|
|
March
31,
|
|
|
December
31,
|
|
ASSETS
|
|
2021
(as restated)
|
|
|
2020
|
|
Current
assets:
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
1,819
|
|
|
$
|
957
|
|
Trade
accounts receivable, less allowance for doubtful accounts of $9 for both March 31, 2021 and December 31, 2020
|
|
|
3,828
|
|
|
|
2,932
|
|
Inventories,
net
|
|
|
5,001
|
|
|
|
4,340
|
|
Prepaid
expenses and other current assets
|
|
|
653
|
|
|
|
606
|
|
Total
current assets
|
|
|
11,301
|
|
|
|
8,835
|
|
Equipment
and leasehold improvements, net
|
|
|
3,004
|
|
|
|
2,868
|
|
Operating
leases, right of use
|
|
|
1,886
|
|
|
|
1,827
|
|
Other
assets, net
|
|
|
10
|
|
|
|
10
|
|
Total
assets
|
|
$
|
16,201
|
|
|
$
|
13,540
|
|
LIABILITIES
AND SHAREHOLDERS’ EQUITY
|
|
|
|
|
|
|
|
|
Current
liabilities:
|
|
|
|
|
|
|
|
|
Line
of credit, bank
|
|
$
|
500
|
|
|
$
|
500
|
|
Line
of credit, related party
|
|
|
3,365
|
|
|
|
2,155
|
|
Current
portion of long-term debt, related party
|
|
|
500
|
|
|
|
500
|
|
Current
portion of finance lease obligations
|
|
|
168
|
|
|
|
177
|
|
Current
portion of operating lease obligations
|
|
|
477
|
|
|
|
431
|
|
Accounts
payable
|
|
|
2,448
|
|
|
|
2,126
|
|
Deferred
revenue
|
|
|
495
|
|
|
|
411
|
|
Accrued
expenses
|
|
|
1,055
|
|
|
|
484
|
|
Total
current liabilities
|
|
|
9,008
|
|
|
|
6,784
|
|
|
|
|
|
|
|
|
|
|
Long-term
portion of finance lease obligations
|
|
|
73
|
|
|
|
110
|
|
Long-term
portion of operating lease obligations
|
|
|
1,656
|
|
|
|
1,651
|
|
Long-term
convertible loan, related party
|
|
|
1,164
|
|
|
|
1,097
|
|
PPP
Loan (SBA)
|
|
|
—
|
|
|
|
952
|
|
Asset
retirement obligations
|
|
|
216
|
|
|
|
214
|
|
Total
long-term liabilities
|
|
|
3,109
|
|
|
|
4,024
|
|
|
|
|
|
|
|
|
|
|
Contingent
liabilities
|
|
|
—
|
|
|
|
—
|
|
Shareholders’
equity:
|
|
|
|
|
|
|
|
|
Preferred
stock, $.01 par value, 24,088 shares authorized, and no shares issued and outstanding
|
|
|
—
|
|
|
|
—
|
|
Common
stock, $.01 par value, 55,000,000 shares authorized; 38,221,292 shares issued and outstanding on March 31, 2021 and December 31,
2020, respectively
|
|
|
382
|
|
|
|
382
|
|
Additional
paid-in capital
|
|
|
102,159
|
|
|
|
102,117
|
|
Accumulated
deficit
|
|
|
(98,457
|
)
|
|
|
(99,767
|
)
|
Total
Shareholders’ equity
|
|
|
4,084
|
|
|
|
2,732
|
|
|
|
$
|
16,201
|
|
|
$
|
13,540
|
|
See
Notes to Consolidated Condensed Financial Statements.
NANOPHASE
TECHNOLOGIES CORPORATION
CONSOLIDATED
STATEMENTS OF OPERATIONS
(Unaudited
Consolidated Condensed)
(in
thousands except share and per share data)
|
|
Three
months ended March 31,
|
|
|
|
2021
(as restated)
|
|
|
2020
|
|
Revenue:
|
|
|
|
|
|
|
Product
revenue
|
|
$
|
7,050
|
|
|
$
|
3,961
|
|
Other
revenue
|
|
|
22
|
|
|
|
78
|
|
Total
revenue
|
|
|
7,072
|
|
|
|
4,039
|
|
|
|
|
|
|
|
|
|
|
Cost
of revenue
|
|
|
5,042
|
|
|
|
3,005
|
|
Gross
profit
|
|
|
2,030
|
|
|
|
1,034
|
|
Operating
expense:
|
|
|
|
|
|
|
|
|
Research
and development expense
|
|
|
499
|
|
|
|
372
|
|
Selling,
general and administrative expense
|
|
|
1,034
|
|
|
|
705
|
|
Income
(loss) from operations
|
|
|
497
|
|
|
|
(43
|
)
|
Interest
expense
|
|
|
139
|
|
|
|
124
|
|
Other
income, net
|
|
|
(952
|
)
|
|
|
—
|
|
Income
(loss) before provision for income taxes
|
|
|
1,310
|
|
|
|
(167
|
)
|
Provisions
for income taxes
|
|
|
—
|
|
|
|
—
|
|
Net
Income (loss)
|
|
$
|
1,310
|
|
|
$
|
(167
|
)
|
|
|
|
|
|
|
|
|
|
Net
income (loss) per share – basic
|
|
$
|
0.03
|
|
|
$
|
(0.00
|
)
|
|
|
|
|
|
|
|
|
|
Weighted average number
of basic shares outstanding
|
|
|
38,221,292
|
|
|
|
38,136,792
|
|
Net
income (loss) per share – diluted
|
|
$
|
0.03
|
|
|
$
|
(0.00
|
)
|
|
|
|
|
|
|
|
|
|
Weighted
average number of diluted shares outstanding
|
|
|
39,811,292
|
|
|
|
38,136,792
|
|
See
Notes to Consolidated Condensed Financial Statements.
NANOPHASE
TECHNOLOGIES CORPORATION
CONSOLIDATED
STATEMENTS OF SHAREHOLDERS’ EQUITY
(Unaudited
Consolidated Condensed)
(in
thousands except share data)
|
|
Preferred
|
|
|
Common
|
|
|
Additional
Paid-in
|
|
|
Accumulated
|
|
|
|
|
Description
|
|
Shares
|
|
|
Amount
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Deficit
|
|
|
Total
|
|
Balance
on December 31, 2019
|
|
|
—
|
|
|
$
|
—
|
|
|
|
38,136,792
|
|
|
$
|
381
|
|
|
$
|
101,886
|
|
|
$
|
(100,756
|
)
|
|
$
|
1,511
|
|
Stock-based
compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
52
|
|
|
|
—
|
|
|
|
52
|
|
Net
loss for the three months ended March 31, 2020
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(167
|
)
|
|
|
(167
|
)
|
Balance
on March 31, 2020
|
|
|
—
|
|
|
$
|
—
|
|
|
|
38,136,792
|
|
|
$
|
381
|
|
|
$
|
101,938
|
|
|
$
|
(100,923
|
)
|
|
$
|
1,396
|
|
Balance
on December 31, 2020
|
|
|
—
|
|
|
$
|
—
|
|
|
|
38,221,292
|
|
|
$
|
382
|
|
|
$
|
102,117
|
|
|
$
|
(99,767
|
)
|
|
$
|
2,732
|
|
Stock-based
compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
42
|
|
|
|
—
|
|
|
|
42
|
|
Net
Income for the three months ended March 31, 2021 (as restated)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1,310
|
|
|
|
1,310
|
|
Balance
on March 31, 2021 (as restated)
|
|
|
—
|
|
|
$
|
—
|
|
|
|
38,221,292
|
|
|
$
|
382
|
|
|
$
|
102,159
|
|
|
$
|
(98,457
|
)
|
|
$
|
4,084
|
|
See
Notes to Consolidated Condensed Financial Statements.
