x
May 31, 2020
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| Nevada | 46-5268202 | |||||||
| (State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |||||||
| Title of each class | Trading Symbol | Name of each exchange on which registered | ||||||
| Common Stock, par value $0.001 per share | KSHB | OTCQX | ||||||
Yes ☒ No ☐
Yes ☒ No ☐
| Large accelerated filer | Accelerated filer | ||||||||||||||||
| Non-accelerated filer | Smaller reporting company | ||||||||||||||||
| Emerging growth company | |||||||||||||||||
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YES¨ NOx
FORWARD LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements. In some cases, you can identify forward-looking statements by words such as “anticipate,” “believe,” “contemplate,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “potential,” “predict,” “project,” “seek,” “should,” “target,” “will,” “would,” or the negative of these words or other comparable terminology.
The identification in this report of factors that may affect our future performance and the accuracy of forward-looking statements is meant to be illustrative and by no means exhaustive. All forward-looking statements should be evaluated with the understanding of their inherent uncertainty.
Factors that could cause our actual results to differ materially from those expressed or implied by forward-looking statements include, but are not limited to:
Any forward-looking statements in this Quarterly Report on Form 10-Q reflect our current views with respect to future events or to our future financial performance. A more detailed description of risk factors that may affect our operating results can be found in Part II, Item 1A. “Risk Factors” in this Quarterly Report on Form 10-Q, Part I, Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended August 31, 2019 filed with the SEC on November 12, 2019, and our other filings with the SEC. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Except as required by law, we assume no obligation to update or revise these forward-looking statements for any reason, even if new information becomes available in the future.
MAY 31, 2020
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For the Three Months Ended November 30, For the Three Months Ended November 30,Item 1. Financial StatementsCondensed Consolidated Balance Sheets(Amounts in thousands)(Unaudited) November 30,
2019 August 31,
2019 ASSETS Current assets: Cash $ 14,719 $ 3,944 Accounts receivable, net 26,788 25,972 Inventory 40,044 43,768 Prepaid expenses and other current assets 17,990 12,209 Total current assets 99,541 85,893 Goodwill 52,267 52,267 Intangible assets, net 2,866 3,103 Property and equipment, net 12,350 11,054 Other assets 11,549 6,917 Total Assets $ 178,573 $ 159,234 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 10,087 $ 10,907 Accrued expenses and other current liabilities 15,657 9,460 Line of credit 5,722 12,261 Total current liabilities 31,466 32,628 Long-term liabilities: Notes payable 19,926 18,975 Warrant liability 2,240 5,444 Other non-current liabilities 5,525 833 Total long-term liabilities 27,691 25,252 Total liabilities 59,157 57,880 Commitments and contingencies (Note 12) Stockholders' equity Preferred stock, $0.001 par value, 10,000 shares authorized, no shares issued and outstanding — — Common stock, $0.001 par value, 265,000 shares authorized, 107,361 and 90,041 shares issued and outstanding, respectively 107 90 Additional paid-in capital 194,809 164,258 Accumulated deficit (75,500 ) (62,994 ) Total stockholders' equity 119,416 101,354 Total liabilities and stockholders' equity $ 178,573 $ 159,234 May 31,
2020August 31,
2019ASSETS Current assets: Cash $ 11,088 $ 3,944 Accounts receivable, net 11,162 25,972 Inventory, net 24,048 43,768 Prepaid expenses and other current assets 15,655 12,209 Total current assets 61,953 85,893 Goodwill 52,267 52,267 Intangible assets, net 2,393 3,103 Property and equipment, net 9,296 11,054 Other assets 9,759 6,917 Total Assets $ 135,668 $ 159,234 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable, net $ 5,497 $ 10,907 Customer deposits 4,217 2,992 Accrued expenses and other current liabilities 10,424 6,468 Line of credit — 12,261 Total current liabilities 20,138 32,628 Long-term liabilities: Notes payable 24,084 18,975 Warrant liability 2,009 5,444 Other non-current liabilities 4,562 833 Total long-term liabilities 30,655 25,252 Total liabilities 50,793 57,880 Commitments and contingencies (Note 12) Stockholders' equity Preferred stock, $0.001 par value, 10,000 shares authorized, 0 shares issued and outstanding — — Common stock, $0.001 par value, 265,000 shares authorized, 119,933 and 90,041 shares issued and outstanding, respectively 120 90 Additional paid-in capital 218,117 164,258 Accumulated deficit (133,362) (62,994) Total stockholders' equity 84,875 101,354 Total liabilities and stockholders' equity $ 135,668 $ 159,234 The accompanying notes are an integral part of the condensed consolidated financial statements.Condensed Consolidated Statements of Operations(Amounts in thousands, except per share amounts)(Unaudited) 2019 2018 Net revenue $ 34,963 $ 25,320 Cost of goods sold 27,692 22,091 Gross profit 7,271 3,229 Operating expenses: Selling, general and administrative 21,075 12,547 Gain on disposition of assets — (1,254 ) Change in fair value of contingent consideration — 394 Total operating expenses 21,075 11,687 Loss from operations (13,804 ) (8,458 ) Other income (expense): Change in fair value of warrant liability 3,204 (216 ) Change in fair value of equity investment (395 ) 536 Interest expense (1,488 ) (487 ) Other income (expense), net (23 ) 46 Total other income (expense), net 1,298 (121 ) Loss before income taxes (12,506 ) (8,579 ) Income tax expense (benefit) — — Net loss $ (12,506 ) $ (8,579 ) Net loss per share: Basic and diluted net loss per share $ (0.12 ) $ (0.11 ) Basic and diluted weighted-average common shares outstanding 101,638 78,471 For the Three Months Ended For the Nine Months Ended May 31,
2020May 31,
2019May 31,
2020May 31,
2019Net revenue $ 22,264 $ 41,486 $ 87,369 $ 101,982 Cost of goods sold 19,892 34,090 86,634 86,834 Gross profit 2,372 7,396 735 15,148 Operating expenses: Selling, general and administrative 12,719 20,719 60,977 52,032 Gain on disposition of assets — — — (1,254) Change in fair value of contingent consideration — 2,961 — (2,247) Restructuring costs 952 — 8,253 — Total operating expenses 13,671 23,680 69,230 48,531 Loss from operations (11,299) (16,284) (68,495) (33,383) Other income (expense): Change in fair value of warrant liability (1,160) 6,254 3,435 7,309 Change in fair value of equity investment (9) (71) (1,100) (663) Interest expense (1,487) (474) (4,594) (1,452) Other income (expense), net 468 (10) 386 110 Total other income (expense) (2,188) 5,699 (1,873) 5,304 Loss before income taxes (13,487) (10,585) (70,368) (28,079) Income tax expense — (13) — (13) Net loss $ (13,487) $ (10,598) $ (70,368) $ (28,092) Net loss per share: Basic net loss per common share $ (0.11) $ (0.12) $ (0.64) $ (0.34) Diluted net loss per common share $ (0.11) $ (0.19) $ (0.64) $ (0.42) Basic weighted average number of common shares outstanding 119,574 88,286 110,440 83,338 Diluted weighted average number of common shares outstanding 119,574 88,377 110,440 83,535 The accompanying notes are an integral part of the condensed consolidated financial statements.Condensed Consolidated Statements of Stockholders’ Equity(Amounts in thousands)(Unaudited) Common Stock Additional
Paid-in Accumulated Total
Stockholders' Shares Issued Amount Capital Deficit Equity Balances at August 31, 2019 90,041 $ 90 $ 164,258 $ (62,994 ) $ 101,354 Stock-based compensation 99 — 3,189 — 3,189 Stock sold to investors 17,198 17 27,362 — 27,379 Stock issued for acquisitions 23 — — — — Net loss — — — (12,506 ) (12,506 ) Balances at November 30, 2019 107,361 $ 107 $ 194,809 $ (75,500 ) $ 119,416 Common Stock Additional
Paid-in Accumulated Total
Stockholders' Shares Issued Amount Capital Deficit Equity Balances at August 31, 2018 78,273 $ 78 $ 104,918 $ (23,358 ) $ 81,638 Stock-based compensation 286 1 2,338 — 2,339 Net loss — — — (8,579 ) (8,579 ) Balances at November 30, 2018 78,559 $ 79 $ 107,256 $ (31,937 ) $ 75,398 Common Stock AdditionalPaid-inCapitalAccumulatedDeficitTotalStockholders’EquityShares Issued Amount Balances at August 31, 2019 90,041 $ 90 $ 164,258 $ (62,994) $ 101,354 Stock-based compensation 99 — 3,189 — 3,189 Stock sold to investors, net of offering costs 17,198 17 27,362 — 27,379 Stock issued for acquisitions 23 — — — — Net loss — — — (12,506) (12,506) Balances at November 30, 2019 107,361 $ 107 $ 194,809 $ (75,500) $ 119,416 Stock-based compensation 89 — 3,141 — 3,141 Issuance of restricted stocks 15 — — — — Stock sold to investors 10,000 10 14,706 — 14,716 Stock issued for equity investment 1,653 2 2,526 — 2,528 Net loss — — — (44,375) (44,375) Balances at February 29, 2020 119,118 $ 119 $ 215,182 $ (119,875) $ 95,426 Stock-based compensation 353 — 2,936 — 2,936 Issuance of restricted stocks 462 1 (1) — — Net loss — — — (13,487) (13,487) Balances at May 31, 2020 119,933 $ 120 $ 218,117 $ (133,362) $ 84,875 Common Stock AdditionalPaid-inCapitalAccumulatedDeficitTotalStockholders’EquityShares Issued Amount Balances at August 31, 2018 78,273 $ 78 $ 104,918 $ (23,358) $ 81,638 Stock option exercises 281 1 41 — 42 Stock-based compensation 5 — 2,297 — 2,297 Net loss — — — (8,579) (8,579) Balances at November 30, 2018 78,559 $ 79 $ 107,256 $ (31,937) $ 75,398 Stock option exercises 89 — — — — Stock-based compensation 125 — 3,178 — 3,178 Stock sold to investors, net of offering costs 9,077 9 41,584 — 41,593 Stock issued for acquisition of Hybrid 162 — 140 — 140 Net loss — — — (8,915) (8,915) Balances at February 28, 2019 88,012 $ 88 $ 152,158 $ (40,852) $ 111,394 Stock option exercises — — — — — Stock-based compensation 328 1 2,740 — 2,741 Stock issued for acquisition of Hybrid 500 — — — — Net loss — — — (10,598) (10,598) Balances at May 31, 2019 88,840 $ 89 $ 154,898 $ (51,450) $ 103,537 The accompanying notes are an