Kartoon Studios, Inc. 10-Q

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The following discussion and analysis of our results of operations, financial condition and liquidity and capital resources should be read in conjunction with our financial statements and related notes for the nine months ended September 30, 2023 and 2022. Certain statements made or incorporated by reference in this report and our other filings with the Securities and Exchange Commission, in our press releases and in statements made by or with the approval of authorized personnel constitute forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and are subject to the safe harbor created thereby. Forward-looking statements reflect intent, belief, current expectations, estimates or projections about, among other things, our industry, management’s beliefs, and future events and financial trends affecting us. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “may,” “will” and variations of these words or similar expressions are intended to identify forward looking statements. In addition, any statements that refer to expectations, projections or other characterizations of future events or circumstances, including any underlying assumptions, are forward looking statements. Although we believe the expectations reflected in any forward-looking statements are reasonable, such statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict. Therefore, our actual results could differ materially and adversely from those expressed in any forward-looking statements as a result of various factors. These differences can arise as a result of the risks described in the section entitled “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2022, which was filed with the SEC on April 13, 2023, and elsewhere in this report, as well as other factors that may affect our business, results of operations, or financial condition. Forward-looking statements in this report speak only as of the date hereof, and forward-looking statements in documents incorporated by reference speak only as of the date of those documents. Unless otherwise required by law, we undertake no obligation to publicly update or revise these forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks and uncertainties, we cannot assure you that the forward-looking statements contained in this report will, in fact, transpire. Overview Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to provide readers of our consolidated financial statements with the perspectives of management. This should allow the readers of this report to obtain a comprehensive understanding of our businesses, strategies, current trends, and future prospects. It should be noted that the MD&A contains forward-looking statements that involve risks and uncertainties. Our Business Kartoon Studios, Inc. (formerly known as Genius Brands International, Inc.; “we,” “us,” “our,” or the “Company”) is a global content and brand management company that creates, produces, licenses, and broadcasts timeless and educational, multimedia animated content for children. Led by experienced industry personnel, we distribute our content primarily on streaming platforms and television and licenses properties for a broad range of consumer products based on our characters. We are a “work for hire” producer for many of the streaming outlets and animated content intellectual property (“IP”) holders. In the children’s media sector, our portfolio features “content with a purpose” for toddlers to tweens, providing enrichment as well as entertainment. With the exception of selected WOW Unlimited Media Inc. ("Wow") titles, our programs, along with licensed programs, are being broadcast in the United States on our wholly-owned advertisement supported video on demand (“AVOD”) service, our free ad supported TV (“FAST”) channels and subscription video on demand (“SVOD”) outlets, Kartoon Channel! and Ameba . These streaming services are available on Apple TV, Apple iOS, Android TV, Android mobile, Amazon Prime, Amazon Fire, Tubi, Roku, Comcast, Cox, Dish/Sling, Xumo, Pluto, Samsung Smart TVs, LG Smart TVs, as well as YouTube and YouTube Kids, among other platforms. Our in-house owned and produced animated shows include Stan Lee’s Superhero Kindergarten starring Arnold Schwarzenegger, Llama Llama starring Jennifer Garner, Rainbow Rangers, KC Pop Quiz and Shaq’s Garage starring Shaquille O’Neal. Our library titles include the award-winning Baby Genius , adventure comedy Thomas Edison’s Secret Lab®, and Warren Buffett’s Secret Millionaires Club , created with and starring iconic investor Warren Buffett, Team Zenko Go!, Reboot , Bee & PuppyCat: Lazy in Space and Castlevania . We also license our programs to other services worldwide, in addition to the operation of our own channels, including but not limited to Netflix, HBO Max, Paramount+, Nickelodeon, and satellite, cable and terrestrial broadcasters around the world. Through our investments in Germany’s Your Family Entertainment AG (“YFE”), a publicly traded company on the Frankfurt Stock Exchange (RTV-Frankfurt), we have gained access to one of the largest animation catalogues in 42 Table of Contents Europe with over 50 titles consisting of over 1,600 episodes, and a global distribution network which currently