What changed in this filing

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Item 7. Management’s Discussion and Analysis

2024-12-13 compared with 2023-12-27 · 174 added, 174 removed, 64 unchanged (84% of the section changed)

14 unchanged sentences

Increasing adoption of Cybersecurity Software, including Enclave and Services offerings at vCISO clients

We internally report our revenue using two categories.

The first, “vCISO Services,” captures the revenue the Chief Information Security Officer services that we provide to our clients

on a “virtual” or outsourced basis, thus the acronym “vCISO.” Services delivered by SideChannel through our team

of vCISOs include assessing the cybersecurity risk profile, implementing policies and programs to mitigate risks, and managing the day-to-day

tasks to ensure compliance with the adopted cybersecurity framework.

Most of our clients use our vCISO services.

vCISO engagements typically include a fixed monthly

subscription fee with durations longer than twelve (12) months.

Hourly rates for vCISO time and material projects range from $350 to $425.

Each of our vCISOs is generally embedded into the C-suite executive teams of two (2) to four (4) of our clients.

Our second revenue category encompasses an array of Cybersecurity Software and Services that our clients deem necessary

to protect their digital assets.

These augment our vCISO offering and include a full range of other cybersecurity products and services

delivered through a team of security engineers along with a network of third-party service providers and value-added resellers

Commercial relationships with third-party service providers and VARs provide SideChannel with additional internal

capabilities to mitigate cybersecurity risks.

We earn licensing revenue from software contracts and commissions from third-party service

provider partnerships which are included in this revenue category.

September 2022 we announced a proprietary product called Enclave which simplifies important cybersecurity tasks called

“asset inventory” and “microsegmentation.” Enclave seamlessly combines access control, microsegmentation,

encryption and other secure networking concepts to create a comprehensive solution.

It allows Information Technology to easily

segment the enterprise network, place the right staff in those segments and direct traffic.

The following revenue metrics are for the twelve months ended September 30, 2023, versus the same period in 2022.

These summary metrics are accompanied by a table that reflects the revenue by category in fiscal years 2023 and 2022.

Total revenue grew by $1.8 million or 37.2%.

vCISO Services category revenue grew by $1.3 million or 42.4%.

Cybersecurity Software and Services category revenue grew by $0.5 million or 27.9%.

vCISO Services

Cybersecurity Software

growth in vCISO Services reflects both growth in clients served and an increase in revenue per client.

Cybersecurity Software & Services revenue grew from 2022 to 2023 primarily because of an increase in the use of these services

by existing Cybersecurity Software and Services clients and secondarily because of an expansion of the services and software

internally report our revenue using two categories.

The first, “vCISO Services,” captures the revenue the Chief Information

Security Officer services that we provide to our clients on a “virtual” or outsourced basis, thus the acronym “vCISO.”

Services delivered by SideChannel through our team of vCISOs include assessing the cybersecurity risk profile, implementing policies

and programs to mitigate risks, and managing the day-to-day tasks to ensure compliance with the adopted cybersecurity framework.

of our clients use our vCISO services.

engagements typically include a fixed monthly subscription fee with durations longer than twelve (12) months.

Hourly rates for vCISO

time and material projects range from $350 to $450.

Each of our vCISOs is generally embedded into the C-suite executive teams of two

(2) to four (4) of our clients.

second revenue category encompasses an array of Cybersecurity Software and Services that our clients deem necessary to protect their

digital assets.

These augment our vCISO offering and include a full range of other cybersecurity products and services delivered through

a team of security engineers along with a network of third-party service providers and value-added resellers (“VARs”).

relationships with third-party service providers and VARs provide SideChannel with additional internal capabilities to mitigate cybersecurity

We earn licensing revenue from software contracts and commissions from third-party service provider partnerships which are included

in this revenue category.

September 2022 we announced a proprietary product called Enclave which simplifies important cybersecurity tasks called “asset inventory,”

and “microsegmentation.” Enclave seamlessly combines access control, microsegmentation, encryption and other secure networking

concepts to create a comprehensive solution.

It allows Information Technology to easily segment the enterprise network, place the right

staff in those segments and direct traffic.

following revenue metrics are for the twelve months ended September 30, 2024, versus the same period in 2023.

These summary metrics are

accompanied by pie charts that reflect the revenue by category in fiscal years 2024 and 2023.

revenue grew by $828 thousand or 12.6%.

Services category revenue grew by $223 thousand or 5.1%.

Cybersecurity

Software and Services category revenue grew by $605 thousand or 27.6%.