integral part of the condensed consolidated financial statements.Condensed Consolidated Statements of Cash Flows(Amounts in thousands)(Unaudited) 2019 2018 CASH FLOWS FROM OPERATING ACTIVITIES Net loss $ (12,506 ) $ (8,579 ) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 962 508 Amortization of debt discount 1,181 — Provision for bad debt 362 591 Provision for sales returns 45 — Provision for inventory reserve 604 457 Loss (gain) on disposal of assets 21 (1,254 ) Change in fair value of equity investment 395 (536 ) Stock-based compensation 4,662 1,808 Change in fair value of warrant liability (3,204 ) 216 Change in fair value of contingent consideration — 394 Changes in operating assets and liabilities: Accounts receivable (1,223 ) (2,329 ) Inventory 3,120 (6,131 ) Prepaid expenses and other current assets (5,858 ) (6,663 ) Other non-current assets 439 (153 ) Accounts payable (922 ) 4,521 Accrued expenses and other current liabilities 4,306 1,667 Other non-current liabilities (482 ) — Net cash used in operating activities (8,098 ) (15,483 ) CASH FLOWS FROM INVESTING ACTIVITIES Purchase of property, equipment, and intangibles (1,940 ) (681 ) Security deposits — (26 ) Net cash used in investing activities (1,940 ) (707 ) CASH FLOWS FROM FINANCING ACTIVITIES Repayment of capital leases (27 ) (18 ) Proceeds from stock option exercises — 41 Proceeds from issuance of common stock 27,379 — Proceeds from line of credit 25,112 30,326 Repayments on line of credit (31,651 ) (24,516 ) Payments for contingent consideration — (82 ) Net cash provided by financing activities 20,813 5,751 NET INCREASE (DECREASE) IN CASH 10,775 (10,439 ) CASH AT BEGINNING OF YEAR 3,944 13,467 CASH AT END OF YEAR $ 14,719 $ 3,028 SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: CASH PAID FOR: Interest $ 351 $ 155 Income taxes $ — $ — NON-CASH INVESTING AND FINANCING ACTIVITIES Capital leases $ — $ 240 Services prepaid for in common stock $ 171 $ 704 Accrued and unpaid amounts for purchase of property & equipment $ 103 $ 205 Fair value of shares received from sale of assets $ — $ 1,791 For the Nine Months Ended May 31,
2020May 31,
2019CASH FLOWS FROM OPERATING ACTIVITIES Net loss $ (70,368) $ (28,092) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 3,259 1,711 Amortization of debt discount 3,902 — Provision for bad debt 10,421 2,313 Provision for sales returns 30 540 Inventory obsolescence 2,218 — Provision for inventory reserve 14,619 2,133 Loss (gain) on disposal of assets 26 (1,254) Gain on termination of leases (798) — Impairment of assets 6,895 — Change in fair value of equity investment 1,100 663 Stock compensation expense 11,074 8,839 Change in fair value of warrant liability (3,435) (7,309) Change in fair value of contingent consideration — (2,247) Changes in operating assets and liabilities: Accounts receivable 6,854 (8,756) Inventory 5,101 (43,446) Prepaid expenses and other current assets (7,854) (1,632) Other non-current assets 498 (706) Accounts payable (5,813) 13,278 Customer deposits 1,225 2,253 Accrued expenses and other current liabilities 1,600 4,232 Other non-current liabilities (752) — Net cash used in operating activities (20,198) (57,480) CASH FLOWS FROM INVESTING ACTIVITIES Purchase of property, equipment, and intangibles (4,317) (5,420) Net cash used in investing activities (4,317) (5,420) CASH FLOWS FROM FINANCING ACTIVITIES Repayment of capital leases (86) (105) Proceeds from notes payable 1,900 19,935 Proceeds from stock option exercises — 42 Proceeds from issuance of common stock 42,095 41,593 Proceeds from line of credit 76,325 94,808 Repayments on line of credit (88,575) (94,610) Net cash provided by financing activities 31,659 61,663 NET INCREASE (DECREASE) IN CASH 7,144 (1,237) CASH AT BEGINNING OF YEAR 3,944 13,467 CASH AT END OF YEAR $ 11,088 $ 12,230 SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: CASH PAID FOR: Interest $ 624 $ 959 NON-CASH INVESTING AND FINANCING ACTIVITIES Services prepaid for in common stock $ 646 $ 1,277 Accrued and unpaid amounts for purchase of property & equipment $ 403 $ 356 Stock issuance for acquisition of Hybrid $ — $ 141 Shares issued in exchange for equity investment in Xtraction Services $ 2,528 $ — Fair value of shares received from sale of assets $ — $ 1,791 The accompanying notes are an integral part of the condensed consolidated financial statements.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS(Amounts in thousands, except per share amounts)(Unaudited)NOTE 1 – NATURE OF BUSINESS AND- SIGNIFICANT ACCOUNTING POLICIESNature of BusinessKushCo Holdings, Inc. (“KushCo” or the “Company”) was incorporated in the state of Nevada on February 26, 2014. The Company specializes in marketing and selling customized packaging products, vaporizers, hydrocarbon gases, solvents, accessories and branding solutions to customers operating in the regulated medical and recreational cannabis industries. The Company provides custom branding on packaging products, and its testing standards meet the requirements set by the Consumer Product Safety Commission. The Company’s packaging products primarily consist of bottles, bags, tubes and containers. The Company maintains relationships with a broad range of manufacturers and also has sophisticated in-house labeling and customization capabilities. The Company sells a wide selection of vaporizer cartridges with a variety of core materials and heating technologies, as well as a wide selection of batteries to match the cartridges. The Company provides ultra-pure hydrocarbon gases, including isobutene, n-butane, propane, ethanol, pre-mixes, custom blends and other solvents, which are essential in the extraction process.Basis of PresentationThe accompanying unaudited condensed consolidated financial statements include the activity of the CompanyKushCo Holdings, Inc. (the “Company”) and its wholly-owned subsidiaries and have been prepared in accordance with accounting principlesU.S. generally accepted in the United Statesaccounting principles (“GAAP”) for interim financial information pursuant to Securities and Exchange Commission (“SEC”) rules and regulations. Accordingly, they do not include all of the information and notes required by generally accepted accounting principlesGAAP for annual financial statements. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation have been included in the condensed consolidated financial statements for the interim periods presented herein, but are not necessarily indicative of operating results to be achieved for full fiscal years or other interim periods. The condensed consolidated balance sheet as of August 31, 2019 was derived from the audited financial statements as of that date but does not include all disclosures as required by GAAP. These condensed consolidated financial statements and notes should be read in conjunction with the Company’s audited consolidated financial statements and accompanying notes for the fiscal year ended August 31, 2019 and notes thereto included in the Company’s annual reportAnnual Report on Form 10-K for the fiscal year then ended and filed with the SEC on November 12, 2019.References to amounts in these notes to condensed consolidated financial statements are in thousands, except per share amounts, unless otherwise specified.Use of EstimatesThe 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 the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amount of revenues and expenses during the reporting period.Significant estimates relied upon in preparing these condensed consolidated financial statements include revenue recognition, accounts receivable reserves, inventory and related reserves, expected future cash flows used to evaluate the recoverability of long-lived assets, estimated fair values of long-lived assets used to record impairment charges related to intangible assets and goodwill, amortization periods, accrued expenses, stock-based compensation expenses, and recoverability of the Company’s net deferred tax assets and any related valuation allowance.Although the Company regularly assesses these estimates, actual results could differ materially from these estimates. Changes in estimates are recorded in the period in which they become known. The Company bases its estimates on historical experience and various other assumptions that it believes to be reasonable under the circumstances. Actual results may differ from management’s estimates if past experience or other assumptions do not turn out to be substantially accurate.The Company is subject to a number of risks similar to those of other companies of similar size and having a focus of serving the cannabis industry, including, the development stage of certain products, competition, limited number of suppliers, integration of acquisitions, substantial indebtedness, government regulations, protection of proprietary rights, and dependence on key individuals.
Accounts Receivable
The Company regularly reviews inventory and, when appropriate, records a provision for obsolete and excess inventory. The provision is based on actual loss experience and a forecast of product demand compared to its remaining shelf life. As of May 31, 2020, the Company had $11,285 of inventory reserve. As of August 31, 2019, the Company had $2,640 of inventory reserve.
These complementary products and services include compliant and custom packaging products; vape hardware; hydrocarbons and solvents; natural products; stainless steel tanks; custom branded anti-counterfeit and authentication labels; hemp trading services; and retail services focused on CBD mass distribution, industry education and compliance.
Customer Concentrations
DuringMay 31, 2019, the three months ended November 30, 2019 and 2018, each quarterCompany had one1 customer whichthat represented approximately 10% and 15%, respectively, of the Company’s revenues. As of November 30, 2019,May 31, 2020, there were two2 customers in the aggregate, that represented approximately 35%47% of accounts receivable. As of November 30, 2018,May 31, 2019, there was one1 customer that represented 16%24% of accounts receivable.