covers over 60 territories worldwide. Through the ownership of WOW, we established an affiliate relationship with Mainframe Studios, which is one of the largest animation producers in the world. In addition, Wow owns Frederator Networks Inc. (“Frederator”) and its Channel Frederator Network , the largest animation focused multi-channel network on YouTube with over 2,500 channels. We have rights to a select amount of valuable IP, including among them a controlling interest in Stan Lee Universe, LLC (“SLU”), through which we control the name, likeness, signature, and all consumer product and IP rights to Stan Lee (the “Stan Lee Assets”). We also own Beacon Media Group, LLC (“Beacon Media”) and Beacon Communications, Ltd. (“Beacon Communications”) (collectively, “Beacon”), a leading North American marketing and media agency and its first-class media research, planning and buying division. Beacon represents over 30 major toy companies, including Playmobile, Bandai Toys, Bazooka and Moose Toys. In addition, we own the Canadian company Ameba Inc. (“Ameba”), which distributes SVOD service for kids and has become the focal point of revenue growth for TOON Media Networks’ subscription offering. We and our affiliates provide world class animation production studios a catalogue representing thousands of hours of premium global content for children, a broadcast system for delivering that content and an in-house consumer products licensing infrastructure to fully exploit the content. On June 23, 2023, we were renamed Kartoon Studios, Inc. On June 26, 2023, we transferred our listing to NYSE American LLC (“NYSE American”). In connection with listing on NYSE American, we voluntarily delisted from the Nasdaq Capital Market (“Nasdaq”). Our common stock began trading on NYSE American under the new symbol “TOON” on June 26, 2023. Environmental, Social and Governance Strategy We are attempting to shape culture, social attitudes and societal outcomes with our animated content and consumer products that touch the lives of young people and their families. As a global content company that reaches millions of people, we aim to be a positive force in the world. We are committed to advancing and strengthening our approach to environmental, social and governance (“ESG”) topics to help serve our partners, audiences, employees and stockholders — and to enhance our success as a business. We are committed to responsible, ethical and inclusionary business practices as outlined below: Human Capital Management As of September 30, 2023, we employed 368 full-time employees and 44 independent contractors. We aim to build a culture that attracts and retains the best employees and a workplace where everyone feels welcome, safe and inspired. Our human capital management strategy is intended to address the following areas: A Culture of Diversity, Equity and Inclusion We seek to foster a culture of diversity, equity and inclusion through a range of partnerships, collaborations, programs and initiatives, some of which are described below. We strive to be an inclusionary workplace because we believe that it strengthens our business. • We maintain a Chief Diversity Officer who is responsible for helping us meet our hiring goals and reviewing the content we create. • Our board of directors is diverse with representation from people of color and the LGBTQ community. 43 Table of Contents Preventing Harassment and Discrimination We have enacted policies addressing harassment, discrimination and other behaviors that could create a hostile workplace, some of which are described below. • We make training on preventing sexual harassment, discrimination and retaliation available to our employees. • We expect employees to report any violations of Company policies, including sexual harassment, they witness. Among other ways, employees can report incidents of harassment using our anonymous complaint and reporting hotline. Social Impact and Corporate Social Responsibility We believe that the content we produce, primarily directed at young people and their families, both reflects and influences how our young viewers perceive and understand important issues. We endeavor to earn our viewers’ trust through a variety of practices, and we are focused on using our platforms to create positive social impacts. By way of just a few examples: in our show Rainbow Rangers , a diverse cast of girls works to save animals and protect the environment, while demonstrating the power of teamwork; in our Llama Llama series, we teach kindness and inclusion, and feature a differently abled character, which we have been told is appreciated by moms and kids who deal with physical challenges. In the earliest days of the COVID-19 pandemic, we spread public service messages to keep our audiences safe and informed with animated shorts featuring the iconic voices from our series including Warren Buffett from The Secret Millionaires Club and Jennifer Garner, the voice of Mama Llama from the Llama Llama series. Our mission statement says it all: “Content with a Purpose.” Social justice, caring about the environment and modeling appropriate and inclusionary behavior for kids has been part of our company for many years and we are constantly seeking ways to improve on what we have already been