Worksport Ltd 10-K

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Prospective investors should read the following discussion and analysis of our financial condition and results of operations together with our financial statements and the related notes and other financial information included elsewhere in this Annual Report on Form 10-K. Some of the information contained in this discussion and analysis or set forth elsewhere in this annual report, including information with respect to our plans and strategy for our business, includes forward-looking statements that involve risks and uncertainties. See “Cautionary Note Regarding Forward-Looking Statements.” This discussion should be read in conjunction with our audited consolidated financial statements and the notes thereto included elsewhere in this Annual Report on Form 10-K . Overview Worksport Ltd., through its subsidiaries, designs, develops, manufactures, and owns the Intellectual Property on a portfolio of tonneau cover, solar integration, portable power station, and NP (Non-Parasitic), Hydrogen-based green energy products and solutions for the automotive aftermarket accessories, power storage, residential heating, and electric vehicle-charging industries. We seek to provide consumers with next-generation automotive aftermarket accessories while capitalizing on growing consumer interest in clean energy solutions and power grid independence. Rising Popularity of Electric Vehicles Electric Vehicles (EVs) have been exponentially increasing in consumer interest, whether that interest take the form of vehicle pre-orders, sales, or investments. As we begin marketing our Worksport SOLIS and COR, we plan to market the SOLIS as a must-have accessory for electric light duty vehicle owners while simultaneously riding the coattails of EV popularity to promote our other products (COR and conventional tonneau covers) to the very large population of Americans that have an interest in EVs without the funds to purchase them. Further, participating in the EV space allows us to target consumers with an interest in cutting-edge technologies – a great market in which to promote our COR. Regulatory Environment Favoring Electric Vehicles The Build Back Better Bill was a strong indication of upcoming and favorable USA regulations. Many regulations that improve North America’s Electric Vehicle (EV) charging infrastructure or provide grants to businesses operating in the EV space will benefit us. While we are primarily focused on the light duty vehicle market, our energy products are particularly useful for electric light duty pickup trucks and, therefore, are positioned to benefit greatly from any bill that increases the prevalence of such vehicles. Limited Competitive Landscape Our conventional tonneau covers are engineered for enhanced user experience and resistance to wear-and-tear, making them strong and competitive products in an otherwise consolidated and saturated market. The Worksport COR, however, operates in a much wider yet unsaturated market. The global Portable Power Station market is quickly growing, and the competitive landscape is far from consolidated. The solar tonneau cover market is in its infancy, and it’s a market in which we have first-mover advantage. To ensure we do not fall behind future competitors, we are highly focused on protecting our intellectual property both domestically and abroad. Business Developments The following highlights recent material developments in our business: ● In May 2022, we closed on the purchase of a commercial property for $8,125,000 in the town of West Seneca, Erie County, New York pursuant to a Purchase and Sale Agreement that we entered into with J&M Distributing, Inc. We financed $5,300,000 in connection with the closing of the Acquisition pursuant to a Loan Agreement that we entered into with Northeast Bank, of which we issued a Promissory Note to the Lender guaranteed by Worksport Ltd. and secured by the Property per a Mortgage and Security Agreement entered into with the Lender. The Property consists of two parcels of land: (i) one parcel consisting of approximately 14 acres improved by a building containing approximately 152,847 square feet; and (ii) a second parcel consisting of approximately four acres of vacant land. Currently, our manufacturing operations are in China. With the acquisition of the Property, we plan to move our manufacturing operations to the United States. We believe that by moving our manufacturing operations to the United States, we can (i) have better control over design and manufacturing quality of our products, (ii) lessen supply chain risk, (iii) decrease shipping costs, and (iv) cut overall manufacturing costs. 