Algorhythm Holdings, Inc. 10-K/A

ITEM 1. BUSINESS OVERVIEW The Singing Machine Company, Inc., (“Company,” “Singing Machine,” “we,” “us,” or, “our”) is engaged in the development, production, marketing and distribution of consumer karaoke audio equipment, toy products, licensed products, accessories, music, and audio consumer electronic products. We contract for the manufacturing of all our electronic equipment products with factories located in China. We have also collaborated with a music content service provider that allows the Company to offer karaoke downloads, and streaming subscription services. This collaboration provides the Company with a distribution platform for digital music sales and subscriptions and furthermore it opens up the Company’s music sales to customers who purchase our competitors’ karaoke machines as well. The capabilities of the Company’s music distribution system include the ability to download or stream selections from this content library, creating the opportunity to open new revenue sources through the sale of subscriptions. We were incorporated in California in 1982. We originally sold our products exclusively to professional and semi-professional singers. In 1988, we began marketing karaoke equipment for home use. We believe we are the first company to introduce the home karaoke products to the United States (“U.S.”). In May 1994, we merged into a wholly-owned subsidiary incorporated in Delaware with the same name. As a result of that merger the Delaware corporation became the successor to the business and operations of the California corporation and retained the name The Singing Machine Company, Inc. (“SMC”). In December 2005, we formed a wholly-owned subsidiary SMC (Comercial Offshore De Macau) Limitada in Macau, China (“SMC Macau” or “Macau subsidiary”), to provide sales, financing, shipping, engineering and sourcing support for Singing Machine and Subsidiaries. Our Macau subsidiary has been approved to operate its business in Macau as Macau Offshore Company (MOC) and is exempt for the Macau corporate income tax. In February 2008, we formed a wholly-owned subsidiary SMC Logistics, Inc. (“SMC-L”), a California corporation, to manage the U.S. domestic logistics and fulfillment warehouse servicing for the Company and in April 2008 a wholly-owned subsidiary, SMC Music, Inc. (“SMC-M”) to contract with third party music providers. The Company trades on the Over the Counter Bulletin Board (“OTCQX”) under the symbol “SMDM”. Our principal executive offices are located in Fort Lauderdale, Florida. The Company is partially held by koncepts International Limited (“koncepts”) who is major shareholder of the Company, owning approximately 49% of our shares of common stock outstanding on a fully diluted basis as of March 31, 2020. The Company is also partly held by Treasure Green Holdings Ltd. (“Treasure Green) who owns approximately 2% of our common stock. In total approximately 51% of the Company’s shares of common stock on a fully diluted basis as of August 12, 2020 are owned by koncepts and Treasure Green. For most of the Fiscal Year, China Sinostar Group Company Limited (Sinostar and its subsidiaries collectively referred to herein as the “Sinostar Group” or “Sinostar”) held 100% of the common stock of koncepts and Treasure Green. Sinostar is a company whose principal activities include property development, property management, property investment, management of hydroelectric power stations, and design and sale of electronic products through its various subsidiaries. We do business with a number of entities that are indirectly wholly-owned or majority owned subsidiaries of Sinostar, including Starlight R&D Ltd (“Starlight R&D”), Starlight Consumer Electronics USA, Inc., (“SCE”), Cosmo Communications Corporation of Canada, Inc. (“Cosmo”) and Star Light Electronics Company Ltd (Starlite), among others. On December 12, 2019, Sinostar transferred the assets of its consumer electronics division (including all of its shares of koncepts and Treasure Green) to Fairy King Prawn Holdings Limited (“Fairy King”), an investment holding company incorporated in the British Virgin Islands, principally owned by the Company’s Chairman, Philip Lau. GROWTH STRATEGY The overall objective of the Singing Machine is to create an efficient platform for the development, manufacture, and world-wide marketing and distribution of home entertainment-based consumer electronics. The Company will also seek new revenue opportunities through hardware-based music content delivery and the creation of a community-based entertainment platform. The Company intends to leverage our valuable customer base and strong relationships with our factories to achieve our organic growth initiatives. Organic Growth Strategy We intend to pursue various initiatives to execute our organic growth strategy, which is designed to enhance our market presence, expand our customer base and be an industry leader in new product development. Key elements of our organic growth strategy include: T oy Products . Historically karaoke has been our core business. The Singing Machine brand is widely recognized as a leader in karaoke and consequently we hold a dominant market share in the business. While consistently a market leader, the Company has