Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Unless the context otherwise requires, all references in this subsection to the “Company,” “we,” “us” or “our” refer to Legacy ICI prior to the consummation of the Business Combination and the business of MSAI after the consummation of the Business Combination.
The following discussion and analysis of our financial condition and results of operations provides information that our management believes is relevant to an assessment and understanding of our consolidated results of operations and financial condition. This discussion should be read in conjunction with our audited consolidated financial statements as of and for the years ended December 31, 2024, and 2023, together with the related notes thereto, included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements based upon current plans, expectations and beliefs involving risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth under “Risk Factors” and in other parts of this Annual Report on Form 10-K.
Overview
The Company and its wholly owned subsidiaries provide turn-key predictive maintenance and process control solutions, which combine cutting edge imaging and sensing technologies with AI-powered enterprise software. Our software leverages a continuous stream of data from thermal imaging, visible imaging, acoustic imaging, vibration sensing, and laser sensing devices to provide comprehensive, real-time condition monitoring for a customer’s critical assets, processes, and manufactured outputs. Our cloud and edge solutions are deployed by organizations to protect critical assets across a wide range of industries including distribution and logistics; manufacturing and oil and gas. In tandem with these solutions, we provide various services for our customers including training, calibration, and repair.
Merger
On December 19, 2023, SportsMap Tech Acquisition Corp. (“Legacy SMAP”), through its Merger Sub, and Infrared Cameras Holdings Inc (“Legacy ICI”) consummated the closing of the transactions contemplated by the Business Combination Agreement initially entered on December 5, 2022, by and among Legacy SMAP, Legacy ICI, and Merger Sub (the “Business Combination”). Pursuant to the terms of the Business Combination Agreement, a merger of Legacy SMAP and Legacy ICI was effected by the merger of Merger Sub with and into Legacy ICI, with Legacy ICI surviving the Business Combination as a wholly-owned subsidiary of Legacy SMAP. As a result of the consummation of the Business Combination, Legacy SMAP changed its name from “SportsMap Tech Acquisition Corp.” to “Infrared Cameras Holdings, Inc.” (“ICI”). In February 2024, ICI changed its name to “MultiSensor AI Holdings, Inc.” (“MSAI”).
The Business Combination was accounted for as a reverse acquisition. Under this method of accounting, Legacy SMAP is treated as the “acquired” company for accounting purposes. The net assets of Legacy SMAP were stated at historical cost, with no goodwill or other intangible assets recorded. Operations prior to the Business Combination were those of Legacy ICI. Under this method of accounting, Legacy ICI has been determined to be the accounting acquirer, as it held the majority composition of the executive management and was greater in overall asset, revenue and employee size following the Business Combination.
Revenue Sources
Our revenues are derived from multiple sources. The following are descriptions of principal revenue generating activities:
— Hardware
The Company sells a dynamic range of advanced infrared cameras, optical gas imaging cameras and acoustic imagers, designed and manufactured by us or through various partnerships with other manufacturers. The Company's infrared cameras are available in multiple configurations, from lower resolution models suitable for basic equipment monitoring to high-resolution cameras that provide detailed thermal images crucial for detecting subtle anomalies in complex machinery. Each camera model also offers different field of view options, enabling precise targeting and comprehensive coverage, essential for effective predictive maintenance. This flexibility allows users to choose the optimal hardware setup based on their specific requirements, whether they are monitoring large production floors or focusing on high-detail components. Our acoustic imagers detect and visualize sound patterns, making them highly effective for identifying issues such as gas leaks, electrical discharge, and mechanical anomalies in industrial equipment. Revenue is recognized when control of the hardware is transferred to the customer.
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— Software
MSAI Connect is an innovative, cloud-based, AI-powered software, that enables predictive asset reliability and process control in industrial environments. This technology harnesses the power of continuous data inputs from advanced thermal imaging, acoustic imaging, visible imaging, and vibration sensing hardware solutions, which are strategically placed in customer's facilities to continuously monitor the health and performance of a customer's critical equipment and processes. MSAI Connect can process and analyze vast amounts of data in real-time, providing actionable insights and predictive analytics. This enables businesses to proactively identify potential issues, prevent costly downtime, and optimize their operations for maximum efficiency and reliability. MSAI Connect is a subscription service and is generally contracted for a period of 12 months. Annual subscription payments are generally collected in advance and revenue is recognized ratably over the subscription period.
