TAPM Tapinator Inc (PK)

Note 1 — The Company

Tapinator, Inc. (“Tapinator,” the “Company,” “we,” “our” or “us”) develops and publishes apps for mobile platforms that we believe can be leaders within their respective categories, with a focus on social-casino games. We refer to these titles as “Category Leading Apps.” Our library includes over 300 titles that, collectively, have achieved over 495 million mobile downloads, including notable properties such as Video Poker Classic and Solitaire Dash. We generate revenues through the sale of branded advertisements and via consumer transactions, including in-app purchases and subscriptions. Founded in 2013, we are headquartered in New York, with product development and marketing teams located in North America, Europe and Asia. Consumers can find high-quality mobile applications from Tapinator wherever they see the “T” character logo. 

We were originally incorporated on December 9, 2013 in the state of Delaware. On December 12, 2013, we merged with Tapinator, Inc., a Nevada Corporation. We were the surviving corporation of this merger. On June 16, 2014, we executed a securities exchange agreement with the members of Tapinator LLC, a New York limited liability company, whereby we issued shares of our common stock to the members of Tapinator LLC in exchange for 100% of the outstanding membership interests of Tapinator LLC. The transaction resulted in a business combination and a change of control within its business purpose. For accounting and financial reporting purposes, Tapinator LLC was considered the acquirer and the transaction was treated as a reverse merger. We have been focused exclusively on mobile games and applications since our inception.  

The Company currently publishes two types of mobile applications: Category Leading Apps and Rapid-Launch Games. Beginning in 2017, we shifted our focus from our legacy Rapid-Launch Games business to our Category Leading Apps business, and while we continue to publish both types of games based on our substantial library, our new development and publishing activities are exclusively focused on Category Leading Apps.

We believe our Category Leading Apps are visually beautiful, functionally in-depth products, with high production values and significant revenue potential. They are developed and published selectively based on both original and licensed intellectual property. These apps are monetized primarily through consumer app store transactions and, to a lesser extent, through brand advertising. These apps are published primarily under the Tapinator brand.

Our Rapid-Launch Games are legacy titles that were developed and published in significant quantity beginning in 2013. These are highly casual products that were built economically and rapidly based on a series of internally developed game engines. These games are monetized primarily through the sale of branded advertisements and via paid downloads. Since our formation, we have compiled a large library of over 300 such. Our Rapid-Launch Games are published primarily under our Tap2Play brand.

Note 2 —Basis of Presentation and Summary of Significant Accounting Policies

Basis of Presentation

The accompanying condensed consolidated financial statements and related notes have been prepared in conformity with United States generally accepted accounting principles (“GAAP”). The condensed consolidated financial statements include the operations of the Company and its wholly-owned subsidiaries, Tapinator, LLC, Tap2Play, LLC, and Revolution Mobile, LLC (f/k/a Revolution Blockchain, LLC). All significant intercompany balances and transactions have been eliminated in consolidation.

These condensed consolidated financial statements reflect all adjustments, including normal recurring adjustments which, in the opinion of management, are necessary to present fairly the consolidated operations and cash flows for the periods presented.

Reclassifications

Certain amounts in the prior period condensed consolidated financial statements have been reclassified to conform to the presentation used in the condensed consolidated financial statements for the quarter ended September 30, 2019.

Use of estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported amount of revenues and expenses during the reporting period. Actual results could differ from these estimates. Significant estimates include assumptions used in the recognition of revenue, realization of platform and advertising fees and related costs of revenue, long-lived assets, stock-based compensation, and the fair value of other equity and debt instruments.

Revenue Recognition

The Company derives revenue primarily from the three mobile platforms (iOS, Google Play and Amazon) on which it currently markets its mobile games and applications in the form of app store transactions and from various advertising networks in the form of branded advertising placements within its mobile applications.

For revenue from product sales, the Company recognizes revenue in accordance with Financial Accounting Standards Board “FASB” Accounting Standards Codification “ASC” 606. A five-step analysis must be met as outlined in Topic 606: (i) identify the contract with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations, and (v) recognize revenue when (or as) performance obligations are satisfied.  Provisions for discounts and rebates to customers, estimated returns and allowances, and other adjustments are provided for in the same period the related sales are recorded.  The Company defers any revenue for which the product has not been delivered or is subject to refund until such time that the Company and the customer jointly determine that the product has been delivered or no refund will be required.

TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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In accordance with Accounting Standards Update (“ASU”) 2016-08, Principal versus Agent Considerations (Reporting Revenue Gross versus Net), the Company evaluates its agreements with mobile platforms and advertising networks to determine whether it is acting as the principal or as an agent when selling its games or when selling premium in-game content or advertisements within its games, which it considers in determining if revenue should be reported gross or net. Key indicators that the Company evaluates to reach this determination include:

Based on the evaluation of the above indicators, the Company has determined that it is generally acting as a principal and is the primary obligor to end-users for its games distributed on the mobile platforms and for advertisements served by the advertising networks and has the contractual right to determine the price to be paid by the player. Therefore, the Company recognizes revenue related to these arrangements on a gross basis, when the necessary information about the gross amounts or platform fees charged, before any adjustments, are made available by the mobile platforms and advertising networks. The Company records the related platform fees and advertising network revenue share as expenses in the period incurred.

Display Advertising and Offers:

We have contractual relationships with advertising networks for display advertisements and offers served within our games. For these arrangements, we are the principal and our performance obligation is to provide the inventory for advertisements and offers to be displayed within our games. The Company has determined the advertising buyer to be its customer and displaying the advertisements within the mobile games is identified as the single performance obligation. Revenue from advertisements and offers are recognized at the point-in-time the advertisements are displayed in the game or the offer has been completed by the user as the customer simultaneously receives and consumes the benefits provided from these services.