NANOPHASE
TECHNOLOGIES CORPORATION
CONSOLIDATED
STATEMENTS OF CASH FLOWS
(Unaudited
Consolidated Condensed)
|
|
Three
months ended March 31,
|
|
|
|
2021
(as restated)
|
|
|
2020
|
|
|
|
(in
thousands)
|
|
Operating
activities:
|
|
|
|
|
|
|
|
|
Net Income (loss)
|
|
$
|
1,310
|
|
|
$
|
(167
|
)
|
Adjustments
to reconcile net income (loss) to cash used in operating activities:
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
101
|
|
|
|
86
|
|
Amortization
of debt discount
|
|
|
67
|
|
|
|
67
|
|
Share-based
compensation
|
|
|
42
|
|
|
|
52
|
|
Gain from
PPP loan forgiveness
|
|
|
(952
|
)
|
|
|
—
|
|
Changes
in assets and liabilities related to operations:
|
|
|
|
|
|
|
|
|
Trade accounts
receivable
|
|
|
(896
|
)
|
|
|
(1,284
|
)
|
Inventories
|
|
|
(661
|
)
|
|
|
170
|
|
Prepaid
expenses and other assets
|
|
|
(47
|
)
|
|
|
8
|
|
Accounts
payable
|
|
|
253
|
|
|
|
(35
|
)
|
Accrued
expenses
|
|
|
571
|
|
|
|
133
|
|
Deferred
revenue
|
|
|
84
|
|
|
|
(207
|
)
|
Other
long-term assets and liabilities
|
|
|
(9
|
)
|
|
|
(3
|
)
|
Net cash
used in operating activities
|
|
|
(137
|
)
|
|
|
(1,180
|
)
|
|
|
|
|
|
|
|
|
|
Investing
activities:
|
|
|
|
|
|
|
|
|
Acquisition
of equipment and leasehold improvements
|
|
|
(166
|
)
|
|
|
(181
|
)
|
Net cash
used in investing activities
|
|
|
(166
|
)
|
|
|
(181
|
)
|
|
|
|
|
|
|
|
|
|
Financing
activities:
|
|
|
|
|
|
|
|
|
Principal payments on finance
leases
|
|
|
(46
|
)
|
|
|
(58
|
)
|
Proceeds from line of credit,
bank
|
|
|
500
|
|
|
|
500
|
|
Payments to line of credit,
bank
|
|
|
(500
|
)
|
|
|
(500
|
)
|
Proceeds from line of credit,
related party
|
|
|
6,500
|
|
|
|
3,260
|
|
Payments
to line of credit, related party
|
|
|
(5,289
|
)
|
|
|
(2,084
|
)
|
Net cash
provided by financing activities
|
|
|
1,165
|
|
|
|
1,118
|
|
Increase (decrease) in cash
and cash equivalents
|
|
|
862
|
|
|
|
(243
|
)
|
Cash
and cash equivalents at beginning of period
|
|
|
957
|
|
|
|
1,194
|
|
Cash
and cash equivalents at end of period
|
|
$
|
1,819
|
|
|
$
|
951
|
|
Supplemental
cash flow information:
|
|
|
|
|
|
|
|
|
Interest
paid
|
|
$
|
51
|
|
|
$
|
57
|
|
|
|
|
|
|
|
|
|
|
Supplemental
non-cash investing and financing activities:
|
|
|
|
|
|
|
|
|
Accounts
payable incurred for the purchase of equipment and leasehold improvements
|
|
$
|
69
|
|
|
$
|
77
|
|
See
Notes to Consolidated Condensed Financial Statements.
NANOPHASE
TECHNOLOGIES CORPORATION
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited
Consolidated Condensed)
(in
thousands, except share and per share data or as otherwise noted herein)
(1)
Basis of Presentation
The
accompanying unaudited consolidated condensed interim financial statements of Nanophase Technologies Corporation (“Nanophase”,
“Company”, “we”, “our”, or “us”) reflect all adjustments (consisting of normal recurring
adjustments) which, in the opinion of management, are necessary for a fair statement of our financial position and operating results
for the interim periods presented. All statements include the results from both Nanophase and our wholly-owned subsidiary, Solésence,
LLC (“Solésence,” or our “Solésence® subsidiary”). Operating results for the three months ended
March 31, 2021 are not necessarily indicative of the results that may be expected for the year ending December 31, 2021.
During
the quarter ending June 30, 2021, an error was detected in the timing of the recognition of the forgiveness of the Company’s PPP
loan. In June of 2021, management was made aware that the PPP loan had been forgiven, effective February 2021. “Other income, net”
was presumed to be zero for the quarter ending March 31, 2021, absent direct communication from the Company’s bank, or the SBA,
regarding the timing of forgiveness. Management agreed that the PPP loan had been legally forgiven in the first quarter. This error resulted
in the incorrect presentation of the PPP Loan (SBA) and the accumulated deficit on the Company’s balance sheet, and other income
on the Company’s Statements of Operations, as well as the related items on the Statements of Shareholders’ Equity and Statements
of Cash Flows.
We
evaluated the restatement in accordance with Accounting Standards Codification (ASC) 250, Accounting Changes and Error Corrections, and
evaluated the materiality of the restatement on our first quarter 2021 financial statements, in accordance with the Securities and Exchange
Commission Staff Accounting Bulletin No. 108, Quantifying Financial Statement Errors. We concluded that the changes to the financial
statements were material to the first quarter 2021 financial statements, while having no impact on the six-month results. Our conclusion
was that we should restate our first quarter 2021 financial statements to reflect changes to that quarter’s net income, balance sheet
categories, and the related items on the Statements of Shareholders’ Equity and the Statements of Cash Flows.
Balance Sheets
|
|
As Previously
Reported
Three
Months Ended
March 31, 2021
|
|
|
Correction
|
|
|
As
Restated
|
|
PPP Loan (SBA)
|
|
$
|
952
|
|
|
$
|
(952
|
)
|
|
$
|
—
|
|
Total long-term liabilities liabilities - current
|
|
|
4,061
|
|
|
|
(952
|
)
|
|
|
3,109
|
|
Accumulated deficit
|
|
|
(99,409
|
)
|
|
|
952
|
|
|
|
(98,457
|
)
|
Total Shareholder’s equity
|
|
|
3,132
|
|
|
|
952
|
|
|
|
4,084
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Statements of Operations
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income, net
|
|
$
|
—
|
|
|
$
|
952
|
|
|
$
|
952
|
|
Net income
|
|
|
358
|
|
|
|
952
|
|
|
|
1,310
|
|
Net income per share (basic and diluted)
|
|
$
|
0.01
|
|
|
$
|
0.02
|
|
|
$
|
0.03
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Statements of Shareholders’ Equity
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income for the three months ended March 31, 2021
|
|
$
|
358
|
|
|
$
|
952
|
|
|
$
|
1,310
|
|
Total Accumulated deficit on March 31, 2021
|
|
|
(99,409
|
)
|
|
|
952
|
|
|
|
(98,457
|
)
|
Balance on March 31, 2021
|
|
|
3,132
|
|
|
|
952
|
|
|
|
4,084
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Statements of Cash Flows
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income(loss)
|
|
$
|
358
|
|
|
$
|
952
|
|
|
$
|
1,310
|
|
Other income, PPP loan forgiveness
|
|
|
—
|
|
|
|
(952
|
)
|
|
|
(952
|
)
|
These
financial statements should be read in conjunction with our audited financial statements and notes thereto for the year ended December
31, 2020, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020 as filed with the Securities
and Exchange Commission.
