Kartoon Studios, Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 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. Please refer to the section entitled “Cautionary Note Regarding Forward-Looking Statements” immediately preceding Part I for important information to consider when evaluating such statements. This section of this Annual Report on Form 10-K generally discusses 2024 and 2023 items and year-to-year comparisons between 2024 and 2023. Overview Our production services business is focused on creating high-quality original and for hire content in the most efficient way possible. To achieve this, our Mainframe Studios division, the main driver of this business, is exploring more ways to improve operations by adopting a more flexible and efficient approach. This includes collaborating with outsource partners and utilizing AI technology to streamline processes and drive efficiencies within the organization. With over 1,200 episodes, 70 movies, and three feature films to its credit, the division has partnered with major industry players to produce acclaimed series such as “ Barbie Dreamhouse Adventures ,” “ Octonauts: Above & Beyond, ” and “ Unicorn Academy .” Our content distribution business is focused on achieving scale across our networks, including Kartoon Channel! , Frederator, Ameba, and Kartoon Channel! Worldwide. Revenue growth is expected to be driven by the continued focus on licensed content and exploitation of our current content such as Stan Lee, Shaq’s Garage, Rainbow Rangers and many more. Continued profit growth should be realized the more we can scale the business across our platforms. In addition, we have implemented and are continuing to look at artificial intelligence (“AI”) tools to reduce the cost of operating distribution expenses such as dubbing expenses, video resolution upscaling and converting between 2D and 3D. We believe that our licensing and royalties business has the most upside and potential for us of all our business lines. We are looking to take advantage of our incredible set of Stan Lee assets to drive consumer products - both digitally and physically. We plan to focus on utilizing all of our IP assets further in 2025 and beyond. Our media advisory and advertising services business is focused on driving deal flow opportunities and winning annuity business through retainers and projects. The team continues to focus on the toy business, but also expansion into tangential industries such as family and travel. The team has expanded their reach over the past 12-18 months by leveraging their relationships with influencers to promote products and provide bespoke marketing initiatives for the clients. April 2024 Offering On April 23, 2024, pursuant to the terms of a securities purchase agreement, dated April 18, 2024 (the “SPA”), we closed a registered direct offering of the sale of 3,900,000 shares of our common stock, par value $0.001 per share (the “Common Stock”), and pre-funded warrants to purchase up to 100,000 shares of Common Stock (the “Pre-funded Warrants”) to an institutional investor (the "Investor"), at $1.00 per share of Common Stock and $0.99 per Pre-funded Warrant, for aggregate gross proceeds of approximately $4,000,000, prior to deducting placement agent fees and other offering expenses. Additionally, in connection with the April 2024 Offering, the exercise price of certain warrants to purchase 4,784,909 shares of common stock, previously issued by us in June 2023, was reduced from $2.50 per share to $1.00 per share pursuant to anti-dilution provisions contained in such warrants. 23 “Winnie-the-Pooh” Project Financing On June 21, 2024, we announced the launch of “Winnie-the-Pooh” on the Kartoon Channel through a $30.0 million joint venture (the “JV”) with Catalyst Venture Partners (“Catalyst”). The binding term sheet governing the JV stipulates after Catalyst recoups its investment with 10% premium, the ownership and profit split between the partners is 60% to Kartoon Studios and 40% to Catalyst Venture Partners. “Winnie-the-Pooh” is based on the designs and stories of one of the most successful brands of all time, A.A. Milne’s “Winnie-the-Pooh,” a property that has generated over $80 billion in sales over the last four decades and is estimated to currently generate $3-$6 billion per year. Catalyst has agreed to provide the full amount of the production financing with the plan to include an animated holiday movie, 5 holiday specials and 4 seasons of episodic series. December 2024 Offering On December 18, 2024, we closed an offering (the “December 2024 Offering”) for aggregate gross proceeds of approximately $4,496,480 from one institutional investor and issued to such investor 4,375,000 shares of common stock, pre-funded common stock purchase warrants to purchase up to 3,519,736 shares of common stock, Series A common stock purchase warrants to purchase up to 7,894,736 shares of common stock, and Series B common stock purchase warrants to purchase up to 7,894,736 shares of common stock. Each share of common stock and each pre-funded warrant was issued together with one Series A warrant and one Series B warrant as part of an integrated offering. The purchase price per share of common stock, together with accompanying Series A and Series B warrants, was $0.57, while the purchase price per pre-funded warrant was $0.569. We incurred a placement agent fee of approximately $389,754 and issued warrants to purchase 1,657,895 shares of common stock to the placement agent with an exercise price of $0.71 per share. Following an analysis under applicable accounting guidance, we determined that the pre-funded warrants and placement agent warrants met the criteria for equity classification, while the Series A and Series B warrants required classification as liabilities due to settlement provisions requiring shareholder approval. The liability-classified warrants will be subsequently measured at fair value, with changes recognized in earnings. In accordance with applicable accounting standards, we allocated the total proceeds among the instruments issued, recognizing the warrants as a liability at their full fair value. As a result of this allocation, we recorded a non-cash loss of $1.0 million. Executing the transaction was driven by several strategic considerations. The capital injection strengthened our liquidity position, supporting project development and ongoing operations. Additionally, while the warrants resulted in a non-cash accounting loss due to their fair value measurement, they did not impact our cash flows. Furthermore, our management believes, that the offering was beneficial from a market visibility perspective. “Andrew The Big BIG Unicorn” Owned IP Project On August 28, 2024, Mainframe Studios, our affiliate, announced that it is co-producing Andrew the Big BIG Unicorn, an animated children’s series, in collaboration with Pirate Size Productions (Australia) and Infinite Studios (Singapore/Indonesia). The series (40 episodes, seven minutes each) is targeted at preschool audiences and follows the adventures of a young rhino living as a very big unicorn. The project is targeted for delivery in March 2026. The production is commissioned by ABC (Australia), CBC (Canada), and SRC (Canada), with Kartoon Studios retaining international distribution, licensing, and merchandising rights. The series will premiere on ABC Kids and ABC iview in Australia and on CBC Kids, Radio-Canada, CBC Gem, and ICI TOU.TV in Canada. The project reflects our ongoing commitment to expanding its global content production footprint and leveraging strategic partnerships in key international markets. 