30 ● On September 30, 2022, we filed a shelf registration statement on Form S-3 (File No. 333-267696), which was declared effective by the SEC on October 13, 2022, containing a base prospectus covering the offering, issuance and sale by us of up to $30,000,000 of our common stock and prospectus supplement covering the offering, issuance and sale by us of up to $13,000,000 of our common stock that may be issued and sold under an At The Market Offering Agreement dated as of September 30, 2022. Pursuant to the ATM Agreement, Wainwright is entitled to a commission equal to 3.0% of the gross sales price of the shares of common stock sold. As of the date of this Annual Report, no securities have been sold pursuant to the Form S-3. ● On November 14, 2022, our shareholders approved the Worksport Ltd. 2022 Equity Incentive Plan. A total of 750,000 shares of common stock were initially reserved for the issuance of awards under the 2022 Plan. The 2022 contains an “evergreen formula” pursuant to which the number of shares of common stock available for issuance under the 2022 Plan will automatically increase on January 1 of each calendar year during the ten-year term of the 2022 Plan, beginning with the calendar year 2023, by an amount of shares of common stock so that the total amount of common stock available under the 2022 Plan is equal to 15% of the total number of shares of common stock outstanding on December 31 st of the prior calendar year minus the total number of shares reserved and available for issuance under the Worksport Ltd. 2015 Equity Incentive Plan and Worksport Ltd. 2021 Equity Incentive Plan. On January 1, 2023, the authorized number of shares of common stock of the 2022 Plan was 2,518,502. ● On November 18, 2022, we engaged Lumsden & McCormick, LLP to replace Haynie & Company as our independent registered public accounting firm. Key Factors Affecting our Performance As a result of a number of factors, our historical results of operations may not be comparable to our results of operations in future periods, and our results of operations may not be directly comparable from period to period. Set forth below is a brief discussion of the key factors impacting our results of operations. COVID-19 The outbreak of the coronavirus, specifically identified as “COVID-19,” resulted in governments worldwide enacting emergency measures to combat the spread of the virus. These measures, which included the implementation of travel bans, self-imposed quarantine periods, and social distancing, have caused material disruption to businesses globally, resulting in an economic slowdown. Global equity markets have experienced significant volatility and weakness. Governments and central banks have reacted with significant monetary and fiscal interventions designed to stabilize economic conditions – many of which have deeply impacted capital markets. As a safety precaution, we created a policy such that any personnel exposed to an infectious disease or virus was not to report to the office until the completion of a variable length quarantine. While this resulted in fewer average R&D personnel working in our offices or labs on a given day, it likely prevented further contamination and sick leave. We do not believe this policy has impacted revenue nor timelines towards upcoming product launches; however, supply chain issues caused by COVID-19 did result in higher cost of goods sold during 2021 and 2022. While freight costs have since returned to pre-COVID-19 levels, 2021 freight costs were, in some cases, more than four times higher than those shortly before COVID-19. The response of many governments to the COVID-19 pandemic has resulted in higher interest rates and destabilized equity markets – particularly among micro- or low-capitalization companies – effectively increasing the cost of and decreasing easy access to capital, which could negatively impact our short-term and long-term liquidity. These factors, combined with the consequences of possible future waves of the disease, could have a material impact on our liquidity, capital resources, operations, and business as well as those of the third parties on which we rely. The management and Board is constantly monitoring this situation to minimize potential losses. 31 Inflation Prices of certain commodity products, including raw materials, are historically volatile and are subject to fluctuations arising from changes in domestic and international supply and demand, labor costs, competition, market speculation, government regulations, trade restrictions and tariffs. Increasing prices in the component materials for the parts of our goods may impact the availability, quality and price of our products as suppliers search for alternatives to existing materials and increase the prices they charge. Our suppliers may also fail to provide consistent quality of product as they may substitute lower cost materials to maintain pricing levels. Rapid and significant changes in commodity prices may negatively affect our profit margins, and it may be difficult to mitigate worsened margins through customer pricing actions and cost reduction initiatives. Such an inflationary environment also increases our direct cost of raw goods or processed goods for our OEM manufacturing as well as indirect costs such as overhead and rent. Due to these present and forecasted price increases and the temporary increases in ocean freight and container handling costs faced during the majority of 2022 as a result of 2021 supply chain issues, we updated our product pricing in 2022. In addition, as central governments and the U.S. Federal Reserve increase interest rates to combat global inflation, the cost of