(2)
|
Going
Concern / Liquidity
|
We
believe that cash from operations and cash on hand, in addition to unused borrowing capacity, which
has recently been increased (see Note 7), may not be adequate to fund our operating plans through
the next twelve months. We are working to reduce these risks and the results of the Company in this regard have improved markedly, but
some of this is dependent on several things over which we have limited control. The significant revenue growth that we have experienced
has required additional investment in both working capital and capital equipment. This has constrained liquidity and made cash management
a top priority. Generally, our growth has required significant additional investment in working capital. To support our growth and reduce
costs, we also intend to invest in additional capital equipment through 2021 and in 2022. Given these issues, and other commercial realities,
we are monitoring the additional working capital demands that this could create as we continue to execute on our Solésence growth
strategy. The timing of cash flows is critical. If cash generated from operations is not materially consistent with our plans, we believe
that we may need to seek additional funding to address working capital demands. This uncertainty has caused us to be unable to assert
that, for the next twelve months, we have enough current cash and guaranteed access to financing to fund operations, and to continue
with our current growth strategy in terms of investment in capital equipment and in operating expenses related to Solésence, without
securing additional financing.
These
circumstances raise substantial doubt as to the Company’s ability to operate as a going concern under U.S. GAAP. The accompanying
financial statements have been prepared on a going concern basis in accordance with U.S. GAAP. As such, no adjustments have been made
to the consolidated financial statements for the recoverability of assets and classification of liabilities that might be necessary should
the Company be unable to continue operating as a going concern.
We
believe that we will be able to secure additional financing if needed, but we do not have any additional financing commitments in place
as of today. However, we may not be able to secure additional financing in a timely manner under commercially reasonable terms, or at
all. If we are unable to secure additional financing, the operations of the Company might need to be curtailed to a certain degree, and
we would need to delay capital expenditures related to our Solésence growth strategy, which could impede growth, and impact cost
savings anticipated in 2021 and 2022.
(3)
Description of Business
Nanophase
Technologies Corporation (“Nanophase,” “Company,” “we,” “our,” or “us”) is
a science-driven company which, along with its wholly owned subsidiary, Solésence, LLC (our “Solésence subsidiary”),
is focused in various beauty- and life-science markets. Skin health and medical diagnostics combined currently make up the great
majority of our business and drive our forward growth strategy. We offer engineered materials, formulation development and commercial
manufacturing through an integrated family of technologies. Our expertise in materials engineering allows us to effectively coat and
disperse particles on a nano and “non-nano” scale for use in a variety of markets in skin care, including for use in sunscreens
as active ingredients and as fully developed prestige skin care products, marketed and sold through our Solésence subsidiary.
In terms of our life sciences focus, we have seen current conditions significantly increase demand for our medical diagnostics ingredients,
as testing for various viruses, most notably COVID-19, has become a critical use of our technology. Additionally, we continue to
sell products in markets for architectural coatings, industrial coating applications, abrasion-resistant additives, plastics additives,
and surface finishing technologies (polishing) applications— all of which, along with medical diagnostics, fall into the advanced
materials product category.
We
target markets, primarily related to skin health products and ingredients, and diagnostic life sciences ingredients where we believe
our materials and products offer practical and competitive minerals-based solutions. We traditionally work closely with current
customers in these target markets to identify their material and performance requirements and market our materials to various end-use
applications manufacturers, and our Solésence® products to cosmetics and skin care brands. Over the past few years, we have
expanded our marketing efforts for our Solésence products and are seeing more customers responding to our successful products
being sold into their markets. Recently developed technologies have made certain new products possible and opened potential new
markets. During 2015 we were granted a patent on a new type of particle surface treatment (coating) — now called Active Stress
Defense ™ Technology — which became the cornerstone of our new product development in personal care, with first revenue recognized
during 2016. In addition, through the creation of our Solésence subsidiary, we utilize this particle surface treatment to manufacture
and sell fully developed solutions to targeted customers in the skin care industry, in addition to the ingredients we have traditionally
sold in the personal care area.
Although
our primary strategic focus has been the North American market, we currently sell materials to customers overseas and have been working
to expand our reach within foreign markets. Our common stock trades on the OTCQB marketplace under the symbol NANX.
While
product sales comprise the majority of our revenue, we also recognize revenue from other sources from time to time. These activities
are not expected to drive the long-term growth of the business. For this reason, we classify such revenue as “other revenue”
in our Consolidated Statements of Operations, as it does not represent revenue directly from the sale of our products.
(4)
Revenues
Revenues
are generally recognized at a point in time, typically when control of the promised goods is transferred to customers, in an amount that
reflects the consideration the Company expects to be entitled to in exchange for those goods.
(5)
Earnings Per Share
Options
to purchase approximately 1,590,000 shares of common stock that were outstanding as of March 31, 2021 were included in the computation
of earnings per share for the three months ended March 31, 2021. Options to purchase approximately 1,000 shares of common stock
that were outstanding as of March 31, 2020 were not included in the computation of earnings per share for three months ended March 31,
2020, as the impact of such shares are anti-dilutive.
Earnings
applicable to common stock and common stock shares used in the calculation of basic and diluted earnings per share are as follows:
|
|
Three Months Ended March 31,
|
|
|
|
2021
(as restated)
|
|
|
2020
|
|
Numerator: (in Thousands)
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
1,310
|
|
|
$
|
(167
|
)
|
|
|
|
|
|
|
|
|
|
Denominator:
|
|
|
|
|
|
|
|
|
Weighted average number of basic common shares outstanding
|
|
|
38,221,292
|
|
|
|
38,136,792
|
|
Weighted average additional shares assuming conversion of in-the-money stock options to common shares
|
|
|
1,590,000
|
|
|
|
—
|
|
Weighted average number of diluted common shares outstanding
|
|
|
39,811,292
|
|
|
|
38,136,792
|
|
|
|
|
|
|
|
|
|
|
Basic earnings per common share:
|
|
|
|
|
|
|
|
|
Net income (loss) per share – basic
|
|
$
|
0.03
|
|
|
$
|
(0.00
|
)
|
Diluted earnings per common share:
|
|
|
|
|
|
|
|
|
Net income (loss) per share – diluted
|
|
$
|
0.03
|
|
|
$
|
(0.00
|
)
|
(6)
Financial Instruments
We
follow ASC Topic 820, Fair Value Measurements and Disclosures, which defines fair value, establishes a framework for measuring
fair value, and expands disclosures about fair value measurements. The fair value framework requires the categorization of assets and
liabilities into three levels based upon the assumptions (inputs) used to price the assets or liabilities. Level 1 provides the most
reliable measure of fair value, whereas Level 3 generally requires significant management judgment.
Our
financial instruments include cash, any cash equivalents, accounts receivable, accounts payable and accrued expenses, along with the
promissory note with no related borrowings described in Note 7, any borrowings on the working capital line of credit from Libertyville
Bank and Trust, and any borrowings on the working capital line of credit, along with the term loan from Beachcorp, LLC, and the promissory
note payable associated with the convertible loan described in Note 7 below. The fair values of all financial instruments were not materially
different from their carrying values.
There
were no financial instruments adjusted to fair value on March 31, 2021 and December 31, 2020.
(7)
Notes and Line of Credit
During
July 2014 we entered into a bank-issued letter of credit and related promissory note for up to $30 in borrowings to support our obligations
under our facility lease agreement. No borrowings have been incurred under this promissory note. Should any borrowings occur in the future,
the interest rate would be the prime rate plus 1%, with the bank having the right to “set off” or apply unpaid balances against
our checking account if we fail to meet our obligations under any borrowings under the note. It is our intention to renew this note annually,
for as long as we need to do so pursuant to the terms of our facility lease agreement. Because there were no amounts outstanding on the
note at any time during 2021 or 2020, we have recorded no related liability on our consolidated balance sheet.
We
have a Business Loan Agreement with Libertyville Bank and Trust Company, a Wintrust Community Bank (“Libertyville”). Under
the Business Loan Agreement, Libertyville will provide a maximum of (i) $500 or (ii) two times the sum of (a) 75% our eligible accounts
receivables and (b) our cash deposited with Libertyville, whichever is less, of revolving credit to us, collateralized by a senior priority
lien on our accounts receivable, inventory, equipment, general intangibles, and fixtures. Interest is payable monthly on any advances
at a floating interest rate of the prime rate at the time plus 1%. We must have $500 in cash, inclusive of the borrowed amount, at Libertyville
on the date of any advance. Advances may only occur at the beginning or end of a fiscal quarter and must be repaid in full within five
business days of the advance. Amounts due under the Business Loan Agreement were paid in full on April 4, 2021, as required. It
is management’s expectation that the Business Loan Agreement will be renewed in May 2021.