24 Results of Operations Our summary results for the years ended December 31, 2024 and December 31, 2023 are below: Revenue Year Ended December 31, 2024 2023 Change % Change (in thousands, except percentages) Production Services $ 17,850 $ 26,799 $ (8,949 ) (33 )% Content Distribution 9,607 11,698 (2,091 ) (18 )% Licensing and Royalties 298 649 (351 ) (54 )% Media Advisory and Advertising Services 4,836 4,939 (103 ) (2 )% Total Revenue $ 32,591 $ 44,085 $ (11,494 ) (26 )% Production services revenue was generated specifically by Mainframe Studios 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. The production services revenue for the year ended December 31, 2024 was 33% lower than the production services revenue recognized during the year ended December 31, 2023. The decrease was primarily due to a lower volume of animation production services projects in progress during the year ended December 31, 2024 as compared to the prior year period. Revenue related to content distribution on AVOD and SVOD, including advertising sales for the year ended December 31, 2024, decreased by 18% as compared to the year ended December 31, 2023. This was primarily due to a decrease in content revenue from Frederator’s creator network on YouTube of $1.7 million for the year ended December 31, 2024 as compared to the year ended December 31, 2023. The decrease in Frederator’s creator network revenue from YouTube was due to overall less viewership as compared to the prior year period. In addition, the decline in content distribution revenue was partially due to a decrease in Wow’s IP production revenue of $0.3 million, as there were no new IP projects delivered during the year ended December 31, 2024. Revenue related to our licensing and royalties for the year ended December 31, 2024 decreased by 54% as compared to the year ended December 31, 2023, primarily due to lower amounts earned from our license deals related to our consumer products agreements and music licensing agreements, which decreased by $0.3 million. Revenue generated by media advisory and advertising services for the year ended December 31, 2024 decreased by 2% as compared to the year ended December 31, 2023, primarily due to lower net renewal activity and fewer media purchases from clients during the year ended December 31, 2024. 25 Expenses Year Ended December 31, 2024 2023 Change % Change (in thousands, except percentages) Marketing and Sales $ 1,243 $ 2,651 $ (1,408 ) (53 )% Direct Operating Costs 23,134 40,399 (17,265 ) (43 )% General and Administrative 25,210 35,324 (10,114 ) (29 )% Impairment of Property and Equipment – 134 (134 ) 100 % Impairment of Intangible Assets – 4,413 (4,413 ) (100 )% Impairment of Goodwill – 33,534 (33,534 ) (100 )% Total Expenses $ 49,587 $ 116,455 $ (66,868 ) (57 )% The decrease in marketing and sales expenses for the year ended December 31, 2024, as compared to the year ended December 31, 2023, was primarily due to cost saving efforts during the year ended December 31, 2024 and the recognition of marketing expenses related to stock issued for services of $1.2 million for our Shaq’s Garage series in the year ended December 31, 2023, which were not incurred during the current year period. Direct Operating Costs during the year ended December 31, 2024 consisted primarily of salaries and related expenses for the animation production services employees of Wow and Frederator. Creator network 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 $7.4 million reduction in Wow’s animation production services costs for the year ended December 31, 2024, as compared to the prior year. The decrease was mainly from a reduction in salary costs, net of tax credits, as a result of a reduction in headcount on a lower volume of service production projects in the current year, as compared to the year ended December 31, 2023. The decrease was also due to a reduction in film amortization expense recognized during the year ended December 31, 2024 of $7.3 million as compared to the year ended December 31, 2023 as a result of less film and television production and no impairment recognized during the current year. In addition, costs associated with Frederator’s creator network and licensing and royalties for the year ended December 31, 2024 decreased by $2.4 million compared to the prior year period. The decrease was mainly due to a reduction in payments to our creator network members and aligned with the decline in Frederator creator network revenue. The $10.1 million decrease in general and administrative expenses for the year ended December 31, 2024 as compared to the year ended December 31, 2023 was driven by a decrease of $2.0 million in stock-based compensation expense and a decrease of $1.2 million in depreciation and amortization mainly due to impairment related asset reductions in prior period. Additionally, we observed a reduction of $6.8 million in overhead costs primarily due to cost-saving initiatives. During the year ended December 31, 2024, we performed an impairment assessment of our intangible assets including our definite-lived intangible assets and our indefinite-lived intangible assets. Based on the results of our impairment testing, we concluded that the carrying amounts of our intangible assets remained recoverable, and no impairment charge was required. During the year ended December 31, 2023, we reassessed our nonfinancial assets, including our definite-lived intangible assets, our indefinite-lived intangible assets and our remaining goodwill 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 $1.7 million and our goodwill recorded within the Content Production and Distribution reporting unit of $33.5 million in our consolidated statement of operations. 26 Other Income (Expense), net Components of Other Income (Expense), net are summarized as follows: Year Ended December 31, 2024 2023 Interest Expense (a) $ (779 ) $ (3,126 ) Warrant Expense (b) – (12,664 ) Gain on Revaluation of Warrants (c) 63 10,373 Gain (Loss) on Revaluation of Equity Investment in YFE (d) (1,627 ) 2,314 Loss on transaction (e) (985 ) – Realized Loss on Marketable Securities Investments (f) (611 ) (4,496 ) Gain (Loss) on Foreign Exchange (g) (2,138 ) 641 Interest Income (h) 168 622 Loss on Early Lease Termination (i) – (258 ) Finance Lease Interest Expense (j) (87 ) (189 ) Other (k) 2,008 978 Other Income (Expense), net $ (3,209 ) $ (2,679 ) (a) Interest Expense during the year ended December 31, 2024 primarily consisted of $0.1 million of interest incurred on the margin loan and $0.7 million of interest incurred on production facilities and bank indebtedness. Interest Expense during the year ended December 31, 2023 primarily consisted of $1.5 million of interest incurred on the margin loan and $1.5 million of interest incurred on production facilities and bank indebtedness. (b) During the year ended December 31, 2023 we recorded a warrants expense of $12.7 million related to the fair value of Exchange Warrants that were issued during the year ended December 31, 2023 to certain existing warrant holders in exchange for previously issued outstanding warrants. (c) The Gain on Revaluation of Warrants recorded during the year