Item 1A. Risk Factors
ITEM
1A. RISK FACTORS
Set
forth below and elsewhere in this Annual Report on Form 10-K and in the other documents we file with the SEC are risks and uncertainties
that could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this
Annual Report.
7
RISKS
ASSOCIATED WITH OUR BUSINESS
THE
COVID-19 PANDEMIC HAS AFFECTED OUR BUSINESS IN MANY DIFFERENT WAYS, AND MAY AMPLIFY THE RISKS AND UNCERTAINTIES FACING OUR BUSINESS WHICH
MAY IMPACT OUR BUSINESS AND FINANCIAL RESULTS.
The
COVID-19 pandemic has significantly affected U.S. consumer shopping patterns and caused the health of the U.S. and world economy to deteriorate
in fiscal year 2022. During our fiscal year ended March 31, 2022, demand for consumer electronics products including home based entertainment
and toys remained strong. However, late delivery of key products for the holiday season due to global logistics issues resulted in lost
sales and an increase in inventory of approximately $5.5 million greater than planned at the end of our fiscal year ended March 31, 2022.
While many of the restrictions and measures initially implemented in response to the pandemic have since been softened or lifted in varying
degrees in different locations around the world, and the manufacture and distribution of COVID-19 vaccines during calendar year 2021
and 2022 helped to initiate a recovery from the pandemic, the uncertainty regarding existing and new potential variants of COVID-19 and
the success of any vaccines in respect thereof, may in the future cause a reduction in global economic activity or prompt, the re-imposition
of certain restrictions and measures. In addition, even if not required by governmental authorities, increases in COVID-19 cases, such
as if a new variant emerges, may result in significantly reduced economic activity, which could impact our business and our financial
results.
OUR
SUPPLY CHAIN MAY BE MATERIALLY ADVERSELY IMPACTED BY THE WORLDWIDE FINANCIAL MARKETS AND GLOBAL EVENTS
We
rely upon the facilities of our third-party manufacturers in China to manufacture our products and export our products throughout the
world. The COVID-19 pandemic has resulted in significant governmental measures being implemented to control the spread of COVID-19, including,
among others, restrictions on manufacturing and the movement of employees in many regions of China during our fiscal year ended March
31, 2021 and continuing into fiscal 2022. In late calendar 2021, the increased demand for consumer electronics products and current economic
recovery continued to increase worldwide demand for products using semiconductor “chip” components in the production of most
consumer electronics which has resulted in an international shortage of chips available to fulfill demand. As a result, we have experienced
longer delivery lead times and some unavailability of these components which have delayed delivery of some of our products. We have also
experienced delays in delivery schedules due to new outbreaks of COVID-19 in Southern China that have forced temporary closures of some
key shipping ports. The port closures have also led to a temporary shortage of shipping containers which have resulted in significant
price increases due to increased demand. While we have seen the easing of COVID-19 restrictions and the impact on our business, we cannot
predict the impact of the resurgence of variants of COVID-19 and other factors affecting local and global economies, specifically China.
OUR
BUSINESS, FINANCIAL CONDITION AND RESULTS OF OPERATIONS MAY BE MATERIALLY ADVERSELY AFFECTED BY ANY NEGATIVE IMPACT ON THE GLOBAL ECONOMY
AND CAPITAL MARKETS RESULTING FROM THE CONFLICT IN UKRAINE OR ANY OTHER GEOPOLITICAL TENSIONS.
U.S.
and global markets are experiencing volatility and disruption following the escalation of geopolitical tensions and the start of the
military conflict between Russia and Ukraine. On February 24, 2022, a full-scale military invasion of Ukraine by Russian troops was reported.
Although the length and impact of the ongoing military conflict is highly unpredictable, the conflict in Ukraine could lead to market
disruptions, including significant volatility in credit and capital markets.
Additionally,
Russia’s military interventions in Ukraine have led to sanctions and other penalties being levied by the U.S., European Union and
other countries against Russia. Additional potential sanctions and penalties have also been proposed and/or threatened. Russian military
actions and the resulting sanctions could adversely affect the global economy and financial markets. In addition, the invasion of Ukraine
and the resulting sanctions imposed on Russia have resulted in increased volatility in the financial markets and the markets for certain
commodities including oil, which may significantly impact the manufacturers that we rely on, but is not expected to have any direct impact
on us.