debt financing increases. While we currently do not have material debt other than our $5.3 million mortgage on our West Seneca facility, our mortgage’s variable rate increases and decreases along with interest rates, which resulted in an increase of monthly premiums throughout 2022. We are still susceptible to variable monthly mortgage interest costs as a result of changes in interest rates. We continue to explore debt financing options at reasonable interest rates in order to strengthen our cash position. Rising interest rates have also resulted in a shift in institutional holdings away from micro-cap equities, which has negatively influenced our stock’s trading volume. We continue to forge relationships with institutional investors and analysts in order to maintain a healthy trading volume. Gasoline Prices and Supply Chain Issues We faced significantly higher ocean freight, trucking, and container handling costs as well as last mile delivery costs in 2021 and 2022 than we did in previous years – all of which have increased our products’ landed costs. Higher oil and gasoline prices further increased these costs, and we are operating under the assumption most of these higher costs will remain throughout 2023. Our transition towards domestic manufacturing and assembly is anticipated to largely offset these higher costs, as we believe we will be less exposed to higher international shipping costs. We are also identifying North American suppliers of our products’ components and will prioritize transport by rail when possible to avoid high trucking costs. Geopolitical Conditions In February 2022, Russia initiated significant military action against Ukraine. In response, the U.S. and certain other countries imposed significant sanctions and export controls against Russia, Belarus and certain individuals and entities connected to Russian or Belarusian political, business, and financial organizations, and the U.S. and certain other countries could impose further sanctions, trade restrictions, and other retaliatory actions should the conflict continue or worsen. It is not possible to predict the broader consequences of the conflict, including related geopolitical tensions, and the measures and retaliatory actions taken by the U.S. and other countries in respect thereof as well as any counter measures or retaliatory actions by Russia or Belarus in response, including, for example, potential cyberattacks or the disruption of energy exports, is likely to cause regional instability and geopolitical shifts, which could materially adversely affect global trade, currency exchange rates, regional economies and the global economy. The situation remains uncertain, and while it is difficult to predict the impact of any of the foregoing, the conflict and actions taken in response to the conflict could increase our costs, reduce our sales and earnings, impair our ability to raise additional capital when needed on acceptable terms, if at all, or otherwise adversely affect our business, financial condition, and results of operations. 32 Foreign Currencies We are subject to foreign exchange risk as we manufacture our products in China, market extensively in both Canadian and U.S. markets, employee people residing in both the U.S. and Canada and, to date, have raised funds in Canadian Dollars. Meanwhile, we report results of operations in U.S. Dollars. Since our Canadian customers pay in Canadian Dollars, we are subject to gains and losses due to fluctuations in the USD relative to the Canadian Dollar. While having our products manufactured in China, our manufacturers are paid in USD to better avoid the relatively greater fluctuation of the Chinese Yuan. To the extent the U.S. dollar strengthens against any of these foreign currencies, the translation of these foreign currencies denominated transactions results in reduced revenue, operating expenses and net income for our operations. Results of Operations Revenue For the year ended December 31, 2022, revenues from our entire line of products was $116,502, as compared to $303,750 for the year ended December 31, 2021. The year-over-year sales decreased by approximately 62%. For the year ended December 31, 2022, revenue generated in Canada was $14,572, as compared to $40,683 for the same period in 2021, a decrease of 64%. For the year ended December 31, 2022, revenue generated in the United States was $101,930, compared to $263,067 for the same period in 2021, a decrease of 61%. Revenue decreased for the year ended December 31, 2022 compared to the prior year due to our focus on establishing new business-to-consumer and business-to-business sales channels, while strengthening the support of those channels to increase customer satisfaction and enable high product turnover once domestic production begins. For business-to-consumer channels, we established our own e-commerce platform as well as listed our products on online marketplaces including eBay, Amazon, and Walmart. For business-to-business channels, we updated our terms and conditions, created improved product brochures for distributors, strategically created a Minimum Advertised Price policy to prevent our business-to-consumer channels from