ended December 31, 2024 is related to the remeasurement of 89,286 outstanding liability warrants expiring in March 2025 The Gain on Revaluation of Warrants during the year ended December 31, 2023 is primarily related to the changes in fair value of the Exchange Warrants of $10.4 million recorded prior to the warrants being reclassified to stockholder’s equity. The decrease in fair value was due to decreases in market price. (d) As accounted for using the fair value option, the Loss on Revaluation of Equity Investment in YFE of $1.6 million recorded in the year ended December 31, 2024, is a result of the decreases in YFE’s stock price as of the current reporting period when compared to the prior reporting period. This excludes the impact of foreign currency recorded separately. (e) The Company allocated the total December 2024 offering transaction proceeds among the instruments issued, recognizing the warrants as a liability at their full fair value. As a result of this allocation, the Company recorded a non-cash loss of $1.0 million (f) The Realized Loss on Marketable Securities Investments of $0.6 million recorded in the year ended December 31, 2024, 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. (g) The Loss on Foreign Exchange during the year ended December 31, 2024 primarily related to the revaluation of the YFE investment, resulting in a loss of $2.2 million due to the euro strengthening against the U.S. dollar as compared to year ended December 31, 2023 in which a gain of $0.5 million was recognized. (h) Interest Income during the year ended December 31, 2024 primarily consisted of interest income of $0.1 million, net of premium amortization expense, recorded for the investments in marketable securities. Interest Income during the year ended December 31, 2023 primarily consisted of interest income of $0.5 million, net of premium amortization expense, recorded for the investments in marketable securities. (i) The Loss on Early Lease Termination is due to early termination of the Lyndhurst, NJ office lease, effective August 1, 2023. The loss includes fees of $0.2 million and the write-down of assets and liabilities resulting in an additional $0.1 million loss. (j) The Finance Lease Interest Expense represents the interest portion of the finance lease obligations for equipment purchased under an equipment lease line. (k) During the year ended December 31, 2024, we recorded $1.2 million in other income related to Employee Retention Tax Credit (“ERTC”) Receivable, $0.6 million late fees contract interest income and $0.1 million domain sale income. During the year ended December 31, 2023, we wrote-off a liability in the amount of $0.9 million that had legally expired during the fourth quarter of 2023 under the statute of limitations on debt collection, resulting in an increase in other income. 27 Liquidity and Capital Resources As of December 31, 2024, we had cash of $8.4 million, which increased by $4.3 million as compared to December 31, 2023. The increase was primarily due to cash provided by investing activities of $10.0 million, the effect of exchange rate of $0.9 million, offset by cash used in operating activities of $3.5 million and cash used in financing activities of $3.1 million. The cash used in financing activities was primarily due to repayment of the production facilities and bank indebtedness $8.6 million, and payments on finance leases of $1.7 million, offset by the proceeds received from the securities purchase agreement of $7.5 million. The cash provided by investing activities was primarily due to sales and maturities of marketable securities of $10.0 million. During the year ended December 31, 2024, 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. During the year ended December 31, 2024, we derived a significant amount of funds from the sale of our equity securities and loans. On April 23, 2024, we closed the April 2024 Offering selling 3,900,000 shares of our common stock, par value $0.001 per share (the “Common Stock”), and pre-funded warrants to purchase up to 100,000 shares of Common Stock (the “Pre-funded Warrants”), at $1.00 per share of Common Stock and $0.99 per Pre-funded Warrant, for aggregate gross proceeds of approximately $4,000,000, prior to deducting placement agent fees and other offering expenses. On December 18, 2024, we closed the December 2024 Offering, raising aggregate gross proceeds of approximately $4,496,480 and issuing 4,375,000 shares of Common Stock, pre-funded common stock purchase warrants to purchase up to 3,519,736 shares of Common Stock, Series A common stock purchase warrants to purchase up to 7,894,736 shares of Common Stock, and Series B common stock purchase warrants to purchase up to 7,894,736 shares of Common Stock. As of December 31, 2024, we held available-for-sale marketable securities with a fair value of $2.0 million, a decrease of $9.9 million as compared to December 31, 2023 due to sales and maturities during the year ended December 31, 2024. The available-for-sale securities consist principally of corporate and government debt securities and are also available as a source of liquidity. As of December 31, 2024 and December 31, 2023, our margin loan balance was $0.9 million and $0.8 million, respectively. During the year ended December 31, 2024, we borrowed an additional $11.0 million from our investment margin account and repaid $10.9 million primarily with cash received from sales and maturities of marketable securities. 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 0.46% and 0.98% on average margin loan balances of $ 1.02 million and $27.4 million as of December 31, 2024 and December 31, 2023, respectively. We incurred interest expense on the loan of $0.1 million and $1.5 million during the years ended December 31, 2024 and December 31, 2023, 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 consolidated balance sheets. In the second and third quarter of 2024, we were not in compliance with financial covenant calculations related to the revolving demand facility and equipment lease line. As a result of these financial covenant violations, we and the lender agreed to an early repayment of the equipment leases under the equipment lease line and the revolving demand facility in the fourth quarter of 2024. As of December 31, 2024, we are no longer subject to financial and customary affirmative and negative non-financial covenants on the revolving demand facility and equipment lease agreements that were repaid in full and terminated in the fourth quarter of 2024. Over the next 12 months, the Company expects to use cash primarily to fund ongoing operations, content production, and strategic growth initiatives. Management believes that the future cash needs can be addressed through a combination of actions within its control, including cost reductions, optimization of working capital, and securing licensing and distribution advances. Other potential sources of liquidity that are outside of the Company's control include receipt of IRS Employee Retention Tax Credits, warrant redemptions, or proceeds from capital raises. Any of these will help improve the Company's liquidity position and depend on external factors such as IRS processing timelines, market conditions, and investor participation. Based on current cash balances and the ability to execute on planned initiatives, management believes it has sufficient liquidity to meet its obligations for at least the next 12 months. 