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 three and nine months ended September 30, 2021 and 2020. 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 filed on March 31, 2021 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 The management’s discussion and analysis is based on our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make certain estimates and judgments that affect the reported amounts of assets, liabilities and expenses and related disclosure of contingent assets and liabilities. Management bases its estimates on historical experience and on various other assumptions that are believed 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. Actual results may differ from these estimates under different assumptions and conditions. Our Business Genius Brands International, Inc. (“we,” “us,” “our,” or the “Company”) is a global content and brand management company that creates and licenses multimedia content. Led by experienced industry personnel, we distribute our content in all formats as well as a broad range of consumer products based on our characters. In the children's media sector, our portfolio features “content with a purpose” for toddlers to tweens, which provides enrichment as well as entertainment. New intellectual property titles include Stan Lee’s Superhero Kindergarten produced with Stan Lee’s Pow! Entertainment, and Oak Productions. Arnold Schwarzenegger lends his voice as the lead and is also an Executive Producer on the series. Another new offering is KC Pop Quiz , a live action game show featuring kids as contestants. The show is hosted by Casey Simpson, a prominent influencer and former Nickelodeon star. Both KC Pop Quiz and Superhero Kindergarten are being broadcast in the United States on our wholly-owned distribution outlet, Kartoon Channel!. Other newer series include, the preschool property Rainbow Rangers , which debuted in November 2018 on Nickelodeon and which was renewed for a second season and preschool property Llama Llama, which debuted on Netflix in January 2018 and was renewed by Netflix for a second season. 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, which is distributed across our Genius Brands Network on Comcast’s Xfinity on Demand, AppleTV, Roku, Amazon Fire, YouTube, Amazon Prime, Cox, Dish, Sling and Zumo, as well as Connected TV. In July 2020, we entered into a binding term sheet with POW, Inc. in which we agreed to form an entity with POW! to exploit certain rights in intellectual property created by Stan Lee, as well as the name and likeness of Stan Lee. The entity is called “Stan Lee Universe, LLC”. POW! and the Company executed an Operating Agreement for the joint venture, effective as of June 1, 2021. This agreement enables us to assume the worldwide rights, in perpetuity, to the name, physical likeness, physical signature, live-action and animated motion picture, television, online, digital, publishing, comic book, merchandising and licensing rights to Stan Lee and over 100 original Stan Lee creations, from which Genius Brands plans to develop and license multiple properties each year. We are also in production on a new animated series starring Shaquille O’Neal called Shaq’s Garage. 36 In addition, we act as licensing agent for Penguin Young Readers, a division of Penguin Random House LLC which owns or controls the underlying rights to Llama Llama , leveraging our existing licensing infrastructure to expand this brand into new product categories, new retailers, and new territories. 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 shareholders — and to enhance our success as a business. We are committed to responsible, ethical and inclusionary business practices as outlined below: Human Capital Management 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. · In 2021, we created the role of Chief Diversity Officer. That role is responsible for both helping meet our hiring goals and reviewing the content we create. · Our board of directors is diverse: 33.3% female and with representation from people of color and the LBGTQ community. · Our diverse workforce is approximately 62% female. 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 available to our employees, training on preventing sexual harassment, discrimination and retaliation. · 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. 37 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 Financings On January 28, 2021, we entered into letter agreements (the “Letter Agreements”) with certain existing institutional and accredited investors to exercise certain outstanding warrants (the “Existing Warrants”) to purchase up to an aggregate of 39,740,500 shares of our common stock at their original exercise price of $1.55 per share (the “Exercise”). We received approximately $61.6 million in gross proceeds. The Special Equities Group, a division of Bradley Woods & Co. Ltd., acted as warrant solicitation agent and received a cash fee of approximately $4,286,844. In consideration for the exercise of the Existing Warrants for cash, the exercising holders received new unregistered warrants to purchase up to an aggregate of 39,740,500 shares of common stock (the “New Warrants”) at an exercise price of $2.37 per share, exercisable immediately, with an exercise period of five years from the initial issuance date. Pursuant to the Letter Agreements, the New Warrants are substantially in the form of the Existing Warrants (except for customary legends and other language typical for an unregistered warrant, including the ability for the holder of the New Warrant to make a cashless exercise if no resale registration statement covering the common stock