On
November 16, 2018, we entered into a Business Loan Agreement (the “Master Agreement”) with Beachcorp, LLC. Beachcorp, LLC
is managed by Bradford T. Whitmore, who, together with his affiliate Grace Investments, Ltd., beneficially owned approximately 63% of
the outstanding shares of our common stock as of March 31, 2021. The Master Agreement relates to two loan facilities, each evidenced
by a separate promissory note dated as of November 16, 2018: a term loan to the Company of up to $500 to be disbursed in a single advance
(the “Term Loan”) with a fixed annual interest rate of 8.25%, payable quarterly, accruing from the date of such advance and
with principal due on December 31, 2020; and an asset-based revolving loan facility for the Company of up to $2,000 (the “Revolver
Facility”), and to extend the maturity date, with floating interest accruing at the prime rate plus 3% (8.25% minimum) per year,
with a borrowing base consisting of qualified accounts receivable of the Company, and with all principal and accrued interest due March
31, 2020, as amended. On March 23, 2020, the Company and Beachcorp, LLC executed the First Amendment to our Master Agreement that
extends the maturities of both the Term Loan and the Revolver Facility to March 31, 2021. Effective September 8, 2020, the Company
and Beachcorp, LLC executed the Second Amendment to our Master Agreement that expands the limit on the Revolver Facility from $2,000
to $2,750. On December 23, 2020, the Company and Beachcorp, LLC executed the Third Amendment to our Master Agreement that expands
the limit on the Revolver Facility from $2,750 to $4,000 and extends the maturities of both the Term Loan and the Revolver Facility to
March 31, 2022. On April 21, 2021, the Company and Beachcorp, LLC executed the Fourth Amendment to our Master Agreement that expands
the limit on the Revolver Facility from $4,000 to $6,000, extends its maturity to March 31, 2023, and reduces interest on outstanding
borrowings from the prime rate plus 3%, with an 8.25% minimum floor, to the prime rate plus 2%, with no minimum rate floor. Additionally,
the Fourth Amendment increased the amount of the Term Loan from $500 to $1,000, and its fixed interest rate was reduced from 8.25%
per year to 5.25% per year. The maturity date of the Term Loan remains March 31, 2022. The Term Loan and Revolver Facility are secured
by all the unencumbered assets of the Company and subordinated to Libertyville’s secured interest under the Business Loan Agreement. The
Master Agreement substantially restricts the Company’s ability to incur additional indebtedness during the terms of both the Term
Loan and the Revolver Facility.
On
November 20, 2019, we entered into a 2% Secured Convertible Promissory Note with Bradford T. Whitmore in the principal amount of $2,000
(the “Convertible Note”). The principal amount is payable in a single payment on May 15, 2024 (the “Maturity Date”).
The principal amount of the Convertible Note accrues interest at the rate of 2.0% per year, which interest is payable semi-annually on
the 15th day of May and November, commencing on May 15, 2020. The principal amount and, at the holder’s option, accrued interest
under the Convertible Note is convertible at the holder’s option into additional shares of the Company’s common stock in
whole or in part and from time to time up to the Maturity Date at a conversion price of $0.20 per share. The convertible note contains
a beneficial conversion feature since the Company’s stock was trading at $0.32 per share on the date the Company entered into the
agreement. The intrinsic value of the beneficial conversion feature was $1.2 million on November 20, 2019 and is recorded as a discount
on the convertible note. The discount will be accreted to the convertible note over the life of the note using the straight-line method.
The balance on the convertible note was $1,164, net of a discount of $836 at March 31, 2021, and $1,097, net of a discount of $903 at
December 31, 2020. Mr. Whitmore chose to exercise his conversion rights effective May 7, 2021, requesting that any accrued interest be
paid him in the form of shares, as allowed in the Convertible Note. This will result in the accelerated recognition of the discount on
the Convertible Note, to be recognized as interest expense in the second quarter of 2021.
On
April 17, 2020, we entered into a Promissory Note (the “PPP Note”), dated as of April 16, 2020, in favor of Libertyville
in the principal amount of $952 for our loan under the Paycheck Protection Program (“PPP”). The Company was allowed
to apply for forgiveness of the amount due on the PPP Note in an amount equal to the sum of the following costs incurred during the 24-week
period beginning on the date of the first disbursement of the loan: (a) payroll costs, (b) any payment of interest on a covered obligation
(which shall not include any prepayment of or payment of principal on a covered mortgage obligation), (c) any payment on a covered rent
obligation, and (d) any covered utility payment, calculated in accordance with the terms of the CARES Act. The principal amount of the
PPP Note would have accrued interest at the rate of 1.00% per year. Management applied for loan forgiveness in February 2021 and
received notice of PPP Loan forgiveness in June, 2021. The date that the loan was officially
forgiven by the Small Business Administration was February 12, 2021, although it wasn’t communicated as such directly to management.
On March 31, 2021, the balance under the PPP note was $0.
On
March 31, 2021, the balance on the term loan was $500, the balance on the Revolver Facility was $3,365, and the balance on the Convertible
Note was $2,000. For the three months ended March 31, 2021, and 2020,
there was $131 and $111, respectively, in interest expense relating to these credit facilities held by Beachcorp, LLC and Bradford T.
Whitmore. The accrued interest expense balance on these related party credit facilities amounted to $36, and $20, at March 31, 2021 and
December 31, 2020, respectively. The obligations under the Convertible Note are secured by a security interest in all of the Company’s
personal property pursuant to a Commercial Security Agreement among Mr. Whitmore, the Company and Solésence, LLC, the Company’s
sole subsidiary. Given that Beachcorp, LLC is an affiliate of Mr. Whitmore, this amounts to all of this interest being owed to a related
party. On March 31, 2021 borrowings were within the credit agreement limit with an additional $388 available. The balance of borrowing
base, loan amount, and any excess payments required over the available borrowing base will change as frequently as daily, given the operational
nature of the elements of the Revolver Facility.
(8)
Inventories
Inventories
consist of the following:
|
|
March 31, 2021
|
|
|
December 31, 2020
|
|
|
|
|
|
|
|
|
Raw materials
|
|
$
|
3,883
|
|
|
$
|
2,825
|
|
Finished goods
|
|
|
1,148
|
|
|
|
1,545
|
|
|
|
|
5,031
|
|
|
|
4,370
|
|
Allowance for excess inventory quantities
|
|
|
(30
|
)
|
|
|
(30
|
)
|
|
|
$
|
5,001
|
|
|
$
|
4,340
|
|
(9)
Leases
The
Company's operating lease portfolio is comprised of operating leases for office, warehouse space and equipment. Certain of the Company's
leases include one or more options to renew or terminate the lease at the Company's discretion. The Company regularly evaluates the renewal
and termination options and when they are reasonably certain of exercise, includes the renewal or termination option in our lease term.
As
of March 31, 2021, the operating lease right-of-use “ROU” asset had a balance of $1,886 which is included in the “Operating
lease right-of-use assets” line item of these condensed consolidated financial statements and current and non-current lease liabilities
related to the ROU asset of $477 and $1,656, respectively. As of December 31, 2020, the ROU asset had a balance of $1,827 which is included
in the “Operating lease right-of-use assets” line item of these condensed consolidated financial statements and current and
non-current lease liabilities related to the ROU asset of $431 and $1,651, respectively. These are included in the “Current portion
of operating lease obligations” and “Long-term operating lease obligations, net of current portion” line items of these
condensed consolidated financial statements. The discount rates used for leases accounted for under ASC 842 are based on an interest
rate yield curve developed for the leases in the Company’s portfolio.