28 Working Capital As of December 31, 2024, we had current assets of $34.7 million, including cash of $7.9 million, restricted cash of $0.5 million and marketable securities of $2.0 million, and our current liabilities were $33.4 million. We had working capital of $1.2 million as of December 31, 2024 as compared to working capital of $10.0 million as of December 31, 2023. These balances exclude the related party note receivable of $1.4 million, which has been reclassified from current to noncurrent assets. The decrease of $8.8 million was due to a decrease of $21.0 million in current assets and a decrease of $12.2 million in current liabilities compared to prior year. A decrease in current assets is primarily driven by a decrease of $9.9 million in marketable securities investments, a decrease of $10.4 million in production tax credit receivable position, a decrease of $6.1 million in accounts receivable, offset by an increase in cash of $4.3 million and an increase of $1.3 million in other receivable related to ERTC A decrease in current liabilities is primarily driven by a decrease of $6.1 million in production facilities, a decrease by $4.9 million in accounts payable, a decrease of $2.9 million in bank indebtedness, partially offset by an increase of $2.9 million in deferred revenue. Comparison of Cash Flows for the Years Ended December 31, 2024 and December 31, 2023 Our total cash for the years ended December 31, 2024 and December 31, 2023 was $7.9 million and $4.1 million, respectively. Year Ended December 31, 2024 2023 Change (in thousands) Net Cash Used in Operating Activities $ (3,489 ) $ (16,092 ) $ 12,603 Net Cash Provided by Investing Activities 10,012 73,858 (63,846 ) Net Cash Used in Financing Activities (3,131 ) (60,802 ) 57,671 Effect of Exchange Rate Changes on Cash 898 (301 ) 1,199 Increase (Decrease) in Cash $ 4,290 $ (3,337 ) $ 7,627 Change in Operating Activities Items necessary to reconcile from net loss to cash used in operating activities included net noncash expenses of $9.9 million for the year ended December 31, 2024 as compared to net noncash expenses of $59.3 million for the year ended December 31, 2023. The majority of the decrease of $49.4 million was primarily due to the absence of prior impairment expenses of our long-lived assets, intangible assets and goodwill of $45.0 million recorded during the year ended December 31, 2023 and decrease of fair value of the warrant liability by $12.7 million compared to the prior year. In addition, the Company observed a decrease in realized loss on marketable securities by $3.9 million due to the lower sales of our marketable securities prior to their maturity date, a decrease in our stock-based compensation of $2.0 million due to the absence of accelerations in vesting that occurred in the prior year, a decrease in the amortization of Right-of-Use Assets of $1.0 million due to prior year impairments, a decrease of $1.2 million in marketing expenses paid by stock that only occurred in the prior year and a decrease of $0.9 million in write-offs of disputed accounts payable that also occurred only in the prior year. Additionally, the Company observed a decrease in the amortization of film and television costs of $0.4 million. The decrease is offset by an increase of $10.3 million related to revaluation of the warrants, an increase of $1.0 million related to loss on financing transaction, an increase of $1.0 million related to the deferred tax balance and an increase related to the change of $5.5 million in the total fair value of the equity investment in YFE which consist of market valuation and FX impact. Items necessary to reconcile from net loss to cash provided by operating activities included operating asset and liability activities of $7.6 million in the year ended December 31, 2024 and $1.8 million as of December 31, 2023. The net decrease of $5.8 million in operating asset and liability activities to cash provided by operating activities was primarily due to a decrease of $6.0 million in operating assets activity. This was primarily due to an increase of $8.5 million in net receipts of outstanding accounts receivable due to completion of multiple projects, and an increase in net receipts tax credits during the current year of $1.1 million related to completed projects, partially offset by a decrease in prepaids balance of $0.5 million, a decrease of $1.2 million representing the outstanding balance of the ERTC receivable as of December 31, 2024, and a reduction in other receivables of $1.1 million. A increase in operating liabilities activity was $0.3 million, primarily due to a decrease in accounts payable of $10.2 million, offset by an increase of $9.0 million in deferred revenue, representing cash received in advance for projects not yet recognized. Change in Investing Activities The decrease of $63.8 million in cash provided by investing activities to $10.0 million at December 31, 2024 from cash provided by investing of $73.8 million at December 31, 2023 was primarily due to a decrease in proceeds from the sales and maturities of marketable securities of $62.6 million during the year ended December 31, 2024. 29 Change in Financing Activities The decrease in cash used in financing activities of $57.7 million was primarily due to a decrease in repayments of our margin loan and production facilities of $73.2 million, and increase in proceeds from securities purchase agreement of $7.5 million; partially offset by less proceeds drawn from the margin loan and production facilities of $14.2 million, an absence of warrant exchange proceeds of $5.3 million received in prior year, and an increase in repayments of bank indebtedness for $3.9 million. 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 $27.1 million as of December 31, 2024, of which about $18.9 million could be owed within one year. Included in the amount that could be due within one year is the margin loan current balance of $0.9 million and production facilities of $9.3 million. We plan to utilize our liquidity (as described above) to fund our material cash requirements. As of December 31, 2024, we had $0.3 million in commitments for capital expenditures, related to equipment leases. Critical Accounting Policies and Estimates Our consolidated financial statements are prepared in conformity with U.S. generally accepted accounting principles, or GAAP. This requires our management to make estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and expenses and related disclosures. The following accounting policies involve critical accounting estimates because they are particularly dependent on estimates and assumptions made by management. We also have other significant accounting policies that are relevant to understanding our results. For additional information about these policies, see Note 2 of the Notes to Consolidated Financial Statements in Item 8 of this Annual Report. Although we believe that our estimates, assumptions and judgments are reasonable, they are based upon information available at the time. Actual results may differ significantly from these estimates under different assumptions, judgments or conditions. Variable Interest Entities We hold an interest in Stan Lee University (“SLU”), an entity that is considered a variable interest entity (“VIE”). The variable interest relates to 50% ownership