underlying the New Warrants is effective after six months). We were required to register the resale of the shares of common stock issuable upon exercise of the New Warrants. Coronavirus (COVID-19) With respect to the ongoing and evolving coronavirus (“COVID-19”) outbreak, which was designated as a pandemic by the World Health Organization on March 11, 2020, COVID-19 has caused substantial disruption in international and U.S. economies and markets. COVID-19 has had an adverse impact on the entertainment industry and, if repercussions of COVID-19 are prolonged, could have a significant adverse impact on our business, which could be material. The majority of our employees have been working remotely from home, with only a few individuals monitoring the office as needed. A safe return-to-work plan has been developed. We had announced a return to office date of September 7, 2021, for fully vaccinated employees. However, due to a recent surge in COVID-19 cases and the increased transmissibility of COVID-19 variants, the planned date for returning, in-person, to the office is January 3, 2022. To date, we believe that COVID-19 has started to cause a negative impact on our business, including the effects on our customers, suppliers and vendors, which could have a negative impact on our financial results. Our management cannot at this point estimate the impact of COVID-19 on our business, and no provision for COVID-19 is reflected in the accompanying financial statements. However, with regard to content distribution, we have observed demand increases for streaming entertainment services in 2021. Supply chain issues are affecting the toy industry which may impact sales efforts in our ChizComm Beacon Media subsidiary. We will continue to actively monitor the situation and may take further actions that alter our business operations as may be required by federal, state, local or foreign authorities, or that we determine are in the best interests of our employees, customers, partners and stockholders. 38 Results of Operations Our summary results for the three months ended September 30, 2021 and September 30, 2020 are below. Revenues Three Months Ended September 30, 2021 September 30, 2020 Change % Change Licensing & Royalties $ 90,660 $ 199,572 $ (108,912 ) (55)% Media Advisory & Advertising Services 1,181,792 – 1,181,792 NA Television & Home Entertainment 520,691 31,375 489,316 1,560 % Advertising Sales 76,901 42,715 34,186 80 % Product Sales 1,405 330 1,075 326 % Total Revenue $ 1,871,449 $ 273,992 $ 1,597,457 583 % Licensing and Royalties revenue include items for 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. During the three months ended September 30, 2021 compared to the three months ended September 30, 2020, Licensing and Royalties revenue decreased $108,912 or 55%. The decrease was primarily due to the expiration of certain consumer product licenses that were not renewed. Media Advisory & Advertising Services revenue is a combination of client retainer fee-based services and media commissions. The increase of $1,181,792 was a result of the ChizComm acquisition on February 1, 2021. Television & Home Entertainment revenue is generated from distribution of our properties for broadcast on television, video-on-demand (“VOD”), or subscription video-on-demand (“SVOD”) in domestic and international markets and the sale of DVDs for home entertainment through our partners. Fluctuations in Television & Home Entertainment revenue occur period over period based on the achievement of revenue recognition criteria such as the start of a license period and the delivery of the content to the customer. During the three months ended September 30, 2021 compared to the three months ended September 30, 2020, Television & Home Entertainment revenue increased $489,316, or 1,560%. The increase was primarily due to the recognition of revenue related to Stan Lee’s Superhero Kindergarten and Rainbow Rangers . Advertising sales are generated on the Kid Genius Cartoon Channel in the form of either flat rate promotions or advertising impressions served. Advertising sales increased by $34,186 or 80%, during the three months ended September 30, 2021 compared to the three months ended September 30, 2020. The increase was primarily due to the addition of new licensed titles and revenue generated by Stan Lee’s Superhero Kindergarten . Product sales are generated through Merch by Amazon and consist of on-demand printed t-shirt sales for the Llama Llama and Rainbow Rangers brands. Product sales increased $1,075 or 326%, during the three months ended September 30, 2021 compared to the three months ended September 30, 2021. 39 Expenses Three Months Ended September 30, 2021 September 30, 2020 Change % Change Marketing and Sales $ 1,187,754 $ 364,869 $ 822,885 226 % Direct Operating Costs 634,082 219,451 414,631 189 % General and Administrative 9,884,073 3,042,178 6,841,895 225 % Interest Expense 2,057 17,193 (15,136 ) (88)% Total $ 11,707,966 $ 3,643,691 $ 8,064,275 221 % Marketing and sales expenses increased $822,885, or 226%, for the three months ended September 30, 2021 compared to the three months ended September 30, 2020, primarily due to an increase in marketing and advertising expenses to promote Stan Lee’s Superhero Kindergarten and the Kartoon Channel!. Direct operating costs include costs of our product sales, unamortizable post-production costs, film and television cost amortization expense, and participation expense related to agreements with various animation studios, post-production studios, writers, directors, musicians or other creative talent with which we are obligated to share net profits of the properties