The pricing and terms for all our advertising arrangements are governed by either a master contract or insertion order and generally stipulate payment terms as a specific number of days subsequent to the end of the month, generally ranging from 30 to 60 days. The transaction price in advertising arrangements is generally the product of the number of advertising units delivered (e.g., impressions, offers completed, videos viewed, etc.) and the contractually agreed upon price per advertising unit. The number of advertising units delivered is determined at the end of each month, which resolves any uncertainty in the transaction price during the reporting period.

Paid Downloadable Games:

Some of our legacy Rapid-Launch Games are offered as paid downloadable games on certain mobile platforms. For an individual sale of a game with both online and offline functionality, we would typically have three distinct performance obligations; (1) the software license; (2) a right to receive future updates; and (3) online hosting. The software license performance obligation represents the game that is delivered digitally at the time of sale and the software license typically provides access to offline core game content. The future update rights performance obligation to provide future updates would include updates on a when-and-if-available basis such as software patches or updates, and/or additional free content to be delivered in the future. The online hosting performance obligation consists of providing the customer with a hosted connection for online playability. For these legacy Rapid-Launch Games, since we do not provide software updates or additional content, and since we do not host any online content for these games as they are not playable online, the only performance obligation that we recognize is the software license. The sales price allocated to the software license performance obligation is recognized at a point in time upon delivery (which is usually at or near the same time as the booking of the transaction).

Virtual Goods:

Our games allow for players to purchase or otherwise earn in-game currency or other premium in-game content in the form of virtual goods. For purposes of determining when the service has been provided as it relates to virtual goods, we have determined that an implied obligation exists to the paying player to continue displaying the purchased or otherwise earned virtual good over its estimated life or until it is consumed. Accordingly, we categorize our virtual goods as either consumable or durable virtual goods.

If we are unable to differentiate revenue attributable to durable virtual goods from consumable virtual goods for a specific game, we attribute all virtual goods revenue for that game as durable virtual goods.

Consumable Virtual Goods:

Consumable virtual goods are items such as one-time game boosts consumed at a predetermined time or otherwise have limitations on repeated use. For the sale of consumable virtual goods, we recognize revenue, and the associated costs, as the goods are consumed. Our revenues from consumable virtual goods have been insignificant since the Company’s formation.

Durable Virtual Goods:

Durable virtual goods are items including virtual currency and premium in-game content such as power-ups, skins and equipment that remain in the game for as long as the player continues to play. We recognize revenue and the associated costs, from the sale of durable goods ratably over the estimated average playing period of paying players for the applicable game, which represents our best estimate of the average life of durable virtual goods.

We have partnered with third party advertising networks to provide rewarded video advertising to players of our games. A rewarded video advertisement enables users to acquire virtual currency, a durable virtual good, in exchange for watching a short video instead of paying cash. For rewarded video advertisements, similar to, purchased durable virtual goods, revenue is initially recorded to deferred revenue and then recognized ratably over the estimated average playing period of paying players for the applicable game, which represents our best estimate of the average life of durable virtual goods.

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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On a periodic basis, we determine the estimated average playing period for paying players by game or genre via a representative proxy game from within that specific game. To make this estimate, we examine player data beginning at the time of a player’s first purchase within that game and ending on a date when that paying player is no longer playing the game. To determine when paying players are no longer playing a given game, we measure the populations of paying players (the “daily cohort”) from the date of their first installation of the game and track each daily cohort to understand the number of players from each daily cohort who played the game after their initial purchase. For titles where we have at least 90 days of paying players’ historical usage data on a daily cohort size of at least 100 paying players (“Tracked Titles”), we compute an expected average playing period for paying users using this dataset and applying a curve-fitting model.

For new titles where we do not have requisite paying player data (“Untracked Titles”), and such title is in a genre that is substantially different from one of our existing game genres for which we have Tracked Title estimates, we examine actual retention data for all players from these games for the period between game installation and up to 90 days thereafter, this data is then inputted into a curve-fitting model to estimate an average playing period for these titles. These calculated curves and their associated one-year average playing periods are mapped against the corresponding curves and associated average one-year playing periods for our most similar Tracked Titles. Based on this mapping, the average playing period of paying users for the Tracked Titles is then indexed up or down accordingly, and then applied against the Untracked Titles within the sample.

As of the second quarter of 2019 (our most recent determination date), the estimated weighted average life of our durable virtual goods was 4 months for our Casino & Card games, 2 months for our Role Playing & Arcade games and 2 months for our Rapid-Launch Games. 

While we believe our estimates to be reasonable based on available game player information and based on the disclosed methodologies of larger publicly reporting mobile game companies, we may revise such estimates in the future based on changes in the operational lives of our games, and based on changes in our ability to make such estimates. Any future adjustments arising from changes in the estimates of the lives of these virtual goods would be applied to the then current quarter, and prospectively on the basis that such changes are caused by new information indicating a change in game player behavior patterns compared to historical titles. Any changes in our estimates of useful lives of these virtual goods may result in revenues and associated costs being recognized on a basis different from prior periods’ and may cause our operating results to fluctuate.

For the nine months ended September 30, 2019, as a result of a change in our estimates regarding the average useful lives of certain of our durable virtual goods, we recognized approximately $521,000 of previously deferred mobile game revenue and corresponding platform fee expense of $156,000 resulting in a net increase in income from operations of approximately $365,000 for the periods. This change in estimates did not materially impact our earnings per share for the three and nine months ended September 30, 2019, respectively. For the three and nine months ended September 30, 2018, there were no change in estimates regarding the average useful lives of durable virtual goods that required adjusting the recognition period of deferred revenue and associated costs in prior periods.