doing. Recent Developments On February 6, 2023, our board of directors approved a 1-for-10 reverse stock split of our outstanding shares of common stock. The reverse stock split was effected on February 10, 2023 at 5:00 p.m. Eastern time. At the effective time, every 10 issued and outstanding shares of our common stock were converted into one share of common stock. Any fractional shares of common stock resulting from the reverse stock split were rounded up to the nearest whole post-split share and no stockholders received cash in lieu of fractional shares. The par value of each share of common stock remained unchanged. The reverse stock split proportionately reduced the number of shares of authorized common stock from 400,000,000 to 40,000,000 shares. The reverse stock split also applied to common stock issuable upon the exercise of the Company's outstanding warrants and stock options. The reverse stock split did not affect the authorized preferred stock of 10,000,000 shares. Unless noted, all references to shares of common stock and per share amounts contained in this Quarterly Report on Form 10-Q have been retroactively adjusted to reflect a 1-for-10 reverse stock split. Exercise of 2021 Warrants and Issuance of New Warrants On June 26, 2023, we entered into warrant exercise inducement offer letters (the “Letter Agreements”) with certain existing institutional and accredited investors pursuant to which such investors agreed to exercise for cash certain warrants issued by us in January 2021 (the “2021 Warrants”) to purchase 2,311,550 shares of common stock (the “Exercise”). To induce the Exercise by holders of the 2021 Warrants, we also amended the exercise price of the 2021 Warrants from $23.70 per share (as adjusted pursuant to a 1-for-10 reverse stock split of our outstanding shares of common stock effected on February 10, 2023) to $2.50 per share pursuant to the terms of the 2021 Warrants. In consideration for the Exercise, the exercising holders received warrants to purchase up to 4,623,100 shares of common stock, and The Special Equities Group, LLC, a division of Dawson James Securities, Inc. (“SEG”) which acted as the warrant solicitation agent for the Exercise, received a warrant to purchase up to 161,809 shares of common stock (collectively, the “Warrants”). The Warrants are exercisable at any time beginning on November 1, 2023 (i.e., the date stockholder approval was received as described therein) (the “Initial Exercise Date”) and ends on the fifth anniversary of the Initial Exercise Date at a price per share of $2.50. Pursuant to the Letter Agreements, we filed a registration statement on Form S-3 covering the resale of the shares of common stock issuable upon the exercise of the Warrants on July 26, 2023, which registration is currently pending with the Securities Exchange Commission (“SEC”). 44 Table of Contents The fair value for the newly issued liability-classified Exchange Warrants of $12.7 million and the increase in fair value of $3.5 million for the repriced 2021 Warrants prior to exercise of the equity instruments was recorded as a loss to Warrant Incentive Expense within Other Income (Expense), Net on the condensed consolidated statement of operations. Declaration of Series C Preferred Stock Dividend; Redemption of Series C Preferred Stock On September 21, 2023, our board of directors declared a dividend of one one-thousandth of a share of Series C Preferred Stock, par value $0.001 per share (“Series C Preferred Stock”), for each outstanding share of our common stock, par value $0.001 per share to stockholders of record on October 2, 2023 (the “Record Date”). Each share of Series C Preferred Stock would entitle the holder thereof to 1,000,000 votes per share (and, for the avoidance of doubt, each fraction of a share of Series C Preferred Stock would have a ratable number of votes). Thus, each one-thousandth of a share of Series C Preferred Stock would entitle the holder thereof to 1,000 votes. The outstanding shares of Series C Preferred Stock would vote together with the outstanding shares of common stock as a single class exclusively with respect to the approval of the proposal (the “Share Increase Proposal”) to amend our Articles of Incorporation to increase the authorized shares of common stock from 40,000,000 shares to 190,000,000 shares with a corresponding increase in the total number of authorized shares of capital stock from 50,000,000 shares to 200,000,000 shares (the “Share Increase Amendment”) and any proposal to adjourn any meeting of stockholders called for the purpose of voting on the Share Increase Amendment (the “Adjournment Proposal” and together with the Share Increase Proposal, the “Proposals”). The Series C Preferred Stock would not be entitled to vote on any other matter, except to the extent required under Chapter 78 of the Nevada Revised Statues. We held a special meeting of stockholders on November 1, 2023 (the “Special Meeting”), at which both Proposals were approved by the stockholders. All shares of Series C Preferred Stock that had not been duly voted by proxy prior to the opening of the Special Meeting were automatically redeemed in whole, but not in part, by us as of immediately prior to the opening of such meeting. Any outstanding shares of Series C Preferred Stock