| November 30, | August 31, | |||||||
| 2019 | 2019 | |||||||
| Machinery and equipment | $ | 5,814 | $ | 4,430 | ||||
| Vehicles | 603 | 603 | ||||||
| Office Equipment | 3,753 | 3,232 | ||||||
| Leasehold improvements | 3,301 | 3,296 | ||||||
| Construction in progress | 1,971 | 1,930 | ||||||
| 15,442 | 13,491 | |||||||
| Accumulated Depreciation | (3,092 | ) | (2,437 | ) | ||||
| $ | 12,350 | $ | 11,054 | |||||
| May 31, 2020 | August 31, 2019 | ||||||||||
| Machinery and equipment | $ | 6,116 | $ | 4,430 | |||||||
| Vehicles | 540 | 603 | |||||||||
| Office Equipment | 3,395 | 3,232 | |||||||||
| Leasehold improvements | 1,963 | 3,296 | |||||||||
| Construction in progress | 661 | 1,930 | |||||||||
| 12,675 | 13,491 | ||||||||||
| Accumulated Depreciation | (3,379) | (2,437) | |||||||||
| $ | 9,296 | $ | 11,054 | ||||||||
10
| As of November 30, 2019 | As of August 31, 2019 | |||||||||||||||||||||||||
| Weighted | ||||||||||||||||||||||||||
| Average | ||||||||||||||||||||||||||
| Estimated | Gross | Gross | ||||||||||||||||||||||||
| Useful | Carrying | Accumulated | Net | Carrying | Accumulated | Net | ||||||||||||||||||||
| Description | Life | Value | Amortization | Amount | Value | Amortization | Amount | |||||||||||||||||||
| Trade name | 6 years | 2,600 | (1,120 | ) | 1,480 | 2,600 | (1,011 | ) | 1,589 | |||||||||||||||||
| Non-compete agreement | 4 years | 2,370 | (984 | ) | 1,386 | 2,370 | (856 | ) | 1,514 | |||||||||||||||||
| $ | 4,970 | $ | (2,104 | ) | $ | 2,866 | $ | 4,970 | $ | (1,867 | ) | $ | 3,103 | |||||||||||||
| As of May 31, 2020 | As of August 31, 2019 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Description | Weighted Average Estimated Useful Life | Gross Carrying Value | Accumulated Amortization | Net Amount | Gross Carrying Value | Accumulated Amortization | Net Amount | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Trade name | 6 years | 2,600 | (1,336) | 1,264 | 2,600 | (1,011) | 1,589 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Non-compete agreement | 4 years | 2,370 | (1,241) | 1,129 | 2,370 | (856) | 1,514 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| $ | 4,970 | $ | (2,577) | $ | 2,393 | $ | 4,970 | $ | (1,867) | $ | 3,103 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| For the year ended August 31, | ||||
| 2020 (remaining nine months) | $ | 710 | ||
| 2021 | 881 | |||
| 2022 | 747 | |||
| 2023 | 528 | |||
| $ | 2,866 | |||
| For the year ended August 31, | ||||||||
| 2020 (remaining three months) | $ | 237 | ||||||
| 2021 | 881 | |||||||
| 2022 | 747 | |||||||
| 2023 | 528 | |||||||
| $ | 2,393 | |||||||
| November 30, | August 31, | |||||||
| 2019 | 2019 | |||||||
| Customer deposits | $ | 5,344 | $ | 2,992 | ||||
| Accrued compensation | 3,775 | 3,485 | ||||||
| Sales tax payable | 1,062 | 1,047 | ||||||
| Lease liability | 1,709 | — | ||||||
| Other accrued expenses | 3,767 | 1,936 | ||||||
| $ | 15,657 | $ | 9,460 | |||||
| May 31, 2020 | August 31, 2019 | ||||||||||
| Accrued compensation | 2,532 | 3,485 | |||||||||
| Sales tax payable | 745 | 1,047 | |||||||||
| Lease liability | 1,605 | — | |||||||||
| Other accrued expenses | 5,542 | 1,936 | |||||||||
| $ | 10,424 | $ | 6,468 | ||||||||
The Company determines if an arrangement is a lease at inception. The Company leases its facilities and certain office equipment under operating leases which expire on various dates through 2026. ROU assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent the obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at the commencement date of the lease based on the present value of lease payments over the lease term. When readily determinable, the Company uses the implicit rate in determining the present value of lease payments. The ROU asset also includes any fixed lease payments, including in-substance fixed lease payments and excludes lease incentives. Lease expense for lease payments is recognized on a straight-line basis over the lease term. Lease term is determined at lease commencement and includes any non-cancellable period for which the Company has the right to use the underlying asset, together with any options to extend that the Company is reasonably certain to exercise.
| Current portion of lease liabilities | $ | 1,709 | ||
| Long term lease liabilities, net of current portion | 5,525 | |||
| Total lease liabilities | $ | 7,234 |
| Current portion of lease liabilities | $ | 1,605 | |||
| Long term lease liabilities, net of current portion | 4,562 | ||||
| Total lease liabilities | $ | 6,167 | |||
| Year ended August 31, | ||||
| 2020 (remaining nine months) | $ | 1,775 | ||
| 2021 | 2,352 | |||
| 2022 | 2,139 | |||
| 2023 | 1,509 | |||
| 2024 | 616 | |||
| Thereafter | 500 | |||
| Total minimum lease payments | 8,891 | |||
| Less imputed interest | (1,657 | ) | ||
| Total lease liabilities | $ | 7,234 | ||
| Year ended August 31, | ||||||||
| 2020 (remaining three months) | $ | 647 | ||||||
| 2021 | 2,054 | |||||||
| 2022 | 1,968 | |||||||
| 2023 | 1,362 | |||||||
| 2024 | 764 | |||||||
| Thereafter | 579 | |||||||
| Total minimum lease payments | 7,374 | |||||||
| Less imputed interest | (1,207) | |||||||
| Total lease liabilities | $ | 6,167 | ||||||
2024 and is secured by a first priority lien on substantially all of the assets of the Borrowers.
$12.3 million.
Monroe Warrants
On November 8, 2019, the Company entered into a Second Exchange Agreement (“Second Exchange Agreement”) with the Investor, pursuant to which the Company amended the New Senior Note (the “Amended Senior Note”). Pursuant to the terms of the Amended Senior Note, the maturity date of the Amended Senior Note was extended to April 29, 2021 and the aggregate principal amount of the Amended Senior Note was increased to approximately $24.0 million and the original issue discount was increased to $1.5 million. Upon maturity, the Company must pay the Investor an amount in cash representing 120% of all outstanding principal, less original issue discount, plus any accrued and unpaid interest and accrued and unpaid late charges. Similar to the terms of the Original Note, the Amended Senior Note willdid not bear interest except upon the occurrence of an event of default.
May 31, 2019, respectively.
13
| Fair Value at November 30, 2019 | ||||||||||||||||
| Total | Level 1 | Level 2 | Level 3 | |||||||||||||
| Assets: | ||||||||||||||||
| Equity investment | $ | 197 | $ | — | $ | 197 | $ | — | ||||||||
| Liabilities: | ||||||||||||||||
| Warrant liability | $ | 2,240 | $ | — | $ | — | $ | 2,240 | ||||||||
| Fair Value at May 31, 2020 | |||||||||||||||||||||||||||||||||||||||||
| Total | Level 1 | Level 2 | Level 3 | ||||||||||||||||||||||||||||||||||||||
| Assets: | |||||||||||||||||||||||||||||||||||||||||
| Equity investment | $ | 2,060 | $ | — | $ | 2,060 | $ | — | |||||||||||||||||||||||||||||||||
| Liabilities: | |||||||||||||||||||||||||||||||||||||||||
| Warrant liability | $ | 2,009 | $ | — | $ | — | $ | 2,009 | |||||||||||||||||||||||||||||||||
| Fair Value at August 31, 2019 | |||||||||||||||||||||||||||||||||||||||||
| Total | Level 1 | Level 2 | Level 3 | ||||||||||||||||||||||||||||||||||||||
| Assets: | |||||||||||||||||||||||||||||||||||||||||
| Equity investment | $ | 592 | $ | — | $ | 592 | $ | — | |||||||||||||||||||||||||||||||||
| Liabilities: | |||||||||||||||||||||||||||||||||||||||||
| Warrant liability | $ | 5,444 | $ | — | $ | — | $ | 5,444 | |||||||||||||||||||||||||||||||||
Warrant Liability | |||||
| As of August 31, 2019 | $ | 5,444 | |||
| Adjustments to estimated fair value | (3,204) | ||||
| As of November 30, 2019 | 2,240 | ||||
| Adjustments to estimated fair value | (1,391) | ||||
| As of As of February 29, 2020 | 849 | ||||
| Adjustments to estimated fair value | 1,160 | ||||
| As of May 31, 2020 | $ | 2,009 | |||
Warrant Liability | |||||
| As of August 31, 2018 | $ | 14,430 | |||
| Adjustments to estimated fair value | 216 | ||||
| As of November 30, 2018 | 14,646 | ||||
| Adjustments to estimated fair value | (1,271) | ||||
| As of February 28, 2019 | 13,375 | ||||
| Adjustments to estimated fair value | (5,965) | ||||
| As of May 31, 2019 | $ | 7,410 | |||
| Investment in Smoke Cartel | ||||
| As of August 31, 2019 | $ | 592 | ||
| Adjustments to estimated fair value | (395 | ) | ||
| As of November 30, 2019 | $ | 197 | ||
Contingent Consideration Payable | ||||||||
| As of August 31, 2018 | $ | |||||||
| 394 | ||||||||
| As of November 30, 2018 | 5,882 | |||||||
| Change in fair value | ||||||||
| Cash payments | (140) | |||||||
| Settled in shares- Hybrid | (140) | |||||||
| As of As of February 28, 2019 | — | |||||||
| Change in fair value | 2,961 | |||||||
| As of May 31, 2019 | $ | 2,961 | ||||||
The following table reflects the activity for the Company’s warrant derivative liability for the June 2018 registered offering measured at fair value using Level 3 inputs:
Warrant Liability | ||||
| Balance at August 31, 2019 | $ | 5,444 | ||
| Adjustments to estimated fair value | (3,204 | ) | ||
| Balance at November 30, 2019 | $ | 2,240 | ||
Warrant Liability | ||||
| Balance at August 31, 2018 | $ | 14,430 | ||
| Adjustments to estimated fair value | 216 | |||
| Balance at November 30, 2018 | $ | 14,646 | ||
The following table reflects the activity for the Company’s contingent acquisition liabilities measured at fair value using Level 3 inputs:
Contingent Consideration Payable | ||||
| Balance at August 31, 2018 | $ | 5,488 | ||
| Adjustments to estimated fair value | 394 | |||
| Balance at November 30, 2018 | $ | 5,882 | ||
operations. Three Months Ended November 30, May 31, 2019:Share-based CompensationThe Company recorded total stock-based compensation expense of $4,662$2,985 and $1,808$2,667 for the three months ended November 30,May 31, 2020 and May 31, 2019, respectively, and 2018,$11,074 and $8,839 for the nine months ended May 31, 2020 and May 31, 2019, respectively, in connection with the issuance of shares of common stock and options to purchase common stock. Stock-based compensation expense is included in selling, general and administrative expense in the Condensed Consolidated Statementscondensed consolidated statements of Operations.On September 1, 2019, the Company adopted Accounting Standards Update 2018-072018-7 which addresses several aspects of the accounting for nonemployeenon-employee share-based payment transactions and expands the scope of ASC 718,Compensation, to include share-based payment transactions for acquiring goods and services from nonemployees.non-employees. Under the simplified standard, nonemployeenon-employee options will be valued once at the date of grant. At adoption, all awards without established measurement dates were revalued one final time and did not have a material impact on the condensed consolidated financial statements.Stock Incentive PlanThe Company’s 2016 Stock Incentive Plan (the “Plan”) was adopted on February 9, 2016. The Plan authorizes the issuance of up to 18,000 shares of common stock in the form of stock-based awards to the Company’s employees and directors. The Company believes that such awards better align the interests of its employees with those of its shareholders. Option awards are generally granted with an exercise price equal to the closing market price of the Company'sCompany’s common stock at the date of grant and have 10-year10 years contractual terms. The option awards generally vest over three years subject to the recipient’s continuous service.The Company estimates the fair value of share-based compensation utilizing the Black-Scholes option pricing model, which is dependent upon several variables such as the expected option term, expected volatility of its stock price over the expected option term, expected risk-free interest rate over the expected option term, and expected dividend yield rate over the expected option term. The Company believes this valuation methodology is appropriate for estimating the fair value of stock options granted to employees and directors which are subject to ASC 718. These amounts are estimates only and thus may not be reflective of actual future results, nor amounts ultimately realized by recipients of these grants. The Company recognizes compensation on a straight-line basis over the requisite service period for each award.The following table summarizes the assumptions the Company utilized to record compensation expense for stock options granted during the threenine months ended November 30, 2019May 31, 2020 and 2018: 2019 2018 Expected term in years 5.3 – 5.9 3.0 Expected volatility 64% – 85% 82% – 87% Risk-free interest rate 1.4% – 1.7% 2.7% – 3.0% Expected dividend yield 0.0% 0.0% Nine Months Ended May 31, 2020 May 31, 2019 Expected term in years 5.3 – 5.9 1-3 Expected volatility 64% – 120% 69% – 87% Risk-free interest rate 0.3% – 1.7% 2.3% – 3.0% Expected dividend yield 0.0% 0.0% The expected term of stock options granted during the nine months ended May 31, 2020 and May 31, 2019 is based on managementmanagement's judgement and reflects expected exercise patterns. The expected volatility of these stock options is based on management'smanagement’s analysis of historical volatility. The risk-free interest rate is based on the U.S. Treasury yields with terms equivalent to the expected term of the related option at the time of the grant. While the Company believes these estimates are reasonable, the compensation expense recorded would increase if the expected life of these options was increased, a higher expected volatility was used, or if the expected dividend yield increased.