Arrangements with Multiple Performance Obligations: 

For arrangements with multiple performance obligations, we allocate the transaction price to each performance obligation in an amount that depicts the amount of consideration to which we expect to be entitled in exchange for satisfying each performance obligation, which is based on the standalone selling price. The standalone selling price represents the observable price which we would sell the advertising placement separately in a similar circumstance, to a similar customer.  

On August 7, 2018, we entered into a License Agreement (the “SD License Agreement”) pursuant to which we granted an affiliate of Cheetah Mobile, Inc. (the “Licensee”) the exclusive, worldwide right to localize, publish, distribute and operate one of the Company’s mobile games. The SD License Agreement represents an Arrangement with Multiple Performance Obligations.

As consideration for the grant of rights to the Licensee under the License Agreement, Licensee agreed to make guaranteed upfront payments to the Company (the “Upfront Payments”). The Upfront Payments impacts our revenue recognition as it relates to the distinction between functional intellectual property and symbolic intellectual property for licensing arrangements. We are required to make such distinction based on the nature of the license and recognize revenue at a point in time for functional intellectual property and over time for symbolic intellectual property (such as trademarks, brands and character images). The SD License Agreement also requires that the Company provide specific goods and services in the form of regular software updates.

We have determined the SD License Agreement includes multiple performance obligations related to functional intellectual property, symbolic intellectual property and software-related services (updates). For these three components, revenue associated with individual performance obligations is recorded separately as they are each distinct obligations. The standalone selling price for each component is determined by using an expected cost plus margin approach. The amounts assigned to each product or service is recognized when the product is delivered and/or when the services are performed. The obligation associated with functional intellectual property is deemed satisfied when we have transferred the software license to Licensee and the Licensee has deployed the intellectual property into the market. The symbolic intellectual property obligations are deemed to be performed over an extended period, whereby revenue is generally recognized over time on a ratable basis over the initial term of the SD License Agreement. The software-related services obligations (updates) are also deemed to be performed over an extended period, whereby revenue is generally recognized over time, on a ratable basis over the initial term of the SD License Agreement.

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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The Company reports as a single segment - mobile applications.  In the disaggregation above, the Company categorizes revenue by type and by over-time or point-in-time recognition.    

Accounts Receivable and Allowance for Doubtful Accounts

The Company monitors outstanding receivables based on factors surrounding the credit risk of specific customers, historical trends, and other information. The allowance for doubtful accounts is estimated based on an assessment of the Company’s ability to collect on customer accounts receivable. There is judgment involved with estimating the allowance for doubtful accounts and if the financial condition of the Company’s customers were to deteriorate, resulting in their inability to make the required payments, the Company may be required to record additional allowances or charges against revenues. The Company writes-off accounts receivable against the allowance when it determines a balance is uncollectible and no longer actively pursues its collection. As of September 30, 2019 and December 31, 2018, based upon the review of the outstanding accounts receivable, the Company has determined that an allowance for doubtful accounts is not required.

Cash Equivalents

For purposes of the Company’s financial statements, the Company considers all highly liquid investments purchased with an original maturity date of three months or less to be cash equivalents. The Company had no cash equivalents as of September 30, 2019 and December 31, 2018.

Concentrations of Credit Risk

Financial instruments and related items which potentially subject the Company to concentrations of credit risk consist primarily of cash, cash equivalents and trade receivables. The Company places its cash and temporary cash investments with credit quality institutions. At times, such investments may be in excess of the FDIC insurance limit of $250,000. To reduce its risk associated with the failure of such financial institution, the Company evaluates at least annually the rating of the financial institution in which it holds deposits. As of September 30, 2019, the total amount exceeding such limit was $10,209.

The Company derives revenue from mobile app platforms, advertising networks and licensing which individually may contribute 10% or more of the Company’s revenues in any given year. For the nine months ended September 30, 2019, revenue derived from two mobile app platforms comprised 45% of total revenue. For the nine months ended September 30, 2018, revenue derived from two mobile app platforms comprised 50% of such period’s total revenue.

As of September 30, 2019, the receivable balance from two mobile app platforms comprised 73% of the Company’s total accounts receivable balance. As of December 31, 2018, the receivable balance from two mobile app platforms comprised 66% of the Company’s total accounts receivable balance and the receivable balance from one advertising network comprised 10% of the Company’s total accounts receivable balance.

Property and Equipment

Property and equipment are stated at cost. Routine maintenance, repairs and replacement costs are expensed as incurred and improvements that extend the useful life of the assets are capitalized. When retired or otherwise disposed, the related carrying value and accumulated depreciation are removed from the respective accounts and the net difference, less any amount realized from disposition, is reflected in earnings. Property and equipment are depreciated using the straight-line method over their estimated useful lives as follows:

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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Software Development Costs

In accordance with ASC 985-20, "Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed," the Company capitalizes certain costs related to the development of new software products or the enhancement of existing software products for use in our product offerings. These costs are capitalized from the point in time that technological feasibility has been established, as evidenced by a working model or detailed working program design to the point in time that the product is available for general release to customers. Software development costs are amortized on a straight-line basis typically over three years, the estimated economic lives of the products, beginning when the product is placed into service.