that had not been redeemed prior to the opening of the Special Meeting were redeemed in whole, but not in part, automatically upon the approval of the Share Increase Proposal by the stockholders. Each share of Series C Preferred Stock was redeemed in consideration for the right to receive an amount equal to $0.01 in cash for each ten whole shares of Series C Preferred Stock that had been held as of immediately prior to the applicable redemption. However, the redemption consideration in respect of the shares of Series C Preferred Stock (or fractions thereof) would only be payable to such owners on the number of shares owned and redeemed pursuant to the redemptions rounded down to the nearest whole number that is a multiple of ten (such, that for example, an owner of 25 shares of Series C Preferred Stock redeemed pursuant to any redemption would be entitled to receive cash payment only on redemption of 20 shares of Series C Preferred Stock). 45 Table of Contents Results of Operations Our summary results for the three months ended September 30, 2023 and 2022 are below: Revenue Three Months Ended September 30, 2023 September 30, 2022 Change % Change (in thousands, except percentages) Production Services $ 6,360 $ 9,095 $ (2,735) (30) % Content Distribution 2,592 9,106 (6,514) (72) % Licensing & Royalties 123 280 (157) (56) % Media Advisory & Advertising Services 997 1,198 (201) (17) % Total Revenue $ 10,072 $ 19,679 $ (9,607) (49) % Production Services revenue is generated specifically by Wow providing animation production services. Revenue for production services is recognized over time on a percentage of completion basis, therefore, as the projects are still in progress, we recognize revenue based upon the proportion of costs incurred cumulatively to total expected costs. Consequently, less revenue is recognized during the periods in which the projects are near completion or completed. Revenue for the three months ended September 30, 2023 decreased by 30% as compared to the three months ended September 30, 2022 primarily due to a decrease in the percentage of projects completed during the three months ended September 30, 2023 as compared to the three months ended September 30, 2022. Four out of nine productions were fully delivered in the prior year period, with two new projects commencing during the three months ended September 30, 2023. Content Distribution revenue is generated from the distribution of our properties for broadcast on television, video-on-demand (“VOD”) or subscription video-on-demand (“SVOD”) in domestic and international markets. Content Distribution also includes our advertising sales generated on our digital network, the Kartoon Channel! in the form of either flat rate promotions or advertising impressions served, SVOD revenues generated by Ameba and revenue generated by Frederator on its multi-channel network. Fluctuations in Content Distribution revenue are based on the achievement of revenue recognition criteria such as the start of a license period and the delivery of the content or advertisement to the customer. Revenue related to our AVOD and SVOD, including advertising sales for the three months ended September 30, 2023, decreased by 72% as compared to the three months ended September 30, 2022 primarily due to Wow’s delivery of an IP project during the three months ended September 30, 2022 generating $3.4 million in content revenue as compared to $0.1 million in revenue related to distribution during the three months ended September 30, 2023. In addition, Frederator content revenue decreased during the three months ended September 30, 2023 by $2.6 million as compared to the same prior year period primarily due to lower revenue generated from its multi-channel network on YouTube revenue as a result of less viewership and a decline in revenue per 1,000 (mille) impressions (“RPM”) advertising rates. Licensing & Royalties revenues are generated by the items in which we license the rights to our copyrights and trademarks of our brands and those of the brands for which we act as a licensing agent. Revenue related to our licensing and royalties for the three months ended September 30, 2023 decreased by 56% as compared to the three months ended September 30, 2022 primarily due to our license deals related to our Stan Lee Assets generating increased revenue during the prior year period. Media Advisory & Advertising Services revenue is a combination of client retainer fee-based services and media commissions generated by Beacon. Revenue for the three months ended September 30, 2023 decreased by 17% as compared to the three months ended September 30, 2022 primarily due to an increase of commissions during the three months ended September 30, 2023. 