The following table summarizes the Company's stock option activity during the threenine months ended November 30, 2019:
| Weighted | ||||||||||||||||
| Weighted | Average | |||||||||||||||
| Average | Remaining | Aggregate | ||||||||||||||
| Stock | Exercise | Contractual | Intrinsic | |||||||||||||
| Options | Price | Term (years) | Value | |||||||||||||
| Balance Outstanding, August 31, 2019 | 14,761 | $ | 4.89 | 9.0 | $ | 3,192 | ||||||||||
| Granted | 1,655 | 2.40 | ||||||||||||||
| Exercised | (9 | ) | 2.06 | $ | 14 | |||||||||||
| Forfeited | (2,000 | ) | 5.06 | |||||||||||||
| Balance Outstanding, November 30, 2019 | 14,407 | $ | 4.58 | 8.8 | $ | 269 | ||||||||||
| Vested and expected to vest at November 30, 2019 | 12,510 | $ | 4.56 | 8.8 | $ | 260 | ||||||||||
| Exercisable, November 30, 2019 | 5,782 | $ | 4.36 | 8.3 | $ | 228 | ||||||||||
May 31, 2020:
Stock Options | Weighted Average Exercise Price | Weighted Average Remaining Contractual Term (years) | Aggregate Intrinsic Value | ||||||||||||||||||||
| Balance Outstanding, August 31, 2019 | 14,761 | $ | 4.89 | 9.0 | $ | 3,192 | |||||||||||||||||
| Granted | 3,667 | 2.24 | |||||||||||||||||||||
| Exercised | (9) | 2.06 | $ | 14 | |||||||||||||||||||
| Forfeited | (7,051) | 4.74 | |||||||||||||||||||||
| Balance Outstanding, May 31, 2020 | 11,368 | $ | 4.10 | 8.4 | $ | 358 | |||||||||||||||||
| Vested and expected to vest at May 31, 2020 | 10,187 | 4.13 | 8.3 | $ | 285 | ||||||||||||||||||
| Exercisable, May 31, 2020 | 5,998 | $ | 4.40 | 7.9 | $ | 26 | |||||||||||||||||
and Restricted Stock Units
May 31, 2019.
May 31, 2019.
May 31, 2020.
parties.May v. KushCo Holdings, Inc., et al. Filed April 30, 2019. Case No. 8:19-cv-00798-JLS-KES, U.S. District Court for the Central District of California. This putative shareholder class action against the Company and certain of its current and former officers alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and Rule 10b-5 promulgated thereunder, and seeks unspecified compensatory damages and other relief on behalf of a class of purchasers of the Company’s securities between July 13, 2017 and April 9, 2019, inclusive. In July 2019, purported Company shareholders filed motions for appointment of lead counsel and lead plaintiffs. In September 2019, the Court appointed co-lead plaintiffs and co-lead counsel for the plaintiffs. The lead plaintiffs’ amended complaint was filed in November 2019, and2019. In February 2020, the defendants’ responsesCompany moved to dismiss the complaint are currently due in January 2020.amended complaint. The motion is pending. The Company intends to vigorously defend itself against these claims.Salsberg v. Kovacevich, et al. Filed May 24, 2019. Case No. 8:19-cv-00998-JLS-KES, U.S. District Court for the Central District of California andNeysmith v. Baum, et al. Filed May 31, 2019. Case No. 8:19-cv-01070-JLS-KES, U.S. District Court for the Central District of California. This purported shareholder derivative action against certain current and former directors and officers alleges, among other things, breach of fiduciary duty, waste of corporate assets, and unjust enrichment. The Company is named as a nominal defendant and the plaintiff seeks, among other things, corporate governance reforms, and disgorgement of profits, benefits, and compensation obtained by the defendants from the alleged conduct, to be paid to the Company. In September 2019, the Court consolidated these cases. The parties are expected to stipulateIn December 2019, the Court ordered a stay of this action pursuant to a date by whichstipulation of the defendants must respond to the complaint. No trial date has been set.Savage vs.v. Kovacevich, et al. Filed June 14, 2019. Case No. 30-2019-01077191-CU-MC-NJC, Superior Court of California, County of Orange. This purported shareholder derivative action against certain current and former directors and officers alleges, among other things, breach of fiduciary duty, waste of corporate assets, and unjust enrichment. The Company is named as a nominal defendant and the plaintiff seeks, among other things, corporate governance reforms, and unspecified damages and restitution from the defendants, to be paid to the Company. In August 2019, the Court ordered a stay of this action pursuant to a stipulation of the parties pending resolutionparties.Bruno, et al. v. Kovacevich, et al. Filed September 26, 2019. Case No. A-19-802660-C, Eighth Judicial District Court of the State of Nevada and Majchrzak v. Kovacevich, et al. Filed October 2, 2019. Case No. A-19-902945-B, First Judicial District Court of the State of Nevada. These purported shareholder derivative actions against certain current and former directors and officers allege, among other things, breach of fiduciary duty, waste of corporate assets, and unjust enrichment. The Company is named as a nominal defendant in each action and the plaintiffs seek, among other things, equitable relief and unspecified damages from the defendants, to be paid to the Company. In May v. KushCo federal class2020, the Company accepted service of the complaints, and the plaintiffs have indicated that they intend to move to stay each action.NOTE 13 – 2020 PLAN & RESTRUCTURING CHARGESDuring the second quarter of fiscal 2020, the Company adopted a comprehensive strategic plan (the “2020 Plan”) to more effectively execute the Company’s strategy of focusing its resources on more established, financially stable, and creditworthy customers (namely multi-state operators, licensed producers, and leading brands). In connection with the 2020 Plan, the Company began implementing a restructuring process that seeks to rationalize all aspects of its operations by, among other things, significantly reducing its overhead, implementing tighter expense controls, consolidating its warehouses, reducing its inventory, and drastically altering its sales strategy to focus more on these customers. The Company believes that this strategic shift and associated restructuring should result in a better forecast of demand, reduction of inventory and warehouse space, improved collections and cash flow, and potential revenue upside from these customers’ continued expansion and consolidation in the marketplace.The Company has completed, or is in the process of completing, the following restructuring activities in connection with the 2020 Plan:•Severance: The Company is in the process of implementing a more efficient and automated approach to serving a smaller more targeted group of customers, which will require substantially fewer dedicated sales representatives, project managers, warehouse personnel, and other related personnel. As part of this process, the Company determined that certain positions at the Company were no longer essential to the execution of the Company’s strategy going forward. As a result, the Company underwent reductions in force to right-size and better align its workforce with this new strategy. During the second quarter of fiscal 2020, the Company terminated 28 employees, and incurred $379 in severance-related restructuring costs. During the third quarter of fiscal 2020, the Company terminated 65 employees, and incurred $800 in severance-related restructuring costs.•Facility-Related Lease Termination and Exiting Costs: As a result of the Company’s decision to discontinue nearly all of its stock inventory, the Company determined that it no longer needs the vast majority of its current warehouse space, and is currently in the process of negotiating with its landlords to terminate or sublease and exit the impacted warehouses. During the third quarter of fiscal 2020, the Company terminated leases and vacated its Las Vegas, Nevada, Santa Rosa, California, Osage, Colorado facilities and subleased its Garden Grove, California facility. The Company is planning to vacate additional facilities throughout the remainder of fiscal 2020 in order to consolidate its warehouse footprint. During the third quarter of fiscal 2020, the Company incurred $0.2 million in restructuring exit cost.•Asset Impairment: With the Company’s planned facility closures, the Company has determined that the fair value of its fixed assets at these closing facilities is now below their carrying value, and that an impairment has occurred. The Company also determined that its product molds and tooling are no longer necessary assets, given its shift to focus exclusively on custom and best-selling stock inventory, creating an additional need for impairment. As a result, the Company recognized a total impairment charge related of approximately $3.9 million related to these fixed assets during the second quarter of its fiscal 2020. In addition, because of the Company’s decision to consolidate its warehouses, the Company determined that it will incur impairment charges to its ROU assets. Based on internal calculations, the Company recognized impairment charges related to these assets of $3.0 million during the second quarter of its fiscal 2020.The Company expects to incur a total of $9.5 million in restructuring charges upon the completion of the 2020 Plan, which represents the Company’s best estimate as of May 31, 2020. The 2020 Plan is expected to be completed by the end of fiscal 2020. The recognition of restructuring charges requires that the Company make certain judgments and estimates regarding the nature, timing and amount of costs associated with the planned reductions of workforce and facility, ROU and asset impairment costs. At the end of each reporting period, the Company will evaluate the remaining accrued balance to ensure that no excess accruals are retained, and the utilization of the provisions are for their intended purpose in accordance with developed plans. The following table reflects the movement of activity of the restructuring reserve for the six months ended May 31, 2020: Severance
related costsFacility, ROU
and asset
impairmentFacility Exit Cost Total Balance at December 1, 2019 $ — $ — $ — $ — Provisions/Additions 1,182 6,895 176 8,253 Utilized/Paid (1,002) (6,895) (176) (8,073) Balance at May 31, 2020 $ 180 $ — $ — $ 180 Expenses incurred under the 2020 Plan during the three and nine months ended May 31, 2020 are included within “Restructuring costs” in the condensed consolidated statements of operations.NOTE 14 – SUBSEQUENT EVENTThird Exchange Agreement and Third Exchange NoteOn June 9, 2020, the Company entered into a Third Exchange Agreement (the “Third Exchange Agreement”) with the Investor in order to (x) amend and waive certain provisions of the Purchase Agreement and the Second Amended Senior Note, and (y) exchange the Second Amended Senior Note without any cash consideration for (i) a new senior note in the aggregate principal amount of $22.0 million (the “Third Amended Senior Note”) and (ii) 5,347,594 shares of the Company’s common stock (the “Exchange Shares”).Similar to the terms of the Second Amended Senior Note, the Third Amended Senior Note will mature on April 29, 2021, subject to the Investor’s right to extend such maturity date. Upon maturity, the Company must pay the Investor an amount in cash representing the aggregate outstanding principal, plus any accrued and unpaid interest and accrued and unpaid late charges. Similar to the terms of the Original Note, the Third Amended Senior Note will not bear interest except upon the occurrence (and during the continuance) of an Event of Default (as such term is defined in the Third Amended Senior Note), in which case the Third Amended Senior Note will bear interest at a rate of 18.0% per annum (the “Default Rate”).The Third Amended Senior Note is redeemable by the Company at any time after the issuance in an amount equal to the outstanding principal and any accrued interest or late charges. The Third Amended Senior Note includes customary affirmative and negative covenants, including a limitation on the Company’s ability to incur additional indebtedness, subject to certain permitted exceptions. The Third Amended Senior Note includes customary events of default including, among others, payment defaults, breach of covenant defaults, bankruptcy and insolvency defaults, cross defaults with certain indebtedness, a change of control default, judgment defaults, and inaccuracies of representations and warranties defaults. Similar to the terms of the Original Note, the Investor may require the Company to redeem, upon the occurrence of an Event of Default, all or a portion of the Third Amended Senior Note at a redemption premium of 135% of the outstanding principal and any accrued interest or late charges. Similar to the terms of the Original Note, any amount of principal or other amounts due to the Investor under the Purchase Agreement or the Third Amended Senior Note that is not paid when due (except to the extent such amount is simultaneously accruing interest at the Default Rate) will result in a late charge being incurred and payable by the Company in an amount equal to interest on such amount at the rate of 18.0% per annum from the date such amount was due until the same is paid in full.