MSAI Edge is an “on premises” software. Seamlessly integrating with existing operational systems, MSAI Edge utilizes advanced thermal imaging, acoustic imaging, visible imaging, and vibration sensing hardware solutions strategically deployed throughout facilities. This setup enables continuous monitoring of critical equipment and processes, delivering real-time insights into their health and performance, and is readily integrated into existing operational and business intelligence systems. MSAI Edge is sold as both a term-based software license which generally provides access to the software for a period of 12 months and as a perpetual license. Revenue for the software licenses are recognized upfront upon delivery of the software license.
—Services
The Company performs condition-based monitoring and preventive maintenance inspection services. Our mission is to help our clients transform how they approach asset management, creating safer, more efficient, and more profitable operations across a variety of industries. Inspections can include the use of thermography, optical gas imaging, and acoustic imaging to recognize future equipment failures or inefficiencies, detect spills or leaks, or identify electrical anomalies. The Company also performs calibrations and maintenance on hardware for our customers along with training services. Services derived from inspections, calibrations, maintenance and training are recognized at a point in time when service is provided to the client.
Recent Developments
On January 7, 2025, we sold 1,581,213 shares of Common Stock under the ELOC . As a result of such sales, we received net proceeds of approximately $4.3 million.
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Results of Operations
Year ended December 31, 2024 compared to Year ended December 31, 2023
The following table presents summary results of operations for the periods indicated, in thousands:
Year ended December 31,
Amount
2024
2023
Change
% Change
Revenue, net
$
7,402
$
5,430
$
1,972
36
%
Cost of goods sold (exclusive of depreciation)
2,582
2,297
285
12
%
Inventory Impairment
2,272
1,689
583
35
%
Operating expenses:
Selling, general and administrative
15,655
8,044
7,611
95
%
Share-based compensation expense
3,382
14,061
(10,679)
(76)
%
Depreciation
1,140
872
268
31
%
Loss (gain) on asset disposal
322
(56)
378
(675)
%
Other loss
930
—
930
NM
Total operating expenses
21,429
22,921
(1,492)
(7)
%
Operating loss
(18,881)
(21,477)
2,596
(12)
%
Interest expense
63
94
(31)
(33)
%
Change in fair value of convertible notes
475
(970)
1,445
(149)
%
Tariff refund
—
(2,401)
2,401
(100)
%
Change in fair value of warrants liabilities
(39)
(195)
156
(80)
%
Loss on financing transaction
1,553
4,043
(2,490)
(62)
%
Other (income) expenses, net
1,027
12
1,015
8,458
%
Loss before income taxes
(21,960)
(22,060)
100
(0)
%
Income tax expense (benefit)
(465)
208
(673)
(324)
%
Net loss
$
(21,495)
$
(22,268)
$
773
(3)
%
Revenue: Revenue for the year ended December 31, 2024 was $7.4 million, compared to $5.4 million for the year ended December 31, 2023. The increase in revenue was primarily due to an increase in units sold, which was partially offset by $2.9 million in sales returns for the twelve months ended December 31, 2024. The sales returns are related to a transaction with a long-standing customer who also is a launch customer for MSAI Connect. Under the terms of this transaction, certain biorisk-related devices sold to this customer in prior years were exchanged for devices appropriate for industrial use, when combined with the MSAI Edge and MSAI Connect software. The customer paid cash as well as credit for the returned devices. There were no sales returns for the twelve months ended December 31, 2023.
Cost of Goods Sold: Cost of goods sold for the year ended December 31, 2024 was $2.6 million, compared to $2.3 million for the year ended December 31, 2023. The increase in cost of goods sold was attributable to increased sales as well as a change in product mix.
Inventory Impairment: Inventory impairment for the year ended December 31, 2024 was $2.3 million , compared to $1.7 million for the year ended December 31, 2023. The increase in inventory impairment was primarily related to thermal cameras specifically designed for medical applications that have been unable to be converted to alternative applications for which there is customer demand.