While
the Company has not experienced any direct impact from the conflict in the Ukraine, the extent and duration of the military action, sanctions
and resulting market disruptions are impossible to predict, but could be substantial and could adversely affect our operating results
as they impact the global economy in the future.
CHANGES
IN GOVERNMENT REGULATIONS RELATING TO INTERNATIONAL TARIFFS COULD SIGNIFICANTLY REDUCE OUR REVENUES, PRODUCT COST AND PROFITABILITY.
U.S.
government administration and members of the U.S. Congress have made public statements indicating possible significant changes in U.S.
trade policy and have taken certain actions that may impact U.S. trade, including imposing tariffs on certain goods imported into the
United States. Any changes in U.S. trade policy could trigger retaliatory actions by affected countries, resulting in “trade wars,”
and increased costs for goods imported into the United States. All of our products are manufactured and imported from China. However,
only our microphone products are currently subject to 7.5% tariffs currently in place. 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.
A
SMALL NUMBER OF OUR CUSTOMERS ACCOUNT FOR A SUBSTANTIAL PORTION OF OUR REVENUES, AND THE LOSS OF ONE OR MORE OF THESE KEY CUSTOMERS COULD
SIGNIFICANTLY REDUCE OUR REVENUES AND CASH FLOW.
We
rely on a few large customers to provide a substantial portion of our revenues. Sales to the Company’s top five customers together
comprised approximately 90% of our net sales for both of our fiscal years ended March 31, 2022 and 2021. In our fiscal year ended March
31, 2022, revenues from three of these customers represented greater than 10% of net sales at a percentage of 37%, 18%, and 17% of total
net sales. In our fiscal year ended March 31, 2021, revenues from four of these customers represented greater than 10% of net sales at
a percentage of 36%, 20%, 13% and 12% of total net sales. We do not have long-term contractual arrangements with any of our customers
and they can cancel their orders at any time prior to delivery. A substantial reduction in or termination of orders from any of our largest
customers would decrease our revenues and cash flow.
8
WE
ARE SUBJECT TO THE RISK THAT SOME OF OUR LARGE CUSTOMERS MAY RETURN KARAOKE PRODUCTS THAT THEY HAVE PURCHASED FROM US AND IF THIS HAPPENS,
IT WOULD REDUCE OUR REVENUES AND PROFITABILITY.
In
our fiscal years ended March 31, 2022 and 2021, a number of our customers and distributors returned karaoke products that they had purchased
from us. Our customers returned goods valued at approximately $3.6 million or 7.5% of our net sales in our fiscal year ended March 31,
2022 and approximately $4.1 million or 9.1% of our net sales in our fiscal year ended March 31, 2021. The return of products is due to
a variety of reasons including defective units, customers’ overstock and buyer’s remorse. The primary reason for the 1.6
percentage point decrease in returns was due to a decrease in overstock returns from our major customers. Our factories charge customary
repair and freight costs which increase our expenses and reduce profitability. If any of our customers were to increase the volume of
their returned karaoke products to us, it would reduce our revenues and profitability.
WE
ARE SUBJECT TO PRESSURE FROM OUR CUSTOMERS RELATING TO PRICE REDUCTION AND FINANCIAL INCENTIVES AND IF WE ARE PRESSURED TO MAKE THESE
CONCESSIONS TO OUR CUSTOMERS, IT WILL REDUCE OUR REVENUES AND PROFITABILITY.
Because
there is intense competition in the karaoke industry, we are subject to pricing pressure from our customers. Many of our customers have
demanded that we lower our prices and threatened to buy our competitor’s products. If we do not meet our customer’s demands
to lower our regular prices, we will not sell as many karaoke products. We are also subject to pressure from our customers regarding
certain financial incentives, such as return credits or large cooperative (“co-op”) promotion incentives, which effectively
reduce our net sales and profit. We gave co-op promotion incentives of approximately $1.7 million during our fiscal year ended March
31, 2022 and $2.0 million during our fiscal year ended March 31, 2021. We have historically offered co-op promotion incentives to our
customers because it is standard practice in the retail industry.