in the entity that is comprised of the Stan Lee Assets and that requires additional financial support from us to continue operations. We are considered the primary beneficiary and are required to consolidate the VIE. In evaluating whether we have the power to direct the activities of a VIE that most significantly impact its economic performance, we consider the purpose for which the VIE was created, the importance of each of the activities in which it is engaged and our decision-making role, if any, in those activities that significantly determine the entity’s economic performance as compared to other economic interest holders. This evaluation requires consideration of all facts and circumstances relevant to decision-making that affects the entity’s future performance and the exercise of professional judgment in deciding which decision-making rights are most important. In determining whether we have the right to receive benefits or the obligation to absorb losses that could potentially be significant to the VIE, we evaluate all of our economic interests in the entity, regardless of form (debt, equity, management and servicing fees, and other contractual arrangements). This evaluation considers all relevant factors of the entity’s design, including the entity’s capital structure, contractual rights to earnings (losses), subordination of our interests relative to those of other investors, contingent payments, as well as other contractual arrangements that have the potential to be economically significant. The evaluation of each of these factors in reaching a conclusion about the potential significance of our economic interests is a matter that requires the exercise of professional judgment. We continuously assess whether we are the primary beneficiary of a variable interest entity as changes to existing relationships or future transactions may result in us consolidating its collaborators or partners. 30 Foreign Currency Forward Contracts Our wholly-owned subsidiary, Wow, is exposed to fluctuations in various foreign currencies against its functional currency, the Canadian dollar. Wow uses foreign currency derivatives, specifically foreign currency forward contracts (“FX forwards”), to manage its exposure to fluctuations in the CAD-USD exchange rates. FX forwards involve fixing the foreign currency exchange rate for delivery of a specified amount of foreign currency on a specified date. The FX forwards are typically settled in CAD for their fair value at or close to their settlement date. We do not currently designate any of the FX forwards under hedge accounting and therefore reflect changes in fair value as unrealized gains or losses immediately in earnings as part of the revenue generated from the transactions hedged. We do not hold or use these instruments for speculative or trading purposes. Per FASB ASC 815-10-45, Derivatives and Hedging , we have elected an accounting policy to offset the fair value amounts recognized for eligible forward contract derivative instruments. Therefore, we present the asset or liability position of the FX Forwards that are with the same counterparty net as either an asset or liability in our consolidated balance sheets. Tax Credits Receivable The Canadian federal government and certain provincial governments in Canada provide programs that are designed to assist film and television production in the form of refundable tax credits or other incentives. Estimated amounts receivable in respect of refundable tax credits are recorded as an offset to the related production operating cost, or to investment in film and television costs when the conditions for eligibility of production assistance based on the government’s criteria are met, the qualifying expenditures are made and there is reasonable assurance of realization. Determination of when and if the conditions of eligibility have been met is based on management’s judgment, and the amount recognized is based on management’s estimates of qualifying expenditures. The ultimate collection of previously recorded estimates is subject to ordinary course audits from the Canada Revenue Agency (“CRA”) and provincial agencies. Changes in administrative policies by the CRA or subsequent review of eligibility documentation may impact the collectability of these estimates. We continuously review the results of these audits to determine if any circumstances arise that in management’s judgment would result in a previously recognized amount to be considered no longer collectible. We classify the majority of the tax credits receivable as current based on their normal operating cycle. Government assistance, in the form of refundable tax credits, is relied upon as a key component of production financing. These amounts are claimed from the CRA through the submission of income tax returns and can take up to 18 to 24 months from the date of the first tax credit dollar being earned to being received. As this financing is fundamental to our ability to produce animated productions and generate revenue in the normal course of business, the normal operating cycle for such assets is considered to be a 12-to-24-month period, or the time it takes for the CRA to assess and refund the tax credits earned. As of December 31, 2024 and December 31, 2023, $12.7 million a nd $20.7 million in tax credit receivables related to Wow’s film and television productions were recorded, net of $0.6 million and $0.5 million, respectively, recorded as an allowance for credit loss. As of December 31, 2024, $2.4 million , in tax credits receivable net of $0.4 million allowance for credit loss was presented as non-current asset. The Company did not have any non-current tax credits receivable as of December 31, 2023. Employee Retention Tax Credit (ERTC) In March 2020, the Coronavirus Aid, Relief, and Economic Security Act was signed into law, providing numerous tax provisions and other stimulus measures, including the Employee Retention Tax Credit. The Taxpayer Certainty and Disaster Tax Relief Act of 2020 and the American Rescue Plan Act of 2021 extended the availability of the ERTC. The Company accounted for the ERTC as a gain contingency in accordance with ASC 450-30 - Gain Contingencies . Under this standard, the ERTC was recognized only after the contingency was resolved and deemed realizable. During the year ended December 31, 2024, we recognized an ER TC benefit totaling $1.2 million . This amount is included in Other Income (Expense) in the consolidated statements of operations. As of December 31, 2024 we had not received any refunds related to the ERTC and we had an outstanding receivable of $1.2 million w hich is recorded in other current assets in the consolidated balance sheet. Subsequent to December 31, 2024 we received $0.2 million of ERTC refunds from the IRS, updating the outstanding receivable to $1.0 million. The Company did not record any ERTC benefits in the year ended December 31, 2023. 