The Company periodically evaluates whether events or circumstances have occurred that indicate that the remaining useful lives of its capitalized software development costs should be revised or that the remaining balance of such assets may not be recoverable. Software costs incurred prior to establishing technological feasibility are charged to Research and Development expense as incurred.

Impairment of Long-lived Assets

The Company regularly reviews property, equipment, software development costs and other long-lived assets for possible impairment. This review occurs annually or more frequently if events or changes in circumstances indicate the carrying amount of the asset may not be recoverable. The carrying amount of a long-lived asset is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. Based upon management’s assessment, there was no impairment of the Company’s property and equipment at September 30, 2019 and December 31, 2018. Management has deemed that certain software development costs were impaired at December 31, 2018 and such impairments are more fully described in Note 9.

In general, investments in which the Company owns less than 20% of an entity’s equity interest or does not hold significant influence over the investee are accounted for under the cost method. Under the cost method, these investments are carried at the lower of cost or fair value. The Company periodically assesses its cost method investments for impairment. If determination that a decline in fair value is other than temporary, the Company will write-down the investment and charge the impairment against operations. At September 30, 2019 and December 31, 2018, the carrying value of our investments totaled $5,000.

Derivative Instruments

The Company accounts for derivative instruments in accordance with ASC 815, Derivatives and Hedging, which establishes accounting and reporting standards for derivative instruments and hedging activities, including certain derivative instruments embedded in other financial instruments or contracts, and requires recognition of all derivatives on the balance sheet at fair value, regardless of hedging relationship designation. Accounting for changes in fair value of the derivative instruments depends on whether the derivatives qualify as hedge relationships and the types of relationships designated are based on the exposures hedged. At September 30, 2019 and December 31, 2018, the Company did not have any derivative instruments that were designated as hedges.

Cost of Revenue (excluding amortization of software development costs)

Cost of revenue includes primarily platform and advertising network fees, licensing costs and hosting fees. The Company, along with all mobile application publishers, is required to pay platform fees to Apple, Google and Amazon equal to approximately 30% of gross revenue derived from such platforms. The Company is also required to pay a revenue share of approximately 30% to advertising networks and similar service providers.

Stock-Based Compensation

The Company measures the fair value of stock-based compensation issued to employees and non-employees using the stock price observed in the arms-length private placement transaction nearest the measurement date (for stock transactions), or the fair value of the award (for non-stock transactions), which are considered to be more reliably determinable measures of fair value than the value of the services being rendered. The measurement date is the earlier of (1) the date at which commitment for performance by the counterparty to earn the equity instruments is reached, or (2) the date at which the counterparty’s performance is complete.

Basic and Diluted Net Income (Loss) per Share Calculations

The Company computes per share amounts in accordance with FASB ASC Topic 260 “Earnings per Share” (“EPS”), which requires presentation of basic and diluted EPS. Basic EPS is computed by dividing the income (loss) available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted EPS is based on the weighted-average number of shares of common stock and common stock equivalents outstanding during the periods; however, potential common shares are excluded for periods in which the Company incurs losses, as their effect is anti-dilutive.

For the nine months ended September 30, 2019 and 2018, potentially dilutive securities excluded from the computation of basic and diluted net (loss) per share amounted to 49,875,006 and 50,250,002, respectively, consisting of restricted stock units, common stock options and common stock warrants.

Subsequent Events

In accordance with ASC 855 “Subsequent Events” the Company evaluated subsequent events after the balance sheet date through the date of issuance of this Form 10-Q (See Note 15).

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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Recent Accounting Pronouncements

In January 2017, the FASB issued ASU 2017-04, Intangibles - Goodwill and Other (Topic 350). This ASU eliminates Step 2 from the goodwill impairment test. Under the new guidance, an entity should perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount and recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. Additionally, this ASU eliminates the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment and, if it fails that qualitative test, to perform Step 2 of the goodwill impairment test. The amendments in this ASU are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years, and is applied on a prospective basis. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. While we are currently evaluating the impact of the adoption of this ASU, we do not believe that the adoption of this guidance will have a material impact on our consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, Leases. This ASU is a comprehensive new leases standard that amends various aspects of existing guidance for leases and requires additional disclosures about leasing arrangements. It will require companies to recognize lease assets and lease liabilities by lessees for those leases classified as operating leases under previous GAAP. Topic 842 retains a distinction between finance leases and operating leases. The classification criteria for distinguishing between finance leases and operating leases are substantially similar to the classification criteria for distinguishing between capital leases and operating leases in the previous leases guidance. The ASU is effective for annual periods beginning after December 15, 2018, including interim periods within those fiscal years; earlier adoption is permitted. In the financial statements in which the ASU is first applied, leases shall be measured and recognized at the beginning of the earliest comparative period presented with an adjustment to equity. Practical expedients are available for election as a package and if applied consistently to all leases. An additional update was issued by FASB in January 2018 to ASC Topic 842. We adopted the standard using the optional transition method by recognizing a cumulative-effect adjustment to the balance sheet at January 1, 2019 and not revising prior period presented amounts. The processes that are in final refinement related to our full implementation of the standard include: i) finalizing our estimates related to the applicable incremental borrowing rate at January 1, 2019 and ii) process enhancements for refining our financial reporting procedures to develop the additional required qualitative and quantitative disclosures beginning in 2019. We have elected the following practical expedients: i) we have not reassessed whether any expired or existing contracts are or contain leases, ii) we have not reassessed lease classification for any expired or existing leases, iii) we have not reassessed initial direct costs for any existing leases, and iv) we have not separated lease and non-lease components.

Management does not believe that any other recently issued, but not yet effective, accounting standards if currently adopted would have a material effect on the accompanying consolidated financial statements.