determined that it needs to diversify and expand its core focus in order to grow its business. The Company has therefore refocused its self-perception and is determined to build on its success by defining ourselves as a provider of quality home entertainment – not just home karaoke hardware. Critical to this strategy, the Company continued to market a line of toy products branded SMC Kids. We intend to grow our line of sing-along music themed toy products at lower opening price points. We believe this toy line, if successful, can leverage existing relationships with our current retail partners and help the Company organically grow. 4 Licensed Products. Last year we acquired a license from CBS for the series “Carpool Karaoke” featured on the Late Late Show with James Corden. Inspired by the segment that has become a global, viral hit with over 2.3 billion views online, Carpool Karaoke The Mic allows friends and family to sing along to their favorite songs in their cars and recreate their favorite moments from the show. This product got off to a slower than expected start in Fiscal 2020 but has recently generated great deal of interest recently on social media and we intend to leverage this attention and market this product in different sales channels. Expand Access to Digital Karaoke Music Offerings . Karaoke content has been exceedingly harder to find in physical format (CD+G discs) at retail stores. It remains the Company’s strategy to better promote our streaming App available on iOS and Android platforms to provide better music choices for our customers. It is also the Company’s strategy to work with its music partner, Stingray, to improve features to enhance the value proposition of the App to our customers. Focus On International Growth . We believe that we have the most recognized and trusted brand in the world for consumer karaoke. We also have the most karaoke product offerings and features of any of our competitors in the karaoke market. We have been and will continue aggressively pursuing international business outside of North America to capture a vastly untapped market for home karaoke. The Company’s early efforts to open up new international markets has been successful. Through economies of scale and financed on a direct import basis, we believe this is one of the major areas in which we can substantially increase our revenues. Internationally, our products are currently distributed in Australia, Canada, United Kingdom, Ireland, Sweden, Norway, Finland, Spain, Italy, and Mexico. PRODUCT LINES We currently have four different product lines which consist in total of over 35 different models. The product lines consist of the following: ● Classic Karaoke Machines represent the majority of our karaoke machines currently sold. These machines incorporate traditional karaoke features such as CD+G playback, echo, and voice control features, sound enhancement, built-in monitors, A/V out connections to TV for scrolling lyrics, and microphone inputs. Built-in cameras, Bluetooth and recording functions are available in some select models. The retail price range is from $49 to $199. This product line accounted for approximately 71% of total revenue for fiscal 2020. ● Download Karaoke Machines represent a line of digital karaoke machines capable of playing back digital karaoke content. These machines include custom proprietary software to play high-definition digital downloaded content from our Singing Machine download store. These machines offer a full range of features including searching, playlist creation, Bluetooth, full motion videos, lead vocal, and HDMI output. The retail price range is from $79 to $199. This product line accounted for approximately 14% of total revenue in fiscal 2020. ● SMC Kids Toy Products represents a new category of products for the Company, launched in the Fall of fiscal 2018. These toy products range from youth Bluetooth microphones to sing-along music players. The retail price range is from $19.99 to $39.99. This product line accounted for approximately 2% of total revenue in fiscal 2020. ● Licensed Products represents a category of products done in collaboration between Singing Machine and third-party licensors. This includes product lines like “Carpool Karaoke” plus any future licenses that we take on. This product line accounted for approximately 5% of total revenue in fiscal 2020. The remaining 8% of total revenue was from the sales of karaoke related accessories consisting primarily of microphones, music subscriptions and downloads, and other miscellaneous electronic accessories. MARKETING, SALES Our karaoke machines and music are sold nationally and internationally to a broad spectrum of customers, primarily through mass merchandisers, department stores, direct mail catalogs and showrooms, music and record stores, national chains, specialty stores and warehouse clubs. Our product lines are currently sold by the following retailers, among others: Amazon.com, Best Buy, Costco, Sam’s Club, Target, and Wal-Mart Our sales strategy includes offering domestic sales as well as direct import sales made direct to the customer. Domestic Sales . Our strategy of selling products from a domestic warehouse enables us to provide timely delivery and serve as a domestic supplier of