Selling, General and Administrative Expense: SG&A expense for the year ended December 31, 2024 was $15.7 million, compared to $8.0 million for the year ended December 31, 2023. The increase in SG&A expense was attributable to an increase in professional and legal expenses associated with the cost of compliance as a public company.
Share-Based Compensation Expense: Share-based compensation expense for the year ended December 31, 2024 was $3.4 million, compared to $14.1 million for the year ended December 31, 2023. The decrease in share-based compensation expense was primarily attributable to a reduced level of equity grants compared to the year ended December 31, 2023 in which the certain restricted stock units related to the Business Combination were issued, and the issuance of such grants at lower prices in the year ended December 31, 2024.
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Depreciation Expense: Depreciation expense for the year ended December 31, 2024 was $1.1 million, compared to $0.9 million for the year ended December 31, 2023. The increase in depreciation expense was primarily due to increases in property, plant, and equipment, primarily software associated with our development of MSAI Connect.
Loss (gain) on asset disposal: Loss on asset disposal for the year ended December 31, 2024 was $0.3 million, compared to a gain of $0.06 million for the year ended December 31, 2023. The increase in loss on asset disposal, was primarily the result of the Company disposing of certain aged or inoperable assets, primarily in the machinery and equipment category, resulting in a loss on disposal of $0.3 million during the year ended December 31, 2024.
Other loss: Other loss for the year ended December 31, 2024 was $0.9 million due to the write-down of a deposit of $0.9 million.
Interest Expense: Interest expense for the year ended December 31, 2024 was $0.06 million, compared to $0.09 million for the year ended December 31, 2023. The decrease in interest expense was due to the settlement of debt during 2024.
Change in fair value of convertible notes: Change in fair value of convertible notes for the year ended December 31, 2024 was $0.5 million, compared to $(1.0) million for the year ended December 31, 2023. The increase in change in fair value of convertible notes was the result of notes being remeasured prior to being converted in 2023 and 2024.
Change in fair value of warrants liabilities: Change in fair value of warrants liabilities for the year ended December 31, 2024 was $(0.04) million, compared to $(0.2) million for the year ended December 31, 2023. The increase in change in fair value of warrants liabilities was primarily due to the decrease in the share price during the period.
Loss on financing transaction: Loss on financing transaction for the year ended December 31, 2024 was $1.6 million, compared to $4.0 million for the year ended December 31, 2023. The decrease in loss on financing transaction was primarily due to the loss being incurred due to two separate transactions in each year.
Other (Income) Expenses, net: Other (income) expenses, net for the year ended December 31, 2024 was $1.0 million, compared to $0.01 million for the year ended December 31, 2023. Other (income) expense, net increased primarily due to costs associated with our ELOC during the twelve-month period ended December 31, 2024.
Income tax expense (benefit): Income tax benefit increase due to a $0.5 million tax benefit primarily driven by a tax refund due to the Company from the filing of the Legacy SMAP short period 2023 federal income tax return recorded during the year ended December 31, 2024.
Non-GAAP Financial Measures
EBITDA, Adjusted EBITDA, EBITDA Margin, and Adjusted EBITDA Margin
Earnings before interest, taxes, depreciation and amortization (“EBITDA”) and Adjusted EBITDA, are supplemental non-generally accepted accounting principles (“GAAP”) financial measures used by management. We define EBITDA as net (loss) income before (i) interest expense (net interest income), (ii) depreciation and (iii) taxes. We define “Adjusted EBITDA” as EBITDA before share-based compensation expenses and other non-operating income or expenses or other non-cash items.
We believe EBITDA and Adjusted EBITDA, are useful performance measures because they facilitate comparison of our results of operations from period to period without regard to our financing methods or capital structure or other items that impact comparability of financial results from period to period such as fluctuations in interest expense or effective tax rates, levels of depreciation, non-cash charges such as share based compensation expenses or unusual items that are not considered an indicator of ongoing performance of our operations. In addition, we believe that such non-GAAP financial measures are used by analysts and others in the investment community to analyze our historical results and to provide estimates of future performance. EBITDA and Adjusted EBITDA should not be considered as alternatives to, or more meaningful than, net income or any other measure as determined in accordance with GAAP. Our computations of EBITDA and Adjusted EBITDA may not be comparable to EBITDA or Adjusted EBITDA of other companies. We present EBITDA and Adjusted EBITDA because we believe they provide useful information regarding the factors and trends affecting our business.