Note 3 — Net Loss Per Share

The Company computes net loss per share by dividing its net loss for the period by the weighted average number of common shares outstanding during the period less the weighted average common shares subject to restrictions imposed by the Company.

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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The following warrants to purchase common stock, options to purchase common stock and restricted stock units (“RSUs”) have been excluded from the computation of net loss per share of common stock for the periods presented because including them would have had an anti-dilutive effect: 

Note 4 — Fair Value Measurements

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. Assets and liabilities that are measured at fair value are reported using a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy maximizes the use of observable inputs and minimizes the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:

As of September 30, 2019 and December 31, 2018, the Company did not identify any assets and liabilities that are required to be presented in the balance sheets at fair value in accordance with ASC 825, Financial Instruments.

The Company had no bad debts during the nine months ended September 30, 2019 and 2018.

During the nine months ended September 30, 2019 and 2018, depreciation expense was $4,437 and $7,085, respectively.

TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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Note 8 — Right-to-use assets and lease liability

In August 2016, the Company entered into a lease agreement, whereby the Company agreed to extend the lease for office space in New York, NY, commencing September 1, 2016 and expiring on December 31, 2021 at an initial rate of $4,625 per month with escalating payments.

In adopting ASC Topic 842, Leases (Topic 842), the Company has elected the “package of practical expedients”, which permits it not to reassess under the new standard its prior conclusions about lease identification, lease classification and initial direct costs. The Company did not elect the use-of-hindsight or the practical expedient pertaining to land easements; the latter of which is not applicable to the Company. In addition, the Company elected not to apply ASC Topic 842 to arrangements with lease terms of 12 months or less. In determining the length of the lease term to its long term lease, the Company determined not to consider an embedded 3-year option primarily due to (i) the renewal rate is at future market rate to be determined and (ii) Company does not have significant leasehold improvements that would restrict its ability to consider relocation. At the lease commencement date, the Company estimated the lease liability and the right-of-use assets at present value using the Company’s estimated incremental borrowing rate of 7% and determined the initial present value, at inception, of $165,096. On January 1, 2019, upon adoption of ASC Topic 842, the Company recorded right-to-use assets of $165,096, lease liability of $165,096 and eliminated deferred rent of $3,377.

Right-to-use assets is summarized below:

During the nine months ended September 30, 2019, the Company recorded $44,533 as lease expense to current period operations.

Lease liability is summarized below:

Maturity analysis under the lease agreement is as follows:

Lease expense for the nine months ended September 30, 2019 was comprised of the following:

During the nine months ended September 30, 2019 and 2018, amortization expense related to capitalized software was $494,285 and $ 437,199 respectively. At December 31, 2018, management deemed that the net software development cost carrying amount related to certain of our released and unreleased mobile games was likely not recoverable, thus the Company took an impairment charge of $320,311 as of December 31, 2018.

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

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Note 10 - Investments

In January 2015, the Company made a $5,000 passive investment into Peer5, a Tel Aviv, Israel based internet infrastructure company focused on improving the scalability and efficiency of mobile and internet content delivery. 

Note 11 - Related Party Transactions

Games Revenue Share and Stock Repurchase Agreement

On December 28, 2018, the Company entered into a Games Revenue Share and Stock Repurchase Agreement (the “Rapid-Launch Games Agreement”) with TapGames, a Pakistani registered firm (“TapGames”), Khurram Samad, a major shareholder, (the “Stockholder”), Rizwan Yousuf and Tap2Play, LLC, a wholly-owned subsidiary of the Company, whereby the Company repurchased from the Stockholder 7,646,446 shares (the “Repurchased Shares”) of the Company’s common stock, for a per share purchase price of $0.02, or an aggregate purchase price of $144,639 as further described below.

In consideration for the Repurchased Shares, the Company agreed to share all revenue, net of any and all third-party platform fees, generated from the Company’s Rapid-Launch Games identified in the Rapid-Launch Games Agreement (the “Subject Games”) with TapGames, an entity in which the Stockholder has an equity interest. Pursuant to the terms of the Rapid-Launch Games Agreement and effective as of January 1, 2019, 60% of all such revenue relating to the Subject Games will be paid to TapGames with the Company retaining the remaining 40%. The Company and its Tap2Play subsidiary will retain all intellectual property rights and title to the Subject Games but will not be responsible for any updates or maintenance with respect to the Subject Games, including any advertising or marketing expenses. The Company has recorded an amount due to related parties in the amount of $144,639 at December 31, 2018 whereby the Repurchased Shares are paid from net revenue share proceeds. The Company’s remaining balance due on the share repurchase was $0 and $144,639 as of September 30, 2019 and December 31, 2018, respectively.

Game Development

As of September 30, 2019 and December 31, 2018, the Company had balances due (from) to related parties, related to software development services, of $(1,024) and $43,293, respectively.

RSU Exchange

On September 30, 2019, certain officers and directors exchanged partially-vested, RSUs with an aggregate of 10,750,000 of underlying and unissued common shares for newly-awarded, unvested stock options representing the right to purchase 10,750,000 underlying common shares with an exercise price of $.06 per share and an aggregate payable amount of $53,730 which is included in the line item due to related parties (See Note 14). 

Director Fees

As of September 30, 2019 and December 31, 2018, the Company had balances due to related parties, related to quarterly director fees, of $10,000 and $15,000, respectively.