46 Table of Contents Expenses Three Months Ended September 30, 2023 September 30, 2022 Change % Change (in thousands, except percentages) Marketing and Sales $ 522 $ 880 $ (358) (41) % Direct Operating Costs 13,475 13,875 (400) (3) % General and Administrative 8,679 10,363 (1,684) (16) % Total Expenses $ 22,676 $ 25,118 $ (2,442) (10) % Marketing and Sales expenses consist primarily of advertising expenses and certain payments made to our marketing partners. Advertising expenses include promotional activities such as digital and television advertising. Marketing expenses also include payroll and related expenses for personnel that support marketing activities. The decrease in marketing and sales expenses for the three months ended September 30, 2023 as compared to the three months ended September 30, 2022 was primarily due to reduced marketing and advertising expenses incurred to promote Kartoon Channel! . Direct Operating Costs consist primarily of salaries and related expenses for the animation production services employees of Wow and Frederator. Channel expenses, licensing and production of content costs, such as participation expenses related to profit sharing obligations with various animation studios, post-production studios, writers, directors, musicians or other creative talent that had rendered services and amortization, including any write-downs of film and television costs, make up the remainder of Direct Operating Costs. The decrease was primarily due to a reduction in Wow’s headcount, resulting in a $4.8 million decrease in costs and a decrease of $2.6 million reduction in Frederator’s costs as in line with the decrease in revenue. The decrease is offset by offset by write-downs of $6.2 million in film and television costs recorded during the three months ended September 30, 2023. The write-downs were as a result of inactive projects, projects not advancing to the production stage due to a lack of interest from potential partners and an overall economic downturn affecting customers in the entertainment industry. There were no write-downs recorded during the nine months ended September 30, 2022. General and Administrative expenses primarily consist of payroll and related expenses, share-based compensation related to our equity compensation plan, rent, depreciation of our property and equipment and amortization of our intangible assets, as well as professional fees and other general corporate expenses. The $1.7 million decrease in general and administrative expenses for the three months ended September 30, 2023 as compared to the three months ended September 30, 2022 was primarily due to a $0.7 million decrease in stock based compensation expense as less shares vested during the current period, a $0.6 million reduction in professional services costs, primarily legal fees and a $0.2 million decrease in amortization expense of intangibles due to previously amortizable assets written off during the current period. Our summary results for the nine months ended September 30, 2023 and 2022 are below: Revenue Nine Months Ended September 30, 2023 September 30, 2022 Change % Change (in thousands, except percentages) Production Services $ 23,279 $ 19,113 $ 4,166 22 % Content Distribution 8,905 18,049 (9,144) (51) % Licensing & Royalties 272 2,816 (2,544) (90) % Media Advisory & Advertising Services 2,820 3,266 (446) (14) % Total Revenue $ 35,276 $ 43,244 $ (7,968) (18) % Production Services revenue was generated specifically by Wow providing animation production services. Revenue for the nine months ended September 30, 2023 increased primarily due to recognition of nine full months of revenue during the current period as compared to six months of recognition during the nine months ended September 30, 2022 after the acquisition of Wow in the second quarter of 2022. Adding in Wow’s first quarter revenue of 2022 to the nine months ended 47 Table of Contents September 30, 2022 results for comparison purposes, revenue generated by production services decreased by $5.7 million during the nine months ended September 30, 2023. The decrease was primarily due to a decrease in the percentage of projects completed during the current period as compared to the same prior year period. Revenue related to content distribution on AVOD and SVOD, including advertising sales for the nine months ended September 30, 2023, decreased by 51% as compared to the nine months ended September 30, 2022 primarily due to a decrease in Wow’s IP production revenue of $6.2 million as there were no IP projects delivered during the current period as compared to the prior year period and a $2.2 million decrease in Frederator’s multi-channel network on YouTube revenue as a result of less viewership and a decline in RPM advertising rates. Revenue related to our licensing and royalties for the nine months ended September 30, 2023 decreased by 90% as compared to the nine months ended September 30, 2022 primarily due to our license deals related to our Stan Lee Assets generating increased revenue of $2.5 million during the prior year period. Revenue for the nine months ended September 30, 2023 decreased by 14% as compared to the nine months ended September 30, 2022 primarily due to lower commissions during the nine months ended September 30, 2023, resulting in a decrease of $0.5 million. Expenses Nine Months Ended September 30, 2023 September 30, 2022 Change % Change (in thousands, except percentages) Marketing and Sales $ 2,457 $ 2,012 $ 445 22 % Direct Operating Costs 34,301 28,865 5,436 19 % General and Administrative 26,274 36,327 (10,053) (28) % Impairment of Property and Equipment 120 – 120 100 % Impairment of Intangible Assets 4,023 – 4,023 100 % Impairment of Goodwill 11,287 – 11,287 100 % Total Expenses $ 78,462 $ 67,204 $ 11,258 17 % The increase in marketing and sales expenses for the nine months