imported goods. We purchase karaoke machines overseas from factories in China for our own account and warehouse the products in leased facilities in California. We are responsible for costs of shipping, insurance, customs clearance, duties, storage and distribution related to such products and, therefore, domestic sales command higher sales prices than direct import sales. We generally sell from our own inventory in less than container-sized lots. Domestic sales also include our new rapidly growing business of e-commerce in which we ship product directly to the end- consumer. Direct Import Sales. We ship some hardware products sold by us directly to customers from China through SMC Macau. Sales made through our subsidiary are completed by either delivering products to the customers’ common carriers at the shipping point or by shipping the products to the customers’ distribution centers, warehouses, or stores. Direct import sales are made in larger quantities (generally container sized lots) to customers worldwide, which pay SMC Macau pursuant to their own international, irrevocable, transferable letters of credit or on open account. 5 In fiscal 2020, approximately 54% of net sales were from direct import sales and approximately 46% of net sales were shipped domestically. Our sales within the U.S. are primarily made by our in-house sales team and our independent sales representatives. Our independent sales representatives are paid a commission based upon sales made in their respective territories. We utilize some of our outside independent sales representatives to help us provide service to our mass merchandisers and other retailers. The sales representative agreements are generally one (1) year agreements, which automatically renew on an annual basis, unless terminated by either party on 30 days’ notice. Our international sales are primarily made by our in- house sales representatives and our independent distributors. As a percentage of net sales, our sales in the aggregate to our five largest customers during the fiscal years ended March 31, 2020 and 2019, approximately 80% and 86%, respectively. In fiscal 2020, the top three major customers accounted for approximately 41%, 13% and 10% of our net revenues. Although we have long-established relationships with all of our customers, we do not have contractual arrangements to purchase fixed quantities with any of them. A decrease in business or a loss of any of our major customers could have a material adverse effect on our results of operations and financial condition. We also market our products at various national and international trade shows each year. We regularly attend the following trade shows and conventions: The Consumer Electronics Show which takes place each January in Las Vegas; the New York Toy Fair which occurs each February in New York; Distoy which occurs every year in May in London; and the Hong Kong Electronics Show stages each October in Hong Kong. We believe the Singing Machine brand is one of the most widely recognized karaoke brands in the United States, Canada, Australia and Europe. While we continue to heavily focus on our core karaoke business, we wish to expand our business into other product categories. Our strong product procurement team in Hong Kong and China combined with our experienced sales and service team in North America enables us to compete not only in the karaoke market but also in other markets, such as musical instruments, licensed toy products and other consumer electronics products. RETURNS Returns of electronic hardware and music products by our customers generally occur after approval involving damaged goods, goods shipped in error and overstock. Our policy is to give credit to our customers for the returns in conjunction with the receipt of new replacement purchase orders. Our total returns represented 14.1% and 8.7% of our net sales in fiscal 2020 and 2019, respectively. The increase of 5.4 percentage points in return rate compared to prior fiscal year was due primarily to returns of approximately $1.1 million in overstock licensed product from one major customer due to the slower than expected results of our launch of the Carpool Karaoke The Mic product. This accounted for approximately 2.7 percentage points of the increase with the remaining increase primarily due to overstock returns from three other major customers. DISTRIBUTION We distribute hardware products to retailers and wholesale distributors through two methods: shipment of products from inventory held at our warehouse facilities in California (domestic sales), shipments directly through our Macau subsidiary, and manufacturers in China of products (direct import sales). Domestic sales are made to customers located throughout North America from inventories maintained at our warehouse facilities in California. In the fiscal year ended March 31, 2020, approximately 46% of our net sales were shipped from our domestic warehouses (“Domestic Sales”) and 54% were net sales shipped directly from China (“Direct Import Sales”). MANUFACTURING AND PRODUCTION Our karaoke machines are manufactured and assembled by third parties pursuant to design specifications provided by us. Currently, we have ongoing relationships with five factories, located in Guangdong