Note 12 — Senior Secured Convertible Debenture

On June 19, 2015, the Company and Hillair Capital Investment L.P. (“Hillair”) entered into a Securities Purchase Agreement, dated June 19, 2015 (the “Purchase Agreement”) pursuant to which the Company issued to Hillair the following (i) $2,240,000 8% Original Issue Discount Senior Secured Convertible Debenture (the “Original Debenture”) which was convertible into shares of the Company’s common stock at a price per share of $.205, (ii) Series A common stock purchase warrants to purchase up to 10,926,829 shares of common stock with an exercise price of $.30 and (iii) Series B common stock purchase warrants to purchase up to 10,926,829 shares of common stock with an exercise price of $.30 (collectively, the terms of which are referred to herein as the “Original Financing”).

In July 28, 2016, the Company and Hillair entered into an Exchange Agreement (“2016 Exchange Agreement”) to amend and refinance the terms of the Original Debenture. Immediately prior to the 2016 Exchange Agreement, the Company owed cash payments to Hillair of $560,000 on October 1, 2016 and $1,120,000 on January 1, 2017 under the Original Debenture. Pursuant to the 2016 Exchange Agreement, the following material terms of the Original Financing were amended, altered and/or ratified: (i) the Original Debenture was exchanged in its entirety for the issuance of a new 8% Original Issue Discount Senior Secured Convertible Debenture with an original principal amount of $2,394,000 and an increased conversion price of $0.25 (the “2016 Debenture”), (ii) the issuance of 420 shares of a new Series A Convertible Preferred Stock as further described by the Certificate of Designation of Preferences, Rights and Limitations of Series A Convertible Preferred Stock which were initially exercisable for up to 1,680,000 shares of Company’s common stock, (iii) the extension of the maturity date of the Series A Warrant from June 22, 2020 until July 28, 2021, (iv) the cancellation of the Series B Warrants in their entirety, (v) the ratification of the Security Agreement executed by the Company with respect to all of its assets (as required by the initial Purchase Agreement and Original Debenture) as continued collateral for the New Debenture, as well as the ratification of the associated subsidiary guarantees and pledges, and (vi) Hillair was granted the right to make a subsequent cash investment of $2,100,000 in our business in exchange for the issuance of an additional debenture in the original principal amount of $2,394,000 and the issuance of 420 shares of preferred stock.

In June 2017, the Company and Hillair entered into an amendment agreement (the “2017 Amended Agreement”) to amend and refinance the terms of the 2016 Debenture. Pursuant to the 2017 Amended Agreement, the Company prepaid to Hillair a portion of the outstanding principal on the 2016 Debenture in the amount of $234,000 and all of the accrued interest on the 2016 Debenture through June 30, 2017 in the amount of $191,520. Following such payments, the remaining principal amount of the Holder’s amended 2016 Debenture was $2,160,000 (the “Amended 2016 Debenture”). In addition, the Company and Hillair agreed to reduce the conversion price of the 2016 Debenture from $0.25 to $0.20. The Amended 2016 Debenture was due on July 31, 2018, and the Company shall pay interest to the Holder on the aggregate unconverted and then outstanding principal amount of this debenture at the rate of 8% per annum, payable on each December 31, March 31, July 31, and October 31, thereafter, beginning on December 31, 2017. In June 2017, the Company and Holder also entered into an exchange agreement (the “2017 Exchange Agreement”) to exchange the existing 10,926,829 shares of Series A Common Stock purchase warrants for 1,500 shares of Series A-1 Convertible Preferred Stock.

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

On September 7, 2017, Hillair assigned all of its rights under and relating to the Senior Debenture to HSPL Holdings, LLC (“HSPL”), including the Series A-1 Convertible Preferred Stock.

On January 22, 2018, HSPL elected to convert all of the 1,500 shares of Series A-1 Stock into 6,000,000 shares of the Company’s common stock. The 6,000,000 shares of common stock converted under the Series A-1 Preferred Stock were issued without restrictive legend pursuant to Section 4(a)(1) of the Securities Act. 

On February 23, 2018, the Company entered into a Series B Exchange Agreement (the “Series B Exchange Agreement”) with HSPL to amend the terms of the 2017 Amended Agreement. On February 23, 2018, the Company paid to HSPL $1,200,000 in cash for a net reduction of the principal amount of the Amended 2016 Debenture of $1,142,857 after giving effect to a 5% prepayment penalty which resulted in a remaining principal balance of $1,017,143 plus all accrued but unpaid interest under the 2016 Debenture (the “Remaining 2016 Debenture Balance”). Pursuant to the Series B Exchange Agreement, the Remaining 2016 Debenture Balance and the Series A Preferred Stock were exchanged in their entirety (and thus cancelled) for the issuance of 1,854 shares of Series B Convertible Preferred Stock (the “Series B Preferred Stock”) which were initially exercisable for up to 15,450,000 shares of Company’s common stock, subject to adjustment. As a result of the Series B Exchange Agreement, the Company eliminated all of its outstanding debt. Each share of the Series B Preferred Stock has a conversion price of $0.12 and a stated value of $1,000.

On May 2, 2018, HSPL elected to convert 500 shares of its 1,854 shares of Series B Preferred Stock into 4,166,667 shares of the Company’s common stock. The 4,166,667 shares of common stock converted under the Series B Preferred Stock were issued without restrictive legend pursuant to Section 4(a)(1) of the Securities Act.

On September 7, 2018, the Company repurchased 1,354 shares of the Company’s Series B Preferred Stock from HSPL for a per share purchase price of $270.83, or an aggregate purchase price of $366,707. The repurchased shares represented all of the outstanding shares of the Series B Preferred Stock and, following the transaction, the Company has no Preferred Stock outstanding in any class. Pursuant to the terms of the Series B Preferred Stock, the repurchased shares were convertible into 11,283,333 shares of the Company’s common stock.   The repurchase purchase price represents a per share common stock purchase price of $0.0325, if conversion had occurred.