on which they have rendered services. During the three months ended September 30, 2021, we recorded film and television cost amortization expense of $249,141 and participation expense of $320,064 compared to expenses of $101,717 and $113,894, respectively, for the three months ended September 30, 2020. The increases in direct operating costs for the three months ended September 30, 2021 compared to the three months ended September 30, 2020 is primarily due to increased amortization and participation expenses related to revenues from the Rainbow Rangers property. General and administrative expenses consist primarily of salaries, employee benefits, share-based compensation related to stock options, insurances, rent, depreciation, and amortization as well as other professional fees related to finance, accounting, legal and investor relations. General and administrative expenses for three months ended September 30, 2021 increased $6,841,895, or 225%, compared to the same period in 2020. This increase was primarily due to an increase in share-based compensation expense of approximately $5.1 million as a result of the CEO’s RSU modification and consolidation of ChizComm expenses due to the ChizComm Acquisition on February 1, 2021. ChizComm general and administrative expenses consist primarily of salaries, employee benefits and rent. Interest expense for the three months ended September 30, 2021 decreased $15,136, or 88%, compared to the same period in 2020. The decrease is primarily due to the repayment of the outstanding Production Facility balance under the Loan and Security Agreement on July 14, 2021. Our summary results for the nine months ended September 30, 2021 and September 30, 2020 are below. 40 Revenues Nine Months Ended September 30, 2021 September 30, 2020 Change % Change Licensing & Royalties $ 1,497,277 $ 565,696 $ 931,581 165% Media Advisory & Advertising Services 2,906,504 – 2,906,504 NA Television & Home Entertainment 672,120 409,837 262,283 64% Advertising Sales 199,464 191,728 7,736 4% Product Sales 2,551 2,149 402 19% Total Revenue $ 5,277,916 $ 1,169,410 $ 4,108,506 351% Licensing and Royalties revenue include items for 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. During the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020, Licensing and Royalties revenue increased $931,581, or 165%. The increase was primarily due to proceeds received in conjunction with the mutually agreed termination of certain licensing rights during the second quarter. Media Advisory & Advertising Services revenue is a combination of client retainer fee-based services and media commissions. The increase of $2,906,5504 was a result of the ChizComm acquisition on February 1, 2021. Television & Home Entertainment revenue is generated from distribution of our properties for broadcast on television, VOD, or SVOD in domestic and international markets and the sale of DVDs for home entertainment through our partners. Fluctuations in Television & Home Entertainment revenue occur period over period based on the achievement of revenue recognition criteria such as the start of a license period and the delivery of the content to the customer. During the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020, Television & Home Entertainment revenue increased $262,283, or 64%. The increase was primarily due to the recognition of revenue related to Stan Lee’s Superhero Kindergarten and Rainbow Rangers . Advertising sales are generated on the Kid Genius Cartoon Channel in the form of either flat rate promotions or advertising impressions served. Advertising sales increased by $7,736 or 4%, during the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020. The increase was primarily due to the addition of new licensed titles and revenue generated by Stan Lee’s Superhero Kindergarten . Product sales are generated through Merch by Amazon and consist of on-demand printed t-shirt sales for the Llama Llama and Rainbow Rangers brands. Product sales increased $402 or 19%, during the nine months ended September 30, 2021 compared to the nine months ended September 30, 2021. 41 Expenses Nine Months Ended September 30, 2021 September 30, 2020 Change % Change Marketing and Sales $ 3,330,915 $ 606,125 $ 2,724,790 450% Direct Operating Costs 2,151,848 886,972 1,264,876 143% General and Administrative 23,932,322 7,173,594 16,758,728 234% Interest Expense 19,565 1,168,801 (1,149,236 ) (98 )% Total $ 29,434,650 $ 9,835,492 $ 19,599,158 199% Marketing and sales expenses increased $2,724,790, or 450%, for the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020, primarily due to an increase in marketing and advertising expenses to promote Stan Lee’s Superhero Kindergarten and the Kartoon Channel!. Direct operating costs include costs of our product sales, unamortizable post-production costs, film and television cost amortization expense, and participation expense related to agreements with various animation studios, post-production studios, writers, directors, musicians or other creative talent with which we are obligated to share net profits of the properties on which they have rendered services. During the nine months ended September 30, 2021, we recorded film and television cost amortization expense of $907,511 and participation expense of $1,025,012 compared to expenses of $395,073 and $484,697, respectively, for the nine months ended September 30, 2020. The increases in direct operating costs for the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020 is primarily due to increased amortization and participation expenses related to revenues from the Rainbow Rangers property. General and administrative