interfering with our business-to-business channels, established sales representation across the continental U.S. by forging relationships with various sales agencies, and more. We intend to begin domestic manufacturing in the second quarter of fiscal year 2023, barring unforeseeable delays, and gradually increase output capacity through refined production processes and increased personnel during following quarters. Sales from online retailers of our products decreased from $263,116 in 2021 to $101,930 in 2022, a decrease of 61%, due to our focus on establishing new sales channels. Online retailers accounted for 87% of total revenue for the year ended December 31, 2022 compared to 87% for the year ended December 31, 2021. Distributor sales decreased for the year ended December 31, 2022 compared with the year ended December 31, 2021, with sales of $14,572 and $40,349, respectively. We expect to continue to grow our fields of business as we develop unique products with enhanced utility to offer to other prospective clients in the US and Canadian markets. We currently support a network of dealers, distributors, and independent resellers, and we will continue to expand our business and online sales channels in 2023. Cost of Sales Cost of sales decreased by 84%, from $350,702 for the year ended December 31, 2021 to $56,967 for the year ended December 31, 2022. Our cost of sales, as a percentage of sales, was approximately 49% and 115% for the years ended December 31, 2022 and 2021, respectively. The decrease in the cost of sales as a percentage of sales was primarily due to increased efficiency associated with acquiring and manufacturing inventory for the year ended December 31, 2022, compared to the previous year. We provide our distributors and online retailers an “all-in” wholesale price. This includes any import duty charges, taxes, and shipping charges. Discounts are applied if the distributor or retailer chooses to use their own shipping process. Certain exceptions apply on rare occasions where product is shipped outside the contiguous United Sates or from the United States to Canada. Volume discounts are offered to certain high-volume customers, and we also offer a “dock price” or “pickup program” in which clients are able to pick up product directly from our stocking warehouse. 33 Operating Expenses Operating expenses increased for the year ended December 31, 2022 by $5,318,471, from $7,514,779 for the fiscal year ended December 31, 2021 to $12,833,250 for the fiscal year ended December 31, 2022, due to the following factors. ● General and administrative expense increased by $3,123,344 from $1,855,238 in 2021 to $4,978,582 in 2022. The increase was related to increased research and development activities and an increase in salaries as we seek to expand our operations and further develop our products. ● Sales and marketing expenses increased by $1,059,574, from $1,386,692 for 2021 to $2,446,266 for 2022. The increase in sales and marketing is primarily attributable to compensation for investor relations consulting services. ● Professional fees, which include accounting, legal, and consulting fees, increased from $4,268,684 in 2021 to $5,418,863 in 2022. The increase was due to the engagement of various third-party consultants to expand our business operations. ● We realized a gain on foreign exchange of $10,461 for 2022, compared to a loss on foreign exchange of $4,165 for the prior year due to conversions between CAD and USD. Other Income and Expenses We reported other income for the year ended December 31, 2022 of $239,301 compared to a loss of $335,354 in the prior year. The change can be attributed to an increase in the gain on settlement of debt, as well as increases in rental and interest income and a reduction in bad debt expense, which are partially offset by an increase in interest expense. Net Loss Net loss for the year ended December 31, 2022 was $12,534,414 compared to a net loss of $7,897,085 for the year ended December 31, 2021 – an increase of 59%. The increase in the net loss can be attributed to the increase in various operating expenses as we focus on expanding our operations, research and development, manufacturing, and supply chain. Liquidity and Capital Resources; Going Concern As of December 31, 2022, we had $14,620,757 in cash, restricted cash, and cash equivalents. We have generated only limited revenues and have relied primarily upon capital generated from public and private offerings of our securities. Since the Company’s acquisition of Worksport in fiscal year 2014, it has never generated a profit. As of December 31, 2022, we had an accumulated deficit of $33,384,219. In their audit report for the fiscal year ended December 31, 2022 included in this report, our auditors have expressed their consent as to our ability to continue as a going concern. To date, our principal sources of liquidity consists of net proceeds from public and private securities. During the year ended December 31, 2022, we did not receive any proceeds from public offerings nor private placement offerings. Management is focused on transitioning towards revenue as our principal source of liquidity by growing our existing