ended September 30, 2023 as compared to the nine months ended September 30, 2022 was primarily due to recognition of marketing expenses related to Shaq’s Garage of $1.2 million, offset by a decrease in marketing and sales expenses during the nine months ended September 30, 2023. Direct Operating Costs during the nine months ended September 30, 2023 consisted primarily of salaries and related expenses for the animation production services employees of Wow and Frederator. The increase was primarily due to the recognition of nine full months of costs incurred by Wow and Fred versus six months of costs incurred during the nine months ended September 30, 2022 after the acquisition in the second quarter of 2022. In addition, we recorded write-downs of $6.2 million in film and television costs during the nine months ended September 30, 2023 due to an overall economic downturn affecting customers in the entertainment industry. There were no write-downs recorded during the nine months ended September 30, 2022. The $10.1 million decrease in general and administrative expenses for the nine months ended September 30, 2023 as compared to the nine months ended September 30, 2022 was primarily due to a decrease of $7.8 million in stock-based compensation expense and acquisition related costs of $4.5 million incurred during the nine months ended September 30, 2022. The decrease is offset by the recognition of nine full months of costs incurred by Wow and Fred versus six months of costs incurred during the nine months ended September 30, 2022 after the acquisition in the second quarter of 2022. During the nine months ended September 30, 2023, we reassessed our long-lived assets, including our definite-lived intangible assets, our indefinite-lived intangible assets and our remaining goodwill allocated to the Content Production and Distribution reportable segment for impairment. As a result, we recorded an impairment charge to our property and equipment of $0.1 million, our definite-lived intangible assets of $2.8 million, our indefinite-lived intangible assets of $1.3 million and our goodwill recorded within the Content Production and Distribution reporting unit of $11.3 million in our condensed consolidated statement of operations. 48 Table of Contents Other Income (Expense), Net Components of Other Income (Expense), net are summarized as follows: Three Months Ended Nine Months Ended September 30, 2023 September 30, 2022 September 30, 2023 September 30, 2022 Interest Expense (a) $ (672) $ (740) $ (2,777) $ (1,184) Warrant Incentive Expense (b) – – (16,174) – Gain on Revaluation of Warrants (c) 2,797 166 8,999 434 Gain (Loss) on Revaluation of Equity Investment in YFE (d) (2,325) (4,071) 1,102 (1,170) Realized Loss on Marketable Securities Investments (e) (1,897) (36) (4,154) (160) Loss on Foreign Exchange (f) (637) (1,336) (282) (2,596) Interest Income (g) 95 257 563 759 Loss on Early Lease Termination (h) (232) – (152) – Finance Lease Interest Expense (i) (48) (42) (232) (72) Other 11 – 37 – Other Expense, net $ (2,236) $ (5,062) $ (10,293) $ (2,805) (a) Interest expense during the three and nine months ended September 30, 2023 primarily consisted of $0.2 million and $1.5 million of interest incurred on the margin loan, respectively, and $0.5 million and $1.3 million, respectively, of interest incurred on production facilities loans and bank indebtedness assumed as part of the Wow Acquisition. (b) The Warrant Incentive Expense is related to the $12.7 million fair value of Exchange Warrants that were issued during the three months ended June 30, 2023 to certain existing warrant holders in exchange for previously issued outstanding warrants and $3.5 million recorded as the incremental expense of the 2021 Warrants immediately before and after the repricing. (c) The gain on warrant revaluation during the three months ended September 30, 2023 is primarily related to the $2.7 million change in fair value as of the end of the current reporting period of the Exchange Warrants and SEG Warrants compared to the fair value as of the end of the prior reporting period due to a decrease in market price. The gain on warrant revaluation during the nine months ended September 30, 2023 is primarily related to the $8.8 million change in fair value as of the end of the current reporting period of the Exchange Warrants and SEG Warrants compared to the fair value as of the issuance date due to a decrease in market price. (d) As accounted for using the fair value option, the gain or loss on the YFE investment revaluation, excluding the impact of foreign currency recorded separately, is a result of the increases or decreases in YFE’s stock price as of the current reporting period when compared to the prior reporting period. (e) The net realized loss on marketable securities reflects the loss that will not be recovered from the investments due to selling securities and issuers' prepayments of principals on certain mortgage-backed securities. (f) The loss on foreign currency exchange during the three and nine months ended September 30, 2023 primarily related to the EURO weakening against the USD when compared to the prior reporting period. (g) Interest Income during the three and nine months ended September 30, 2023 primarily consisted of interest income