31 Film and Television Costs We capitalize production costs for episodic series produced in accordance with FASB ASC 926-20, Entertainment-Films - Other Assets - Film Costs . Accordingly, production costs are capitalized at actual cost and amortized using the individual-film-forecast method, whereby these costs are amortized, and participations costs are accrued based on the ratio of the current period’s revenues to management’s estimate of ultimate revenue expected to be recognized from each production. There are usually three stages for production projects with different costs incurred at each stage: Productions in Development Development costs include the costs of acquiring film rights to books, scripts or original screenplays and the third-party costs to adapt such projects, including visual development and design. Advances or contributions received from third parties to assist in development are deducted from these costs. Productions in Progress Capitalized development costs are reclassified to productions in progress once the project is approved and physical production of the film or television program commences. Capitalized costs include all direct production and financing costs incurred during production that are expected to provide future economic benefit to the Company. Borrowing costs and depreciation are capitalized to the cost of a film or television program until substantially all of the activities necessary to prepare the film or television program for its use intended by management are complete. Completed Productions Completed productions are carried at the cost of proprietary film and television programs which have been produced by the Company or to which the Company has acquired distribution rights, less accumulated amortization and accumulated impairment losses. Due to the inherent uncertainties involved in making such estimates of ultimate revenues and expenses, these estimates have differed in the past from actual results and are likely to differ to some extent in the future from actual results. In addition, in the normal course of business, some titles are more successful or less successful than anticipated. Management reviews the ultimate revenue and cost estimates on a title-by-title basis, when an event or change in circumstances indicates that the fair value of the production may be less than its unamortized cost. This may result in a change in the rate of amortization of film costs and participations and/or a write-down of all or a portion of the unamortized costs of the film or television production to its estimated fair value. An impairment charge is recorded in the amount by which the unamortized costs exceed the estimated fair value. These write-downs are included in amortization expense within Direct Operating Expenses on the consolidated statements of operations. All capitalized costs that exceed the initial market firm commitment revenue are expensed in the period of delivery of the episodes. Additionally, for episodic series, from time to time, the Company develops additional content, improved animation and bonus songs/features for its existing content. After the initial release of the episodic series, the costs of significant improvement to existing products are capitalized while routine and periodic alterations to existing products are expensed as incurred. Intangible Assets Intangible assets have been acquired, either individually or with a group of other assets, and were initially recognized and measured based on fair value. Annual amortization of these intangible assets is computed based on the straight-line method over the remaining economic life of the asset. The useful lives of intangible assets are reviewed periodically to determine whether adjustments are necessary based on changes in business conditions. Our accounting for intangible assets involves significant estimates and assumptions regarding their useful lives, recoverability, and potential impairment. Indefinite-lived intangible assets are assessed for impairment annually or when a triggering event suggests their fair value may have fallen below their carrying amount. Impairment analysis of indefinite-lived intangible assets is evaluated using the relief-from-royalty method under the income approach, incorporating estimated future revenues attributable to the asset, assumed growth and royalty rates, based on comparable industry data, and an appropriate discount rate, reflecting risk-adjusted returns. Definite-lived intangible assets are reviewed for impairment when triggering events occur, using an entity-specific recoverability test based on undiscounted cash flows. If recoverability is not met, a fair value analysis is performed. 32 Impairment testing is sensitive to assumptions regarding projected revenue growth rates, royalty rate assumptions and discount rates. Significant uncertainties affecting impairment analysis include declines in revenue due to market shifts or content performance, changes in industry conditions, including streaming and network distribution models, economic downturns, which could increase discount rates and impact future cash flows and regulatory or legal changes, affecting brand valuation or content monetization. Changes in future results, assumptions, and estimates after the measurement date may lead to an outcome where impairment charges would be required in future periods. Specifically, results may vary from the Company’s forecasts and such variations may be material and unfavorable, thereby triggering the need for future impairment tests where the conclusions may differ in reflection of prevailing market conditions. An impairment loss could have a material and adverse impact on the Company's consolidated balance sheets, consolidated statements of operations, and consolidated statements of cash flows. Further, continued adverse market conditions could result in the recognition of additional impairment if the Company determines that the fair values of its reporting units have fallen below their carrying values. Debt We measure issued debt at amortized cost, net of any debt premiums, discounts, and debt issuance costs. These amounts are amortized over the life of the debt using the effective interest rate method, ensuring that interest expense reflects the underlying borrowing costs. In cases where the straight-line method results in an immaterial difference compared to the effective interest rate method, we may apply the straight-line method. Equity-Linked Instruments We analyze freestanding equity-linked instruments including warrants to conclude whether the instrument meets the definition of the derivative and whether it is considered indexed to our own stock. If the instrument is not considered indexed to our stock, it is classified as an asset or liability recorded at fair value. If the instrument is considered indexed to our stock, we analyze additional equity classification requirements per ASC 815-40, Contracts in Entity’s Own Equity . When the requirements are met, the instrument is recorded as part of our equity, initially measured based on its relative fair value with no subsequent re-measurement. When the equity classification requirements are not met, the instrument is recorded as an asset or liability and is measured at fair value with subsequent changes in fair value recorded in earnings. When required, we also consider the bifurcation guidance for embedded derivatives per ASC 815-15, Embedded Derivatives . Revenue Recognition We account for revenue according to standard FASB ASC 606, Revenue from Contracts with Customers (“ASC 606”). Revenue is measured based on the consideration specified in a contract with a customer. Revenue is recognized when a customer obtains control of the products or services in a contract. Judgment is required in determining the timing of whether the transfer of control occurs at a point in time or over time and is discussed below. We evaluate each contract to identify separate performance obligations as a contract with a customer may have one or more performance obligations. Consideration in a contract with multiple performance obligations is allocated to the separate performance obligations based on their stand-alone selling prices. If a stand-alone selling price is not determinable, we estimate the stand-alone selling price using an adjusted market assessment approach. Our main sources of revenue are derived from animation production services provided to third parties, the sale of licenses for the distribution of films and television programs, advertising revenues, and merchandising and licensing sales. 