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EBITDA and Adjusted EBITDA, when viewed in a reconciliation to respective GAAP measures, provide an additional way of viewing the Company’s results of operations and factors and trends affecting the Company’s business. These non-GAAP financial measures should be considered as a supplement to, and not as a substitute for, or superior to, the respective financial results presented in accordance with GAAP. The following tables present a reconciliation of EBITDA and Adjusted EBITDA to the GAAP financial measure of net income for each of the periods indicated (unaudited), in thousands:
Year Ended December 31,
Adjusted EBITDA
2024
2023
Net loss
$
(21,495)
$
(22,268)
Interest expense
63
64
Interest expense, related parties
—
30
Income tax expense (benefit)
(465)
208
Depreciation
1,140
872
EBITDA
(20,757)
(21,094)
Change in fair value of convertible notes
475
(970)
Change in fair value of warrants liabilities
(39)
(195)
Share-based compensation expense
3,382
14,061
Inventory impairment
2,272
1,689
Loss on financing transaction
1,553
4,043
Tariff refund
—
(2,401)
Other expenses, net
1,027
12
Other Loss
930
—
Loss (gain) on asset disposal
322
(56)
Adjusted EBITDA
$
(10,835)
$
(4,911)
Liquidity and Capital Resources
We incurred losses for the year ended December 31, 2024, due to negative net working capital excluding deferred transaction costs and other current assets that are not settled in cash, and an increase in investment in technology innovation and commercial capabilities as compared to year ended December 31, 2023. We have historically funded our operations with internally generated cash flows, lines of credit with banks, convertible notes, and promissory notes with stockholders and related parties.
We will require additional capital in order to execute on our business plan and may require capital to fund our operations or to respond to technological advancements, competitive dynamics or technologies, customer demands, business opportunities, challenges, acquisitions or unforeseen circumstances, and we may determine to raise capital through equity or debt financings or enter into credit facilities for other reasons. In order to maintain our anticipated growth trajectory and to further business relationships with current or potential customers or partners, or for other reasons, we may issue equity or equity-linked securities to such current or potential customers or partners. We may not be able to timely secure additional debt or equity financing on favorable terms, or at all, as these plans are subject to market conditions and are not within the Company’s control. There is no assurance that the Company will be successful in implementing their plans. If we raise additional funds through the issuance of equity or convertible debt or other equity-linked securities or if we issue equity or equity-linked securities to current or potential customers to further business relationships, our existing stockholders could experience significant dilution. Any debt financing obtained by us in the future could involve restrictive covenants relating to our capital raising and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities, including potential acquisitions. If we are unable to obtain adequate financing or financing on terms satisfactory to us, when we require it, our ability to continue to grow or support our business and to respond to business challenges could be significantly limited and our business could be materially and adversely affected.
As noted in the Company’s consolidated financial statements, there is substantial doubt as to our ability to fund our planned operations in both the short- and long-term and to continue to operate as a going concern. We have assessed our ability to continue as a going concern, and, based on our need to raise additional capital to finance our future operations, recurring losses from operations incurred since inception, and an expectation of continuing operating losses for the foreseeable future, we have concluded that there is substantial doubt about our ability to continue as a going concern for a period of one year from the date that these consolidated financial statements are issued. The Company will continue to pursue obtaining additional liquidity which may include raising additional funds from investors (in the form of debt, equity, or equity-like instruments) and reducing operating expenses.