markets that the Company operates in due to the COVID-19 pandemic, as well as supply chain disruptions linked to the COVID-19 pandemic, which has resulted in shipping capacity constraints from China. The COVID-19 pandemic has resulted in customers ordering less frequently and at irregular intervals due to less visibility in their businesses, overall demand, and general economic conditions.Item 2. Management’s Discussion and Analysis of Financial Condition and Results of OperationsUnless otherwise indicated, all amounts herein are expressed in thousands, except per share amounts.Cautionary Statement ConcerningRegarding Forward-Looking StatementsThis Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements. In some cases, you can identify forward-looking statements by words such as “anticipate,” “believe,” “contemplate,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “potential,” “predict,” “project,” “seek,” “should,” “target,” “will,” “would,” or the negative of these words or other comparable terminology.The following discussionidentification in this report of factors that may affect our future performance and analysisthe accuracy of forward-looking statements is meant to be illustrative and by no means exhaustive. All forward-looking statements should be readevaluated with the understanding of their inherent uncertainty.Factors that could cause our actual results to differ materially from those expressed or implied by forward-looking statements include, but are not limited to:•Trends affecting our financial condition, results of operations or future prospects, including the impact of the Coronavirus Disease 2019 (“COVID-19”) pandemic;•Our business and growth strategies;•Our financing plans and forecasts;•The factors that we expect to contribute to our success and our ability to be successful in conjunctionthe future;•Our business model and strategy for realizing positive results as sales increase;•Competition, including our ability to respond to such competition and its expectations regarding continued competition in the market in which we compete;•Our ability to meet our projected operating expenditures and the costs associated with development of new projects;•The impact of new accounting pronouncements on our unaudited condensed consolidatedfinancial statements;•Whether our cash flows from operating activities will be sufficient to meet our operating expenditures;•Our market risk exposure and efforts to minimize risk;•Regulations, including tax law and practice, federal and state laws governing the cannabis and CBD industries, and tariff legislation;•The outcome of various tax audits and assessments, including appeals thereof, timing of resolution of such audits, our estimates as to the amount of taxes that will ultimately be due and payable and the impact of these audits on our financial statements;•Our overall outlook including all statements under Management’s Discussion and Analysis of Financial Condition and Results of Operations;•That estimates and assumptions made in the preparation of financial statements in conformity with GAAP may differ from actual results; and•Our expectations as to future financial performance, cash and related notes includedexpense levels and liquidity sources.Any forward-looking statements in Part I, Item I within this Quarterly Report on Form 10-Q and the audited consolidatedreflect our current views with respect to future events or to our future financial statementsperformance. A more detailed description of risk factors that may affect our operating results can be found in Part II, Item 1A. “Risk Factors” in this Quarterly Report on Form 10-Q, Part I, Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended August 31, 2019 filed with the SEC on November 12, 2019. This report contains “forward-looking statements.” The statements contained in this report that are2019, and our other filings with the SEC. Given these uncertainties, you should not historic in nature, particularly those that utilize terminology such as “may,” “will,” “should,” “expects,” “anticipates,” “estimates,” “believes,” or “plans” or comparable terminology are forward-looking statements basedplace undue reliance on current expectations and assumptions. Various risks and uncertainties could cause actual results to differ materially from those expressed inthese forward-looking statements. The forward-looking events discussed in this report, the documents to which we refer you and other statements made from time to timeExcept asrequired by us or our representatives, may not occur, and actual events and results may differ materially and are subject to risks, uncertainties, and assumptions about us. For these statements, we claim the protection of the “bespeaks caution” doctrine. All forward-looking statements in this document are based on information currently available to us as of the date of this report, andlaw, we assume no obligation to update or revise these forward-looking statements for any forward-looking statements. Forward-looking statements involvereason, even if new information becomes available in the future.OverviewKushCo Holdings, Inc. (formerly known as Kush Bottles, Inc.) markets and unknown risks, uncertainties,sells a wide variety of ancillary products and other factors that may cause the actual results to differ materially from any future results, performance, or achievements expressed or implied by such forward-looking statements.OverviewWe specialize in marketing and selling customized packaging products, vaporizers, hydrocarbon gases, solvents, accessories and branding solutionsservices to customers operating in the regulated medical and adult recreational cannabis and CBD industries. We provide custom branding on packagingOur complementary products and its testing standards meetservices include compliant and custom packaging products; vape hardware; solvents and natural products; stainless steel tanks; custom branded anti-counterfeit and authentication labels; hemp trading services, which connect buyers and sellers of hemp commodities; and retail services, which focus on CBD mass distribution services through our internal resources and partnerships with leading consumer packaged goods (“CPG”) sales agencies.As a leader in custom and child-resistant packaging, exclusive vape products, and unique service offerings, such as our hemp trading and retail services, we serve as a “one-stop-shop” for our customers, combining creativity with compliance to provide the requirements set byright solutions in various stages of the Consumer Product Safety Commission. cannabis and CBD supply chain.Our packaging products primarily consist of bottles, jars, bags, tubes, containers, vape cartridges, vape batteries and containers.accessories, labels and processing supplies, solvents, natural products, stainless steel tanks, and custom branded anti-counterfeit and authentication labels. We maintain relationships with a broad range of domestic and international manufacturers, which enables us to source a wide variety of products in a cost-effective manner and also hasto pass such cost savings to our customers. This allows us to offer quick solutions to our customers and help ensure that their products will be of superior grade and made with environmentally safe materials. In addition to a complete product line, we have sophisticated in-house labeling and customization capabilities. We sellcapabilities, which allow us to add significant value to our customers’ packaging and vape hardware design processes, enabling them to turn their packaging and branding into an effective marketing tool. As more multi-state operators (“MSOs”), licensed producers (“LPs”), and leading brands seek ways to further differentiate their brands and product lines, our customization capabilities and premium customer service help us win new product opportunities with both existing and new customers. Our products are relied upon by brand owners, processors, farmers, growers, and licensed medical and adult recreational cannabis dispensaries.Our services consist of retail services and hemp trading services, which focus on facilitating compliant hemp transactions for in-network, pre-qualified farmers and a wide selectionpre-qualified buyer network. Our retail services division focuses on building distribution networks of vaporizer cartridgescompliant hemp-derived CBD brands across conventional and other retail channels, including convenience, pet care, and beauty channels.Due to the complementary nature of our product and service ecosystem, we are able to successfully cross-sell into our existing customer base, while attracting new customers who are looking to consolidate their vendors and partner with a varietytrusted and established source for nearly all ancillary cannabis and CBD solutions.2020 PlanDuring the second quarter of core materialsfiscal 2020, the Company adopted the 2020 Plan to more effectively execute the Company’s strategy of focusing its resources on more established, financially stable, and heating technologies,creditworthy customers (namely multi-state operators, licensed producers, and leading brands). In connection with the 2020 Plan, the Company began implementing a restructuring process that seeks to rationalize all aspects of its operations by, among other things, significantly reducing its overhead, implementing tighter expense controls, consolidating its warehouses, reducing its inventory, and drastically altering its sales strategy to focus more on these customers. The Company believes that this strategic shift and associated restructuring should result in a better forecast of demand, reduction of inventory and warehouse space, improved collections and cash flow, and potential revenue upside from these customers’ continued expansion and consolidation in the marketplace. For additional information see Note 13 above of our consolidated financial statements.Update on COVID-19On March 11, 2020, the World Health Organization ("WHO") recognized COVID-19 as a global pandemic, prompting many national, regional, and local governments, including in the markets that the Company operates in, to implement preventative or protective measures, such as travel and business restrictions, temporary store closures, and wide-sweeping quarantines and stay-at-home orders. As a result, COVID-19 has significantly curtailed global economic activity, including in the regulated cannabis and CBD industries in which the Company operates.COVID-19 has materially impacted the Company’s markets and sources of revenues, including without limitation, by and through the following:•State and provincial mandates requiring the temporary closure of nonessential businesses, such as the temporary closure of adult recreational use stores in Massachusetts, Nevada, and Ontario, Canada, as well as the substantial closure of many retail storefronts that sell CBD;•Restrictions and limitations on travel that have curtailed consumer demand in tourist-heavy markets, such as Nevada and Colorado, as well as a wide selectiongeneral negative effect on the ability of batteriesthe Company’s sales force to matchmeet with potential customers and secure new orders; and•The Company’s customers increasingly consolidating orders and purchasing less frequently in response to general macroeconomic and business uncertainty, creating a more volatile and irregular purchasing and revenue recognition patternIn addition, the cartridges. We provide ultra-pure hydrocarbon gases,Company has been impacted by business and supply chain interruptions resulting from the COVID-19 pandemic, such as operating with a lighter-than-normal staff in its warehouses and periodically closing its warehouses to conduct deep cleaning services, which disrupts the Company's normal business functions, including isobutene, n-butane, propane, ethanol, pre-mixes, custom blendsprocessing and shipping orders to customers in a timely manner. The COVID-19 pandemic has also resulted in increased air freight costs incurred by the Company, which the Company is passing on to its customers via a surcharge, as well as general difficulties in securing space on incoming freight from its international vendors in order to make room for essential items. The Company has experienced, and could continue to experience, delays in orders from vendors, particularly in countries where the pandemic has had a significant impact, such as in China.The COVID-19 pandemic has created significant disruption and volatility in the capital markets, which, depending on future developments, could impact our capital resources and liquidity in the future. If we need to raise additional capital to support operations in the future, we may be unable to access