Province of the People’s Republic of China, which assemble our karaoke machines. During fiscal 2021, we anticipate that 100% of our karaoke products will be produced by these factories, who have verbally agreed to extend financing to us. We believe that the manufacturing capacity of our factories is adequate to meet the demands for our products in fiscal year 2021. However, if our primary factory in China was prevented from manufacturing and delivering our karaoke products, our operation would be severely disrupted until alternative sources of supply are located. In manufacturing our karaoke related products, these factories use molds and certain other tooling, most of which are owned by us. Our products contain electronic components manufactured by other companies such as Panasonic, Sanyo, Toshiba, and Sony. Our manufacturers purchase and install these electronic components in our karaoke machines and related products. The finished products are packaged and labeled under our trademark, The Singing Machine(R) and private labels. Our main office in China is located in Hong Kong which has recently experienced some political unrest and anti-government protests from citizens of Hong Kong. Should tensions continue to escalate it could potentially affect our employees and disrupt our ability to perform necessary administrative tasks required to manage the supply chain with our suppliers. While our equipment manufacturers purchase our supplies from a small number of large suppliers, all of the electronic components and raw materials used by us are available from several sources of supply. We depend on limited suppliers for some key components and the loss of any single supplier may have a material long-term adverse effect on our business, operations, or financial condition. To ensure that our high standards of product quality are met and that factories consistently meet our shipping schedules; we utilize Hong Kong and China based employees as our representatives. These employees include product inspectors who are knowledgeable about product specifications and work closely with the factories to verify that such specifications are met. Additionally, key personnel frequently visit our factories for quality assurance and to support good working relationships. All of the electronic equipment sold by us is warrantied to the end user against manufacturing defects for a period of ninety (90) days for labor and parts. All music sold is similarly warrantied for a period of 30 days. During the fiscal years ended March 31, 2020 and 2019, warranty claims have not been material to our results of operations. 6 COMPETITION Our business is highly competitive. Our major competitors for karaoke machines and related products are Singsation, Ion Audio, Singtrix, Karaoke USA, licensed property karaoke products and other consumer electronics companies. We believe that competition for karaoke machines is based primarily on price, product features, reputation, delivery times, and customer support. We believe that our brand name is well recognized in the industry and helps us compete in the karaoke machine category. Our primary competitors for download or streaming karaoke music are Youtube, Sybersound, Smule, and Karaoke Anywhere. We believe that competition for karaoke music is based primarily on popularity of song titles, price, reputation, and delivery times. In addition, we compete with all other existing forms of entertainment including, but not limited to, motion pictures, video arcade games, home video games, theme parks, nightclubs, television and prerecorded tapes, CD’s, and DVD’s. Our financial position depends, among other things, on our ability to keep pace with changes and developments in the entertainment industry and to respond to the requirements of our customers. Many of our competitors have significantly greater financial, marketing, and operating resources and broader product lines than we do. TRADEMARKS AND PATENTS We have obtained registered trademarks for The Singing Machine name and the logo in the U.S., Canada, Australia, Hong Kong, China, European Union, Japan, Mexico and the Republic of Korea. We have also obtained registered trademarks for SMC Kids and the logo in the U.S., Canada, Australia, European Union, and the Republic of Korea. In 2003 we also obtained two U.S. design patents for karaoke machines, patent numbers US D505,960 S and US D524,325 S. Our trademarks are a significant asset because they provide product recognition. We believe that our intellectual property is significantly protected, but there are no assurances that these rights can be successfully asserted in the future or will not be invalidated, circumvented or challenged. COPYRIGHTS AND LICENSES We offer karaoke music through our Singing Machine Karaoke Download Store, Community, and iPhone/iPad App through a partnership with Stingray Digital Group (“Stingray”). Stingray holds all licensing agreements directly with the music publishers and is responsible for all royalty payments. We share a revenue split with Stingray on all karaoke videos streamed or downloaded by our customers. Stingray is the leading multi- platform music service provider in the world, with an estimated 110 million Pay-TV subscribers in 111 countries around the world. Geared