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Equity Line of Credit
On April 16, 2024, we entered into the Purchase Agreement with B. Riley. Pursuant to the Purchase Agreement, we have the right, but not the obligation, to sell to B. Riley up to $25 million worth of Common Stock (the “Purchase Shares”) over the term of the Purchase Agreement, beginning only after certain conditions set forth in the Purchase Agreement have been satisfied, including that the registration statement registering the Purchase Shares for resale (the “Registration Statement”) shall have been declared effective under the Securities Act of 1933, as amended. In accordance with the Purchase Agreement, on April 16, 2024, we issued shares of our Common Stock to B. Riley as consideration for its commitment to purchase the Purchase Shares under the Purchase Agreement (the “Commitment Shares”). Under the terms of the Purchase Agreement, in certain circumstances, we may be required to pay B. Riley up to $500 thousand (or 2.0% of the total commitment value under the Purchase Agreement), in cash, as a “make-whole” payment to the extent the aggregate amount of cash proceeds, if any, received by B. Riley from the resale of the Commitment Shares prior to certain times set forth in the Purchase Agreement, is less than $500 thousand, in exchange for B. Riley returning to us for cancelation all of the Commitment Shares we originally issued to B. Riley upon execution of the Purchase Agreement that were not previously resold. On January 8, 2025, B.Riley notified the Company that it had sold the Commitment Shares, which resolved the liability.
Concurrently with entering into the Purchase Agreement, we entered into a registration rights agreement with B. Riley pursuant to which we agreed to register the resale of the Purchase Shares and Commitment Shares that have been and may be issued to B. Riley under the Purchase Agreement pursuant to the Registration Statement (the “Registration Rights Agreement”). The Registration Statement was filed with the SEC on April 29, 2024 (File No. 333-278979) and was declared effective by the SEC on May 13, 2024.
Through December 31, 2024, the Company utilized the B. Riley Committed Equity Facility to sell 23,999 shares of Common Stock for cash proceeds totaling $58 thousand.
Public Equity Offering
On July 1, 2024, we consummated a public offering (the “Public Offering”) of 6,250,000 shares of Common Stock, which was sold at a public offering price of $1.60 per share less the underwriting discount, generating gross proceeds to us of $10 million before deducting underwriting discounts, commissions and offering expenses. In connection with the Public Offering, the underwriters were granted a 45-day option from the date of the prospectus to purchase up to 937,500 additional shares of Common Stock at the public offering price, less the underwriting discount, and on June 28, 2024, the underwriters fully exercised the over-allotment option, generating additional gross proceeds of $1.5 million to us before deducting underwriting discounts, commissions and offering expenses.
Private Placement Equity Offering
On July 1, 2024, we issued and sold in a private placement (the “2024 Private Placement”) (i) 2,772,561 shares (the “Placement Shares”) and (ii) pre-funded warrants to purchase 6,602,439 shares of Common Stock (the “Pre-Funded Warrants”) for aggregate gross proceeds of $15.0 million before deducting placement agent fees and offering expenses. The purchase price of the Placement Shares was $1.60 per share, and the purchase price of each Pre-Funded Warrant was $1.5999. The exercise price for each share of Common Stock issuable upon exercise of the Pre-Funded Warrants is $0.0001 per share. The Pre-Funded Warrants were not exercisable unless or until approved by the Company’s stockholders, are not subject to any redemption provision and, once exercisable, can be exercised for cash or on a cashless basis at the discretion of the holder. The Pre-Funded Warrants do not have any voting rights but have the right to participate in any dividends or distributions made by the Company.
On June 27, 2024, we also entered into a securities purchase agreement (the “Securities Purchase Agreement”) with 325 Capital, LLC (collectively with its affiliates, the “Purchaser”), pursuant to which the Purchaser agreed to purchase all of the Placement Shares and Pre-Funded Warrants offered in the 2024 Private Placement. Pursuant to the Securities Purchase Agreement, we have made the following corporate governance changes, which are to remain in effect for so long as the Purchaser beneficially owns at least 10.0% of the then-outstanding shares of Common Stock:
● our board of directors (the “Board”) appointed a representative of the Purchaser as a member of the Board and as a member of the Board’s compensation and nominating and corporate governance committees;
● the Board established a new finance committee consisting of four independent directors, with the purpose of improving the Company’s operational and financial performance, including evaluating the Company’s budgets, capital allocation practices and policies and review of strategic alternatives, and making recommendations to the Board on the foregoing matters; and
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● the Board amended the Amended and Restated Bylaws of the Company to permit any single director to be able to call a special meeting of the Board and bring forward business at any regular or special meeting of the Board.