The
office leases contain variable lease payments which consist primarily of rent escalations based on an established index or rate and taxes,
insurance, and common area or other maintenance costs, which are paid based on actual costs incurred by the lessor.
Quantitative
information regarding the Company’s leases is as follows:
|
|
Three Months Ended March 31, 2021
|
|
|
Three Months Ended March 31, 2020
|
|
Components of lease cost
|
|
|
|
|
|
|
|
|
Finance lease cost components:
|
|
|
|
|
|
|
|
|
Amortization of finance lease assets
|
|
$
|
14
|
|
|
$
|
17
|
|
Interest on finance lease liabilities
|
|
|
6
|
|
|
|
11
|
|
Total finance lease costs
|
|
|
20
|
|
|
|
28
|
|
Operating lease cost components:
|
|
|
|
|
|
|
|
|
Operating lease cost
|
|
|
144
|
|
|
|
140
|
|
Variable lease cost
|
|
|
31
|
|
|
|
27
|
|
Short-term lease cost
|
|
|
10
|
|
|
|
2
|
|
Total operating lease costs
|
|
|
185
|
|
|
|
169
|
|
|
|
|
|
|
|
|
|
|
Total lease cost
|
|
$
|
205
|
|
|
$
|
197
|
|
Supplemental
cash flow information related to leases is as follows for the period ended March 31:
|
|
2021
|
|
|
2020
|
|
Cash paid for amounts included in the measurement of lease liabilities:
|
|
|
|
|
|
|
|
|
Operating cash outflow from operating leases
|
|
$
|
183
|
|
|
$
|
171
|
|
|
|
|
|
|
|
|
|
|
Weighted-average remaining lease term-finance leases (in years)
|
|
|
1.3
|
|
|
|
1.7
|
|
Weighted-average remaining lease term-operating leases (in years)
|
|
|
3.1
|
|
|
|
2.7
|
|
Weighted-average discount rate-finance leases
|
|
|
10.1
|
%
|
|
|
9.3
|
%
|
Weighted-average discount rate-operating leases
|
|
|
14.2
|
%
|
|
|
14.6
|
%
|
The
future maturities of the Company’s finance and operating leases as of March 31, 2021 is as follows:
|
|
Finance Leases
|
|
|
Operating Leases
|
|
|
Total
|
|
2021
|
|
$
|
144
|
|
|
$
|
559
|
|
|
$
|
703
|
|
2022
|
|
|
109
|
|
|
|
761
|
|
|
|
870
|
|
2023
|
|
|
5
|
|
|
|
747
|
|
|
|
752
|
|
2024
|
|
|
—
|
|
|
|
636
|
|
|
|
636
|
|
2025
|
|
|
—
|
|
|
|
42
|
|
|
|
42
|
|
2026 and thereafter
|
|
|
—
|
|
|
|
2
|
|
|
|
2
|
|
Total payments
|
|
$
|
258
|
|
|
$
|
2,747
|
|
|
$
|
3,005
|
|
Less amounts representing interest
|
|
|
(17
|
)
|
|
|
(614
|
)
|
|
|
(631
|
)
|
Total minimum payments required:
|
|
$
|
241
|
|
|
$
|
2,133
|
|
|
$
|
2,374
|
|
The
future maturities of the Company’s finance and operating leases as of March 31, 2020 were as follows:
|
|
Finance Leases
|
|
|
Operating Leases
|
|
|
Total
|
|
2020
|
|
$
|
189
|
|
|
$
|
506
|
|
|
$
|
695
|
|
2021
|
|
|
196
|
|
|
|
687
|
|
|
|
883
|
|
2022
|
|
|
109
|
|
|
|
705
|
|
|
|
814
|
|
2023
|
|
|
5
|
|
|
|
690
|
|
|
|
695
|
|
2024
|
|
|
—
|
|
|
|
580
|
|
|
|
580
|
|
2025 and thereafter
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Total payments
|
|
$
|
499
|
|
|
$
|
3,168
|
|
|
$
|
3,667
|
|
Less amounts representing interest
|
|
|
(51
|
)
|
|
|
(862
|
)
|
|
|
(913
|
)
|
Total minimum payments required:
|
|
$
|
448
|
|
|
$
|
2,306
|
|
|
$
|
2,754
|
|
(10)
Share-Based Compensation
We
follow FASB ASC Topic 718, Compensation
– Stock Compensation, in which compensation expense is recognized only for share-based
payments expected to vest. We recognized compensation expense related to stock options of $42 and $52 for each of the three-month periods
ended March 31, 2021 and 2020, respectively.
As
of March 31, 2021, there was approximately $206 of total unrecognized compensation cost related to non-vested share-based compensation
arrangements granted under our stock option plans. That cost is expected to be recognized over a remaining weighted-average period of
1.7 years.
Stock
Options and Stock Grants
No
stock options were exercised during the three months ended March 31, 2021, or March 31, 2020. No stock options were granted during the
three months ended March 31, 2021, or March 31, 2020. During the three
months ended March 31, 2021, 35,000 stock options expired, and no stock options were forfeited, compared to 241,000 stock options which
expired, and 140,000 stock options which were forfeited during the same period in 2020. We had 3,411,000 stock options outstanding at
a weighted average exercise price of $0.57 on March 31, 2021, compared to 3,332,000 stock options outstanding at a weighted average exercise
price of $0.63 on March 31, 2020.
(11) Significant
Customers and Contingencies
Revenue
from five customers constituted approximately 24%, 20%, 17%, 15% and 10%, respectively, of our total revenue for the three months ended
March 31, 2021. Amounts included in accounts receivable on March 31, 2021 relating to these five customers were approximately $837, $812,
$476, $855, and $390, respectively. Revenue from these five customers constituted approximately 0%, 46%, 15%, 4% and 15%, respectively,
of our total revenue for the three months ended March 31, 2020. Amounts included in accounts receivable on March 31, 2020 relating to
these five customers were approximately $0, $896, $31, $180, and $593, respectively. The loss of one of these significant customers,
a significant decrease in revenue from one or more of these customers, or the failure to attract new customers could have a material
adverse effect on our business, results of operations and financial condition.
We
currently have exclusive supply agreements with BASF Corporation (“BASF”), our largest customer, that have contingencies
outlined which could potentially result in the license of technology and/or the sale of production equipment from the Company to the
customer intended to provide capacity sufficient to meet the customer’s production needs. This outcome may occur if we fail to
meet certain performance requirements, certain other obligations and/or certain financial condition covenants. The financial condition
covenants in one of our supply agreements with BASF “trigger” a technology transfer right (license and equipment sale at
BASF’s option) in the event (a) that earnings for the twelve-month period ending with our most recently published quarterly financial
statements are less than zero and our cash, cash equivalents and certain investments are less than $500, or (b) of an acceleration of
any debt maturity having a principal amount of more than $10 million. There are certain minimum finished goods inventory requirements
with the new amendment to the supply agreement. This agreement also requires Nanophase to maintain certain finished goods inventory levels
as “safety stock,” beginning in the first quarter of 2019, and increasing through the third quarter of 2019 to a negotiated
level based on agreed demand metrics, in order to maintain the $500 non-cash component discussed above. After September 30, 2019, should
our safety stock fall below the prescribed amount of material, the quarter-end cash requirement would revert to $1,000 in cash, cash
equivalents, and certain investments. The safety stock requirement may be adjusted upon mutual agreement. The Company met its safety
stock requirements at March 31, 2021.
Our
supply agreements with BASF also “trigger” a technology transfer right in the event of our insolvency, as further defined
within the agreements. In the event of an equipment sale, upon incurring a triggering event, the equipment would be sold to the customer
at either 115% of the equipment’s net book value, or the greater of 30% of the original book value of such equipment, and any associated
upgrades to it.