towards individuals and businesses alike, the company’s commercial entities include leading digital music and video services Stingray Music, Concert TV and The KARAOKE Channel. Stingray also offers various business solutions, including music and digital display-based solutions through its Stingray Business division. GOVERNMENT REGULATION Our karaoke machines must meet the safety standards imposed in various national, state, local, and provincial jurisdictions. Our karaoke machines sold in the U.S. are designed, manufactured and tested to meet the safety standards of Underwriters Laboratories, Inc. (“ULE”) or Electronic Testing Laboratories (“ETL”). In Europe and other foreign countries, our products are manufactured to meet the Consumer Electronics (“CE”) marking requirements. CE marking is a mandatory European product marking and certification system for certain designated products. When affixed to a product and product packaging, CE marking indicates that a particular product complies with all applicable European product safety, health and environmental requirements within the CE marking system. Products complying with CE marking are now accepted to be safe in 28 European countries. However, ULE or ETL certification does not mean that a product complies with the product safety, health and environmental regulations contained in all fifty states in the United States. Therefore, we maintain a quality control program designed to ensure compliance with all applicable U.S. and federal laws pertaining to the sale of our products. Our production and sale of music products is subject to federal copyright laws. The manufacturing operations of our foreign suppliers in China are subject to foreign regulation. China has permanent “normal trade relations” (“NTR”) status under U.S. tariff laws, which provides a favorable category of U.S. import duties. China’s NTR status became permanent on January 1, 2002. In July 2018, the U.S. government imposed tariffs on many products imported from China. All of our products are manufactured and imported from China however, only our microphones are currently subject to a 7.5% tariff. Should the government decide to expand its list of products to include our karaoke products that would subject our products to tariffs in the future, there could be a significant increase in the landed cost of our products. If we are unable to mitigate these increased costs through price increases, we could experience reductions in revenues, gross profit margin and results from operations. SEASONALITY AND SEASONAL FINANCING Our business is highly seasonal, with consumers making a large percentage of karaoke purchases around the traditional holiday season in our second and third quarter ending September 30 and December 31. These seasonal purchasing patterns and requisite production lead times cause risk to our business associated with the underproduction or overproduction of products that do not match consumer demand. Retailers also attempt to manage their inventories more tightly, requiring that we ship products closer to the time that retailers expect to sell the products to consumers. These factors increase the risk that we may not be able to meet demand for certain products at peak demand times, or that our own inventory levels may be adversely affected by the need to pre-build products before orders are placed. As of March 31, 2020, we had inventory of approximately $7.6 million (net of reserves totaling approximately $0.4 million) compared to inventory of approximately $6.0 million as of March 31, 2019 (net of reserves totaling approximately $0.3 million). 7 Our financing of seasonal working capital during Fiscal 2020 was from a Revolving Credit Facility from PNC Bank (“Revolving Credit Facility”) and vendor extended accounts payable terms from certain China manufacturers. The Revolving Credit Facility was terminated on June 16, 2020. On June 16, 2020, the Company executed a tri-party Intercreditor Agreement for a Revolving Line of Credit (Intercreditor Revolving Credit Facility”) on eligible accounts receivable and inventory. The Company signed a two-year Loan and Security Agreement for a $10,000,000 financing facility with Crestmark, a division of Meta Bank, NA (“Crestmark”) on eligible accounts receivable. Further, the Company also executed a two-year Loan and Security Agreement with Iron Horse Credit (“Iron Horse”) for up to $2,500,000 in inventory financing. Both agreements automatically renew each year until expiration unless advance written notification is given and both agreements expire on June 15, 2022. The combined facility provides the Company with up to $12,500,000 in financing during the Company’s peak season. During Fiscal 2021, we plan on financing our inventory purchases by borrowing on our Intercreditor Revolving Credit Facility and using payment terms that have been granted to us by the factories in China. EMPLOYEES As of July 28, 2020 we employed 32 full-time employees. We have 1 administrative employee located at SMC Macau’s office with the remaining 31 employees based in the U.S. Our U.S. employees include 3 executive officers, 13 engaged in warehousing and administrative logistics/technical support and 15 in accounting, marketing, sales and administrative functions.