The growth in vCISO Services reflects both growth in

clients served and an increase in revenue per client.

Cybersecurity Software & Services revenue grew from 2023 to 2024 primarily because

of an increase in the use of these services by existing Cybersecurity Software and Services clients and secondarily because of an expansion

of the services and software offered.

also monitor new and retained revenue.

2 unchanged sentences

The following

table provides details on our new and retained revenue for fiscal years 2023 and 2022:

Cybersecurity Software &

Total Revenue

chart provides details on our new and retained revenue for fiscal years 2024 and 2023:

we consider revenue retention a key performance indicator.

2 unchanged sentences

The following table shows the revenue retention for fiscal years 2024 and 2023 by revenue category.

vCISO Services

Cybersecurity Software & Services

Twelve Months Ended

Cybersecurity

Software & Services

of Operations

Year Ended September 30, 2024, Compared to Fiscal Year Ended September 30, 2023

Twelve Months Ended

September 30,

Cost of revenues

Operating expenses

General and administrative

Selling and marketing

Research and development

Intangible asset impairment

Business Combination related costs

Total operating expenses

Operating loss

Other income, net

Net loss before income tax expense

Income tax expense (benefit)

Our revenue was $7.4 million for the year ended September 30, 2024, compared to $6.6 million in the prior year, an increase of $0.8

1 unchanged sentence

We believe this increase reflects the factors previously discussed in the Overview section above.

Gross margins increased to 50.7% in fiscal year 2023 from 48.5% in fiscal year 2022, which we attribute to better utilization

of our service delivery team.

Gross margins decreased to 47.7% in fiscal year 2024 from 50.7% in fiscal year 2023, which we attribute to lower

utilization of our service delivery team employees and an increase in revenue from third-party software and services which have a

lower gross margin.

Total operating expenses during fiscal year 2024 were $4.5 million compared to fiscal year 2023 total operating

expenses of $5.6 million excluding $214 thousand of prior year acquisition costs and intangible asset impairment of $4.9 million.

May 2023, we began eliminating operating expenses which, combined with our increase in gross profit, have enabled us to lower our

breakeven revenue point and attain positive cash flow from operations during fiscal year 2024.

The operating expense reductions were

achieved by staff reductions in all areas of the business and the elimination of non-essential third-party supplier

relationships.

and Administrative Expenses.

Our general and administrative expenses were $3.2 million for the year ended September 30, 2024, compared

to $1.5 million for the prior year, an increase of $2.1 or 142.5%.

The increase in general and administrative expenses primarily resulted

from increased staff and related costs including equity-based compensation;

higher professional fees and insurance related to the listed

nature of the Company.

To a lesser extent there were increases in amortization and travel-related costs.

to $3.6 million for the prior year, a decrease of $0.4 million or 12.0%.

The decrease in general and administrative expenses primarily

resulted from decreased staff and related costs and lower professional fees and insurance related to the listed nature of the Company.

These favorable variances were partially offset by an increase in stock-based compensation and costs incurred for the settlement of a litigation matter.

and Marketing Expenses.

Our sales and marketing expenses were $1.3 million for the year ended September 30, 2023, compared to $367,000

for the prior year, an increase of $970,000 or 264.3% resulting from our increase in sales and marketing staff and the related costs

combined with a higher spend on third-party marketing services.

Our selling and marketing expenses were $771 thousand for the year ended September 30, 2024, compared to $1,337

thousand for the prior year, a decrease of $566 thousand or 42.3% resulting from our decrease in sales and marketing staff and partially

offset by increased spend on third-party marketing services.

and Development Expenses.

Our research and development expenses were $669,000 for the year ended September 30, 2023, compared to

$178,000 for the prior year, an increase of $491,000 or 275.8%.

These costs arose as a result of the Business Combination and are driven

by personnel expenses and costs incurred from independent contractors related to the development of Enclave.

Goodwill Impairment .

The goodwill impairment was zero ($0) for the year ended September 30, 2023.

We recorded a $5.7 million goodwill impairment charge during

the year ended September 30, 2022.

The goodwill was related to the acquisition that occurred on July 1, 2022.

Our research and development expenses were $546 thousand for the year ended September 30, 2024, compared to $669

thousand for the prior year, a decrease of $123 thousand or 18.4%.

The decrease is the result of lower personnel related costs and reduction

of software development expenses.

Asset Impairment.

The intangible asset impairment was $4.9 million for the year ended September 30, 2023, and zero ($0) for the

We recorded a finite-lived intangible asset of $4.9 million as a result of acquiring Enclave in the Business

Our impairment testing indicated the full value of this finite-lived intangible asset should be impaired as of

September 30, 2023.