of $0.1 million and $0.4 million, net of premium amortization expense, recorded for the investments in marketable securities, respectively. (h) The loss on early termination of lease is due to early termination of the Lyndhurst, NJ office lease, effective August 1, 2023. The loss includes fees of $0.1 million and the write-down of assets and liabilities resulting in net, $0.1 million of loss. (i) The finance lease interest expense represents the interest portion of the finance lease obligations assumed as part of the Wow Acquisition for equipment purchased under an equipment lease line. 49 Table of Contents Liquidity and Capital Resources As of September 30, 2023, we had cash of $3.9 million, which decreased by $3.5 million as compared to December 31, 2022. The decrease was primarily due to cash used in financing activities of $52.8 million, primarily due to repayment of the margin loan, net proceeds, offset by the cash received from the warrant exchange and $20.2 million used in operating activities. The cash used was offset by cash provided by sales and maturities of marketable securities of $67.6 million. As of September 30, 2023, we held available-for-sale marketable securities with a fair value of $16.2 million, which decreased by $67.6 million as compared to December 31, 2022 due to sales and maturities during the nine months ended September 30, 2023. The available-for-sale securities consist principally of corporate and government debt securities and are also available as a source of liquidity. We borrowed an additional $17.6 million from our investment margin account during the nine months ended September 30, 2023 and repaid $76.2 million primarily with cash received from sales and maturities of marketable securities. During the nine months ended September 30, 2023, the borrowed amounts were primarily used for operational costs. The interest rates for the borrowings fluctuate based on the Fed Funds Upper Target plus 0.60%. The weighted average interest rates were 1.13% and 1.66% on average margin loan balances of $34.0 million and $27.1 million as of September 30, 2023 and December 31, 2022, respectively. We incurred interest expense on the loan of $0.2 million and $0.4 million during the three months ended September 30, 2023 and September 30, 2022, respectively and $1.5 million and $0.6 million during the nine months ended September 30, 2023 and September 30, 2022, respectively. The investment margin account borrowings do not mature but are collateralized by the marketable securities held by the same custodian and the custodian can issue a margin call at any time, effecting a payable on demand loan. Due to the call option, the margin loan is recorded as a current liability on our condensed consolidated balance sheets. As of September 30, 2023 and December 31, 2022, our margin loan balance was $2.2 million and $60.8 million, respectively. We are subject to financial and customary affirmative and negative non-financial covenants on the revolving demand facility, revolving equipment lease line and treasury risk management facility that have an aggregate total outstanding balance of $3.8 million USD ($5.2 million CAD). We were in technical violation of two financial covenants requiring a minimum fixed charge ratio and a maximum senior funded debt to EBITDA ratio as of as of September 30, 2023. We have continued to make our regular principal and interest payments on a timely basis since the effective borrowing date. The revolving demand facility and the treasury risk management facility can be called at any time by the lender as per the original terms of the facilities. The risk of the lender demanding repayment can be deemed greater due to the breach of covenants. Working Capital As of September 30, 2023, we had current assets of $61.4 million, including cash of $3.9 million and marketable securities of $16.2 million, and our current liabilities were $49.6 million. We had working capital of $11.8 million as of September 30, 2023 as compared to working capital of $28.6 million as of December 31, 2022. The decrease of $16.8 million was primarily due to a decrease in our cash and marketable security position, offset by the change in net current assets and liabilities as a result of the acquisition of Wow and Ameba and additional short-term borrowings from our margin loan account. During the nine months ended September 30, 2023, we met our immediate cash requirements through existing cash balances. Additionally, we used equity and equity-linked instruments to pay for services and compensation. We believe that our current cash balances and our investments in available for sale marketable securities are sufficient to support our operations for at least the next twelve months. To meet our short and long-term liquidity needs, we expect to use existing cash and marketable securities balances. Comparison of Cash Flows for the Nine Months Ended September 30, 2023 and September 30, 2022 Our total cash as of September 30, 2023 and September 30, 2022 was $3.9 million and $7.1 million, respectively. 