During the nine months ended September 30, 2019 and 2018, amortization of the debt discount related to the Senior Secured Convertible Debentures was $0 and $187,876 respectively. During the nine months ended September 30, 2019 and September 30, 2018, amortization of the original issue discount related to the Senior Secured Convertible Debentures was $0 and $51,230, respectively.

Note 13 — Commitments and Contingencies

License Agreement

On August 7, 2018 (the “Effective Date”), the Company entered into the SD License Agreement, pursuant to which the Company granted the Licensee the exclusive, worldwide right to localize, publish, distribute and operate the Company’s mobile game titled Solitaire Dash – Card Game (“Solitaire Dash”). 

As consideration for the grant of rights to the Licensee under the SD License Agreement, the Licensee agreed to make upfront payments to the Company in the aggregate of $500,000 payable in installments (the “Upfront Payments”). The Company received $200,000 in Upfront Payments in the nine months ended September 30, 2019 and $300,000 in Upfront Payments in September 2018. In addition, for sales of Solitaire Dash, the SD License Agreement provides an ongoing net revenue share formula which would allow the Company to receive certain percentages of the revenues received by the Licensee based on certain revenue targets in addition to the Upfront Payments.  As part of a separate agreement, the Company agreed to pay the third-party who introduced the Company and the licensee 6.5% of all payments received by the Company under the SD License Agreement. In connection with the SD License Agreement, the Company has recognized cumulative revenue of $248,441 as of September 30, 2019. The remaining balance of deferred revenue, in connection with the SD License Agreement, as of September 30, 2019 and December 31, 2018 amounts to $251,559 and $317,187, respectively.

The SD License Agreement provides for a term of four years from the Effective Date and will automatically renew for subsequent one-year periods unless the Licensee notifies the Company of its intent to terminate within 90 days before the end of the fourth year or any subsequent renewal period. During the term of the contract, the Company is responsible to maintain and develop updates of Solitaire Dash and provide such versions to the Licensee. Either party may also unilaterally terminate the SD License Agreement under certain circumstances.

Minimum Developer Commitments 

Future developer commitments as of September 30, 2019 were $314,863. These developer commitments reflect the Company’s estimated minimum cash obligations to external software developers (“third-party developers”) to design and develop its software applications but do not necessarily represent the periods in which they will be expensed. The Company advances funds to these third-party developers, in installments, payable upon the completion of specified development milestones.

The amounts represented in the table above reflect the Company’s minimum cash obligations for the respective calendar years, but do not necessarily represent the periods in which they will be expensed in the Company’s consolidated financial statements.

Note 14 — Stockholders’ Equity

Common and Preferred Stock

At September 30, 2019 and December 31, 2018, the authorized capital of the Company consisted of 250,000,000 shares of common stock, par value $0.001 per share, and 1,532,500 shares of blank check preferred stock, par value $0.001 per share. At December 31, 2018, the Company had designated 840 shares as Series A Convertible Preferred Stock (“Series A Preferred”), 1,500 shares as Series A-1 Convertible Preferred Stock (“Series A-1 Preferred”), and 1,854 as Series B Convertible Preferred Stock (“Series B Preferred”). On June 27, 2019, the Company filed three Certificates of Elimination with the Secretary of State of the State of Delaware eliminating the designated Series A Preferred, Series A-1 Preferred and Series B Preferred. On January 23, 2018, via written consent of a majority of its stockholders, the Company increased the number of its authorized share of common stock from 150,000,000 to 250,000,000.

In February, 2017, the Company entered into a stock purchase agreement with an individual investor for the purchase of 500,000 shares of the Company's common stock for an aggregate purchase price of $150,000, or $0.30 per share. In connection with the financing, the Company also issued to the investor two warrants. Each warrant has a term of three years and each warrant shall enable the investor to purchase up to an additional 500,000 shares of the Company's common stock at an exercise price of $.30 per share and $.36 per share, respectively. On January 18, 2018, the Company reduced the exercise price per share of the two warrants from $0.36 and $0.30 to $0.12.  Upon the reduction of the exercise price, the shareholder elected to exercise both warrants for an aggregate cash payment of $120,000 for 1,000,000 shares of common stock.

On January 22, 2018, the holder of the Company’s Series A-1 Preferred Stock elected to convert all of the 1,500 shares of such stock into 6,000,000 shares of common stock.

On January 30, 2018, we consummated the first closing of the Company’s private placement announced on September 7, 2017 (the “Offering”). Specifically, the Company entered into Subscription Agreements (the “Subscription Agreement”) with various investors (collectively, the “Investors”) for the purchase of 11,791,668 shares of the Company’s common stock for an aggregate purchase price of $1,415,000, or $0.12 per share. The Company received net proceeds of $1,162,804 from the first closing after payment of the placement agent’s 10% cash commission as well as other expenses relating to the Offering and other expenses of the Company. In connection with the first closing and pursuant to the terms of the Offering, the Company issued to the Investors Common Stock Purchase Warrants (the “Warrants”) to purchase up to 11,791,668 shares of the Company’s common stock at a per share exercise price of $0.144. The Warrants have five-year terms and do not allow for cashless exercise unless the Company is unable to obtain an effective registration statement with the Securities and Exchange Commission regarding the shares underlying the Warrants, subject to certain conditions.