WE
EXPERIENCE DIFFICULTY FORECASTING THE DEMAND FOR OUR KARAOKE PRODUCTS AND IF WE DO NOT ACCURATELY FORECAST DEMAND, OUR REVENUES, NET
INCOME AND CASH FLOW MAY BE AFFECTED.
Because
of our reliance on manufacturers in China for our machine production, our production lead times range from one to four months. Therefore,
we must commit to production in advance of customers’ orders. It is difficult to forecast customer demand because we do not have
any scientific or quantitative method to predict this demand. Our forecasting is based on management’s general expectations about
customer demand, the general strength of the retail market and management’s historical experiences. In past years we have overestimated
demand for our products which led to excess inventory in some of our products and caused liquidity problems that adversely affected our
revenues, net income and cash flow.
WE
ARE SUBJECT TO THE COSTS AND RISKS OF CARRYING INVENTORY FOR OUR CUSTOMERS AND IF WE HAVE TOO MUCH INVENTORY, IT WILL AFFECT OUR CASH
FLOW FOR OPERATIONS.
Many
of our customers place orders with us several months prior to the holiday season, but they schedule delivery two or three weeks before
the holiday season begins. As such, we are subject to the risks and costs of carrying inventory during the time period between the placement
of the order and the delivery date, which reduces our cash flow. As of March 31, 2022 we had approximately $14.2 million in inventory
as compared to $5.5 million in inventory as of March 31, 2021. The primary reasons for the increase in inventory is due to late delivery
of key products for the holiday season due to global logistics issues resulting in lost sales and an increase in inventory as of March
31, 2022 of approximately $5.5 million with the remaining increase due to new product received and in-transit for a program with one
major customer. If we are unable to sell this inventory during fiscal 2023 at historical or greater margins, our cash flow for operations
will be negatively impacted.
WE
ARE SUBJECT TO INSURANCE RISK OF LOSS FOR GOODS DAMAGED WHILE IN TRANSIT FROM THE MANUFACTURER TO THE CUSTOMER AND OUR WAREHOUSE.
All
of our goods are manufactured in China and are transported to customers and our warehouse in California via ocean vessel. As such, we
are subject to damages that may occur to these goods when they are in transit to customers or our warehouse. Should substantial damage
incur while goods are in transit, we could experience a significant loss of revenue, inventory and incur significant out of pocket expenses
associated with destruction of the damaged goods, which could cause a significant loss from operations and reduction in cash flow. During
our fiscal year ended March 31, 2020, a major customer received goods that were significantly water damaged due to excess moisture absorbed
in pallets shipped by the factory resulting in a loss of approximately $2.4 million. We recovered approximately $2.3 million from our
cargo insurance coverage during our fiscal year ended March 31, 2021. During our fiscal years ended March 31, 2022 and 2021 we also secured
vendor invoice credits of approximately $0.3 million and $0.4 million, respectively, from the factory and factory’s representative
that caused the damage. While we have taken measures to prevent a similar incident in the future, there can be no guarantee that this
type of damage or other types of damage could occur in the future. Due the size of the claim, we have obtained insurance coverage for
goods that are shipped direct import to our customers whose shipping terms are FOB shipping point and for goods in transit to our California
warehouse however, certain exclusions have been added that may prevent insurance coverage of this type of incident in the future.
9
OUR
BUSINESS IS SEASONAL AND THEREFORE OUR ANNUAL OPERATING RESULTS WILL DEPEND, IN LARGE PART, ON OUR SALES DURING THE RELATIVELY BRIEF
HOLIDAY SEASON.
Sales
of consumer electronics and toy products in the retail channel are highly seasonal, with a majority of retail sales occurring during
the period from September through December in anticipation of the holiday season, which includes Christmas. A substantial majority of
our sales occur during our second fiscal quarter ending September 30 and our third fiscal quarter ending December 31. Sales in our second
and third quarter, combined, accounted for approximately 81% and 86% of net sales in our fiscal years ended March 31, 2022 and, 2021,
respectively.