We
believe that cash from operations and cash on hand, in addition to unused borrowing capacity, may not be adequate to fund our operating
plans through 2021. If a triggering event were to occur and BASF elected to proceed with the license and related equipment sale mentioned
above, we would receive royalty payments from this customer for products sold using our technology; however, we would lose both significant
revenue and the ability to generate significant revenue to replace that which was lost in the near term. Replacement of necessary equipment
that could be purchased and removed by the customer pursuant to this triggering event could take in excess of twelve months. Any additional
capital outlays required to rebuild capacity would probably be greater than the proceeds from the purchase of the assets as dictated
by our agreement with the customer. Similar consequences would occur if we were determined to have materially breached certain other
provisions of the supply agreement with BASF. Any such event would also likely result in the loss of some of our key staff and line employees
due to economic realities. We believe that our employees are a critical component of our success and it could be difficult to replace
them quickly. Given the occurrence of any such event, we might not be able to hire and retain skilled employees given the stigma relating
to such an event and its impact on us. Finally, any shortfall in capital needed to operate the business as management intends, including
with respect to avoiding this triggering event as described above, may result in a curtailment of certain activities or anticipated investments.
We
expect to expend resources on research, development, and product testing, and in expanding current capacity or capability for new business.
In addition, we may incur significant costs in preparing, filing, prosecuting, maintaining, and enforcing our patents and other proprietary
rights. We may need additional financing if we were to lose an existing customer or suffer a significant decrease in revenue from one
or more of our customers or because of currently unknown capital requirements, new regulatory requirements, or the need to meet the cash
requirements discussed above to avoid a triggering event under our BASF agreement. Given our expected continuing growth in our Solésence
business, we may also have temporary working capital demands that we cannot fund with existing capital, while remaining in compliance
with the covenants included in our BASF agreement described above. We expect our single biggest financing need in 2021, as it was in
2020, will relate to the funding of our working capital, which has grown significantly to support the growth of our business. In the
likely event that we will need to seek additional financing, we may seek funding through public or private financing and through contracts
with governmental entities or other companies. Additional financing may not be available on acceptable terms or at all, and any such
additional financing could be dilutive to our shareholders. If we are unable to obtain adequate funds, we may be required to delay, scale-back
or eliminate some of our manufacturing and marketing operations or we may need to obtain funds through arrangements on less favorable
terms. Such circumstances raise doubt as to our ability to continue as a going concern. If we obtain funding on unfavorable terms, we
may be required to relinquish rights to some of our intellectual property.
(12)
Business Segmentation and Geographical Distribution
Revenue
from international sources approximated $1,285 and $304 for the three months ended March 31, 2021 and 2020, respectively. All this revenue
was product revenue.
Our
operations comprise a single business segment and all of our long-lived assets are located within the United States. We categorize our
revenue streams into three main product categories, Personal Care Ingredients, Advanced Materials and Solésence®. The revenues
for the three months ended March 31, 2021 and 2020, respectively, by category, are as follows:
Product Category
|
|
2021
|
|
|
2020
|
|
Personal Care Ingredients
|
|
$
|
1,395
|
|
|
$
|
1,932
|
|
Advanced Materials
|
|
|
1,378
|
|
|
|
584
|
|
Solésence®
|
|
|
4,299
|
|
|
|
1,523
|
|
Total Revenue
|
|
$
|
7,072
|
|
|
$
|
4,039
|
|
Item
2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
Nanophase
is a skin health focused company whose primary products are fully developed prestige skin care formulations, marketed and sold through
our Solésence subsidiary, enabled by our proprietary Active Pharmaceutical Ingredients (“APIs”) which are also marketed
as APIs for sale to manufacturers of other types of skin health products, including sunscreens and daily care products. In terms
of the balance of our life sciences focus, we have seen current conditions significantly increase demand for our medical diagnostics
ingredients, which are used in testing for various viruses, most notably COVID-19. Additionally, we continue to sell products in
markets for architectural coatings, industrial coating applications, abrasion-resistant additives, plastics additives, and surface finishing
technologies (polishing) applications— all of which, along with medical diagnostics, currently fall into the advanced materials
product category.
Leveraging
a platform of integrated patented and proprietary technologies, we create products with unique performance to enhance consumers’
health and well-being. We offer soup-to-nuts production, from engineered materials, formulation development, and finished product development
to commercial manufacturing and packaging capabilities. Our expertise in materials engineering allows us to effectively coat and disperse
materials on a nano and “non-nano” scale for use in a variety of markets in skin health, including for use in sunscreens
as Active Pharmaceutical Ingredients (“APIs”) and as fully developed prestige skin care products, marketed and sold through
our Solésence beauty science subsidiary. We believe that we have developed technological advantages with respect to our APIs sold
for use as ingredients, while our Solésence beauty science technologies lead to enhanced efficacy in our finished products.
We
have seen current conditions significantly increase demand for our medical diagnostics materials. Polymerase Chain Reaction (“PCR”)
testing for various viruses, most notably SARS-CoV-2 (“COVID-19”), has become a critical use of our technology in the life
science space. While we cannot predict whether the increased demand for our medical diagnostic materials used in COVID-19 testing will
continue, we believe that our deep expertise in materials science has created advantages that enable performance in certain tests that
may not be achievable through other materials. Outside of life science, we continue to sell advanced materials for use in legacy applications,
all of which, along with medical diagnostics, currently fall into the advanced materials product category.
Given
our technological position, in addition to the historical market acceptance of our APIs for use in skin health products and sunscreens,
rapidly growing sales for our suite of Solésence® finished products, and growing use of our diagnostic materials in aiding
the fight to curb the spread of COVID-19 and other viruses, we have reoriented our Company strategy. We are seeing unprecedented demand
in both beauty science and life science areas. The markets for both have shown an appetite for what we are producing, and management
believes that this growth is happening now due to a confluence of our technology, market conditions that favor what we produce, and our
expanded expertise in these areas.
Nanophase,
and Solésence, is now focusing our combined business-, ingredient-, and product-development capabilities on products with unique
performance that enhance consumers’ wellbeing through beauty science and life science applications — in skin health
and medical diagnostics, respectively. While we will continue to produce and sell materials to our other advanced materials customers,
it is not our strategic focus. We may develop additional technologies, or find unique applications outside of our core markets in the
future, but to maximize the use of our resources today, we plan on expanding efforts in areas where we have proven we can deliver
innovation and growth.
Results
of Operations
Total
revenue increased to $7,072,000 for the three months ended March 31, 2021, compared to $4,039,000 for the same period in 2020.
A
substantial majority of our revenue for both periods was from our five largest customers, in particular, sales to our largest customer
in skin care and sunscreen applications, medical diagnostics, and now finished skin health products marketed through our Solésence
subsidiary. Product revenue, the primary component of our total revenue, increased to $7,050,000 three months ended March 31, 2021, compared
to $3,961,000 during the same period of 2020. This increase was due to continued growth in the adoption of our Solésence®
products and our medical diagnostics materials, offset by a decrease in revenue from our largest customer in our personal care ingredients
business.
Current
Significant Customers
|
|
Three months ended March 31,
|
|
|
|
2021
|
|
|
2020
|
|
Largest
Personal Care Customer
|
|
|
20
|
%
|
|
|
46
|
%
|
Medical
Diagnostics Customer
|
|
|
15
|
%
|
|
|
4
|
%
|
Solésence
Customer – 3
|
|
|
24
|
%
|
|
|
0
|
%
|
Solésence
Customer – 2
|
|
|
17
|
%
|
|
|
15
|
%
|
Solésence
Customer – 1
|
|
|
10
|
%
|
|
|
15
|
%
|
Significant
Customer Total
|
|
|
86
|
%
|
|
|
80
|
%
|
Other
revenue decreased to $22,000 for the three months ended March 31, 2021, compared to $78,000 for the three months ended March 31, 2020.
Other revenue is typically comprised primarily of developmental or licensing fees. For the three months ended March 31, 2020, other revenue
included $65,000 to development fees recognized for the Company’s work on behalf of a customer relating to new personal care ingredients.