33 We have identified the following material and distinct performance obligations: · Providing animation production services · Licensing rights to exploit Functional Intellectual Property (“functional IP” is defined as intellectual property that has significant standalone functionality, such as the ability to be played or aired. Functional IP derives a substantial portion of its utility from its significant standalone functionality) · Licensing rights to exploit Symbolic Intellectual Property (“symbolic IP” is intellectual property that is not functional as it does not have significant standalone use and substantially all of the utility of symbolic IP is derived from its association with the entity’s past or ongoing activities, including its ordinary business activities, such as the Company’s licensing and merchandising programs associated with its animated content) · Providing media and advertising services to clients · Fixed and variable fee advertising and subscription-based revenue generated from the Kartoon Studios Kartoon Channel!, the Frederator owned and operated YouTube channels and revenues generated from the operation of its creator network, Channel Frederator Network, on YouTube · Options to renew or extend a contract at fixed terms (while this performance obligation is not significant for the Company’s current contracts, it could become significant in the future) · Options on future seasons of content at fixed terms (while this performance obligation is not significant for the Company’s current contracts, it could become significant in the future) Production Services Animation Production Services For revenue from animation production services, the customer controls the output throughout the production process. Each production is made to an individual customer’s specifications and if the contract is terminated by the customer, the Company is entitled to be reimbursed for any costs incurred to date, and for any prepaid commitments made, plus the agreed contractual mark-up. Revenue and the associated costs of such contracts are recognized over time on a percentage of completion basis - i.e., as the project is being produced, prior to it being delivered to the customer. The percentage-of-completion is calculated based upon the proportion of costs incurred cumulatively to total expected costs. Changes in revenue recognized as a result of adjustments to total expected costs are recognized in profit or loss on a prospective basis. Invoices related to these projects are issued based on the achievement of milestones during the project or other contractual terms. The difference between contractual payments received and revenue recognized is recorded as deferred revenue when receipts exceed revenue. When revenue exceeds milestone billings, we recognize this difference as unbilled accounts receivable within Other Receivable on our consolidated balance sheet. Unbilled accounts receivables are transferred to accounts receivable when we have an unconditional right to consideration. When the outcome of an arrangement cannot be estimated reliably, revenue is recognized only to the extent of the expenses incurred that are recoverable. Content Distribution Film and Television Licensing We recognize revenue related to licensed rights to exploit functional IP in two ways; for minimum guarantees, we recognize fixed revenue upon delivery of content and the start of the license period and for functional IP contracts with a variable component, we estimate revenue such that it is probable there will not be a material reversal of revenue in future periods. We recognize revenue related to licensed rights to exploit symbolic IP substantially similarly to functional IP. Although it has a different recognition pattern from functional IP, the valuation method is substantially the same, depending on the nature of the license. 34 Invoices related to these projects are issued based on the achievement of milestones during the project or other contractual terms. The difference between contractual payments received and revenue recognized is recorded as deferred revenue when receipts exceed revenue. When revenue exceeds milestone billings, we recognize this difference as unbilled accounts receivable within Other Receivable on our consolidated balance sheets. Unbilled accounts receivables are transferred to accounts receivable when we have an unconditional right to consideration. Advertising revenues We sell advertising and subscriptions on our wholly-owned AVOD service, Kartoon Channel! , and our SVOD distribution outlets, Kartoon Channel! Kidaverse and Ameba TV . Advertising sales are generated in the form of either flat rate promotions or advertising impressions served. For flat rate promotions with a fixed term, revenue is recognized when all five revenue recognition criteria under ASC 606 are met. For impressions served, we deliver a certain minimum number of impressions on the channel to the advertiser for which the advertiser pays a contractual cost per 1000 (mille) impressions (“CPM”). Impressions served are reported on a monthly basis, and revenue is reported in the month the impressions are served. For subscription-based revenue, revenue is recognized when a customer downloads the mobile device application and their credit card is charged. Upon the acquisition of Wow, we generate advertising revenue from Frederator’s owned and operated YouTube channels as well as revenues generated from the operation of its creator network, Channel Frederator Network, on YouTube. Revenue is recognized when services are provided in accordance with our agreement with YouTube, the price is fixed or determinable, and collection of the related receivable is probable. Receivables are usually collectable within 30 days. Licensing and Royalties Merchandising and licensing We enter into merchandising and licensing agreements that allow licensees to produce merchandise utilizing certain of our intellectual property. For minimum guaranteed amounts that make up a contract, revenue is recognized over time, over the term of the license period commencing on the date at which the licensees can use and benefit from the licensed content. Variable consideration in excess of non-refundable guaranteed amounts, such as royalties and other contractual payments are recognized as revenue when the amounts are known and become due provided collectability is reasonably assured. Invoices are issued based on the contractual terms of an agreement and are usually payable within 30-45 days. Product Sales We recognize revenue related to product sales (e.g., apparel and collectibles) when the Company completes its performance obligation, which is when the goods are