On February 7, 2018, we consummated the second closing of the Offering. Specifically, the Company entered into Subscription Agreements with Investors for the purchase of 8,562,499 shares of the Company’s common stock for an aggregate purchase price of $1,027,500, or $0.12 per share. The Company received net proceeds of $920,680 from the second closing after payment of the placement agent’s 10% cash commission as well as other expenses relating to the Offering. In connection with the second closing and pursuant to the terms of the Offering, the Company issued to the Investors Warrants to purchase up to 8,562,499 shares of the Company’s common stock at a per share exercise price of $0.144.

On February 15, 2018, we consummated the third and final closing of the Offering. Specifically, the Company entered into Subscription Agreements with Investors for the purchase of 4,645,835 shares of the Company’s common stock for an aggregate purchase price of $557,500, or $0.12 per share. The Company received net proceeds of $498,303 from the third closing after payment of the placement agent’s 10% cash commission as well as other expenses relating to the Offering. In connection with the third closing and pursuant to the terms of the Offering, the Company issued to the Investors Warrants to purchase up to 4,645,835 shares of the Company’s common stock at a per share exercise price of $0.144.

On February 23, 2018, the Company entered into a Series B Exchange Agreement with HSPL. Pursuant to the agreement the remaining 2016 Debenture balance and the 420 shares of Series A Preferred Stock outstanding, held by HSPL, were exchanged in their entirety (and thus cancelled) for the issuance of 1,854 shares of Series B Convertible Preferred Stock (See Note 12).

On May 2, 2018, the holder of our Series B Preferred Stock elected to convert 500 of its 1,854 shares of Series B Stock into 4,166,667 shares of the Company’s common stock.  The 4,166,667 shares of common stock converted under the Series B Stock were issued without restrictive legend pursuant to Section 4(a)(1) of the Securities Act.

 TAPINATOR, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

On September 7, 2018, we entered into a stock repurchase agreement whereby the Company repurchased 1,354 shares of the Company’s Series B Stock for a per share purchase price of $270.83, or an aggregate purchase price of $366,707. The repurchased shares represent all of the outstanding shares of the Series B Stock. Pursuant to the terms of the Series B Stock, the repurchased shares were convertible into 11,283,333 shares of the Company’s common stock. The repurchase amount represents a per share purchase price of the Series B Stock (on an-converted basis), equal to $0.0325. Pursuant to the terms of the stock repurchase agreement, the repurchased shares were canceled in full and of no further force or effect as of the Effective Date. After the Effective Date, there are no shares of Series B Stock outstanding and, following the transaction, the Company has no Preferred Stock outstanding in any class.

On December 28, 2018, the Company entered into a Games Revenue Share and Stock Repurchase Agreement with a related party whereby the Company repurchased 7,646,446 shares of the Company’s common stock, for a per share purchase price of $0.02, or an aggregate purchase price of $144,639 from the Stockholder (See Note 11).

Options

In December 2015, the Company approved the 2015 Equity Incentive Plan (the “Plan”). The Plan provides for the grant of incentive stock options, non-statutory stock options, restricted stock awards, RSU’s, performance stock awards and other stock-based awards (collectively, “Stock Awards”). The initial Plan provided the Company the ability to grant Stock Awards to its employees, directors and consultants of up to 6,000,000 shares of common stock.

On January 23, 2018 via written consent of a majority of its stockholders, the Company increased the number of shares of common stock underlying the Plan from 6,000,000 to 18,000,000.

A summary of stock option activity under the Plan for the year ended December 31, 2018 and the nine months ended September 30, 2019 is as follows:

Stock option expense included in stock compensation expense for the nine months ended September 30, 2019 and 2018 was $106,250 and $126,650, respectively, and is included in selling, general and administrative expenses in the accompanying consolidated statements of operations.

The aggregate intrinsic value in the preceding table is calculated as the difference between the exercise price of the underlying awards and the quoted closing price of the Company’s common stock on the OTCQB of $0.06 per share as of September 30, 2019.

Award Agreements

On September 30, 2019, the Company entered into Award Purchase, Cancellation and Release Agreements (the “Award Agreements”) with certain of its executive officers and members of the Board of Directors (the “Participants”). Pursuant to the terms of the Award Agreements, the Company agreed to repurchase any undelivered shares of common stock underlying certain RSUs previously granted to the Participants, to the extent such awards had vested, and cancel the remaining unvested portion of such RSUs. As consideration for the repurchase and cancellation, the Participants were granted stock options representing the right to purchase a number of shares of common stock equal to the number of RSUs initially granted to such Participant and a one-time cash payment. There were 1,138,886 vested RSUs (for which the underlying shares were undelivered) repurchased by the Company and 9,611,114 unvested RSUs that were cancelled. In exchange, new stock options were awarded representing 10,750,000 of underlying common shares and an aggregate amount of $53,730 is payable to the Participants as of September 30, 2019.

Each of the stock option grants were awarded pursuant to the Company’s form of Stock Option Grant and Agreement (the “Option Agreement”). Each of the stock option grants has a per share exercise price of $0.06 and vests as follows: (i) 50% in three substantially equal installments (with the first two installments rounded down for any fractional shares) on the last day of October, November, and December in 2019 (with the third installment including any fractional shares that were rounded down from the first and second installments) and (ii) the remaining 50% in 12 substantially equal installments (with the first 11 installments rounded down for any fractional shares) on the last day of each month in 2020 (with the 12th installment including any fractional shares that were rounded down from the first 11 installments). The fair value of the stock options issued was determined using the Black Scholes option pricing model with the following assumptions: dividend yield: 0%; volatility: 172.79%; risk free rate: 1.63%; term 5 years.