product offerings, as well as our customer base, to increase our revenues. We cannot give assurance that we can increase our cash balances or limit our cash consumption and thus maintain sufficient cash balances for our planned operations or future business developments. Future business development and demands may lead to cash utilization at levels greater than recently experienced. Our ability to continue as a going concern is dependent upon our ability to generate cash flows from operations and obtain financing. We intend to continue funding our operations through equity and debt financing arrangements, which may be insufficient to fund its capital expenditures, working capital and other cash requirements in the long term. There can be no assurance that the steps management is taking will be successful. Subject to the foregoing, however, we believe our current cash balances coupled with anticipated cash flow from operating activities will be sufficient to meet our working capital requirements for at least one year from the date of issuance of the accompanying consolidated financial statements. We have conducted the following public and private offerings since the beginning of the 2021 fiscal year: Public Offering On September 30, 2022, we filed a shelf registration statement on Form S-3 (File No. 333-267696), which was declared effective by the SEC on October 13, 2022, containing a base prospectus covering the offering, issuance and sale by us of up to $30,000,000 of our common stock and prospectus supplement covering the offering, issuance and sale by us of up to $13,000,000 of our common stock that may be issued and sold under an At The Market Offering Agreement dated as of September 30, 2022. Pursuant to the ATM Agreement, Wainwright is entitled to a commission equal to 3.0% of the gross sales price of the shares of common stock sold. As of December 31, 2022, no securities have been sold pursuant to the Form S-3. 34 Public Underwritten Offering On August 6, 2021, we consummated an underwritten public offering of an aggregate of 3,272,727 units, pursuant to a registration statement on Form S-1, as amended (File No. 333-256142) and a related registration statement on Form S-1 (File No: 333-258429). The public offering price was $5.50 per unit, and each unit consisted of one share of common stock and one warrant to purchase one share of common stock for $6.05 per share (110% of the unit offering price) from the date of issuance until the third anniversary of the issuance date. We received gross proceeds of approximately $18.0 million from the Public Offering, and after deducting the underwriting commissions, discounts, and offering expenses payable by us, we received net proceeds of approximately $16.1 million. We used the net proceeds for working capital, R&D, marketing, and equipment. Regulation A+ Offering During the year ended December 31, 2021, we sold 1,502,410 units at $2.00 per unit in a Reg A/Tier 2 public offering pursuant to a Form 1-A (File No: 24-11271) qualified by the Securities and Exchange Commission on November 9, 2020 (the “Reg A Offering”). Each unit consisted of one share of common stock and one warrant to purchase one share of common stock for $4.00 per share during the 12 months following the date of issuance. The gross proceeds from the sale of units were $3,048,199. As of December 31, 2022, we received $7,104,090 from the exercise of 1,776,023 warrants. The warrants issued pursuant to the Reg A Offering have expired. Rule 506(b)/Reg D Private Placement During 2021, we sold an aggregate of 2,040,990 units on substantially similar terms as the units sold in the Reg A Offering in a private placement under Section 4(a)(2) and/or Rule 506(b) of Regulation D under the Securities Act. Each unit consisted of one share of common stock and one warrant to purchase two shares of common stock for $4.00 per share during the 18 months following the date of issuance. The gross proceeds from the sale of units in the private placement were $4,081,980. As of December 31, 2022, 700,000 warrants sold in the private offering have been exercised on a cashless basis. The warrants issued pursuant to this offering have expired. Cash Flow Activities Cash decreased from $28,567,333 at December 31, 2021 to $14,620,757 at December 31, 2022 – a decrease of $13,946,576 or 49%. The decrease was primarily due to the acquisition of assets for domestic production, such as the building in West Seneca, NY and industrial manufacturing equipment, as well as increased spending for inventory in anticipation of launching our e-commerce platform, research and development, and overhead. As of December 31, 2022, we had current assets of $18,332,107 (2021 - $34,032,005) and current liabilities of $2,461,730 (2021 – $1,796,789). As of December 31, 2022, we had working capital of $15,870,377 (2021 – $32,235,216) and an accumulated deficit of $33,384,219 (2021 - $20,849,805). Operating Activities Net cash used by operating activities for the year ended December 31, 2022 was $7,977,960, compared to $4,210,623 in the prior year, primarily driven by a larger net loss in 2022, which was partially offset by the issuance of shares, options, and warrants for services. Accounts receivable decreased at December 31, 2022 by $83 and increased by $2,228 in the prior year. The decrease in accounts receivable was due to lower sales in 2022 compared to 2021. Inventory increased at December 31, 2021 by $460,969 and at December 31, 2022 by $844,600 as a result of our stockpiling inventory in anticipation of the launch of our e-commerce platform. Prepaid expenses increased by $529,438 at December 31, 2022 and by $382,067 at December 31, 2021 due to deposits for manufacturing equipment and professional services. 