Cost
of revenue generally includes costs associated with commercial production and customer development arrangements. Cost of revenue increased
to $5,042,000 for the three months ended March 31, 2021, compared to $3,005,000 for the same period in 2020. The increase in cost of
revenue was primarily driven by increased volume and price inflation on materials and manufacturing inefficiencies related to Solésence®
product launches. While we typically pass through costs to our customers, we sometimes cannot pass through
100% of pricing increases on raw materials, and even with pass throughs, our gross margin percentage is negatively impacted by higher
material costs. We expect to continue new advanced material development relating to personal care ingredients and for our formulated
Solésence® products during 2021 and beyond.
At
current revenue levels we have generated a positive gross margin, though margins can be impeded by the cyclicality of our demand, often
leading to the Company not having enough revenue to efficiently absorb manufacturing overhead that is required to work with current customers
and expected future customers. Another issue relating to demand cyclicality is that we have seen our lack of burst capacity creating
strains, in terms of people and costs, when new product launches occur at the same time demand from previously launched products comes
to play. We believe that our current fixed manufacturing cost structure is sufficient to support higher levels of revenue volume on a
level basis, and are currently working to expand burst capacity to allow us to utilize our resources more efficiently. The extent to
which margins grow, as a percentage of total revenue, will be dependent upon revenue mix, revenue volume, our ability to continue to
cut costs and pass commodity market-driven raw materials increases on to customers, and the speed and efficiency with which we are able
to scale up production for our Solésence products. We expect that, as product revenue volume increases, our fixed manufacturing
costs will be more efficiently absorbed, which should lead to increased margins as we grow. We expect to continue to focus on reducing
controllable variable product manufacturing costs, with potential variability related to the commodity metals markets, but may or may
not realize absolute dollar gross margin growth through 2021 and beyond, dependent upon the factors discussed above.
Research
and development expense, which includes all expenses relating to the technology and advanced engineering groups, primarily consists of
costs associated with the development or acquisition of new finished product formulations for skin care, new product applications for
our skin care ingredients, advancement of our medical diagnostics ingredient knowledge, and the cost of enhancing our manufacturing
processes. As an example, we are currently focusing the bulk of our resources on developing new product formulations, and related new
technologies, as we expand marketing and sales efforts relating to our Solésence products. This work has led to several new products
and additional potential new products. Our efforts in research and development, cosmetic formulating, process engineering and advanced
engineering groups are focused in three major areas: 1) application development for our products; 2) creating or obtaining additional
core materials technologies and/or materials that have the capability to serve multiple skin health-related markets; and 3) continuing
to improve our core technologies to improve manufacturing operations and reduce costs.
Research
and development expense increased, as planned, to $499,000 for the three months ended March 31, 2021, compared to $372,000 for the same
period in 2020. The primary reasons for this increase were related to increases in staffing and compensation, offset by reductions in
professional fees and outside product testing and evaluation costs related to our Solésence®
products. We expect quarterly research and development expense to remain at, or slightly above, current levels, for the balance
of 2021.
Selling,
general and administrative expense increased, as planned, to $1,034,000 for the three months ended March 31, 2021, compared to $705,000
for the same period in 2020. Much of this was attributed to increases in staffing and compensation. We expect selling, general, and administrative
expense to remain at current levels for the balance of 2021.
Interest
expense was $139,000 for the three months ended March 31, 2021, compared to $124,000 for the same period in 2020. This primarily includes
interest on our revolving line of credit for working capital funding, cash, and discount-related interest expense on our $2,000,000 Convertible
Note, along with finance leases and term loans supporting some of our equipment.
The
Company recognized $952,000 in other income relating to the forgiveness of its Paycheck Protection Program (“PPP”) Loan by the
SBA in the three months ended March 31, 2021. The Company applied for PPP Loan forgiveness in February 2021, due to management’s
belief that the Company expended the proceeds of the PPP loan for forgivable purposes under the CARES Act. The loan was legally forgiven
in February 2021, although the Company did not directly receive notice of PPP Loan forgiveness until June 2021.
Inflation
We
believe inflation has not had a material effect on our operations or financial position. However, supplier price increases and wage and
benefit inflation, both of which represent a significant component of our costs of operations, may have a material effect on our operations
and financial position in 2021 and beyond if we are unable to pass through any applicable increases under our present contracts or through
to our markets in general.
Liquidity
and Capital Resources
Our
cash and cash equivalents amounted to $1,819,000 on March 31, 2021, compared to $957,000 on December 31, 2020 and $951,000 on March 31,
2020. The net cash used in our operating activities was $137,000 for the three months ended March 31, 2021, compared to $1,180,000 for
the same period in 2020. The net use of cash during both periods was driven primarily by a significant increase in accounts receivable
at the end of the period. Net cash used in investing activities was $166,000 during the three months ended March 31, 2021, compared to
$181,000 for the three months ended March 31, 2020. Capital expenditures amounted to $166,000 and $181,000 for the three months ended
March 31, 2021 and 2020, respectively. Net cash provided by financing activities was $1,165,000 during the three months ended March 31,
2021, compared to $1,118,000 for the three months ended March 31, 2020. On March 23, 2020, the Company and Beachcorp, LLC executed the
First Amendment to our Master Agreement that extends the maturities of both the Term Loan and the Revolver Facility to March 31, 2021. Effective
September 8, 2020, the Company and Beachcorp, LLC executed the Second Amendment to our Master Agreement that expands the limit on the
Revolver Facility from $2,000,000 to $2,750,000. On December 23, 2020, the Company and Beachcorp, LLC executed the Third Amendment
to our Master Agreement that expands the limit on the Revolver Facility from $2,750,000 to $4,000,000 and extends the maturities of both
the Term Loan and the Revolver Facility to March 31, 2022. On April 21, 2021, the Company and Beachcorp, LLC executed the Fourth Amendment
to our Master Agreement that expands the limit on the Revolver Facility from $4,000,000 to $6,000,000, extends its maturity to March
31, 2023, and reduces interest on outstanding borrowings from the prime rate plus 3%, with an 8.25% minimum floor, to the prime rate
plus 2%, with no minimum rate floor. Additionally, the Fourth Amendment increased the amount of the Term Loan from $500,000 to $1,000,000,
and its fixed interest rate was reduced from 8.25% per year to 5.25% per year. The maturity date of the Term Loan remains March 31, 2022.
We
paid $46,000 for principal on finance lease obligations during the three months ended March 31, 2021 compared to $58,000 in the same
period in 2020. The balance of the line of credit with Libertyville was $500,000 for both March 31, 2021 and December 31, 2020. In each
instance, the line of credit was repaid during the month following the end of the reporting period. This line of credit expired on April
4, 2021. Management expects this line of credit to be renewed in May 2021. During the three months ending March 31, 2021, we drew $6,500,000,
of which $5,289,000 was repaid under the Master Agreement. The net borrowings for the three months ended March 31, 2021 was $1,211,000.
During the three months ending March 31, 2020, we drew $3,260,000, of which $2,084,000 was repaid under the Master Agreement. The net
borrowings for the three months ended March 31, 2020 was $1,176,000. Accretion related to the Secured Convertible Promissory Note to
Bradford T. Whitmore was $67,000 for both March 31, 2021 and 2020. The balance of this long-term convertible loan was $1,164,000 and
$1,097,000 at March 31, 2021, and at December 31, 2020, respectively. Mr. Whitmore chose to exercise his conversion rights effective
May 7, 2021, requesting that any accrued interest be paid him in the form of shares, as allowed in the Convertible Note. This will result
in the accelerated recognition of the discount on the Convertible Note, to be recognized as interest expense in the second quarter of
2021.
On
April 17, 2020, we received a loan of $952,000 from Libertyville under the Paycheck Protection Program (“PPP”). Under the
PPP, the Company applied for forgiveness of the amount due on the loan in an amount equal to the sum of the following costs incurred
during the 24-week period beginning on the date of the first disbursement of the Loan: (a) payroll costs, (b) any payment of interest
on a covered obligation (which shall not include any prepayment of or payment of principal on a covered mortgage obligation), (c) any
payment on a covered rent obligation, and (d) any covered utility payment, calculated in accordance with the terms of the CARES Act.