capital markets, and additional capital may only be available to us on terms that could be significantly detrimental to our existing stockholders and to our business as a result of COVID-19. In addition, the COVID-19 pandemic is also potentially affecting our customers and their access to the capital markets. As a result of all these factors, the Company’s management has significantly reduced non-essential costs.In response to the health and safety risks and challenges presented by the COVID-19 pandemic, the Company has been proactively and regularly implementing measures to protect its employees. These measures include, but are not limited to, the following:•Abiding by national, state, and local recommendations to require the wearing of protective face masks and practicing of social distancing;•Arranging for regular cleaning services for Company facilities;•Providing hand sanitizers and other solvents,disinfectants at workstations;•Adopting remote working protocols, systems, and processes for nonessential employees to work from home;•Conducting mandatory employee temperature checks, and on some occasions, requiring mandatory testing for employees;•Reconfiguring facilities to promote social distancing;•Operating with a smaller workforce in the warehouse and with staggered schedules;•Adopting a temporary essential pay program for essential warehouse employees; and,•Developing and launching an education and training platform to help employees navigate the current workplace landscape and practice general sanitation.Whilethe Company is actively working to successfully navigate the financial, operational, and personnel challenges presented by the COVID-19 pandemic, the full extent of the impact of COVID-19 on our operational and financial performance will depend on future developments, including the duration and spread of the pandemic and related actions taken by the U.S. government, state and local government officials, and international governments to prevent disease spread, all of which are essentialuncertain, out of our control and cannot be predicted at this time.Results of Operations – Comparison of Three Months Ended May 31, 2020 and May 31, 2019RevenueFor the three months ended May 31, 2020, our revenue decreased to $22.3 million compared to $41.5 million for the three months ended May 31, 2019, which represents a decrease of $19.2 million, or 46%. The decrease was primarily attributed to the Company's adoption of its 2020 Plan to align deeper with larger and more creditworthy multi-state-operators, licensed producers, and leading brands, which has resulted in significant cost-cutting initiatives and tighter credit terms extended to itssmaller customers; lower sales from vape and natural products; and travel and regulatory restrictions in the extraction process.Gross ProfitGross profit for the three months ended May 31, 2020 was $2.4 million, or 11% of revenue, compared to gross profit of $7.4 million, or 18% of revenue, for the three months ended May 31, 2019. The decrease in gross profit percentage is due primarily to an increase of $1.5 million related to excess and obsolete inventory write downs as a result of right sizing inventory levels to align with our 2020 Plan, $1.0 million purchase order cancellation charges and lower product sales.Operating ExpensesOur operating expenses for the three months ended May 31, 2020 decreased to $13.7 million, or 61% of total revenue, from $23.7 million, or 57% of total revenue, for the three months ended May 31, 2019. Lower selling, general and administrative expense is primarily due to a $4.2 million decrease in compensation associated with lower headcount. Compensation expense includes a $0.8 million cash bonus reversal to reclassify the expense to stock compensation, which is offset by a $1.0 million restructuring charge associated with severance. To align with the Company's 2020 Plan, freight, consulting, and facilities costs decreased $1.0 million, $0.9 million, and $0.8 million, respectively. Other expenses contracted by $1.0 million primarily due to less travel related to the COVID-19 pandemic. For the three months ended May 31, 2019, operating expenses included a loss of $3.0 million related to the change in the fair value of contingent consideration.Loss from OperationsLoss from operations for the three months ended May 31, 2020 was $11.3 million compared to $16.3 million for the three months ended May 31, 2019. The decrease is primarily attributable to compensation associated with our headcount reduction, lower freight costs, warehouse facilities closures, and reduced travel expenses related to the COVID-19 pandemic, which were partially offset by the restructuring charges the Company recognized in accordance with the adoption of its 2020 Plan, including severance and asset impairment charges.Other Income (Expense), netOther Income (Expense), net for the three months ended May 31, 2020 was an expense of $2.2 million compared to income of $5.7 million for the three months ended May 31, 2019. The increase in other expense is primarily due to an unfavorable change in fair value of warrant liability, resulting in an expense of $1.2 million, as compared to other income of $6.3 million in the previous year. Interest expense increased $1.0 million, when compared to the three months ended May 31, 2019.Net LossLoss from operations for the three months ended May 31, 2020 was $13.5 million compared to $10.6 million for the three months ended May 31, 2019. To align with the Company's 2020 Plan, the increase in net loss is primarily attributable to inventory write downs related to right sizing inventory, purchase order cancellation charges, and restructuring charges related to severance. The increase is also derived from an unfavorable change in fair value of warrant liability, higher amortization of debt discount, higher stock-based compensation and lower product sales.Results of Operations – Comparison of Nine Months Ended May 31, 2020 and May 31, 2019RevenueFor the nine months ended May 31, 2020, our revenue decreased to $87.4 million compared to $102.0 million for the nine months ended May 31, 2019, which represents a decrease of $14.6 million, or 14.3%. The decrease was primarily attributable to the Company's adoption of its 2020 Plan to align deeper with larger and more creditworthy multi-state-operators, licensed producers, and leading brands, which has resulted in significant cost-cutting initiatives and tighter credit terms extended to its smaller customers; lower vape and natural products stemming from the illicit market vape crisis; travel and regulatory restrictions in the markets that the Company operates in due to the COVID-19 pandemic; and supply chain disruptions linked to the COVID-19 pandemic, resulting in shipping capacity constraints from China. This was partially offset by higher packagingand energy sales and increased tariff revenue. The COVID-19 pandemic has resulted in customers ordering less frequently and at irregular intervals due to less visibility in their businesses, overall demand, and general economic conditions.Gross ProfitGross profit for the nine months ended May 31 2020 was $0.7 million, or 1% of revenue, compared to gross profit of $15.1 million, or 15% of revenue, for the nine months ended May 31, 2019. The decrease in gross profit percentage is due primarily to an increase of $12.5 million related to inventory write downs as a result of right sizing inventory levels to align with our strategy moving forward, $4.3 million purchase order cancellation charges and lower product sales, partially offset by tariff revenues.Operating ExpensesOur operating expenses for the nine months ended May 31, 2020 increased to $69.2 million, or 79% of total revenue, from $48.5 million, or 48% of total revenue, for the nine months ended May 31, 2019. The increase in selling, general and administrative expense is primarily due to incremental bad debt expense of $8.1 million, restructuring expense of $8.3 million related to severance and asset impairment charges associated with warehouse facilities the Company closed, stock based compensation of $2.2 million, and consulting fees of $0.7 million. For the nine months ended May 31, 2019, operating expenses included a gain of $2.2 million related to the change in the fair value of contingent consideration.Loss from OperationsLoss from operations for the nine months ended May 31, 2020 was $68.5 million compared to $33.4 million for the nine months ended May 31, 2019. The increase is primarily attributable to inventory write downs related to right sizing inventory levels to align with our new inventory strategy, restructuring charges related to severance and asset impairment charges associated with rationalizing the warehouse footprint as part of the new plan, purchase order cancellation charges, bad debt, stock-based compensation, consulting fees and lower product sales.Other Income (Expense), netOther Income (Expense), net for the nine months ended May 31, 2020 was an expense of $1.9 million compared to income of $5.3 million for the nine months ended May 31, 2019. This was primarily due to an unfavorable change in fair value of warrant liability, which resulted in $3.4 million in income for the nine months ending May 31, 2020, as compared to $7.3 million in income for the same period in 2019. This was also attributable to an increase in expense of $0.4 million on changes in the fair value of equity investment and an increase in interest expense of $3.1 million during the nine months ended May 31, 2020.Net Loss
Loss from operations for the nine months ended May 31, 2020 was $70.4 million compared to $28.1 million for the nine months ended May 31, 2019. The increase in net loss is primarily attributable to measures taken to implement our 2020 Plan, including, inventory write downs related to right sizing inventory levels. restructuring charges related to, severance and asset impairment charges associated with rationalizing the warehouse footprint, purchase order cancellation charges and bad debt expense. The increase was also attributable to increase in interest expense, stock-based compensation, consulting fees, and lower product sales.Liquidity and Capital ResourcesAt May 31, 2020 and May 31, 2019, we had cash of $11.1 million and $12.2 million, respectively, and a working capital surplus of $41.8 million and $63.0 million, respectively.We believe that we have created oneour level of liquidity sources, which includes available borrowing under our revolving credit facility, cash on hand, funds provided by operations, adoption of the largest product libraries2020 plan and participation in available funding programs instituted by various state and federal governments in response to COVID-19 will be adequate to fund our expenditures and working capital requirements for the next 12 months.Cash Flows from Operating ActivitiesNet cash used in operating activities for the nine months ended May 31, 2020 was $20.2 million compared to $57.5 million for the nine months ended May 31, 2019. The change is primarily attributable to the reduced level of inventory consistent with our efforts to improve our inventory management process, as part of our 2020 Plan.Cash Flows from Investing ActivitiesNet cash used in investing activities for the nine months ended May 31, 2020 was $4.3 million compared to $5.4 million for the nine months ended May 31, 2019. The decrease is due to lower levels of equipment purchases, technology investments and leasehold improvements during the current fiscal year.Cash Flows from Financing ActivitiesNet cash provided by financing activities for the nine months ended May 31, 2020 was $31.7 million compared to $61.7 million for the nine months ended May 31, 2019. The decrease is attributable to the $12.3 million in net repayments on our line of credit, compared to $0.2 million in net borrowings in the cannabis industry, allowing usprior year. The change is also attributable to be a comprehensive solutions provider$1.9 million in proceeds from notes payable, compared to our customers. Our extensive knowledge of$19.9 million in proceeds from notes payable in the regulatory environment applicable to the cannabis industry allows us to quickly adapt to our customers' packaging requirements. We maintain the flexibility to enter the markets of legal regions by establishing re-distributor partnerships or opening new facilities. We also have the flexibility to introduce new products and services to our vast customer network. We have no supplier “take or pay” arrangements. In addition to these factors, we believe that we offer competitive pricing, prompt deliveries, and excellent customer service. We expect continued growth as we take measures to expand into new markets, invest in our systems and personnel, forge strategic alliances and invest in our own molds and intellectual property.prior year.