35 Accounts payable and accrued liabilities increased at December 31, 2022 and 2021 by $995,340 and $187,510, respectively. Investing Activities Net cash used in investing activities for the year ended December 31, 2022 was $11,150,776 compared to $1,131,735 in the prior year. The increase in investing activities was primarily due to the purchase of the manufacturing facility and equipment. Financing Activities Net cash provided by financing activities for the year ended December 31, 2022 was $5,182,160 compared to $32,801,879 in the prior year. During the year ended December 31, 2022, we received $5,300,000 in loans for the purchase of a manufacturing facility. During the year ended December 31, 2021, we received $32,852,630 of proceeds from a public offering, a private placement offering, and exercises of warrants net of share issuance cost. Material Cash Requirements from Known Contractual and Other Obligations The following table summarizes our contractual obligations as of December 31, 2022 and 2023: Contractual Obligations December 31, 2022 December 31, 2023 Operating lease obligations $ 1,518,895 $ 1,025,869 Equipment purchases $ 2,545,000 $ - Total Contractual Obligations $ 4,063,895 $ 1,025,869 We intend to fund our contractual obligations with working capital. Critical Accounting Policies Our discussion and analysis of results of operations and financial condition are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, and expenses as well as related disclosure of contingent assets and liabilities. We evaluate our estimates on an ongoing basis, including those related to provisions for uncollectible accounts receivable, inventories, valuation of intangible assets, and contingencies and litigation. We base our 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 or conditions. These accounting policies conform to accounting principles generally accepted in the United States and have been consistently applied in the preparation of the financial statements. 36 Cash and Cash Equivalents Cash and cash equivalents includes cash on account and demand deposits with maturities of three months or less. Cash and cash equivalents in financial institutions may exceed insured limits at various times during the year and subject the Company to concentrations of credit risk. Cash and cash equivalents include restricted cash at December 31, 2022 and 2021 totaling $411,016 and $0, respectively. Receivables Trade accounts receivable are stated at the amount the Company expects to collect. Receivables are reviewed individually for collectability. If the financial condition of the Company’s customers were to deteriorate, adversely affecting their ability to make payments, allowances may be required. The Company offers credit terms on the sale of the Company’s products to a significant majority of the Company’s customers and requires no collateral from these customers. The Company performs ongoing credit evaluations of customers’ financial condition and, if needed, maintains an allowance for doubtful accounts receivable based upon the Company’s historical experience and a specific review of accounts receivable at the end of each period. At December 31, 2022 and 2021, the Company had no allowance for doubtful accounts. Inventory Inventory is stated at the lower of cost or net realizable value, with cost being determined on a weighted average basis. Cost includes purchase price of materials, freight, and related costs required to bring the goods to Company warehouses. Revenue Recognition In accordance with ASC 606 Revenue from Contracts with Customers, sales are recognized when (1) products are shipped, with no right of return except for defective products, and the title and risk of loss has passed to customers; and (2) when they are delivered based on the terms of the sale, and there is an identifiable contract with a customer with defined performance obligations, the transaction price is determinable, and the entity has fulfilled its performance obligation. Revenue related to shipping and handling costs billed to customers is included in net sales, and the related shipping and handling costs are included in cost of goods sold. Property and Equipment Capital assets are recorded at cost and are depreciated using the straight-line method over the following estimated useful lives: Furniture and equipment 5 years Automobile 5 years Computers 3 years Leasehold improvements 15 years Building 15 years ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “smaller reporting company,” as defined by Rule 12b-2 of the Exchange Act, we are not required to provide the information in this Item. 37