IF
WE ARE UNABLE TO COMPETE IN THE KARAOKE PRODUCTS CATEGORY, OUR REVENUES AND NET PROFITABILITY WILL BE REDUCED.
Our
major competitors for karaoke machines and related products are Singsation®, Singtrix®, eKids®, Bonaok, Karaoke USA™,
Ion® Audio, 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. To the extent that we lower
prices to attempt to enhance or retain market share, we may adversely impact our operating margins. Conversely, if we opt not to match
competitor’s price reductions we may lose market share, resulting in decreased volume and revenue. To the extent our leading competitors
reduce prices on their karaoke machines, we must remain flexible to reduce our prices. If we are forced to reduce our prices, it will
result in lower margins and reduced profitability. Because of intense competition in the karaoke industry in the United States during
our fiscal year ended March 31, 2022, we expect that the intense pricing pressure in the low end of the market will continue in the karaoke
market in the United States in our fiscal year ending March 31, 2023. In addition, we must compete with all the other existing forms
of entertainment including, but not limited to: motion pictures, video arcade games, home video games, theme parks, nightclubs, television,
prerecorded tapes, CD’s, and DVD’s and streaming video.
IF
WE ARE UNABLE TO DEVELOP NEW KARAOKE PRODUCTS, OUR REVENUES MAY NOT CONTINUE TO GROW.
The
karaoke industry is characterized by rapid technological change, frequent new product introductions and enhancements and ongoing customer
demands for greater performance. In addition, the average selling price of any karaoke machine has historically decreased over its life,
and we expect that trend to continue. As a result, our products may not be competitive if we fail to introduce new products or product
enhancements that meet evolving customer demands. The development of new products is complex, and we may not be able to complete development
in a timely manner. To introduce products on a timely basis, we must:
●
accurately
define and design new products to meet market demand;
●
design
features that continue to differentiate our products from those of our competitors;
●
transition
our products to new manufacturing process technologies;
●
identify
emerging technological trends in our target markets;
●
anticipate
changes in end-user preferences with respect to our customers’ products;
●
bring
products to market on a timely basis at competitive prices; and
●
respond
effectively to technological changes or product announcements by others.
We
believe that we will need to continue to enhance our karaoke machines and develop new machines to keep pace with competitive and technological
developments and to achieve market acceptance for our products. At the same time, we need to identify and develop other products which
may be different from karaoke machines.
OUR
PRODUCTS ARE SHIPPED FROM CHINA AND ANY DISRUPTION OF SHIPPING COULD PREVENT OR DELAY OUR CUSTOMERS’ RECEIPT OF INVENTORY.
We
rely principally on four contract ocean carriers to ship substantially all of the products that we import to our warehouse facility in
Ontario, California. Retailers that take delivery of our products in China rely on a variety of carriers to import those products. Any
disruptions in shipping, whether in California or China, caused by labor strikes, other labor disputes, terrorism, and international
incidents may prevent or delay our customers’ receipt of inventory. If our customers do not receive their inventory on a timely
basis, they may cancel their orders or return products to us. Consequently, our revenues and net income would be reduced and our results
of operations adversely affected.
OUR
MANUFACTURING OPERATIONS ARE LOCATED IN THE PEOPLE’S REPUBLIC OF CHINA, SUBJECTING US TO RISKS COMMON IN INTERNATIONAL OPERATIONS.
IF THERE IS ANY PROBLEM WITH THE MANUFACTURING PROCESS, OUR REVENUES AND NET PROFITABILITY MAY BE REDUCED.
We
currently use five factories in China to manufacture all of our karaoke products. Our arrangements with these factories are subject to
the risks of doing business abroad, such as import duties, trade restrictions, work stoppages, and foreign currency fluctuations, limitations
on the repatriation of earnings and political instability, which could have an adverse impact on our business. Furthermore, we have limited
control over the manufacturing processes. As a result, any difficulties encountered by our third-party manufacturers that result in product
defects, production delays, cost overruns or the inability to fulfill orders on a timely basis could adversely affect our revenues, profitability
and cash flow. Also, since we do not have written agreements with any of these factories, we are subject to additional uncertainty if
the factories do not deliver products to us on a timely basis.