expenses consist primarily of salaries, employee benefits, share-based compensation related to stock options, insurances, rent, depreciation, and amortization as well as other professional fees related to finance, accounting, legal and investor relations. General and administrative expenses for the nine months ended September 30, 2021 increased $16,758,728, or 234%, compared to the same period in 2020. The increase is primarily related to the acquisition of the ChizComm entities, increases in legal professional fees, increase in share-based compensation expense related to the modification of the CEO’s RSUs, rent expense and directors’ and officers’ insurance. Interest expense for the nine months ended September 30, 2021 decreased $1,149,236, or 98%, compared to the same period in 2020. The decrease is primarily due to the repayment of the outstanding Production Facility balance under the Loan and Security Agreement on July 14, 2021. Liquidity and Capital Resources During the nine months ended September 30, 2021, our cash and cash equivalents and marketable security positions increased by $29,768,161. Cash in excess of immediate requirements is invested in accordance with our investment policy, primarily with a view for liquidity and capital preservation. Accordingly, available-for-sale securities, consisting principally of corporate and government debt securities, and money market funds classified as cash equivalents are also available as a source of liquidity. During the nine months ended September 30, 2021, we purchased marketable securities of $128,277,575, net of redemptions during the period. 42 Working Capital Historically, we have incurred net losses. For the three months ended September 30, 2021 and September 30, 2020, we reported net losses of $9,253,380 and $2,007,209, respectively. For the nine months ended September 30, 2021 and September 30, 2020, we reported net losses of $92,906,971 and $391,101,155, respectively. We reported net cash used in operating activities of $15,965,351 and $5,475,826 for the nine months ended September 30, 2021 and September 30, 2020, respectively. As of September 30, 2021, we had an accumulated deficit of $562,464,295 and total stockholders’ equity of $167,976,968. As of September 30, 2021, we had current assets of $143,046,171, including cash and cash equivalents of $4,884,149 and marketable securities of $125,340,336, and current liabilities of $11,607,299. We had working capital of $131,438,872 as of September 30, 2021, compared to working capital of $101,387,183 as of December 31, 2020. The increase of $30,051,689 in working capital as compared to December 31, 2020, was primarily due to an increase in our cash and cash equivalents and marketable security position, offset by the change in net current assets and liabilities as a result of the acquisition of ChizComm. During the nine months ended September 30, 2021, 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 and cash equivalents 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 balances. Comparison of Cash Flows for the Nine Months Ended September 30, 2021, and the Nine Months Ended September 30, 2020 Our total cash and cash equivalents were $4,884,149 and $50,461,566 as of September 30, 2021 and September 30, 2020, respectively. Comparison of Cash Flows Nine Months Ended September 30, 2021 September 30, 2020 Change % Change Cash used in operations $ (15,965,351 ) $ (5,475,826 ) $ (10,489,525 ) 192% Cash used in investing activities (135,521,695 ) (554,926 ) (134,966,769 ) N/A Cash provided by financing activities 55,914,871 56,187,197 (272,326 ) (0.48)% (Decrease)/Increase in cash and cash equivalents $ (95,572,175 ) $ 50,156,445 $ (145,728,620 ) (291)% Operating Activities Cash used in operating activities for the nine months ended September 30, 2021 was $15,965,351 as compared to cash used in operating activities of $5,475,826 during the comparable period in the prior year. The increase in cash used in operating activities was primarily due to an increase in professional fees, marketing expenses, D&O insurance and salaries. 43 Investing Activities Cash used in investing activities for the nine months ended September 30, 2021 was $135,521,695 as compared to a use of $554,926 for the nine months ended September 30, 2020. The increase in cash used for investing was primarily due to our net investments in marketable securities of $128,277,575. Investing activities also include the cash paid, net of cash acquired from the ChizComm acquisition of $7,788,877 which occurred on February 1, 2021. Financing Activities Cash provided by financing activities for the nine months ended September 30, 2021 was $55,914,871 as compared to $56,187,197 of cash provided by the comparable period in 2020. The primary source of cash during the nine months ended September 30, 2021 was the net proceeds of $57,264,656 from the warrant exercise during January 2021. During the nine months ended September 30, 2020, our primary sources of cash were the net sales of common shares for $44,755,672, net proceeds from the 2020 Convertible Notes of $6,098,000, the net proceeds of $5,874,329 from warrant exercises and $3,600,000 from the collection of the Investor Notes. Capital Expenditures As of September 30, 2021, we do not have any material commitments for capital expenditures. Critical Accounting Policies 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 Form 10-Q and in the Notes to Consolidated Financial Statements in Part II, Item 8 of the 2020 Form 10-K, and “Critical Accounting Policies and Estimates” in Part II, Item 7 of the 2020 Form 10-K 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. 44