The Company applied for PPP Loan forgiveness in February 2021, compelled by its belief that it expended the proceeds of the PPP loan
for forgivable purposes under the CARES Act. The loan was legally forgiven in February 2021, although the Company received notice of
PPP Loan forgiveness in June 2021.
Our
supply agreements with our largest customer, BASF, contain certain financial covenants which could potentially impact our liquidity.
The most restrictive financial covenants under these agreements require that we maintain a minimum of $1,000,000 in certain current assets;
which may be composed of no less than $500,000 cash, cash equivalents, and certain investments, no more than a combined $500,000 of certain
related inventory, of which no more than $250,000 can be raw material, and certain receivables, and that we not have the acceleration
of any debt maturity having a principal amount of more than $10 million, in order to avoid triggering the customer’s potential
right to transfer certain technology and equipment to that customer at a contractually-defined price. We had approximately $1,819,000
in cash on March 31, 2021, with $500,000 borrowings on our Line of Credit. This supply agreement and its covenants are more fully described
in Note 11, and our line of credit is more fully described in Note 7, to our Financial Statements in Part I, Item 1 of this Form 10-Q.
We
believe that cash from operations and cash on hand, in addition to unused borrowing capacity, which has recently been increased (see
Note 7 to the Financial Statements), may not be adequate to fund our operating plans through 2021. We are working to reduce these
risks, but some of this is dependent on several things over which we have limited control. We have seen an increase in sales of our Solésence
products through 2020, which we expect to continue in 2021. If that does continue, we will require additional investment in working capital.
Given these issues, and other commercial realities, we are monitoring the additional working capital demands that this could create as
we continue to execute on our Solésence growth strategy. The timing of cash flows is critical. If cash generated from operations
is not materially consistent with our plans, we believe that we may need to seek additional funding to address working capital demands.
This uncertainty has caused us to be unable to assert that, for the next twelve months, we have enough current cash and guaranteed access
to financing to fund operations, and to continue with our current growth strategy in terms of investment in capital equipment and in
operating expenses related to Solésence, without securing additional financing. We believe that we will be able to secure additional
financing if needed, but we do not have any additional financing commitments in place as of today. However, we may not be able to secure
additional financing in a timely manner under commercially reasonable terms, or at all. If we are unable to secure additional financing,
the operations of the Company might need to be curtailed to a certain degree, and we would need to delay capital expenditures related
to our Solésence growth strategy, which could impede growth later in 2021 and 2022.
Our
actual future capital requirements in 2021 and beyond will depend on many factors, including customer acceptance of our current and potential
finished Solésence products, APIs sold as ingredients in to the skin health markets, medical diagnostics ingredients,
and other engineered materials, applications, and products, continued progress in research and development activities and product testing
programs, the magnitude of these activities and programs, and the costs necessary to increase and expand our manufacturing capabilities
and to market and sell these products and ingredients. Other important issues that will drive future capital requirements will be the
development of new markets and new customers as well as the potential for significant unplanned growth with existing customers. Depending
on the success of certain projects, we expect that capital spending relating to currently known capital needs during the balance of 2021
will be between $1,400,000 and $2,000,000, to be funded by profit from operations, and our existing loans and lines of credit. If those
projects are delayed or ultimately prove unsuccessful, or if we fail to be able to support the additional cost of funding them in the
near term, we expect our capital expenditures may fall below the lower end of the range. Similarly, substantial success in business development
projects may cause the actual 2021 capital investment to exceed the top of this range.
In
the likely event that we will need to seek additional financing, such additional financing may not be available on acceptable terms or
even at all, and any such additional financing could be dilutive to our shareholders. Such financing could be necessitated by such things
as the loss of an existing customer; a significant decrease in revenue from one or more of our customers; temporary working capital demands
resulting from our expected growth in our Solésence business that we cannot fund with existing capital; currently unknown capital
requirements considering the factors described above; new regulatory requirements that are outside our control; the need to meet previously
discussed cash requirements to avoid a triggering event under our BASF agreement; or various other circumstances coming to pass that
we currently do not anticipate. The failure to have access to sufficient capital to fund our business plans may result in a curtailment
or other change in those plans, and under such circumstances, this raises doubt as to our ability to continue as a going concern
under U.S. GAAP.
On
December 31, 2020, we had a net operating loss carryforward of approximately $67 million for income tax purposes. Because the Company
may have experienced “ownership changes” within the meaning of the U.S. Internal Revenue Code (“IRC”) in connection
with its various prior equity offerings, future utilization of this carryforward may be subject to certain limitations as defined by
the IRC. If not utilized, $63 million of this loss carryforward will expire between 2021 and 2037. Given changes to the IRC, net
operating loss carryforwards generated after January 1, 2018 do not expire, therefore, $5 million in net operating losses generated since
January 1, 2018 do not expire.
Off−Balance
Sheet Arrangements
We
have not created, and are not party to, any special-purpose or off-balance sheet entities for the purposes of raising capital, incurring
debt or operating our business. We do not have any off-balance sheet arrangements or relationships with entities that are not consolidated
into our financial statements that are reasonably likely to materially affect our liquidity or the availability of capital resources.
As
more fully described in Note 7 to our Financial Statements, in Part I, Item I of this Form 10-Q, during 2014 we entered into a letter
of credit and promissory note for up to $30,000 supporting our obligations under our facility lease agreement. No borrowings have been
incurred under this promissory note.
Safe
Harbor Provision
We
want to provide investors with more meaningful and useful information. As a result, this Quarterly Report on Form 10-Q (the "Form
10-Q") contains and incorporates by reference certain "forward-looking statements", as defined in Section 21E of the Securities
Exchange Act of 1934, as amended (the “Exchange Act”). These statements reflect our current expectations of the future results
of our operations, performance, and achievements. Forward-looking statements are covered under the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. We have tried, wherever possible, to identify these statements by using words such as “anticipates”,
“believes”, “estimates”, “expects”, “plans”, “intends” and similar expressions.
These statements reflect management’s current beliefs and are based on information now available to it. Accordingly, these statements
are subject to certain risks, uncertainties and contingencies that could cause our actual results, performance, or achievements in 2021
and beyond to differ materially from those expressed in, or implied by, such statements. These risks, uncertainties and factors include,
without limitation: our ability to be consistently profitable despite the losses we have incurred since our incorporation; a decision
by a customer to cancel a purchase order or supply agreement in light of our dependence on a limited number of key customers; the terms
of our supply agreements with BASF which could trigger a requirement to transfer technology and/or sell equipment to that customer; our
potential inability to obtain working capital when needed on acceptable terms or at all; our ability to obtain materials at costs we
can pass through to our customers, including Rare Earth elements, specifically cerium oxide, as well as high purity zinc; uncertain demand
for, and acceptance of, our Solésence products, and our advanced materials; our manufacturing capacity and product mix flexibility
in light of customer demand; our limited marketing experience, including with our suite of Solésence products; changes in development
and distribution relationships; the impact of competitive products and technologies; our dependence on patents and protection of proprietary
information; our ability to maintain an appropriate electronic trading venue for our securities; the impact of any potential new governmental
regulations, especially any new governmental regulations focusing on the processing, handling, storage or sale of nanomaterials, that
could be difficult to respond to or costly to comply with; business interruptions due to unexpected
events or public health crises, including viral pandemics such as COVID-19; and the resolution of litigation or other legal proceedings
in which we may become involved. In addition, our forward-looking statements could be affected by general industry and market conditions
and growth rates. Readers of this Quarterly Report on Form 10-Q should not place undue reliance on any forward-looking statements. Except
as required by federal securities laws, we undertake no obligation to update or revise these forward-looking statements to reflect new
events or uncertainties.