10
WE
DEPEND ON THIRD PARTY SUPPLIERS FOR PARTS FOR OUR KARAOKE MACHINES AND RELATED PRODUCTS, AND IF WE CANNOT OBTAIN SUPPLIES AS NEEDED,
OUR OPERATIONS WILL BE SEVERELY DAMAGED.
Our
growth and ability to meet customer demand depends in part on our capability to obtain timely deliveries of karaoke machines and our
electronic products. We rely on third party suppliers to produce the parts and materials that are used to manufacture and produce these
products. If our suppliers are unable to provide our factories with the parts and supplies, they we will be unable to produce our products.
Currently there is a worldwide shortage of electronic chips due to the increased demand for semiconductors and we are currently competing
with large companies to obtain these parts and could see production and shipment delays. We cannot guarantee that we will be able to
purchase the parts we need at reasonable prices or in a timely fashion. If we are unable to anticipate any shortages of parts and materials
in the future, we may experience severe production problems and delivery delays, which would impact our sales.
WE
DEPEND ON THE ABILITY OF OUR SUPPLIERS TO MANUFACTURE OUR PRODUCTS WITHOUT INFRINGING, MISAPPROPRIATING OF OTHERWISE VIOLATING THE INTELLECTUAL
PROPERTY OF PROPRIETARY RIGHTS OF OTHERS IN MANUFACTURING OUR PRODUCTS.
We
source our products from a variety of contract manufacturers. We buy finished goods from our suppliers and generally do not source raw
materials and parts for manufacturing and assembly into the final product. We rely on our contract manufacturers’ ability to secure
injected plastic, wood cabinets, integrated circuits, display panels, speaker drivers, and other components that are necessary for assembly
into our final products. While we are not responsible to source raw materials, we rely on these suppliers to have all required licenses
or proprietary rights to the materials that are incorporated into the final product. In addition, we rely on the representations of our
contract manufacturers that they are using materials and components that meet all necessary legal, safety, and compliance requirements.
If our suppliers do not have the proper licenses or rights or are not in compliance with all regulatory requirements, we may be named
a party or be subject to claims, including claims of infringement or violating the intellectual property or proprietary rights of third
parties with respect to our products.
CONSUMER
DISCRETIONARY SPENDING MAY AFFECT KARAOKE PURCHASES AND IS AFFECTED BY VARIOUS ECONOMIC CONDITIONS AND CHANGES.
Purchases
of karaoke machines and music are considered discretionary for consumers. Our success will therefore be influenced by a number of economic
factors affecting discretionary and consumer spending, such as employment levels, business, interest rates, and taxation rates, all of
which are not under our control. Additionally, other extraordinary events such as terrorist attacks or military engagements, which adversely
affect the retail environment may restrict consumer spending and thereby adversely affect our sales growth and profitability.
HIGH
INFLATION AND UNFAVORABLE ECONOMIC CONDITIONS COULD NEGATIVELY AFFECT OUR OPERATIONS AND RESULTS.
Unfavorable
global or regional economic conditions may be triggered by numerous developments beyond our control, including inflation, geopolitical
events, health crises such as the COVID-19 pandemic, and other events that trigger economic volatility on a global or regional basis.
Those types of unfavorable economic conditions could adversely affect our business and financial results. In particular, a significant
deterioration in economic conditions, including economic slowdowns or recessions, increased unemployment levels, inflationary pressures
or disruptions to credit and capital markets, could lead to decreased consumer confidence and consumer spending more generally, thus
reducing consumer demand for our products. For example, in 2021 and continuing into 2022, the United States has experienced a rapid increase
in inflation levels of over 8.6%, which is now at a 40-year historic high. Such heightened inflationary levels may negatively impact
consumer disposable income and discretionary spending and, in turn, reduce consumer demand for our products and increase our costs.
WE
ARE EXPOSED TO THE CREDIT RISK OF OUR CUSTOMERS, WHO ARE EXPERIENCING FINANCIAL DIFFICULTIES, AND IF THESE CUSTOMERS ARE UNABLE TO PAY
US, OUR REVENUES AND PROFITABILITY WILL BE REDUCED.