Line of Credit and Long-Term Debt
Monroe Revolving Credit Facility
Borrowers. For additional information, see Note 8 above.
On August 21, 2019, we entered into an exchange agreement (the “Exchange Agreement”) with the Investor in order to (a) amend and waive certain provisions of the Purchase Agreement and the OriginalSecond Exchange Note, and (b) exchange the OriginalSecond Exchange Note without any cash consideration for (i) a new senior note (the “New Senior Note”) for the sameThird Exchange Note
Exchange Shares. Similar to the terms of the OriginalSecond Exchange Note, the New Senior Note matures on October 30, 2020, at which time we must pay the Investor an amount in cash representing 120% of all outstanding principal, less original issue discount, plus any accrued and unpaid interest and accrued and unpaid late charges. Similar to the terms of the Original Note, the New SeniorThird Exchange Note will not bear interest except upon the occurrence of an event of default.
On November 8, 2019, we entered into a Second Exchange Agreement (“Second Exchange Agreement”) with the Investor, pursuant to which we amended the New Senior Note (the “Amended Senior Note”). Pursuant to the terms of the Amended Senior Note, the maturity date of the Amended Senior Note was extended tomature on April 29, 2021, andsubject to the aggregate principal amount of the Amended Senior Note was increasedInvestor’s right to approximately $24.0 million and the original issue discount was increased to $1.5 million. Uponextend such maturity we must pay the Investor an amount in cash representing 120% of all outstanding principal, less original issue discount, plus any accrued and unpaid interest and accrued and unpaid late charges.date. Similar to the terms of the Original Note, the Amended Senior Note will not bear interest, except upon the occurrence of an event of default.
Results
Revenue
For the three months ended November 30, 2019, our revenue increased to $35.0approximately $1.9 million compared to $25.3 million for the three months ended November 30, 2018, which represents an increase of $9.7 million, or 38%(the “PPP Loan”). The increase was primarily attributablePPP Loan bears interest at a fixed rate of 1.0% per annum, with the first six months of interest deferred, has a term of two years, and is unsecured and guaranteed by the U.S. Small Business Administration. The principal amount of the PPP Loan is subject to significant organic growth primarily in medical states, including Florida and Arizona. In addition, we achieved strong growth in CBD sales and custom branded products as customers seek differentiated brand building solutions in line with regulatory requirements.
Gross Profit
Gross profit forforgiveness under the three months ended November 30, 2019 was $7.3 million, or 21% of revenue, compared to $3.2 million, or 13% of revenue, forPaycheck Protection Program upon the three months ended November 30, 2018. The increase in gross profit percentage is due primarily to higher product sales, shipping revenues, and improved product margin. Gross profit for the prior year period was negatively impacted by one-time air freight and product quality costs that were alleviated in the prior year.
Operating Expenses
Our operating expenses for the three months ended November 30, 2019 increased to $21.1 million, or 60% of total revenue, from $11.7 million, or 46% of total revenue, for the three months ended November 30, 2018. The increase in selling, general and administrative expenseis dueCompany’s request to the expansionextent that the PPP Loan proceeds are used to pay expenses permitted by the Paycheck Protection Program, including payroll costs, covered rent and mortgage obligations, and covered utility payments incurred by the Company. The Company intends to apply for forgiveness of the business, primarily attributedPPP Loan with respect to increased compensation cost, professional fees, freight-out,these covered expenses. To the extent that all or part of the PPP Loan is not forgiven, the Company will be required to pay interest on the PPP Loan at a rate of 1.0% per annum, and facilities costs.Forcommencing in October 2020 principal and interest payments will be required through the three months ended November 30, 2018, operating expenses included a gain on disposition of assets of $1.3 million and a $0.4 million change in fair value of contingent consideration.
Loss from Operations
Loss from operations for the three months endedNovember 30, 2019 was $13.8 million compared to $8.5 million for the three months endedNovember 30, 2018. The increase is primarily attributable to our continued investment in infrastructure and personnel to help scale our business.
Other Income (Expense), net
Other Income (Expense), net for thethree months ended November 30, 2019was income of $1.3 million compared to expense of $0.1 million for thethree months ended November 30, 2018. The increase in other income is attributed to a $3.2 million gain on change in fair value of warrant liability, offset by interest expense of $1.5 million related to increased credit line capacity and a long-term note payable which was issuedmaturity date in April 2019.
Net Loss
Loss from operations2022. The terms of the PPP Loan provide for customary events of default including, among other things, payment defaults, breach of representations and warranties, and insolvency events. The PPP Loan may be accelerated upon the three months ended November 30, 2019 was $12.5 million compared to $8.6 million for the three months ended November 30, 2018. The increase is primarily attributable to our continued investment in infrastructure and personnel to help scale our business.
Liquidity and Capital Resources
AtNovember 30, 2019 and 2018, we had cashoccurrence of $14.7 million and $3.0 million, respectively, and a working capital surplusan event of $68.1 million and $25.9 million, respectively.
Cash Flows from Operating Activities
Net cash used in operating activities for the three months ended November 30, 2019 was $8.1 million compared to $15.5 million for the three months ended November 30, 2018. The change is primarily attributed to reduced level of inventory consistent with our efforts to improve our inventory management process.
Cash Flows from Investing Activities
Net cash used in investing activities for the three months ended November 30, 2019 was $1.9 million compared to $0.7 million for the three months ended November 30, 2018. The increase is primarily attributed to higher levels of equipment purchases, technology investments and leasehold improvements during the current fiscal year.
Cash Flows from Financing Activities
Net cash provided by financing activities for the three months ended November 30, 2019 was $20.8 million compared to $5.8 million for the three months ended November 30, 2018. The increase is primarily attributed to the $27.4 million of cash proceeds from the sale of common stock to investors. In addition, these cash proceeds were primarily offset by $6.5 million in net repayments on our line of credit, compared to $5.8 million in net borrowings in the prior year.
We manage our liquidity and financial position in the context of our overall business strategy. We continually forecast and manage our cash, working capital balances, and capital structure to meet the short-term and long-term obligations of our business while seeking to maintain liquidity and financial flexibility. We have historically funded our operations primarily through the cash flows generated from our operations, borrowings available under our credit facility and from proceeds from the issuance of debt and equity.
We believe that cash generated from our operations, along with the funds available through debt or equity financings, primarily for the purposes of expanding current operations, making capital acquisitions, or consummating strategic transactions are adequate to fund our financial obligations for at least the next twelve months. Additional equity or debt financing may not be available when needed, on terms favorable to us or at all.
Off-Balance Sheet Transactions
Item 3. Quantitative and Qualitative Disclosures About Market RiskWe do not use derivative financial instruments in our investment portfolio and have no foreign exchange contracts. Our financial instruments consist of cash and cash equivalents. We consider investments that, when purchased, have a remaining maturity of 90 days or less to be cash equivalents. We do not believe that a notional or hypothetical 10% change in interest rate percentages would have a material impact on the fair value of our investment portfolio.
Item 4. Controls and Procedures.Management’s Evaluation of Disclosure Controls and ProceduresThe Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Securities Exchange Act, of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to our management, including our chief executive officer (who is also the Company’s chairman, secretary and principal executive officer), and our chief financial officer (who is also the Company’s principal financial and accounting officer) to allow for timely decisions regarding required disclosure. Thus, in accordance with RulesRule 13a-15(b) under the Exchange Act, we carried out an evaluation, under the supervision and with the participation of our management, including our chief executive officer and chief financial officer, of the effectiveness of our disclosure controls and procedures as of November 30, 2019May 31, 2020, which is the end of the period covered by this Quarterly Report on Form 10-Q. Based on the evaluation of these disclosure controls and procedures, and in light of the material weaknesses found in our internal controls over financial reporting, as disclosed in our Annual Report on Form 10-K for the fiscal year ended August 31, 2019, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were not effective. The ineffectiveness of our disclosure controls and procedures was due to material weaknesses identifiedChanges in Internal Control over Financial ReportingThere has been no change in our internal control over financial reporting described below.Management Report on Internal Control Over Financial ReportingManagementthat occurred during the fiscal quarter ended May 31, 2020 that has materially affected, or is responsible for establishing and maintaining adequate internal control over the Company's financial reporting. In orderreasonably likely to evaluate the effectiveness of internal control over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act of 2002, our management, with the participation of our principal executive officer and principal financial and accounting officer have conducted an assessment, including testing, using the criteria in Internal Control – Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) (2013). Our system of internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. This assessment included review of the documentation of controls, evaluation of the design effectiveness of controls, testing of the operating effectiveness of controls and a conclusion on this evaluation. Based on this evaluation, management concluded thatmaterially affect, our internal control over financial reporting was not effective as of November 30, 2019.