50 Table of Contents Nine Months Ended September 30, 2023 September 30, 2022 Change (in thousands) Net Cash Used in Operating Activities $ (20,168) $ (24,027) $ 3,859 Net Cash Provided by (Used in) Investing Activities 69,418 (37,362) 106,780 Net Cash Provided by (Used in) Financing Activities (52,829) 58,609 (111,438) Effect of Exchange Rate Changes on Cash 34 (187) 221 Decrease in Cash $ (3,545) $ (2,967) $ (578) Net Noncash Expenses Items necessary to reconcile from net loss to cash used in operating activities included net noncash expenses of $41.3 million for the nine months ended September 30, 2023 as compared to net noncash expenses of $22.9 million for the nine months ended September 30, 2022. The majority of the increase of $18.4 million was primarily due to the recognition of $16.2 million as the fair value of Exchange Warrants classified as liabilities issued in June 2023 and the incremental expense of the modified 2021 Warrants exchanged and impairment expenses of our long-lived assets, intangible assets and goodwill of $15.4 million recorded during the nine months ended September 30, 2023. In addition, the realized loss on marketable securities increased by $4.0 million due to the increased sales of our marketable securities prior to their maturity date. The increase is offset by a gain of $8.6 million from the revaluation of liability classified warrants, primarily the new Exchange Warrants and a decrease in our stock-based compensation of $7.8 million due to the absence of incurring a modification expense in the current year for the CEO’s restricted stock that occurred in the prior year. Change in Operating Activities The change in cash provided by operating asset activity of $9.1 million as of September 30, 2023 compared to September 30, 2022 was primarily due to the decrease in the change in tax credit receivables, net by the Wow entity of $4.2 million as productions decreased and a decrease in the change in film and television costs of $6.6 million due to write-downs of $6.2 million recognized during the three months ended September 30, 2023. The decrease in cash used in operating liability activities of $3.9 million as of September 30, 2023 compared to September 30, 2022 was primarily due to the change in accrued production costs of $2.5 million, due to less production in the current period and accounts payable of $2.0 million due to timing of payments. Change in Investing Activities Cash investing activities for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022 increased from cash used in investing of $37.4 million to cash provided by investing of $69.4 million, primarily due to an increase in proceeds from the sales and maturities of marketable securities of $52.8 million during the nine months ended September 30, 2023 and the decrease in cash used of $50.7 million for investments and acquisitions in the prior year that did not occur in the current period. Change in Financing Activities Cash financing activities for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022 decreased from cash provided by financing of $58.6 million to cash used in financing of $52.8 million, primarily due to paying down the margin loan during the nine months ended September 30, 2023 compared to additional borrowings during the nine months ended September 30, 2022, resulting in a net $115.1 million decrease in cash provided by financing activities. Material Cash Requirements We have entered into arrangements that contractually obligate us to make payments that will affect our liquidity and cash flows in future periods. Our material cash requirements from known contractual and other obligations primarily relate to our debt and lease obligations and our employment and consulting contracts. The aggregate amount of future minimum purchase obligations under these agreements over the period of next five years is approximately $38.7 million as of September 30, 2023, of which about $10.4 million could be owed within one year if the margin loan and interim production facilities are called. 51 Table of Contents We plan to utilize our liquidity (as described above) to fund our material cash requirements. As of September 30, 2023, we had $2.5 million in commitments for capital expenditures, related to equipment leases. Critical Accounting Policies and Estimates The preparation of the financial statements and related disclosures in conformity with U.S. generally accepted accounting principles and our discussion and analysis of our financial condition and operating results require our management to make judgments, assumptions and estimates that affect the amounts reported. Management bases its estimates on historical experience and on various other assumptions it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates, and such differences may be material. Note 2, “Summary of Significant Accounting Policies” in Part I, Item 1 of this Quarterly Report on Form 10-Q and in the Notes to Consolidated Financial Statements in Part II, Item 8 of our Annual Report on Form 10-K for the year ended December 31, 2022, which was filed with the SEC on April 13, 2023 (the “2022 Annual Report”), and “Critical Accounting Policies and Estimates” in Part II, Item 7 of the 2022 Annual Report describe the significant accounting policies and methods used in the preparation of our condensed consolidated financial statements. Off Balance Sheet Arrangements We have no off-balance sheet arrangements. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Not applicable.