We
sell products to retailers, including national chains, warehouse clubs, department stores, lifestyle merchants, specialty stores, and
direct mail catalogs and showrooms. Deterioration in the financial condition of our customers could result in bad debt expense to us
and have a material adverse effect on our revenues and future profitability.
A
DISRUPTION IN THE OPERATION OF OUR WAREHOUSE CENTER IN CALIFORNIA COULD IMPACT OUR ABILITY TO DELIVER MERCHANDISE TO OUR CUSTOMERS, WHICH
COULD ADVERSELY AFFECT OUR REVENUES AND PROFITABILITY.
A
significant amount of our merchandise is shipped to our customers from our warehouse located in Ontario, California. Events such as fire
or other catastrophic events, any malfunction or disruption of our centralized information systems or shipping problems may result in
delays or disruptions in the timely distribution of merchandise to our customers, which could substantially decrease our revenues and
profitability.
11
WE
MAY ENCOUNTER DIFFICULTIES ACCESSING CAPITAL
We
currently have an Intercreditor Revolving Credit Facility with Crestmark Bank for a $10.0 million facility (decreasing to $5.0 million
in off-peak season) on eligible accounts receivable under an evergreen arrangement that terminates upon written notice by the Company
and is subject to a termination fee if terminated by the Company anytime other than the annual renewal date of June 11. We also have
a $2.5 million facility on eligible inventory with Iron Horse Credit that was to expire on June 11, 2022. However, absent any termination
notice given by the Company to IHC, the current financing arrangement automatically renewed for another twelve-month term and is subject
to a termination fee if terminated by the Company prior to the twelve-month renewal date. There can be no assurances that we can obtain
any new financing or that we will be able to successfully enter into any arrangements upon terms that are acceptable to the Company in
the future. Should there be a disruption in the current levels of these markets or a deterioration of our business, there can be no assurance
that we will not experience an adverse effect, which may be material, on our ability to access capital and on our business, financial
condition and results of operations.
OUR
PRODUCTION COSTS MAY INCREASE IF WE ARE REQUIRED TO MAKE PURCHASES USING THE CHINESE YUAN INSTEAD OF THE U.S. DOLLAR.
The
majority of our products are currently manufactured in China. During the fiscal year ended March 31, 2022, the Chinese local currency
had no material effect on the Company as all of our purchases are denominated in U.S. currency. However, in the event our purchases are
required to be made in Chinese local currency, the Yuan, we will be subject to the risks involved in foreign exchange rates. In the future
the value of the Yuan may depend to a large extent on the Chinese government’s policies and China’s domestic and international
economic and political developments. As a result, our production costs may increase if we are required to make purchases using the Yuan
instead of the U.S. dollar and the value of the Yuan increases over time. Any significant increase in the cost of manufacturing our products
would have a material adverse effect on our business and results of operations. We sell our product to Canadian customers some of whom
require us to invoice them in Canadian Dollars. We are subject to risks involved in the exchange rate between the Canadian and US dollar.
However, the exchange rate has been stable during our fiscal year ended March 31, 2022 and the associated exchange rates did not have
a material impact on our financial results. Should the exchange rate between the Canadian and US Dollar become more volatile and sales
to Canadian customers increase, there could be a material adverse effect on our business.
OUR
PROFIT MARGIN MAY BE DECREASED DUE TO INCREASED PRICES OF RAW MATERIALS, SHIPPING COSTS AND COSTS ASSOCIATED WITH PRODUCTION.
Fluctuation
in the price of oil, electronic chip components and shipping costs have and will continue to affect the Company in connection with the
sourcing and delivery of raw materials and services. We expect to see increased cost in our finished goods during fiscal year 2023 due
to the significant increases in the price of oil, rising inflation, increased cost of trans-oceanic shipping, increased drayage costs,
electronic component price increases and increases in the cost of labor related to regulations instituted in China which impact wages
related to the cost of production. These issues are common to all companies in the same type of business and if the Company is not able
to negotiate lower costs, reduce other expenses, or pass on some or all of these price increases to our customers, our profit margin
may be decreased.