transferred to the buyer. Media Advisory and Advertising Services Media and Advertising Services We provide media and advertising consulting services to clients. Revenue is recognized when the services are performed or as paid through the monthly retainer. When we purchase advertising for clients on linear and across digital and streaming platforms and receives a commission, the commissions are recognized as revenue in the month the advertising is displayed. Gross Versus Net Revenue Presentation We evaluate individual arrangements with third parties to determine whether we act as principal or agent under the terms. To the extent that we act as the principal in an arrangement, revenues are reported on a gross basis, resulting in revenues and expenses being classified in their respective financial statement line items. To the extent that we act as the agent in an arrangement, revenues are reported on a net basis, resulting in revenues being presented net of any expenses incurred in providing agency services. Determining whether we act as principal or agent is based on an evaluation of which party has substantial risks and rewards of ownership under the terms of an arrangement. The most significant factors that we consider include identification of the primary obligor, as well as which party has credit risk, general and inventory risk and the latitude or ability in establishing prices. 35 Share-Based Compensation We issue stock-based awards to employees and non-employees that are generally in the form of stock options or restricted stock units (“RSUs”). Share-based compensation cost is recorded for all options and awards of non-vested stock based on the grant-date fair value of the award. The fair value of stock options is estimated at the date of grant using the Black-Scholes option pricing model, which requires management to make assumptions with respect to the fair value on the grant date. The assumptions are as follows: (i) the expected term assumption of the award is based on our historical exercise and post-vesting behavior (ii) the expected volatility assumption is based on historical and implied volatilities of our common stock calculated based on a period of time generally commensurate with the expected term of the award; (iii) the risk-free interest rates are based on the implied yield available on U.S. treasury zero-coupon issues with an equivalent expected term; (iv) and the expected dividend yields of our stock are based on history and expectations of future dividends payable. In the case of RSUs the fair value is calculated based on our underlying common stock on the date of grant. We recognize compensation expense over the requisite service period ratably, using the graded attribution method, which is in-substance, recognizing multiple awards based on the vesting schedule. We have elected to account for forfeitures when they occur. We issue authorized shares available for issuance under our 2020 Incentive Plan upon employees’ exercise of their stock options. Income Taxes Deferred income tax assets and liabilities are recognized based on differences between the financial statement and tax basis of assets and liabilities using presently enacted tax rates. At each balance sheet date, we evaluate the available evidence about future taxable income and other possible sources of realization of deferred tax assets and record a valuation allowance that reduces the deferred tax assets to an amount that represents management’s best estimate of the amount of such deferred tax assets that more likely than not will be realized. The calculation of deferred tax liabilities is sensitive to changes in enacted tax rates and the timing of temporary difference reversals. We regularly review our deferred tax liabilities to reflect new tax legislation that alters future tax rates and expectations regarding the reversal of taxable temporary differences. A key risk that could impact our deferred tax liabilities includes legislative changes that increase or decrease future tax rates. Given the complexity and evolving nature of tax regulations, changes in assumptions or tax laws could materially impact our deferred tax liabilities and future income tax expense. Fair value of Financial Instruments Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC 820 establishes a three-tier fair value hierarchy which prioritizes the inputs used in measuring fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurements) and the lowest priority to unobservable inputs (level 3 measurements). These tiers include: · Level 1 - Observable inputs such as quoted prices for identical instruments in active markets · Level 2 - Inputs other than quoted prices in active markets that are either directly or indirectly observable such as quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in markets that are not active · Level 3 - Unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions, such as valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable The carrying amounts of cash, restricted cash, receivables, payables, accrued liabilities, bank indebtedness and the margin loan approximate fair value due to the short-term nature of the instruments. We use the fair values of the liability-classified derivative warrants revalued at the end of each reporting period determined using the BSM option pricing model (Level 2) with standard valuation inputs. Refer to Note 16 of the consolidated financial statements included elsewhere in this Annual Report on Form 10-K for additional details. The investment in YFE is also revalued at the end of each reporting period based on the trading price of YFE (Level 2). Refer to Note 4 of consolidated the financial statements included elsewhere in this Annual Report on Form 10-K for additional details. Upon the acquisition of Wow, foreign currency forward contracts that are not traded in active markets were assumed. These are fair valued using observable forward exchange rates at the measurement dates and interest rates corresponding to the maturity of the contracts (Level 2). 36 The fair values of the AFS securities are generally based on quoted market prices, where available. These fair values are obtained primarily from third-party pricing services, which generally use Level 1 or Level 2 inputs for the determination of fair value to facilitate fair value measurements and disclosures. Level 2 securities primarily include corporate securities, securities from states, municipalities and political subdivisions, mortgage-backed securities, United States Government securities, foreign government securities, and certain other asset-backed securities. For securities not actively traded, the pricing services may use quoted market prices of comparable instruments or a variety of valuation techniques, incorporating inputs that are currently observable in the markets for similar securities. Recent Accounting Pronouncements For a description of recent accounting pronouncements and the potential impact of these pronouncements on our consolidated financial statements, see Note 2 to the financial statements in Item 8 of this Annual Report. Off Balance Sheet Arrangements We have no off-balance sheet arrangements. 37 Item 7A. Quantitative and Qualitative Disclosures about Market Risk As a “smaller reporting company,” as defined by Item 10 of Regulation S-K, we are not required to provide information required by this Item.