Incurring impairment neither indicates a decrease in our emphasis on Enclave as a key initiative nor does it

suggest a lack of market interest in the product.

Acquisition costs were $214,000 for the year ended September 30, 2023, which are attributed to an increase in the Second

Tranche shares due to the Closing Working Capital Adjustment from the Business Combination.

The costs totaling $6.2 million in the prior year were driven by the Business Combination.

Other Income.

Other Income was $29,000 and $13,000 for fiscal years 2023 and 2022 respectively, which reflect interest income from the cash on deposit

The intangible asset impairment was zero ($0) for the year ended September 30, 2024, and $4.9 million for the prior

We recorded a finite-lived intangible asset of $4.9 million as a result of acquiring Enclave in the Business Combination.

Our impairment

testing indicated the full value of this finite-lived intangible asset should be impaired as of September 30, 2023.

Incurring impairment

neither indicated a decrease in our emphasis on Enclave as a key initiative nor did it suggest a lack of market interest in the product.

Combination related costs.

Business Combination related costs were zero ($0) in fiscal year 2024 and $214 thousand for the year ended September

30, 2023, which are attributed to an increase in the Second Tranche shares due to the Closing Working Capital Adjustment from the

Business Combination.

Other Income was $41 thousand and $29 thousand for fiscal years 2024 and 2023 respectively, which reflect interest income

from the cash on deposit at our bank.

Tax Expense (Benefit).

We recorded an income tax benefit of $379,000 for the year ended September 30, 2023, compared to an

income tax expense of $195,000 for the year ended September 30, 2022.

The fiscal year 2022 expense was an estimate of federal and

state income tax liability for SCS which was accounted for as a liability on our September 30, 2022, balance sheet.

The actual amount of federal and state income taxes due by SCS of $27,000.

The net of these two amounts

is a $168,000 tax benefit that we recognized in the current fiscal year.

In addition, a deferred state tax liability was recognized for

a book versus tax basis difference upon the Business Combination.

During the year ended September 30, 2023, this deferred tax liability

was reduced to zero resulting in a deferred income tax benefit of $211,000.

We recorded income tax expense of $5 thousand in the fiscal year ended September 30, 2024, compared to

an income tax benefit of $379 thousand for the year ended September 30, 2023.

The fiscal year 2024 expense is attributed to accruals for state income taxes in the various jurisdictions where

we have customers, employees, or property while the fiscal year 2023 benefit occurred because of a favorable

difference between actual and projected tax accounting at the time of the Business Combination.

and Capital Resources

During fiscal year 2023, we incurred a net loss of

$7.0 million and used $1.9 million of cash in operations.

Our primary source of liquidity and capital resources has been the $3.6 million

in cash received from Cipherloc in the Business Combination in the prior fiscal year.

We had an accumulated deficit of $11.9 million as

of September 30, 2022.

Three (3) non-recurring expenses totaling $16.8 million are included in our accumulated deficit.

The non-recurring

expenses are $6.2 million for the acquisition costs, including $6.1 million related to the contingent consideration from the Business Combination, $5.7 million impairment of goodwill recorded as a result of the Business Combination, and $4.9 million impairment of intangible assets.

Our accumulated deficit at September 30, 2023 was

$18.9 million.

The following table summarizes, for the periods indicated,

selected items in our Statements of Cash Flows ($000’s):

Year Ended September 30,

Net cash (used in) provided by:

Operating activities

Investing activities

Financing activities

Operating Activities .

Net cash used

in operations for the year ended September 30, 2023, was $1.9 million as compared to $396,000 for the year ended September 30, 2022.

During fiscal year 2023, we recorded intangible asset impairment of $4.9 million and non-cash charges of $805,000 for amortization and

stock compensation expense.

Our net accounts receivable grew by $222,000 compared to one year ago due to increased sales activity

and we experienced a $547,000 decrease in accounts payable and accrued liabilities primarily due to adjustments made to tax liabilities.

These uses of cash were offset by a $150,000 increase in our deferred revenue balance.

Investing Activities .

We used $32,000

on the purchase of fixed assets during the twelve months ended September 30, 2023.

Financing Activities .

During the year

ended September 30, 2023, there was no cash provided by or used in financing activities.

As of September 30, 2023, we had $1.1 million

in cash and our working capital was $1.5 million.

We believe that our existing cash balances are sufficient to fund our operations

through at least December 31, 2024.

operating expenses during fiscal year 2023 were $5.6 million excluding $214,000 of acquisition costs and intangible asset

impairment of $4.9 million.