OUR
SUCCESS DEPENDS LARGELY ON THE CONTINUED SERVICES OF OUR SENIOR MANAGEMENT TEAM AND CERTAIN KEY EMPLOYEES.
We
rely on our executive officers and key employees in the areas of business strategy, marketing, sales, services, and general and administrative
functions. From time to time, there may be changes in our executive management team or key employees resulting from the hiring or departure
of executives or key employees, which could disrupt our business. We do not maintain key-man insurance for any member of our senior management
team or any other employee. The loss of one or more of our executive officers or key employees could have a serious adverse effect on
our business.
WE
PRIMARILY RELY ON TRADE SECRET PROTECTION AND NON-DISCLOSURE AGREEMENTS TO PROTECT OUR PROPRIETARY INFORMATION, WHICH MAY NOT BE EFFECTIVE.
We
currently rely on trade secret protection and non-disclosure agreements with our employees, consultants and third-parties to protect
our confidential and proprietary information. If we do not protect our intellectual property and other confidential information adequately,
competitors may be able to use our proprietary technologies and information and thereby erode any competitive advantages they provide
us.
We
will be able to protect our proprietary rights from unauthorized use by third parties only to the extent these rights are effectively
maintained as confidential. We expect to rely primarily on trade secret and contractual protections for our confidential and proprietary
information and we have taken security measures we believe are appropriate to protect this information. These measures, however, may
not provide adequate protection for our trade secrets, know-how or other confidential information. We seek to protect our proprietary
information by, among other things, entering into confidentiality agreements with employees, consultants and other third parties. These
confidentiality agreements may not sufficiently safeguard our trade secrets and other confidential information and may not provide adequate
remedies in the event of unauthorized use or disclosure of this information. Enforcing a claim that a party illegally disclosed or misappropriated
a trade secret or other proprietary information could be difficult, expensive and time-consuming and the outcome could be unpredictable.
In addition, trade secrets or other confidential information could otherwise become known or be independently developed by others in
a manner that could prevent legal recourse by us. If any of our trade secrets or other confidential or proprietary information were disclosed
or misappropriated or if any such information was independently developed by a competitor, our competitive position could be harmed and
our business could suffer.
12
RISKS
ASSOCIATED WITH OUR CAPITAL STRUCTURE
FUTURE
SECURITIES ISSUANCES COULD RESULT IN SIGNIFICANT DILUTION TO OUR STOCKHOLDERS AND IMPAIR THE MARKET PRICE OF OUR COMMON STOCK.
Future
issuances of shares of our common stock could depress the market price of our common stock and result in dilution to existing holders
of our common stock. Also, to the extent outstanding options and warrants to purchase our shares of our common stock are exercised or
options or other equity-based awards are issued or become vested, there will be further dilution. The amount of dilution could be substantial
depending upon the size of the issuances or exercises. Furthermore, we may issue additional equity securities that could have rights
senior to those of our common stock.
BECAUSE
CERTAIN OF OUR STOCKHOLDERS CONTROL A SIGNIFICANT NUMBER OF SHARES OF OUR COMMON STOCK, THEY MAY HAVE EFFECTIVE CONTROL OVER ACTIONS
REQUIRING STOCKHOLDER APPROVAL
As
of the date of this report, Digital Power Lending beneficially owns and BitNile Holdings and Ault may be deemed to beneficially own an aggregate of 1568,849 shares of our common stock or approximately 52.0% of
our outstanding shares. As a result, these stockholders, acting together, have the ability to control the outcome of matters
submitted to our stockholders for approval, including the election of directors and any merger, consolidation or sale of all or
substantially all of our assets. In addition, these stockholders, acting together, have the ability to control the management and
affairs of our company. Accordingly, this concentration of ownership might harm the market price of our common stock by:
●
delaying, deferring or preventing
a change in corporate control;
●
impeding a merger, consolidation,
takeover or other business combination involving us; or
●
discouraging a potential acquirer
from making a tender offer or otherwise attempting to obtain control of us.
