investing Activities For the nine months ended September 30, 2023, the company used $720,000 in investing activities as a deposit on the acquisition of Pegasus Specialty Vehicles. We did not use cash for investing activities for the nine months ended September 30, 2022. Cash Flows Provided by Financing Activities Cash flows provided by financing activities during the nine months ended September 30, 2023 amounted to $566,353, compared with cash flows provided by financing activities of $1,738,781 for the nine months ended September 30, 2022. Our positive cash flows for the nine months period ended September 30, 2023, consisted of net proceeds from convertible debentures of $621,200, proceeds from the sale of warrants of $30,000, proceeds from the sale of common stock of $10,000 offset by the repayment of related party advances of $94,847. Our positive cash flows for the nine months ended September 30, 2022, consisted of proceeds from issuance of common stock of $349,981 and proceeds from convertible notes payable of $1,388,800. 8 The features of the debt instruments and payables concerning our financing activities are detailed in the footnotes to our financial statements. We are dependent on investment capital to continue our survival. We have raised money through convertible debt, almost always on unfavorable terms. There is no guarantee that these small convertible loans will be available to us in the future or on terms acceptable to us. We recently raised $500,000 from the sale of the Note in connection with the covenant made in the Merger Agreement to raise $3,000,000 in funding, with $500,000 available prior to Closing. We plan to raise money in the sale of our equity and/or debt securities. There can be no assurance of funds from these efforts or that any other type of additional financing will be available to us on acceptable terms, or at all. Any securities offered will not be or have not been registered under the Securities Act and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. Going Concern As of September 30, 2023, we have an accumulated deficit of $26,331,856. Our ability to continue as a going concern is contingent upon the successful completion of additional financing arrangements and our ability to achieve and maintain profitable operations. While we are expanding our best efforts to achieve the above plans, there is no assurance that any such activity will generate funds that will be available for operations. These conditions raise substantial doubt about our ability to continue as a going concern. These financial statements do not include any adjustments that might arise from this uncertainty. Off Balance Sheet Arrangements As of September 30, 2023, there were no off-balance sheet arrangements. Critical Accounting Policies In December 2001, the SEC requested that all registrants list their most “critical accounting polices” in the Management Discussion and Analysis. The SEC indicated that a “critical accounting policy” is one which is both important to the portrayal of a company’s financial condition and results, and requires management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our critical accounting policies are disclosed in Note 2 of our audited financial statements included in the Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission. Recent Accounting Pronouncements No new accounting pronouncements issued or effective during the fiscal year has had or is expected to have a material impact on the financial statements. Item 3. Quantitative and Qualitative Disclosures About Market Risk A smaller reporting company is not required to provide the information required by this Item. 9