In connection with the closing of the 2024 Private Placement, the Company entered into a registration rights agreement, dated as of July 1, 2024, with the Purchaser pursuant to which the Company is required to file a registration statement with the SEC to register the resale of the Placement Shares and the shares of Common Stock issuable upon exercise of the Pre-Funded Warrants. All fees relating to the filing of such resale registration statement shall be borne by the Company. On January 23, 2025, the Company registered the Placement Shares.
In addition, upon the closing of the 2024 Private Placement, the Company entered into a voting agreement, dated as of July 1, 2024, with certain stockholders of the Company representing greater than 50% of the issued and outstanding Common Stock of the Company (prior to the Public Offering and 2024 Private Placement) to support the transactions contemplated by the Securities Purchase Agreement, including of the authorization by the Company’s stockholders for the Company to issue the shares of Common Stock underlying the Pre-Funded Warrants in accordance with applicable Nasdaq rules. On August 23, 2024, the issuance of the shares of Common Stock underlying the Pre-Funded Warrants was approved by our stockholders, and on September 24, 2024, the holders of the Pre-Funded Warrants exercised their warrants in exchange for Common Stock.
Cash Flows
Year ended December 31, 2024, Compared to Year ended December 31, 2023
The following table summarizes our cash flows for the periods indicated, in thousands:
Year Ended December 31,
2024
2023
Net cash used in operating activities
$
(15,567)
$
(4,551)
Net cash used in investing activities
(2,667)
(1,512)
Net cash provided by financing activities
21,587
6,564
Net increase (decrease) in cash, cash equivalents, and restricted cash equivalents
3,353
501
Operating Activities
Net cash used in operating activities was $15.6 million for the year ended December 31, 2024, an increase of $11.0 million, as compared to $4.6 of net cash used in operating activities for the year ended December 31, 2023. The increase in net cash used in operating activities was primarily attributable to payments made to reduce our liabilities during the year, in an effort to improve our capital structure.
Investment Activities
Net cash used in investing activities was $2.7 million for the year ended December 31, 2024, as compared to $1.5 million for the year ended December 31, 2023. The increase in net cash used in investing activities was primarily attributable to an increase in capital expenditures related to software development for the year ended December 31, 2024, compared to the year ended December 31, 2023.
Financing Activities
Net cash provided by financing activities was $21.6 million for the year ended December 31, 2024, an increase of $15.0 million, as compared to $6.6 million of net cash provided by financing activities for the year ended December 31, 2023. The increase in net cash provided by financing activities is primarily attributable to proceeds from the issuance of Common Stock, offset by repayments of borrowings.
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Contractual Obligations
Our principal commitments consist of lease obligations for our corporate office and production facility. The net present value of operating lease liabilities as of December 31, 2024, and 2023 is $1.1 million.
Off-Balance Sheet Arrangements
As of December 31, 2024, we did not have any off-balance sheet arrangements.
Critical Accounting Policies and Estimates
Our financial statements are prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses, as well as related disclosures. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates.
The critical accounting policies, assumptions, and judgements that we believe have the most significant impact on our consolidated financial statements are described below.
Inventory
Inventory is stated at the lower of cost and net realizable value (“NRV”). NRV is based upon an estimated average selling price reduced by the estimated costs of disposal. The determination of net realizable value involves certain judgments including estimating average selling prices based on recent sales. We reduce the value of our inventory for estimated obsolescence or lack of marketability by the difference between the cost of the affected inventory and the NRV.
The valuation of inventory requires us to evaluate whether inventory held is in excess of future estimated market demand or has become technologically obsolete. We believe the risk of technological obsolescence of hardware is not significant, as device technology and functionality is stable and the devices that the Company has in its inventory are more deployable with for the Company’s integrated solutions offerings. The Company’s excess and obsolescence analysis is therefore focused on assessing the extent to which inventory is in excess of future estimated market demand. The determination of excess inventory is estimated based on a comparison of the quantity and cost of inventory on hand to our forecast of customer demand, which is dependent on various internal and external factors requiring the use of judgment.