AS
A “CONTROLLED COMPANY” UNDER THE RULES OF THE NASDAQ CAPITAL MARKET, WE MAY CHOOSE TO EXEMPT OUR COMPANY FROM CERTAIN CORPORATE
GOVERNANCE REQUIREMENTS THAT COULD HAVE AN ADVERSE EFFECT ON OUR PUBLIC STOCKHOLDERS.
Subsequent
to March 31, 2022 and as of the date of this report, Digital Power Lending beneficially
owns and BitNile Holdings and Ault may be deemed to beneficially own an aggregate of 1,568,849 shares of our common
stock or approximately 52.0% of our outstanding shares. Digital Power Lending is a wholly owned subsidiary of BitNile Holdings. Mr. Ault is
the Executive Chairman of Bitnile Holdings.
As
long as BitNile continues to hold more than 50% of the voting power of our
Company, we will be a “controlled company” as defined under Nasdaq Marketplace Rules.
For
so long as we are a controlled company under Nasdaq Marketplace Rules, we are permitted to elect to rely, and may rely, on certain exemptions
from corporate governance rules, including:
●
an
exemption from the rule that a majority of our board of directors must be independent directors;
●
an
exemption from the rule that the compensation of our CEO must be determined or recommended solely by independent directors; and
●
an
exemption from the rule that our director nominees must be selected or recommended solely by independent directors.
As
a result, you may not have the same protection afforded to stockholders of companies that are subject to these corporate governance requirements.
BitNile
has indicated it intends to appoint two directors to our Board of Directors. Upon the appointment of the BitNile nominees, our Board of Directors will increase in size to seven directors, of which less than a majority will
be “independent” as defined under Nasdaq Marketplace Rules.
OUR
CERTIFICATE OF INCORPORATION ALLOW FOR OUR BOARD OF DIRECTORS TO CREATE NEW SERIES OF PREFERRED STOCK WITHOUT FURTHER APPROVAL BY OUR
STOCKHOLDERS, WHICH COULD ADVERSELY AFFECT THE RIGHTS OF THE HOLDERS OF OUR COMMON STOCK.
Our
board of directors has the authority to fix and determine the relative rights and preferences of preferred stock. Our board of directors
has the authority to issue up to 1,000,000 shares of our preferred stock without further stockholder approval. As a result, our board
of directors could authorize the issuance of a series of preferred stock that would grant to holders of preferred stock the right to
our assets upon liquidation, or the right to receive dividend payments before dividends are distributed to the holders of common stock.
In addition, our board of directors could authorize the issuance of a series of preferred stock that has greater voting power than our
common stock or that is convertible into our common stock, which could decrease the relative voting power of our common stock or result
in dilution to our existing stockholders. Although we have no present intention to issue any shares of preferred stock or to create any
series of preferred stock, we may create such series and issue such shares in the future.
13
THE
MARKET PRICE OF OUR COMMON STOCK MAY BE ADVERSELY AFFECTED BY SEVERAL FACTORS.
The
market price of our common stock could fluctuate significantly in response to various factors and events, including:
○
our
ability to execute our business plan;
○
operating
results below expectations;
○
loss
of any strategic relationship;
○
industry
developments;
○
economic
and other external factors;
○
changes
in government regulations Including tariffs; and
period-to-period
fluctuations in its financial results.
In
addition, the securities markets have from time-to-time experienced significant price and volume fluctuations that are unrelated to the
operating performance of particular companies. These market fluctuations may also materially and adversely affect the market price of
our common stock.
WE
HAVE NOT PAID CASH DIVIDENDS IN THE PAST AND DO NOT EXPECT TO PAY CASH DIVIDENDS IN THE FUTURE. ANY RETURN ON INVESTMENT MAY BE LIMITED
TO THE VALUE OF OUR STOCK.
We
have never paid cash dividends on our stock and do not anticipate paying cash dividends on our stock in the foreseeable future. The payment
of cash dividends on our stock will depend on our earnings, financial condition and other business and economic factors affecting us
at such time as the board of directors may consider relevant. If we do not pay cash dividends, our stock may be less valuable because
a return on your investment will only occur if our stock price appreciates.
ITEM
1B. UNRESOLVED STAFF COMMENTS
None.