Since May, 2023 through the date of this report, we have eliminated approximately $1.2

million of annual operating expenses which have enabled us to lower our breakeven revenue point and allowed us to expect a lower amount

of total operating expenses for fiscal year 2024 than we incurred during 2023.

The operating expense reductions are being achieved

by staff reductions in all areas of the business and the elimination of non-essential third-party supplier relationships.

anticipate total operating expenses to range between $3.7 million and $4.3 million in the next fiscal year with cash flow from operations

ranging between negative $300,000 and positive $100,000, which, if negative, will be funded with our existing cash balances.

to manage our business such that our current cash reserves will allow us to reach positive cash flow from our operations, but we cannot

assure if and when positive cash flow will be achieved.

We don’t currently have any credit facilities available to us;

we have had discussions with several lenders about establishing a line of credit secured by our accounts receivable.

fiscal year 2024, we incurred a net loss of $904 thousand, and we had $307 thousand of cash provided by operations.

Our primary source

of liquidity and capital resources has been the $1.1 million of cash at the beginning of fiscal year 2024 supplemented with the cash

provided by operations during the fiscal year.

We had an accumulated deficit of $19.8 million as of September 30, 2024.

Three (3) non-operational

expenses related to the Business Combination totaling $16.8 million are included in our accumulated deficit.

The non-operational expenses

are $6.2 million for the contingent consideration and business combination related costs, $5.7 million for the impairment of goodwill

recorded as a result of the Business Combination, and $4.9 million for the impairment of intangible assets.

following table summarizes, for the periods indicated, selected items in our Statements of Cash Flows:

cash provided by (used in):

Cash Provided / (Used)

Net cash provided by operations for the year ended September 30, 2024, was $307 thousand as compared to $1.9

million used in operations for the year ended September 30, 2023.

During fiscal year 2024, we recorded net, non-cash charges of $755

thousand for depreciation, amortization and stock-based compensation expense.

Our net accounts receivable decreased by $102 thousand

due to earlier payment of invoices by our clients and we experienced a $235 thousand increase in deferred

revenue because of an increase in clients paying in advance of receiving software and services.

We purchased short-term investments of $250 thousand in the form of time deposits and used $15 thousand on the

purchase of fixed assets related to the upgrade of our website during the twelve months ended September 30, 2024.

We paid a $50 thousand note to Akash Desai in December 2023.

The note was related to a December 2021

agreement for the redemption of Mr.

Desai’s interest in SideChannel LLC.

The December 2023 payment completed our obligations to

of September 30, 2024, we had $1.3 million in cash, cash equivalents, and short-term investments;

and our working capital was $1.4 million.

We believe that our existing cash balances

are sufficient to fund our operations through at least December 31, 2025.

expect to continue to generate cash flow from operations during fiscal year 2025;

however, if this does not materialize, then our operations

will be funded with our existing cash balance.

We intend to manage our business such that our expenses will allow us to sustain positive

cash flow from our operations, but we cannot assure this will occur.

We don’t currently have any credit facilities available to

however, we have had discussions with several lenders about establishing a line of credit secured by our accounts receivable.

Accounting Estimates

preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of

America requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and related

disclosure of contingent assets and liabilities.

On an on-going basis, we evaluate our estimates, including those related to long-lived

assets, goodwill, identifiable intangibles and deferred income tax valuation allowances.

We base our estimates on historical experience

and on appropriate and customary assumptions that we believe to be reasonable under the circumstances, the results of which form the

basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.

of these accounting estimates and assumptions are particularly sensitive because of their significance to our consolidated financial

statements and because of the possibility that future events affecting them may differ markedly from what had been assumed when the financial

statements were prepared.

America requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and

related disclosure of contingent assets and liabilities.

On an on-going basis, we evaluate our estimates, including those related to

long-lived assets, goodwill, identifiable intangibles and deferred income tax assets and liabilities including their related

valuation allowances.

We base our estimates on historical experience and on appropriate and customary assumptions that we believe to

be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets

and liabilities that are not readily apparent from other sources.

Some of these accounting estimates and assumptions are

particularly sensitive because of their significance to our consolidated financial statements and because of the possibility that

future events affecting them may differ markedly from what had been assumed when the financial statements were prepared.

Intangible and Long-Lived Assets

17 unchanged sentences

the fair value of a reporting unit with its carrying amount, including goodwill.

If the fair value of a reporting unit exceeds its carrying

amount, goodwill of the reporting unit is considered not impaired.