We have taken steps to enhance our internal controls over financial reporting and plan to take additional steps to remediate the material weaknesses. Specifically:
Our management will continue to monitor and evaluate the effectiveness of our internal controls and procedures and our internal controls over financial reporting on an ongoing basis and is committed to taking further action and implementing additional enhancements or improvements.
Because of its inherent limitations, internal controls over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
During the period covered by this Quarterly Report on Form 10-Q, we have not been able to remediate the material weaknesses described above. Thein our Annual Report on Form 10-K for the fiscal year ended August 31, 2019. Our remediation efforts set out herein will continue to be implemented inthroughout our 2020 fiscal year. We believe that the controls that we will be implementingintend to implement will improve the effectiveness of our internal control over financial reporting. As we continue to evaluate and work to improve our internal control over financial reporting, we may determine to take additional measuressteps to address the material weaknessweaknesses or determine to supplement or modify certain of theour planned remediation measures described above.
Changes in Internal Control over Financial Reporting
There has been no change in our internal control over financial reporting identified in connection with our evaluation we conducted of the effectiveness of our internal control over financial reporting as of November 30, 2019, that occurred during our first fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
measures.PART II. OTHER INFORMATION
Item 1. Legal Proceedings.The Company may be subject to legal proceedings and claims that arise in the ordinary course of its business.During fiscal 2019, lawsuits were filed in California federal and state court by various purported shareholders against, variously, the Company, each of the current members of the Company’s Board of Directors, and certain of ourthe Company’s current and former officers, alleging, among other things, federal securities law violations and/or related breaches of fiduciary duties in connection with the Company’s April 2019 restatement of certain prior period financial statements. In general, the lawsuits assert the same or similar allegations, including that the defendants artificially inflated the Company’s securities prices by knowingly makingmaterially false and misleading statements and omissions to the investing public about the Company’s financial statements, business, operations, management, and internal controls. These lawsuits are described below.
parties.May v. KushCo Holdings, Inc., et al. Filed April 30, 2019. Case No. 8:19-cv-00798-JLS-KES, U.S. District Court for the Central District of California. This putative shareholder class action against the Company and certain of its current and former officers alleges violations of Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder, and seeks unspecified compensatory damages and other relief on behalf of a class of purchasers of the Company’s securities between July 13, 2017 and April 9, 2019, inclusive. In July 2019, purported Company shareholders filed motions for appointment of lead counsel and lead plaintiffs. In September 2019, the Court appointed co-lead plaintiffs and co-lead counsel for the plaintiffs. The lead plaintiffs’ amended complaint was filed in November 2019, and2019. In February 2020, the defendants’ responsesCompany moved to dismiss the complaint are currently due in January 2020.amended complaint. The motion is pending. The Company intends to vigorously defend itself against these claims.Salsberg v. Kovacevich, et al. Filed May 24, 2019. Case No. 8:19-cv-00998-JLS-KES, U.S. District Court for the Central District of California andNeysmith v. Baum, et al. Filed May 31, 2019. Case No. 8:19-cv-01070-JLS-KES, U.S. District Court for the Central District of California. This purported shareholder derivative action against certain current and former directors and officers alleges, among other things, breach of fiduciary duty, waste of corporate assets, and unjust enrichment. The Company is named as a nominal defendant and the plaintiff seeks, among other things, corporate governance reforms, and disgorgement of profits, benefits, and compensation obtained by the defendants from the alleged conduct, to be paid to the Company. In September 2019, the Court consolidated these cases. The parties are expected to stipulateIn December 2019, the Court ordered a stay of this action pursuant to a date by whichstipulation of the defendants must respond to the complaint. No trial date has been set.Savage vs.v. Kovacevich, et al. Filed June 14, 2019. Case No. 30-2019-01077191-CU-MC-NJC, Superior Court of California, County of Orange. This purported shareholder derivative action against certain current and former directors and officers alleges, among other things, breach of fiduciary duty, waste of corporate assets, and unjust enrichment. The Company is named as a nominal defendant and the plaintiff seeks, among other things, corporate governance reforms, and unspecified damages and restitution from the defendants, to be paid to the Company. In August 2019, the Court ordered a stay of this action pursuant to a stipulation of the parties pending resolutionparties.Bruno, et al. v. Kovacevich, et al. Filed September 26, 2019. Case No. A-19-802660-C, Eighth Judicial District Court of the State of Nevada and Majchrzak v. Kovacevich, et al. Filed October 2, 2019. Case No. A-19-902945-B, First Judicial District Court of the State of Nevada. These purported shareholder derivative actions against certain current and former directors and officers allege, among other things, breach of fiduciary duty, waste of corporate assets, and unjust enrichment. The Company is named as a nominal defendant in each action and the plaintiffs seek, among other things, equitable relief and unspecified damages from the defendants, to be paid to the Company. In May v. KushCo federal class2020, the Company accepted service of the complaints, and the plaintiffs have indicated that they intend to move to stay each action.
Item 1A. Risk Factors.The Company is subject to a number of risks similar to those of other companies of similar size and with a focus on serving the cannabis and CBD industries, including, the development of certain products, competition, a limited number of suppliers, integration of acquisitions, substantial indebtedness, disruptions in the U.S. and global economy and financial markets, including as a result of COVID-19, government regulations, protection of proprietary rights, and dependence on key individuals. If the Company does not successfully generate additional products and services, or if such products and services are developed but not successfully commercialized, the Company could lose revenue opportunities. Item 1A of Part I of Amendment No.1 to our Annual Report on Form 10-K for the fiscal year ended August 31, 2019, filed with the SEC on November 12, 2019, containsdescribes certain risk factors that could materially and adversely affect our business, financial condition and results of operations. Our operations could also be affected by additional factors that are not presently known to us or by factors that we currently consider immaterial to our business. To our knowledge, except as described below, there have been no material changes in the risk factors described in “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended August 31, 2019.The spread of the COVID-19 outbreak has caused severe disruptions in the U.S. and global economy and financial markets and could potentially create widespread business continuity issues of an as yet unknown magnitude and duration.The outbreak of COVID-19 has severely impacted global economic activity and caused significant volatility and negative pressure in the financial markets. The global impact of the outbreak has been rapidly evolving and many countries, including the United States, have reacted by instituting quarantines, mandating business and school closures and restricting travel. Many experts predict that the outbreak will trigger a period of global economic slowdown or a global recession. COVID-19 has had and could continue to have material and adverse effects on our ability to successfully operate due to, among other factors:•a general decline in business activity, especially as it relates to our customers’ expansion or consolidation activities;•the continued classification of medical and/or recreational cannabis stores and/or dispensaries as “non-essential” in some states, which has resulted in these retail outlets having to temporarily shut down or materially adjust their operations;•the destabilization of the markets, which could negatively impact our customer growth and access to capital, along with our customers’ ability to make payments for their purchase orders;•severe disruptions to and instability in the global financial markets, and deterioration in credit and financing conditions, which could affect our access to capital necessary to fund business operations or our ability to address maturing liabilities on a timely basis on favorable terms, or at all;•the potential negative impact on the health of our personnel, or the personnel of our customers, vendors, and partners, especially if a significant number of them are impacted;•our inability to ensure business continuity during a disruption;•a material disruption in our supply chain, which has affected and could continue to affect our ability to source products from vendors on a timely basis or on favorable terms;•our potential inability to execute the 2020 Plan as planned, including the consolidation of our warehouse footprint in a timely and favorable manner, or at all;.•the potential inability or delay to use judicial proceedings for in order to collect outstanding balances from our customers.The rapid development and fluidity of this situation makes it difficult to predict the full extent of the impact of COVID-19 on our business and operations. We continue to assess the impact of COVID-19 on our business.
Item 2. Unregistered Sales of Equity Securities.None.
Item 3. Default Upon Senior Securities.None.
Item 4. Mine Safety Disclosures.Not applicable.
Item 5. Other Information.None.The Company is disclosing under this Item 5 the following information otherwise disclosable in a Current Report on Form 8-K under "Item 5.03. Amendments to Articles of Incorporation or Bylaws; Change in Fiscal Year":On July 6, 2020, the Company's Board of Directors approved the Company's Amended and Restated Bylaws (the "Amended and Restated Bylaws"), effective immediately. The Amended and Restated Bylaws amend and restate in their entirety the Company's bylaws to, among other things: (i) permit meetings of stockholders to be held by remote communication, as determined by the board of directors; (ii) amend the process by which a meeting of stockholders may be adjourned; (iii) change the voting standard for matters presented for a vote of the Company’s stockholders (other than the election of directors which remains a plurality vote) from the affirmative vote of the holders of a majority of the stock having voting power present in person or represented by proxy at the meeting to the affirmative vote of a majority of the votes cast by the stockholders at the meeting and entitled to vote on the subject matter; (iv) adopt an advance notice bylaw related to stockholder proposals and nominees for election to the board of directors; and (v) make other technical amendments.The foregoing summary is subject to, and qualified in its entirety by, the full text of the Amended and Restated Bylaws, a copy of which is filed as Exhibit 3.1.1 to this Quarterly Report on Form 10-Q and is incorporated by reference into this Item 5. Additionally, a copy of the Amended and Restated Bylaws, marked to show changes to the former bylaws, are also included as Exhibit 3.1.2 hereto.
Item 6. ExhibitsThe following exhibits are filed as part of this Quarterly Report on Form 10-Q. Where such filing is made by incorporation by reference to a previously filed document, such document is identified.Exhibit Number Description of Exhibit 101.INS* XBRL Instance Document. 101.SCH* XBRL Taxonomy Extension Schema Document. 101.CAL* XBRL Taxonomy Extension Calculation Linkbase Document. 101.DEF* XBRL Taxonomy Extension Definition Linkbase Document. 101.LAB* XBRL Taxonomy Extension Labels Linkbase Document. 101.PRE* XBRL Taxonomy Extension Presentation Linkbase Document. *Filed herewith.**This certification shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, or otherwise subject to the liability of that section, nor shall it be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934.
*Filed herewith.
| Date: | By: | /s/ Nicholas Kovacevich | ||||||
| Nicholas Kovacevich | ||||||||
Chairman and Chief Executive Officer (principal executive officer) | ||||||||
| Date: July 9, 2020 | By: | /s/ Stephen Christoffersen | ||||||
| Stephen Christoffersen | ||||||||
Chief Financial Officer
| ||||||||