We evaluate the short-term and long-term classification of hardware and component inventory quarterly using our forecast of customer demand, which is dependent on various internal and external factors requiring the use of judgment. We classify as short-term inventory hardware or components that are expected to be sold in the subsequent twelve months. We classify as long-term inventory hardware or components that are not expected to be sold in the following twelve months but for which ones there is an active market and we have not identified any indicator of impairment.
Revenue Recognition
Contracts with our customers may include various combinations of hardware, subscriptions and services. Our hardware has significant standalone functionalities and capabilities. Accordingly, hardware is distinct from our subscriptions and services as the customer can benefit from the product without these subscriptions or services and such subscriptions and services are separately identifiable within the contract. The amount of consideration we expect to receive in exchange for delivering on the order is allocated to each performance obligation based on its relative standalone selling price.
We establish standalone selling price using the prices charged for a deliverable when sold separately. If the standalone selling price is not observable through past transactions, we estimate the standalone selling price based on our pricing model. As our business offerings evolve over time, we may be required to modify our estimated standalone selling prices, and as a result the timing and classification of our revenue could be affected.
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Income Taxes
We are required to reduce our deferred tax assets by a valuation allowance if, based on the weight of the available evidence, it is more likely than not that all or a portion of a deferred tax asset will not be realized. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that all or a portion of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income of appropriate character during the periods in which those temporary differences become deductible. Management considers the weight of available evidence, both positive and negative, including the scheduled reversal of deferred tax assets and liabilities (including the impact of available carryback and carryforward periods), projected future taxable income, and tax planning strategies in making this assessment. To the extent we believe that we do not meet the test that recovery is more likely than not, we establish a valuation allowance. To the extent that we establish a valuation allowance or changes this allowance in a period, we adjust the tax provision or tax benefit in the consolidated statement of operations. Management uses its best judgment in determining provisions or benefits for income taxes, and any valuation allowance recorded against previously established deferred tax assets.
Recently Issued Accounting Standards
Refer to Note 2 of the notes to our audited consolidated financial statements included in this Annual Report on Form 10-K for our assessment of recently issued and adopted accounting standards.
Emerging Growth Company and Smaller Reporting Company Status
We are an emerging growth company under the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”). The JOBS Act provides that an emerging growth company can opt out of such “extended exemption period” and delay adopting new or revised accounting standards until such a time as those standards apply to private companies.
Subject to certain conditions set forth in the JOBS Act, if, as an “emerging growth company”, we choose to rely on such exemptions we may not be required to, among other things, (i) provide an auditor’s attestation report on our system of internal controls over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act, (ii) provide all of the compensation disclosure that may be required of non-emerging growth public companies under the Dodd-Frank Wall Street Reform and Consumer Protection Act, (iii) comply with any requirement that may be adopted by the PCAOB regarding mandatory audit firm rotation or a supplement to the auditor’s report providing additional information about the audit and the financial statements (auditor discussion and analysis), or (iv) disclose certain executive compensation related items such as the correlation between executive compensation and performance and comparisons of the CEO’s compensation to median employee compensation. We have elected to opt out of this extended exemption period. We may take advantage of these exemptions until December 31, 2026, or until we are no longer an emerging growth company, whichever is earlier. We will cease to be an emerging growth company prior to the end of such five-year period if certain earlier events occur, including if we become a “large accelerated filer” as defined in Rule 12b-2 under the Exchange Act, our annual gross revenues exceed $1.235 billion or we issue more than $1.0 billion of non-convertible debt in any three-year period.
Additionally, we are a “smaller reporting company” as defined in Item 10(f)(1) of Regulation S-K. Smaller reporting companies may take advantage of certain reduced disclosure obligations, including, among other things, providing only two years of audited financial statements. We will be able to take advantage of these scaled disclosures for so long as our voting and non-voting common stock held by non-affiliates is less than $250.0 million measured on the last business day of our second fiscal quarter, or our annual revenue is less than $100.0 million during the most recently completed fiscal year and our voting and non-voting common stock held by non-affiliates is less than $700.0 million measured on the last business day of our second fiscal quarter.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
We are a smaller reporting company as defined by Rule 12b-2 of the Exchange Act and are not required to provide the information under this item.
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