If the carrying amount of a reporting unit exceeds its fair value,

an impairment loss shall be recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting

The goodwill impairment assessment is based upon the income approach, which estimates the fair value of our reporting units based

upon a discounted cash flow approach.

This fair value is then reconciled to our market capitalization at year end with an appropriate

control premium.

The determination of the fair value of our reporting units requires management to make significant estimates and assumptions

including the selection of control premiums, discount rates, terminal growth rates, forecasts of revenue and expense growth rates, income

tax rates, changes in working capital, depreciation, amortization and capital expenditures.

Changes in assumptions concerning future

financial results or other underlying assumptions could have a significant impact on either the fair value of the reporting unit or the

amount of the goodwill impairment charge.

At September 30, 2023 and 2022, goodwill was $1.4 million.

In 2022, we evaluated the initial goodwill recorded from the Business Combination of $7.1 million and determined that the carrying value

exceeded the fair value and recorded $5.7 million impairment of goodwill during the year ended September 30, 2022.

The fair value of the goodwill at September 30, 2023, as determined by our impairment analysis, is in excess of the

carrying value;

thus, we have incurred no impairment of goodwill in fiscal year 2023.

If the fair value of a reporting unit exceeds its

carrying amount, goodwill of the reporting unit is considered not impaired.

If the carrying amount of a reporting unit exceeds its

fair value, an impairment loss shall be recognized in an amount equal to that excess, limited to the total amount of goodwill

allocated to that reporting unit.

The goodwill impairment assessment is based upon the income approach, which estimates the fair

value of our reporting units based upon a discounted cash flow approach.

This fair value is then reconciled to our market

capitalization at year end with an appropriate control premium.

The determination of the fair value of our reporting units requires

management to make significant estimates and assumptions including the selection of control premiums, discount rates, terminal

growth rates, forecasts of revenue and expense growth rates, income tax rates, changes in working capital, depreciation,

amortization and capital expenditures.

Changes in assumptions concerning future financial results or other underlying assumptions

could have a significant impact on either the fair value of the reporting unit or the amount of the goodwill impairment charge.

Goodwill was $1.4 million at both September 30, 2024, and 2023.

The fair value of the goodwill at September 30, 2024, as determined

by our impairment analysis, was in excess of the carrying value;

thus, we had no impairment of goodwill in fiscal year

did not record indefinite-lived intangible assets in the fiscal years ended September 30, 2024, and 2023.

assets, which consist of finite-lived intangible assets and property and equipment, are assessed for impairment whenever events or

changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable or that the useful

lives of these assets are no longer appropriate.

Each impairment test is based on a comparison of the estimated undiscounted cash

flows to the recorded value of the asset.

assets, which consist of finite-lived intangible assets and property and equipment, are assessed for impairment whenever events or changes

in business circumstances indicate that the carrying amount of the assets may not be fully recoverable or that the useful lives of these

assets are no longer appropriate.

Each impairment test is based on a comparison of the estimated undiscounted cash flows to the recorded

value of the asset.

If impairment is indicated, the asset is written down to its estimated fair value.

cash flow estimates used to determine the impairment, if any, contain management’s best estimates using appropriate

assumptions and projections at that time.

We have a finite-lived intangible asset of $4.9 million and we have less than $30,000 in

property and equipment.

At September 30, 2023 and 2022, finite-lived intangibles and long-lived assets were zero ($0) and $4.9

million, respectively.

The intangible impairment was $4.9 million for the year ended September 30, 2023 and zero ($0) for the prior

The cash flow estimates used to

determine the impairment, if any, contain management’s best estimates using appropriate assumptions and projections at that time.

We have $33 thousand in property and equipment at September 30, 2024.

At September 30, 2024, and 2023, finite-lived intangibles and long-lived

assets were zero ($0) and zero ($0), respectively.

The intangible impairment was $4.9 million for the year ended September 30, 2023.

We recorded a finite-lived intangible asset of $4.9 million as a result of acquiring Enclave through the Business Combination.

The difficulty of projecting the amount and timing of future revenues caused us to conclude a full impairment of the asset was

impairment neither indicates a decrease in our emphasis on Enclave as a key initiative nor does it suggest a lack of market interest

in the product.

The difficulty

of projecting the amount and timing of future revenues caused us to conclude a full impairment of the asset was appropriate.

impairment in fiscal year 2023 neither indicated a decrease in our emphasis on Enclave as a key initiative nor did it suggest a lack

of market interest in the product.

Sheet Arrangements

4 unchanged sentences

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis