UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

 

For the Quarterly Period Ended: March 31,September 30, 2022

or

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) of
the Securities Exchange Act of 1934

 

For the transition period from to _______ to _______ 

 

Commission File Number: 000-22333

 

Nanophase Technologies Corporation

(Exact name of registrant as specified in its charter)

 

Delaware36-3687863
(State or other jurisdiction of(I.R.S. Employer
incorporation or organization)Identification No.)

 

1319 Marquette Drive, Romeoville, Illinois 60446

(Address of principal executive offices, and zip code)

 

Registrant’s telephone number, including area code: (630) 771-6708

 

Securities registered pursuant to Section 12(b) of the Act: None

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑  No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☑  No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “accelerated filer”, “large accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer ☐Accelerated filer ☐
  
Non-accelerated filer ☐Smaller reporting company ☑
  
 Emerging growth company ☐

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☑

 

As of May 16,November 14, 2022, there were 49,026,74149,232,163 shares outstanding of common stock, par value $.01, of the registrant.

 

 

 

 


NANOPHASE TECHNOLOGIES CORPORATION

 

QUARTER ENDED MARCH 31,SEPTEMBER 30, 2022

 

INDEX

 

   Page
PART I - FINANCIAL INFORMATION 
 Item 1.Unaudited Consolidated Condensed Financial Statements3
  Consolidated Balance Sheets (Unaudited Consolidated Condensed) as of March 31,September 30, 2022, and December 31, 20213
  Consolidated Statements of Operations (Unaudited Consolidated Condensed) for the three and nine months ended March 31,September 30, 2022, and 20214
  Consolidated Statements of Stockholders’ Equity (Unaudited Consolidated Condensed) for the three and nine months ended March 31,September 30, 2022, and 20215
  Consolidated Statements of Cash Flows (Unaudited Consolidated Condensed) for the threenine months ended March 31,September 30, 2022, and 20216
  Notes to Unaudited Consolidated Condensed Financial Statements7
 Item 2.Management’s Discussion and Analysis of Financial Condition and Results of Operations1412
 Item 3.Quantitative and Qualitative Disclosures About Market Risk1715
 Item 4.Controls and Procedures1715
  
PART II - OTHER INFORMATION1715
 Item 1.Legal Proceedings1715
 Item 1A.Risk Factors1715
 Item 2.Unregistered Sales of Equity Securities and Use of Proceeds1715
 Item 3.Defaults Upon Senior Securities1715
 Item 4.Mine Safety Disclosures1715
 Item 5.Other Information1715
 Item 6.Exhibits1716
  
SIGNATURES1817

 

PART I - FINANCIAL INFORMATION

 

Item 1.  Financial Statements

 

NANOPHASE TECHNOLOGIES CORPORATION

 

CONSOLIDATED BALANCE SHEETS

(Unaudited Consolidated Condensed)

       
  (in thousands except share
and per share data)		 
ASSETS March 31,
2022		  December 31,
2021		 
Current assets:        
Cash $897  $657 
Trade accounts receivable, less allowance for doubtful accounts of $80 for March 31, 2022, and $60 for December 31, 2021  5,274   3,937 
Inventories, net  8,559   6,095 
Prepaid expenses and other current assets  1,005   910 
Total current assets  15,735   11,599 
         
Equipment and leasehold improvements, net  4,997   4,712 
Operating leases, right of use  11,718   12,075 
Other assets, net  7   8 
Total assets $32,457  $28,394 
LIABILITIES AND SHAREHOLDERS’ EQUITY        
Current liabilities:        
Line of credit, related party  3,709   1,351 
Current portion of finance lease obligations  70   105 
Current portion of operating lease obligations  890   589 
Accounts payable  4,953   3,566 
Current portion of deferred revenue  848   783 
Accrued expenses  961   946 
Total current liabilities  11,431   7,340 
         
Long-term portion of finance lease obligations  4   6 
Long-term portion of operating lease obligations  11,389   11,700 
Long-term debt, related party  1,000   1,000 
Long-term portion of deferred revenue  661   661 
Asset retirement obligations  224   222 
Total long-term liabilities  13,278   13,589 
         
Contingent liabilities  —   — 
Shareholders’ equity:        
         
Preferred stock, $.01 par value, 24,088 shares authorized, and 0 shares issued and outstanding  —   — 
Common stock, $.01 par value, 60,000,000 shares authorized; 49,026,741 and 48,893,573 shares issued and outstanding on March 31, 2022 and December 31, 2021, respectively  490   489 
Additional paid-in capital  104,643   104,423 
Accumulated deficit  (97,385)  (97,447)
Total Shareholders’ equity  7,748   7,465 

Total liabilities and shareholders’ equity

 $32,457  $28,394 

         
  (in thousands except share
and per share data)		 
ASSETS September 30,
2022		  December 31,
2021		 
Current assets:        
Cash $510  $657 
Trade accounts receivable, less allowance for doubtful accounts of $301 for September 30, 2022, and $60 for December 31, 2021  5,368   3,937 
Inventories, net  9,596   6,095 
Prepaid expenses and other current assets  979   910 
Total current assets  16,453   11,599 
         
Equipment and leasehold improvements, net  6,535   4,712 
Operating leases, right of use  11,056   12,075 
Other assets, net  6   8 
Total assets $34,050  $28,394 
LIABILITIES AND SHAREHOLDERS’ EQUITY        
Current liabilities:        
Line of credit, related party $5,358  $1,351 
Current portion of finance lease obligations  11   105 
Current portion of operating lease obligations  1,182   589 
Accounts payable  5,396   3,566 
Current portion of deferred revenue  800   783 
Accrued expenses  1,347   946 
Total current liabilities  14,094   7,340 
         
Long-term portion of finance lease obligations  —   6 
Long-term portion of operating lease obligations  10,740   11,700 
Long-term debt, related party  1,000   1,000 
Long-term portion of deferred revenue  569   661 
Asset retirement obligations  228   222 
Total long-term liabilities  12,537   13,589 
         
Contingent liabilities  —   — 
         
Shareholders’ equity:        
Preferred stock, $.01 par value, 24,088 shares authorized, and no shares issued and outstanding  —   — 
Common stock, $.01 par value, 60,000,000 and 55,000,000 shares authorized; 49,216,180 and 48,893,573 shares issued and outstanding on September 30, 2022 and December 31, 2021, respectively  492   489 
Additional paid-in capital  105,012   104,423 
Accumulated deficit  (98,085)  (97,447)
Total Shareholders’ equity  7,419   7,465 
Total liabilities and shareholders’ equity $34,050  $28,394 

See Notes to Consolidated Condensed Financial Statements.Statements

 


NANOPHASE TECHNOLOGIES CORPORATION

 

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited Consolidated Condensed)

 

(in thousands except share and per share data)

 

                  
 Three months ended March 31,  Three months ended
September 30,		 Nine months ended
September 30,		 
 2022  2021  2022 2021 2022 2021 
 (in thousands except share and
per share data)		          
Revenue:              
Product revenue $8,046  $7,050  $9,673 $7,896 $28,515 $21,971 
Other revenue  110   22   5  28  541  139 
Total revenue  8,156   7,072  9,678 7,924 29,056 22,110 
                 
Operating expense:         
Cost of revenue  5,988   5,042   7,185  4,946  21,659  14,588 
Gross profit  2,168   2,030  2,493 2,978 7,397 7,522 
                 
Operating expense:        
Research and development expense  666   499  848 635 2,310 1,670 
Selling, general and administrative expense  1,397   1,034   2,279  942  5,493  2,994 
Income from operations  105   497 
(Loss) income from operations  (634)   1,401  (406)   2,858 
Interest expense  43   139  116 38 232 1,096 
Other income, net  —   (952)  —  —  —  (952)
Income before provision for income taxes  62   1,310 
(Loss) income before provision for income taxes  (750)   1,363  (638)   2,714 
Provision for income taxes  —   —   —  —  —  — 
Net (loss) income $(750)  $1,363 $(638)  $2,714 
                 
Net income $62  $1,310 
        
Net income per share-basic $0.00  $0.03 
Net (loss) income per basic share $(0.02) $0.03 $(0.01) $0.06 
                 
Weighted average number of basic common shares outstanding  48,984,312   38,221,292   49,174,673  48,566,431  49,068,709  43,756,300 
                 
Net income per share-diluted $0.00  $0.03 
Net (loss) income per diluted share $(0.02) $0.03 $(0.01) $0.06 
                 
Weighted average number of diluted common shares outstanding  51,064,312   39,811,292   49,174,673  50,728,431  49,068,709  45,726,300 

See Notes to Consolidated Condensed Financial Statements.Statements

 


4

NANOPHASE TECHNOLOGIES CORPORATION

 

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(Unaudited Consolidated Condensed)

                          
  Preferred Stock  Common Stock  Additional
Paid-in		  Accumulated    
Description Shares  Amount  Shares  Amount  Capital  Deficit  Total 
Balance on December 31, 2020  —  $—   38,221,292  $382  $102,117  $(99,767) $2,732 
Stock-based compensation  —   —   —   —   42   —   42 
Net income for the three months ended March 31, 2021  —   —   —   —   —   1,310   1,310 
Balance on March 31, 2021  —  $—   38,221,292  $382  $102,159  $(98,457) $4,084 
                             
Stock option exercises  —   —   143,500   2   76   —   78 
Exercise of conversion rights – convertible loan, related party  —   —   10,095,555   101   1,918   —   2,019 
Stock-based compensation  —   —   —   —   53   —   53 
Net income for the three months ended June 30, 2021  —   —   —   —   —   41   41 
Balance on June 30, 2021  —  $—   48,460,347  $485  $104,206  $(98,416) $6,275 
                             
Issuance of shares and stock option exercises  —   —   265,126  $2  $72  $—  $74 
Stock-based compensation  —   —   —   —   29   —   29 
Net income for the three months ended September 30, 2021  —   —   —   —   —   1,363   1,363 
Balance on September 30, 2021  —  $—   48,725,473  $487  $104,307  $(97,053)  $7,741 
                             
Balance on December 31, 2021  —  $—   48,893,573  $489  $104,423  $(97,447) $7,465 
Issuance of shares and stock option exercises  —   —   133,168   1   72   —   73 
Stock-based compensation  —   —   —   —   148   —   148 
  Net income for the three months ended March 31, 2022  —   —   —   —   —   62   62 
Balance on March 31, 2022  —  $—   49,026,741  $490  $104,643  $(97,385) $7,748 
                             
Issuance of shares and stock option exercises  —   —   110,289   1   33   —   34 
Stock-based compensation  —   —   —   —   155   —   155 
Net income for the three months ended June 30, 2022  —   —   —   —   —   50   50 
Balance on June 30, 2022  —   —   49,137,030  $491  $104,831  $(97,335) $7,987 
                             
Issuance of shares and stock option exercises  —   —   79,150   1   31   —   32 
Stock-based compensation  —   —   —   —   150   —   150 
Net loss for the three months ended September 30, 2022  —   —   —   —   —   (750)  (750)
Balance on September 30, 2022  —  $—   49,216,180  $492  $105,012  $(98,085)  $7,419 

                        
  Preferred Stock  Common Stock  Additional       
              Paid-in  Accumulated    
Description Shares  Amount  Shares  Amount  Capital  Deficit  Total 
Balance on December 31, 2020  —  $—   38,221,292  $382  $102,117  $(99,767) $2,732 
Stock-based compensation  —   —   —   —   42   —   42 
Net income for the three months ended March 31, 2021  —   —   —   —   —   1,310   1,310 
Balance on March 31, 2021  —  $—   38,221,292  $382  $102,159  $(98,457) $4,084 
                             
Balance on December 31, 2021  —  $—   48,893,573  $489  $104,423  $(97,447) $7,465 
Issuance of shares and stock option exercises  —   —   133,168   1   72   —   73 
Stock-based compensation  —   —   —   —   148   —   148 
Net income for the three months ended March 31, 2022  —   —   —   —   —   62   62 
Balance on March 31, 2022  —  $—   49,026,741  $490   104,643  $(97,385) $7,748 

See Notes to Consolidated Condensed Financial Statements.

 

5


NANOPHASE TECHNOLOGIES CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited Consolidated Condensed)

       
  Three months ended March 31, 
  2022  2021 
  (in thousands) 
Operating activities:        
Net income $62  $1,310 
Adjustments to reconcile net income to cash used in operating activities:        
Depreciation and amortization  136   101 
Share-based compensation  148   42 
Gain on PPP loan forgiveness  —   (952)
Amortization of debt discount  —   67 
Changes in assets and liabilities related to operations:        
Trade accounts receivable  (1,337)  (896)
Inventories  (2,464)  (661)
Prepaid expenses and other assets  (94)  (47)
Accounts payable  1,347   253 
Accrued expenses  15   571 
Deferred revenue  65   84 
Other long-term assets and liabilities  347   (9)
Net cash used in operating activities  (1,775)  (137)
         
Investing activities:        
Acquisition of equipment and leasehold improvements  (378)  (166)
Net cash used in investing activities  (378)  (166)
         
Financing activities:        
Principal payments on finance leases  (38)  (46)
Proceeds from line of credit, bank  —   500 
Payments to the line of credit, bank  —   (500)
Proceeds from line of credit, related party  8,125   6,500 
         
Payments to line of credit, related party  (5,767)  (5,289)
Payments from exercise of stock options  73   — 
Net cash provided by financing activities  2,393   1,165 
Increase in cash and cash equivalents  240   862 
Cash and cash equivalents at beginning of period  657   957 
Cash and cash equivalents at end of period $897  $1,819 
         
Supplemental cash flow information:        
Interest paid $27  $51 
         
Supplemental non-cash investing and financing activities:        
Accounts payable incurred for the purchase of equipment and leasehold improvements $40  $69 

         
  Nine months ended September 30, 
  2022  2021 
  (in thousands) 
Operating activities:        
Net (loss) income $(638)  $2,714 
Adjustments to reconcile net (loss) income to cash (used in) provided by operating activities:        
Depreciation and amortization  413   328 
Share-based compensation  453   124 
Gain on PPP loan forgiveness  —   (952)
Amortization of operating lease, right of use asset  946   306 
Amortization of debt discount  —   903 
Changes in assets and liabilities related to operations:        
Trade accounts receivable  (1,431)  (1,791)
Inventories  (3,501)  (1,988)
Prepaid expenses and other assets  (69)  (91)
Accounts payable  1,398   282 
Accrued expenses  401   791 
Deferred revenue  (75)   (23) 
Operating lease obligations  (294)  (334)
Net cash (used in) provided by operating activities  (2,397)  269 
         
Investing activities:        
Acquisition of equipment and leasehold improvements  (1,798)  (1,445)
Net cash used in investing activities  (1,798)  (1,445)
         
Financing activities:        
Principal payments on finance leases  (100)  (139)
Proceeds from line of credit, bank  —   500 
Payments to the line of credit, bank  —   (1,000)
Proceeds from line of credit, related party  25,075   19,525 
Payments to line of credit, related party  (21,068)   (17,939)
Proceeds from term loan, related party  —   500 
         
Proceeds from exercise of stock options  141   152 
Net cash provided by financing activities  4,048   1,599 
(Decrease) Increase in cash and cash equivalents  (147)   423 
Cash and cash equivalents at beginning of period  657   957 
Cash and cash equivalents at end of period $510  $1,380 
         
Supplemental cash flow information:        
Interest paid $232  $178 
         
Supplemental non-cash investing and financing activities:        
Accounts payable incurred for the purchase of equipment and leasehold improvements $432  $28 
Conversion of $2M convertible loan, related party $—  $2,000 
Interest paid via stock issuance, convertible loan, related party $—  $19 
Early termination of operating lease $73   — 

See Notes to Consolidated Condensed Financial Statements.

 

6


 

NANOPHASE TECHNOLOGIES CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited Consolidated Condensed)

(in thousands, except share and per share data or as otherwise noted herein)

 

(1) Basis of Presentation

 

The accompanying unaudited consolidated condensed interim financial statements of Nanophase Technologies Corporation (“Nanophase”, “Company”, “we”, “our”, or “us”) reflect all adjustments (consisting of normal recurring adjustments) which, in the opinion of management, are necessary for a fair statement of our financial position and operating results for the interim periods presented. All statements include the results from both Nanophase and our wholly-owned subsidiary, Solésence, LLC (“Solésence,” or our “Solésence® subsidiary”). Operating results for the threenine months ended March 31,September 30, 2022 are not necessarily indicative of the results that may be expected for the year ending December 31, 2022.

 

These financial statements should be read in conjunction with our audited financial statements and notes thereto for the year ended December 31, 2021, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021 as filed with the Securities and Exchange Commission.

Certain balances on the September 30, 2021 statement of cash flows have been reclassified to conform to September 30, 2022 presentation. The disaggregation on the statement of cash flows had no impact on net income or balance sheet. 

 

(2) Description of Business

 

Nanophase Technologies Corporation (“Nanophase,” “Company,” “we,” “our,” or “us”) is a science-driven company which, along with its wholly owned subsidiary, Solésence, LLC (our “Solésence beauty science subsidiary”), is focused in various beauty- and life-science markets.  Using consumer health as our end-goal and science and innovation to guide the path, skin health and medical diagnostics combined currently make up the great majority of our business and drive our forward growth strategy.  We offer engineered materials, formulation development and commercial manufacturing through an integrated family of technologies. Our expertise in materials engineering allows us to effectively coat and disperse particles on a nano and “non-nano” scale for use in a variety of skin health markets, including for use in sunscreens as active ingredients and as fully developed prestige skin care and cosmetics products, marketed and sold through our Solésence beauty science subsidiary.  In terms of our life sciences focus, we have seen current conditionsdemand significantly increase demanddecrease for our medical diagnostics ingredients as testing for various viruses, most notably COVID-19, has become a critical use of our technology.during 2022. Additionally, we continue to sell products in legacy markets, including architectural coatings, industrial coating applications, abrasion-resistant additives, plastics additives, and surface finishing technologies (polishing) applications, all of which, along with medical diagnostics, fall into the advanced materials product category.   

 

We target markets, primarily related to skin health products and ingredients, as well as diagnostic life sciences ingredients where we believe our materials and products offer practical and competitive minerals-based solutions. We traditionally work closely with current customers in these target markets to identify their material and performance requirements. We market our materials to various end-use applications manufacturers, and our Solésence® products to cosmetics and skin care brands.

 

Recently developed technologies have made certain new products possible and opened potential new markets. During 2015 we were granted a patent on a new type of particle surface treatment (coating) — now called Active Stress Defense ™ Technology — which became the cornerstone of our new product development in personal care, with first revenue recognized during 2016. Active Stress Defense™ now refers to a suite of three proprietary technologies — Original Active Stress Defense™, Kleair™, and Bloom™ — all three of which either utilize a unique and proprietary, mineral-based technology or work synergistically with one of our unique and proprietary, mineral-based technologies to improve performance and/or aesthetics. Our ongoing innovation efforts include new IP in areas that advance environmental protection, align with market needs, and complement our existing technologies Through the creation of our Solésence beauty science subsidiary, we utilize our technology suite to manufacture and sell fully developed solutions to targeted customers in the skin care industry, typically in prestige skin care and cosmetics markets, in addition to the ingredients we have traditionally sold in the personal care area. 

 

Although our primary strategic focus has been the North American market, we currently sell materials to customers overseas and have been working to expand our reach within foreign markets. Our common stock trades on the OTCQB marketplace under the symbol NANX.  

 

While product sales comprise the majority of our revenue, we also recognize revenue from other sources from time to time. These activities are not expected to drive the long-term growth of the business. For this reason, we classify such revenue as “other revenue” in our Consolidated Statements of Operations, as it does not represent revenue directly from the sale of our products. 

 

(3) Revenues

 

Revenues are recognized when control of the promised goods is transferred to customers, in an amount that reflects the consideration we expect to receive in exchange for those goods. When our ingredients and finished products are shipped, with control being transferred at the shipping point almost universally, is the point in time at which we recognize the related revenue.

 

We generally expense sales commissions when incurred because the amortization period would have been one year or less. These costs are recorded within selling, general and administrative expenses. Customers’ deposits, deferred revenue and other receipts are deferred and recognized when the revenue is realized and earned. Cash payments to customers are classified as reductions of revenue in our statements of operations.

 

7

Contract balances at MarchSeptember 30, 2022, December 31, 20222021, and December 31, 20212020 are as follows:

 

  Accounts Receivable  Contract Assets  Contract    Liabilities  Accounts
Receivable		 Contract
Assets		 Contract
Liabilities		 
Balance, December 31, 2020 $2,932 $179 $411 
Balance, December 31, 2021   $3,937  $179  $1,444  3,937 179 1,444 
Balance, March 31, 2022   5,274   229   1,509 
Balance, September 30, 2022 5,368 179 1,369 


The contract asset balance at MarchSeptember 30, 2022, December 31, 20222021, and December 31, 2020 consists of $50 of unbilled receivables and $179 of other contract assets reported within prepaid expenses and other current assets. The contract asset balance at December 31, 2021 consists of $179 of contract assets reported within prepaid expenses and other current assets.

 

Revenue recognized in the reporting period that was included in the contract liability balance at the beginning of the period was $123295 and $14220, for the three months ended March 31,September 30, 2022 and 2021, respectively, and $507 and $264 for the nine months ended September 30, 2022 and 2021, respectively.

 

Other revenue may include revenue from technology license fees and paid development projects. Technology license fees and paid development projects are recognized over time when the obligations under the agreed upon contractual arrangements are performed on our part.  Other revenue recognized over time was $1105 and $2228, for the three months ended March 31,September 30, 2022 and 2021, respectively, and $191 and $139 for the nine months ended September 30, 2022 and 2021, respectively. There was no other revenue recognized at a point in time for the three months ended September 30, 2022 and 2021. Other revenue recognized at a point in time was $350 and $0 for the nine months ended September 30, 2022 and 2021 respectively.

 

(4) Earnings Per Share

 

Options to purchase approximately 2,080,0001,871,000 and 1,901,000 shares of common stock that were outstanding as of March 31,September 30, 2022 but were not included in the computation of earnings per share for the three months and nine months ended March 31, 2022.September 30, 2022, respectively as it would be been anti-dilutive due to the losses. Options to purchase approximately 1,590,0002,162,000 and 1,970,000 shares of common stock that were outstanding as of March 31,September 30, 2021 were included in the computation of earnings per share for the three months and nine months ended March 31, 2021.September 30, 2021, respectively.

 

Earnings applicable to common stock and common stock shares used in the calculation of basic and diluted earnings per share are as follows:

 

            
       Three months ended
September 30,		 Nine months ended
September 30,		 
 Three months ended March 31,  2022 2021 2022 2021 
 2022  

2021

          
Numerator: (in Thousands)              
Net income $62  $1,310 
Net (loss) income $(750)  $1,363 $(638)  $2,714 
                 
Denominator:                 
Weighted average number of basic common shares outstanding  48,984,312   38,221,292 
Weighted average number of basic shares outstanding 49,174,673 48,566,431 49,068,709 43,756,300 
Weighted average additional shares assuming conversion of in-the-money stock options to common shares  2,080,000   1,590,000   0  2,162,000  0  1,970,000 
Weighted average number of diluted common shares outstanding  51,064,312   39,811,292   49,174,673  50,728,431  49,068,709  45,726,300 
                 
Basic earnings per common share:                 
Net income per share – basic $0.00  $0.03 
Net (loss) income per share – basic $(0.02) $0.03 $(0.01) $0.06 
Diluted earnings per common share:                 
Net income per share – diluted $0.00  $0.03 
Net (loss) income per share – diluted $(0.02) $0.03 $(0.01) $0.06 

(5) Financial Instruments

 

We follow ASC Topic 820, Fair Value Measurements and Disclosures, which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The fair value framework requires the categorization of assets and liabilities into three levels based upon the assumptions (inputs) used to price the assets or liabilities. Level 1 provides the most reliable measure of fair value, whereas Level 3 generally requires significant management judgment.

 

 Our financial instruments include cash, any cash equivalents, accounts receivable, accounts payable and accrued expenses, along with any short term and long-term borrowings as described in Note 6. There were 0no financial instruments adjusted to fair value on March 31,September 30, 2022 and December 31, 2021.

 

(6) Notes and Lines of Credit

 

 Notes and lines of credit consist of the following:

    As of March 31, 2022 As of December 31, 2021
  Rate Available Outstanding Balance Available Outstanding Balance
Strandler, LLC (1)  4.00%  1,000   1,000   n/a   n/a 
Beachcorp, LLC (1)  5.25%  n/a   n/a   1,000   1,000 
Beachcorp, LLC (2)  4.00%  4,972   3,709   3,753   3,365 

 

    As of September 30, 2022  As of December 31, 2021 
  Rate Total Borrowing Capacity  Outstanding Borrowed Balance  Total Borrowing Capacity  Outstanding Borrowed Balance 
Strandler, LLC (1) 4.00% $1,000  $1,000   n/a   n/a 
Beachcorp, LLC (1) 5.25%  n/a   n/a  $1,000  $1,000 
Beachcorp, LLC (2) 5.50%  4,561   3,358   3,753   3,365 
Beachcorp, LLC (3) 5.50%  4,000   3,000   n/a   n/a 

 


Related party interest summary:

 

           
       Three months ended
September 30,		 Nine months ended
September 30,		 
 Three Months Ended March 31,  2022 2021 2022 2021 
 2022  2021          
Interest expense, related parties $39  $131  $111 $49 $218 $1,091 
Accrued interest expense, related parties  16  $36  39 17 39 17 


1)On January 28, 2022 the Company entered into an additional Business Loan Agreement (the “New Term Loan Agreement”) with Strandler, LLC, which effectively transferred or assigned the previously existing Term Loan to Strandler, LLC from Beachcorp, LLC. Interest on the New Term Loan is at the prime rate plus 0.75%0.75%, and it matures on March 31, 2024.2024. Strandler, LLC is also an affiliate of Bradford T. Whitmore.

 

2)On January 28, 2022 the Company entered into an Amended and Restated Business Loan Agreement (the “A&R Loan Agreement”), which amends and restates the Master Agreement between the Company and Beachcorp, LLC, and a new promissory note in order to evidence the A/R Revolver facility, including an amendment to expand the limit on the A/R Revolver Facility from $6,000 $6,000 to $8,000,$8,000, reduce the interest rate to the prime rate plus 0.75%0.75%, and extend the maturity of the A/R Revolver Facilityfacility to March 31, 2024.2024.

 

On January 28, 2022 the Company entered into the A&R Loan Agreement and a new revolving loan agreement (“Inventory Facility”) with Beachcorp, LLC, and a new promissory note in order to evidence the Inventory Facility. The maximum borrowing amount under the Inventory Facility is $4,000, with a borrowing base consisting of up to 50% of the value of qualified inventory of the Company. The interest rate for the Inventory Revolver is at the prime rate plus 0.75%, and it matures on March 31, 2024. The Company is finalizing the documentation for this loan and, as such, has yet to draw any funds from it.

9

3)On January 28, 2022, in connection with the A&R Loan Agreement, the Company entered into a new promissory note in order to evidence the Inventory Revolver facility, allowing borrowing of up to $4,000, at an amount equivalent to 50% of eligible inventory, as defined. The interest rate on the Inventory Revolver is set to the prime rate plus 0.75%. The Inventory Revolver facility matures March 31, 2024.

 

Beachcorp, LLC and Strandler, LLC are affiliates of Mr. Bradford T. Whitmore, who beneficially owns a majority of the Company’s common stock and is the brother of Ms. R. Janet Whitmore, a director of the Company and the chair of the Company’s board of directors. The A/R Revolver Facility, the Inventory Facility and the New Term Loan are all secured by all the unencumbered assets of the Company and subordinated to the Company’s letters of credit facility with Libertyville Bank & Trust. 

Since July 2014, we have maintained a bank-issued letter of credit for up to $30$30 in borrowings to support our obligations under our Romeoville, Illinois facility lease agreement. No borrowings have been incurred under this promissory note. On December 21, 2021, Libertyville issued a letter of credit for up to $500$500 in borrowings to support our obligations under our newly leased manufacturing and warehouse space in Bolingbrook, Illinois. For both letters of credit, interest on drawn balances will be at the prime rate plus 1%1%. We expect to renew these agreements annually, as the respective leases require. These letters of credit are secured by all the unencumbered assets of the Company, and have superior collateral rights to those credit facilities with Beachcorp, LLC and Strandler, LLC. Because there were no amounts outstanding on either letter of credit at any time during 2022 or 2021, we have recorded no related liability on our balance sheet.

 

(7) Inventories

 

Inventories consist of the following:

 

  March 31,
2022		  December 31,
2021		 
       
Raw materials $6,385  $4,819 
Finished goods  2,374   1,682 
Inventories, gross  8,759   6,501 
Allowance for excess inventory quantities  (200)  (406)
Inventories, net $8,559  $6,095 
  September 30,
2022		  December 31,
2021		 
       
Raw materials $6,940  $4,796 
Finished goods  2,656   1,299 
Total inventories, net $9,596  $6,095 

 

 

(8) Leases

 

The Company’s operating lease portfolio is comprised of operating leases for office, warehouse space and equipment. Certain of the Company’s leases include one or more options to renew or terminate the lease at the Company’s discretion. The Company regularly evaluates the renewal and termination options and when they are reasonably certain of exercise, includes the renewal or termination option in our lease term. During the first seven months of the term of our newly leased building, we have subleased a portion of the unused floorspace on a temporary basis. This sublease may converthas converted to a month-to-month lease upon expiration.as of June 30, 2022.

 

As of March 31,September 30, 2022, the ROU asset had a balance of $11,71811,056, which is included in the “Operating lease right-of-use assets” line item of these consolidated financial statements and current and non-current lease liabilities related to the ROU asset of $8901,182 and $11,38910,740, respectively.  As of December 31, 2021, the ROU asset had a balance of $12,075 which is included in the “Operating lease right-of-use assets” line item of these consolidated financial statements. The Company has reclassified a portion of the current ROU liability to non-current as of December 31, 2021, to be consistent with the classifications adopted for the quarter ended March 31, 2022. This reclassification resulted instatements and current and non-current lease liabilities related to the ROU asset of $589and $11,700, respectively, as of December 31, 2021.  These amounts are included in the “Current portion of operating lease obligations” and “Long-term portion of operating lease obligations” line items of these consolidated financial statements.respectively. The discount rates used for leases accounted for under ASC 842 are based on an interest rate yield curve developed for the leases in the Company’s portfolio.

 

The office leases contain variable lease payments which consist primarily of rent escalations based on an established index or rate and taxes, insurance, and common area or other maintenance costs, which are paid based on actual costs incurred by the lessor. Additionally, the Company subleases space within its Bolingbrook, IL facility for which the term ends June 30, 2022. As of the date of filing the tenant has neither renewed the sublease nor expressed an intent to do so.

 

Quantitative information regarding the Company’s leases is as follows:

                 
  Three months ended
September 30,		  Nine months ended
September 30,		 
  2022  2021  2022  2021 
Components of lease cost                
Finance lease cost components:                
Amortization of finance lease assets $8  $13  $30  $41 
Interest on finance lease liabilities  1   4   4   15 
Total finance lease costs $9  $17  $34  $56 
Operating lease cost components:                
Operating lease cost  377   144   1,115   434 
Variable lease cost  152   31   484   91 
Short-term lease cost  33   11   83   32 
Sublease income  (125)  —   (492)  — 
Total operating lease costs  437   186   1,190   557 
Total lease cost $446  $203  $1,224  $613 

 

  Three Months Ended March 31, 2022  Three Months Ended March 31, 2021 
Components of lease cost        
Finance lease cost components:        
Amortization of finance lease assets $11  $14 
Interest on finance lease liabilities  2   6 
Total finance lease costs  13   20 
Operating lease cost components:        
Operating lease cost  363   144 
Variable lease cost  172   31 
Short-term lease cost  21   10 
Sublease income  (183)  — 
Total operating lease costs  373   185 
Total lease cost $386  $205 


Supplemental cash flow information related to leases is as follows for the threenine months ended March 31,September 30, 2022 and 2021:

 

 2022  2021  2022 2021 
Cash paid for amounts included in the measurement of lease liabilities:             
Operating cash outflow from operating leases $190  $183  $468 $554 
             
Weighted-average remaining lease term-finance leases (in years)  0.6   1.3  0.2 0.9 
Weighted-average remaining lease term-operating leases (in years)  9.3   3.1  9.0 3.2 
Weighted-average discount rate-finance leases  7.6%  10.1% 7.6% 9.3%
Weighted-average discount rate-operating leases  7.5%  14.2% 7.5% 14.1%

The future maturities of the Company’s finance and operating leases as of March 31,September 30, 2022 are as follows:

 

  Finance
Leases		 Operating
Leases		 Total  Finance
Leases		 Operating
Leases		 Total 
2022  $70  $1,267  $1,337  $6  $490  $496 
2023   6   2,099   2,105   6   2,050   2,056 
2024   0   2,025   2,025   —   2,025   2,025 
2025   —   1,470   1,470   —   1,470   1,470 
2026   —   1,468   1,468   —   1,468   1,468 
Thereafter   —   8,668   8,668   —   8,668   8,668 
Total payments  $76  $16,997  $17,073  $12  $16,171  $16,183 
Less amounts representing interest   (2)  (4,719)  (4,721)  (1)  (4,249)  (4,250)
Total minimum payments required  $74  $12,278  $12,352  $    11  $11,922  $11,933 

The future maturities of the Company’s finance and operating leases as of March 31,September 30, 2021 were as follows:

 

  Finance
Leases		 Operating
Leases		 Total  Finance
Leases		 Operating
Leases		 Total 
2021  $144  $559  $703  $47  $187  $234 
2022   109   761   870   109   761   870 
2023   5   747   752   6   747   753 
2024   —   636   636   —   636   636 
2025   —   42   42   —   43   43 
Thereafter   —   2   2   —   2   2 
Total payments  $258  $2,747  $3,005  $162  $2,376  $2,538 
Less amounts representing interest   (17)  (614)  (631)  (8)  (470)  (478)
Total minimum payments required  $241  $2,133  $2,374  $154  $1,906  $2,060 

 

(9) Share-Based Compensation

 

We follow ASC Topic 718, Share-Based Payments, in which compensation expense is recognized only for share-based payments expected to vest. 

         
  

Three months ended

March 31,

 
  2022  2021 
Share-based compensation expense $148  $42 
Remaining unrecognized compensation expense $1,567     
Remaining weighted average-period, expense recognition (years)  2.7     

The following table summarizes the option activity for our employees and directors during the three months ended March 31, 2022:

     Weighted 
     Average 
    Exercise Price 
Options Shares  per Share 
Outstanding on January 1, 2022  3,193,216  $1.18 
         
Granted  80,000  $3.65 
Exercised  (120,516)    
Forfeited or expired  (12,000)    
         
Outstanding on March 31, 2022  3,140,700  $1.26 


(10)(9) Significant Customers and Contingencies

 

OurWe had five significant customers are as follows for the periods ending March 31,three and nine months ended September 30, 2022 and 2021:2021, respectively. Revenue from these five customers constituted the following percentages of total revenue:

 

     
   For the three months ended March 31,  Three months ended
September 30,		 Nine months ended
September 30,		 
Customer #  Product Category 2022  2021  Product Category 2022 2021 2022 2021 
1  Personal Care Ingredients  29%  20% Personal Care Ingredients 30% 27% 30% 24%
2  Solésence®  18%  17% Solésence® 19% 21% 16% 16%
3  Solésence®  13%  10% Solésence® 18% 17% 17% 17%
4  Solésence®  9%  24% Solésence® 6% 7% 6% 13%
5  Advanced Materials (Medical Diagnostics customer)  —  15% Advanced Materials (Medical Diagnostics customer) 4% 5% 1% 10%
  Total  69%  86% Total  77%  77%  70%  80%


10

 

AccountsFor the nine months ended September 30, accounts receivable balances for these five customers were approximately:

 

   For the three months ended March 31,  September 30, September 30, 
Customer #  Product Category 2022  2021  Product Category 2022  2021  
1  Personal Care Ingredients $1,489  $812  Personal Care Ingredients $943 $817 
2  Solésence®  880   476  Solésence® 1,717 1,604 
3  Solésence®  1,050   875  Solésence® 439 470 
4  Solésence®  371   837  Solésence® 189 314 
5  Advanced Materials (Medical Diagnostics customer)  —   855  Advanced Materials (Medical Diagnostics customer)  248  382 
  Total $3,790  $3,855  Total $3,536 $3,587 

We currently have exclusive supply agreements with BASF Corporation (“BASF”), our largest customer, that have contingencies outlined which could potentially result in the license of technology and/or the sale of production equipment from the Company to the customer intended to provide capacity sufficient to meet the customer’s production needs. This outcome may occur if we fail to meet certain performance requirements. Our supply agreements with BASF also “trigger” a technology transfer right in the event of our insolvency, as further defined within the agreements. In the event of an equipment sale, upon incurring a triggering event, the equipment would be sold to the customer at either 115% of the equipment’s net book value or the greater of 30% of the original book value of such equipment, and any associated upgrades to it, or 115% of the equipment’s net book value, depending on the equipment and related products.

 

If a triggering event were to occur and BASF elected to proceed with the license and related equipment sale mentioned above, we would receive royalty payments from this customer for products sold using our technology; however, we would lose both significant revenue and the ability to generate significant revenue to replace that which was lost in the near term. Replacement of necessary equipment that could be purchased and removed by the customer pursuant to this triggering event could take in excess of twelve months. Any additional capital outlays required to rebuild capacity would probably be greater than the proceeds from the purchase of the assets as dictated by our agreement with the customer. Similar consequences would occur if we were determined to have materially breached certain other provisions of the supply agreement with BASF. Any such event would also likely result in the loss of many of our key staff and line employees due to economic realities. We believe that our employees are a critical component of our success, and it could be difficult to replace them quickly. Given the occurrence of any such event, we might not be able to hire and retain skilled employees given the stigma relating to such an event and its impact on us.

 

12

 (11)(10) Business Segmentation and Geographical Distribution

 

Revenue from international sources approximated $55495 and $1,285 955for the three and nine months ended March 31,September 30, 2022, respectively, compared to $585and $3,008 for the three and nine months ended September 30, 2021, respectively. All of this revenue was product revenue.  

 

Our operations comprise a single business segment and all of our long-lived assets are located within the United States. We categorize our revenue stream into three main product categories, Personal Care Ingredients, Advanced Materials and Solésence. The revenues, by category, for the three and nine months ended March 31,September 30, 2022 and 2021 are as follows:

 

 

Three months ended

March 31,

  Three months ended
September 30,		 Nine months ended
September 30,		 
Product Category 2022  2021  2022 2021 2022 2021 
Solésence $5,560  $4,299  $5,932 $4,571 $18,591 $13,369 
Personal Care Ingredients  2,382   1,395  2,903 2,171 8,589 5,347 
Advanced Materials  214   1,378   843  1,182  1,876  3,394 
Total Sales $8,156  $7,072  $9,678 $7,924 $29,056 $22,110 

(11) General Loss Contingencies

 

On August 9, 2022, BASF filed a complaint against Nanophase in New Jersey state court, alleging that Nanophase had breached the Zinc Oxide Supply Agreement (the “Agreement”). BASF alleges several issues, the one having the biggest potential impact on Nanophase being a claim that our sales through Solésence violate the exclusivity provision of the Agreement. BASF seeks an unspecified amount of damages, a permanent injunction enjoining sales to any party (other than BASF) of a broad range of zinc oxide products that BASF contends are within the scope of the exclusivity provision, counsel fees and litigation expenses. On September 7, 2022, Nanophase filed a Complaint for Declaratory Judgement in Illinois state court, asking for a declaration that contrary to BASF’s allegation, the exclusivity provision of the Agreement does not apply to all products containing zinc oxide as an ingredient for uses designated under the Agreement, nor does the exclusivity provision prohibit Nanophase’s sales of Solésence products containing zinc oxide as an ingredient. Both companies have filed Motions to Dismiss (MTD) the other’s respective complaint. Nanophase’s MTD of BASF’s New Jersey complaint currently is the first scheduled hearing expected to be in March 2023. Management believes at this time that the allegations of BASF’s complaint are without merit and are unsupported by the terms of the Agreement and governing law. For the period ending September 30, 2022, an estimated contingent loss was not recorded, and an estimated range of loss is not available.

(12) Cyber Theft Event

Nanophase was a victim of a cyber theft event in September and October. This resulted in a loss of $188 recognized in the third quarter and a $472 loss being recognized subsequent to quarter end.


Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Overview

 

Nanophase is a health-oriented, science-driven company, which, along with its wholly owned subsidiary, Solésence, LLC (our “Solésence beauty science subsidiary”), is focused in various beauty- and life-science markets. Our primary skin health products are fully developed prestige skin care formulations with mineral-based UV protection, marketed and sold through our Solésence beauty science subsidiary, enabled by our proprietary Active Pharmaceutical Ingredients (“APIs”) which are also marketed as APIs for sale to manufacturers of other types of skin health products, including sunscreens and daily care products.  In terms of the balance of our life sciences focus, we have seen current conditions significantly increase demand for our medical diagnostics ingredients, which are used in testing for various viruses, most notably COVID-19.  Additionally, we continue to sell products in legacy markets including architectural coatings, industrial coating applications, abrasion-resistant additives, plastics additives, and surface finishing technologies (polishing) applications— all of which, along with medical diagnostics, currently fall into the advanced materials product category.  

 

 Leveraging a platform of integrated patented and proprietary technologies, we create products with unique performance to enhance end-consumers’ health and well-being. We offer soup-to-nuts production, from engineered materials, formulation development, and finished product development, to commercial manufacturing and packaging capabilities. Our expertise in materials engineering allows us to effectively coat and disperse materials on a nano and “non-nano” scale for use in a variety of markets in skin health, including for use in sunscreens as APIs and as fully developed prestige skin care products, marketed and sold through our Solésence beauty science subsidiary.  We believe that we have developed technological advantages with respect to our APIs sold for use as ingredients, while our Solésence beauty science technologies lead to enhanced efficacy and aesthetics in our finished products, which have received broad acceptance in the marketplace. Due to the enhanced efficacy and aesthetic qualities offered by our proprietary technology platform, Solésence finished products satisfy growing consumer demands around “clean” and inclusive beauty. Solésence beauty science also benefits from the Company’s vertical integration with each product’s key active ingredient that delivers its point-of-difference. This vertical integration helps us to improve efficiency and avoid potential major supply chain challenges while also addressing ongoing sustainability efforts.  

GivenWe do not anticipate any supply disruptions directly related to the Russian invasion of Ukraine we do not anticipate any directly related supply disruptions as we do not knowingly source any materials directly from either country.

 

WeSince mid-2020, we have seen recent conditions significantly increaseincreases in demand for our medical diagnostics materials. Polymerase Chain Reaction (“PCR”) testing for various viruses, most notably SARS-CoV-2 (“COVID-19”), has become a critical use of our technology in the life science space. WhileAfter a historic peak in volume during 2020, we saw reduced demand for these materials in 2021, it2021. It is difficult to predict whether the increased demand for our medical diagnostic materials used in COVID-19 testing will expand from 2021 levels over the next few years. Our expectation is that we may establish a new sales volume “floor” over the next few years as we continue through the unprecedented period of testing utilization and awareness of the way viruses impact all of us. We believe that our deep expertise in materials science has created advantages that enable performance in certain tests that may not be achievable through other materials. Outside of life science, we continue to sell advanced materials for use in legacy applications, all of which, along with medical diagnostics, currently fall into the advanced materials product category. 

 

Given our technological position, in addition to the historical market acceptance of our APIs for use in skin health products and sunscreens, rapidly growing sales for our suite of Solésence® finished products, and the expanded use of our diagnostic materials in aiding the fight to curb the spread of COVID-19 and other viruses, in 2021 we announced that we reoriented our Company strategy. We continue to see unprecedented demand in both beauty science and life science areas. The markets for both have shown an appetite for what we are producing, and management believes that this growth is happening now due to a confluence of our technology, market conditions that favor what we produce, and our expanded expertise in these areas.  

 

Nanophase, and Solésence, isare now focusing our combined business-, ingredient-, and product-development capabilities on products with unique performance that enhance consumers’ wellbeing through beauty science and life science applications — in skin health and medical diagnostics, respectively. While we will continue to produce and sell materials to our other advanced materials customers, it is not our strategic focus. We may develop additional technologies, or find unique applications outside of our core markets in the future, but to maximize the use of our resources today, we plan on expanding efforts in areas where we have proven we can deliver innovation and growth.

 

Results of Operations

 

Total revenue increased to $8,156$9,678 for the three months ended March 31,September 30, 2022, compared to $7,072$7,924 for the same period in 2021. Total revenue increased to $29,056 for the nine months ended September 30, 2022, compared to $22,110 for the same period in 2021. A substantial majority of our revenue was from our four- and five largest customers for the three monthsthree- and nine-month periods ended March 31,September, 2022, and 2021, respectively. This reflects sales of APIs to our largest customer in skin care and sunscreen applications, our three largest customers for our finished skin health products marketed through our Solésence subsidiary, and, during the threethree- and nine months ended March 31,September 30, 2021, a medical diagnostics customer.  This isPlease see Note 10 in the revenueFinancial Statements, “Business Segmentation and Geographical Distribution,” for a breakdown as a percentage of total revenue from the five customers referenced:discussed above.

 

     For the three months ended March 31 
Customer #  Product Category 2022  2021 
1  Personal Care Ingredients  29%  20%
2  Solésence®  18%  17%
3  Solésence®  13%  10%
4  Solésence®  9%  24%
5  Medical Diagnostics  0%  15%
            
   Total  69%  86%

Product revenue, the primary component of our total revenue, increased to $8,046$9,673 for the three months ended March 31,September 30, 2022, compared to $7,050$7,896 during the same period of 2021. This2021, and increased to $28,515 for the nine months ended September 30, 2022, compared to $21,971 during the same period of 2021.This increase was due to continued growth in the adoption of our Solésence® products, along with an increase in API sales to our largest customer in our personal care ingredients business. We saw a significant three-month decrease in ourlittle revenue from medical diagnostics materials.materials in 2022.  

14

 

Other revenue decreased to $5 and increased to $110$541 for the three monthsthree- and nine-month periods ended March 31,September 30, 2022, compared to $22$28 and $139 for 2021.the same periods in 2021, respectively. Other revenue is typically comprised primarily of developmental or licensing fees. 


 

Cost of revenue generally includes costs associated with commercial production and customer development arrangements.  Cost of revenue increased to $5,988$7,185 for the three months ended three months ended March 31,September 30, 2022, compared to $5,042$4,946 for the same period in 2021, and increased to $21,659 for the nine months ended September 30, 2022, compared to $14,558 for the same period in 2021.  The increase in cost of revenue was primarily driven by increased volume and price inflation on materials and manufacturing inefficiencies related to growing Solésence® product launches.demand. We are also using overtime to keep up with demand during a period where we have had difficulty hiring additional experienced labor. We have also been unable to complete a series of capital and engineering projects to increase efficiencies and reduce unit costs due to the near complete absorption of our internal engineering resources in addressing current demand. Additionally, during the second half of 2021, we added personnel in the supply chain function and incurred costs to rent temporary warehouse space.  Whilespace, which represents an ongoing expense in to the third quarter of 2022.  To a lesser extent, costs have increased as we have added resources, both consultative and permanent as we address inventory and supply chain control. Lastly, while we typically pass-through costs to our customers, we sometimes cannot pass through 100% of pricing increases on raw materials, and even with pass throughs,pass-throughs, our gross margin percentage is negatively impacted by higher material costs. In total, these factors have resulted in a significant reduction in our gross margin percentage. We believe this to be temporary, in light of current circumstances which we believe we will be able to address effectively during the balance of 2022 and during the first half of 2023.

 

Our business has a certain cyclicality of demand, often based upon seasonal demands, industry launch cycles, or a confluence of both. Our lack of burst capacity has created strains, in terms of people and costs, when new product launches occur at the same time that we are experiencing demand from previously launched products. Since late 2020, the Company has found itself in a situation where our ability to produce and ship materials has been exceeded by customer demand. It is a key area of focus to increase throughput first, followed quickly by increased cost efficiency once we can achieve greater scale. Our planning has had us adding to our current fixed manufacturing cost structure in early 2022 to accommodate additional growth, and to build a better base for further growth beyond that level. The extent to which margins grow, as a percentage of total revenue, will be dependent upon revenue mix, revenue volume, our ability to cut costs and pass commodity market-driven raw materials increases on to customers, and the speed and efficiency with which we are able to scale up production for our Solésence products. We expect that, as product revenue volume increases, our fixed manufacturing costs will be more efficiently absorbed, which should lead to increased margins as we grow. While additional production capacity is our most critical operational issue today, we expect to continue to focus on reducing controllable variable product manufacturing costs, with potential variability related to the commodity metals markets, but may or may not realize significant percentage growth in our gross margins through 2022, and in to the first half of 2023, depending upon the factors discussed above.

 

Research and development expense, which includes all expenses relating to the technology and advanced engineering groups, primarily consists of costs associated with the development or acquisition of new finished product formulations for skin care, new product applications for our skin care ingredients, advancement of our medical diagnostics ingredient knowledge, and the cost of enhancing our manufacturing processes. As an example, we are currently focusing the bulk of our resources on developing new product formulations, and related new technologies, as we expand marketing and sales efforts relating to our Solésence products. This work has led to several new products and additional potential new products. Our efforts in research and development, cosmetic formulating, process engineering and advanced engineering groups are focused in three major areas: 1) application development for our products; 2) creating or obtaining additional core materials technologies and/or materials that have the capability to serve multiple skin health-related markets; and 3) continuing to improve our core technologies to improve manufacturing operations and reduce costs.

 

Research and development expense increased to $666$848 for the three months ended three months March 31,September 30, 2022, compared to $499$635 for the same period in 2021. For the nine months ended September 30, 2022 research and development expense increased to $2,310, compared to $1,670 for the same period in 2021. Most of this increase was due to expanded staffing to aid in supporting new product development for current and future customers. Management expects research and development expense to increase at a slower rate during the balance of 2022 to support continued revenue- and customer-expansion.

 

Selling, general and administrative expense increased to $1,397$2,279 for the three months ended March 31,September 30, 2022, compared to $1,034$942 for the same period in 2021. For the nine months ended September 30, 2022, selling, general and administrative expense increased to $5,493, compared to $2,994 for the same period in 2021. We have added to our Sales, Marketing, and Business Development team during 2021, and more significantly during the first quarterhalf of 2022. This was done to ready the Company to support expanded, and expected expanding, sales with a higher degree of customer service. We have also augmented our sales operations function, marketing, and new business development to stimulate additional growth. Additionally, compensation expense has also increased generally, beginning in the second half of 2021 through the current period due to wage inflation. We expect this trend to moderate to an extent in 2022. We also saw many of our business insurance costs increase during April, 2022, when several coverages were renewed. We recognized $230 in bad debt expense during the third quarter of 2022, which has been a relatively rare occurrence in the past. Much of this has been a function of our expansion, along with market conditions. Lastly, in June we accrued for a one-time consulting expense of approximately $180 relating to our application for an Employee Retention Credit. This expense, once paid, will be recoverable ratably to the extent any portion of the requested credit is disallowed. Management expects to receive this credit in the fourth quarter of 2022 or first quarter of 2023, but has elected not to reflect any of this gain in our financial statements until it is realized.

 

Inflation

 

We believe inflation has not had a material effectan incremental impact on our costs of operations orand financial position to date. However, supplier price increases and wage and benefit inflation, both of which represent a significant component of our costs of operations, will likely have a material effect on our operations and financial position in 2022 and beyond2023 if we are unable to pass through any applicable increases under our present contracts or through to our markets in general. We have begun to increase pricing where possible during 2022 to date, and are in the process of adjustingcontinuing to adjust our pricing to the extent supported by the markets we are in, and under the contractsany contract limitations we may have.

 

Liquidity and Capital Resources

 

Cash, cash proceeds and use of cash for the three months ended MarchSeptember 30, 2022, 2021, and year ended December 31, 2021 were:

 

  

Three months ended

March 31, 2022

  

Three months ended

March 31, 2021

  

Year ended

December 31, 2021

 
Total cash $897  $1,819  $657 
Cash provided by (used in) operating activities  (1,775)  (137)  2,321 
Net cash used in investing activities  (378)  (166)  (1,874)
Net cash provided by (used in) financing activities  (2,393)  1,165   (747)
  Nine months ended
 September 30, 2022		  Nine months ended 
September 30, 2021 		  Year ended
December 31, 2021 		 
Total cash $510  $1,380  $657 
Cash (used in) provided by operating activities  (2,397)  269   2,321 
Net cash (used in) investing activities  (1,798)  (1,445)  (1,874)
Net cash (used in) provided by financing activities  4,048   1,599   (747)


The net cash used during the threenine months ended March 31,September 30, 2022 was primarily a due to the expansion of accounts receivable, a function of our growth, and inventories. Management continues to followhas followed a strategy thus far in 2022 to ameliorate supply chain risk to a degree by ordering raw materials and components further in advance than we typically have in theto lessen the impact of delays and shortages brought on by competition for limited resources as the global economy responds both to additional demand and shipping difficulties created by several factors, including a shortage of labor in the United States. It is our expectation that this will not continue indefinitely, and that our cash position will benefit when a more “normal” supply chain situation returns. We are currently focused on reducing raw material quantities on hand where possible, and this will remain an area of increased management focus. Net cash used in investing activities was attributable to expenditures on capital equipment for all periods presented above.  

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On January 28, 2022, the Company and Beachcorp, LLC, and Strandler, LLC entered in to an Amended and Restated Master Agreement (“Agreement”). Both entities are managed by Bradford T. Whitmore, who is a significant shareholder in Nanophase and, as such, these loans are classified as related party transactions. Under this Agreement, and amended agreements governed by this Agreement, the Company now has a $1,000 term loan with Strandler, LLC, which was fully drawn in January 2022, with the proceeds used to retire the previously existing $1,000 term loan with Beachcorp. The new term loan expires on March 31, 2024, and has a fixed interest rate of 4.00%, representing the Prime rate plus 0.75% as of the new Agreement date. Under this Agreement, the Company amended its existing accounts receivable-based revolving loan (“A/R Revolver”) to carry a floating interest rate of Prime plus 0.75%, with an increased borrowing cap of $8,000, and an expiration of March 31, 2024. The Company drew funds from the A/R Facility in January of 2022. Further under this Agreement, the Company entered into an additional revolving loan agreement based on the Company’s inventory balances (the “Inventory Facility”). No funds were drawn on this facility prior to March 31, 2022. The Company drew funds from the Inventory Facility in May of 2022. This facility will have access ofallow the Company to borrow up to $4,000 in total, based on the terms of additional funding, borrowedthe loan. All borrowing will be at a floating rate of Prime plus 0.75%, with a March 31, 2024 expiration. We also maintain letters of credit through Libertyville Bank & Trust. These loanscredit facilities are more fully described in Note 6 to our Financial Statements in Part I, Item 1 of this Form 10-Q.   

 

Our actual future capital requirements in 2022 and beyond will depend on many factors, including customer acceptance of our current and potential finished Solésence  products, APIs sold as ingredients in to the skin health markets, medical diagnostics ingredients, and other engineered materials, applications, and products, continued progress in research and development activities and product testing programs, the magnitude of these activities and programs, and the costs necessary to increase and expand our manufacturing capabilities and to market and sell these products and ingredients. Other important issues that will drive future capital requirements will be the development of new markets and new customers as well as the potential for significant unplanned growth with existing customers. Depending on the success of certain projects, and conditions within the markets supplying labor and materials for capital equipment, we expect that capital spending relating to currently known capital needs for 2022 and 2023 will be between $3.5$4 million and $7$14 million, to be funded by profit from operations, our existing loans and lines of credit, and possible new debt financing. If those projects are delayed or ultimately prove unsuccessful, or if we fail to be able to support the additional cost of funding them in the near term, we expect our capital expenditures may fall below the lower end of the range. Similarly, substantial success in business development projects may cause the actual 2022 and 2023 capital investment to exceed the top of this range.

 

We havehad federal net operating loss carryforwards for tax purposes of approximately $62 million on December 31, 2021. Because the Company may experience “ownership changes” within the meaning of the U.S. Internal Revenue Code (“IRC”) in connection with any future equity offerings, future utilization of this carryforward may be subject to certain limitations as defined by the IRC. If not utilized, $57 million of this loss carryforward will expire between 2022 and 2037. Given changes to the IRC, net operating loss carryforwards generated after January 1, 2018 do not expire, therefore, $5 million in net operating losses generated since January 1, 2018 do not expire. We have Illinois net loss deduction carryforwards for tax purposes of approximately $21 million on December 31, 2021. Due to the provisions of Illinois Public Act 102-0669 signed November 16, 2021, Illinois net loss deductions expire between 2029 and 2039.

 

Off-Balance Sheet Arrangements

 

We have not created, and are not party to, any special-purpose or off-balance sheet entities for the purposes of raising capital, incurring debt or operating our business. We do not have any off-balance sheet arrangements or relationships with entities that are not consolidated into our financial statements that are reasonably likely to materially affect our liquidity or the availability of capital resources.

 

Safe Harbor Provision

 

We want to provide investors with more meaningful and useful information. As a result, this Quarterly Report on Form 10-Q (the “Form 10-Q”) contains and incorporates by reference certain “forward-looking statements”, as defined in Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). These statements reflect our current expectations of the future results of our operations, performance, and achievements. Forward-looking statements are covered under the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. We have tried, wherever possible, to identify these statements by using words such as “anticipates”, “believes”, “estimates”, “expects”, “plans”, “intends” and similar expressions. These statements reflect management’s current beliefs and are based on information now available to it. Accordingly, these statements are subject to certain risks, uncertainties and contingencies that could cause our actual results, performance, or achievements in 2022 and beyond to differ materially from those expressed in, or implied by, such statements. These risks, uncertainties and factors include, without limitation: our ability to be consistently profitable despite the losses we have incurred since our incorporation; a decision by a customer to cancel a purchase order or supply agreement in light of our dependence on a limited number of key customers; the terms of our supply agreements with BASF which could trigger a requirement to transfer technology and/or sell equipment to that customer; our potential inability to obtain working capital when needed on acceptable terms or at all; our ability to obtain materials at costs we can pass through to our customers, including Rare Earth elements, specifically cerium oxide, as well as high purity zinc; uncertain demand for, and acceptance of, our Solésence products, and our advanced materials; our manufacturing capacity and product mix flexibility in light of customer demand; our limited marketing experience, including with our suite of Solésence products; changes in development and distribution relationships; the impact of competitive products and technologies; our dependence on patents and protection of proprietary information; our ability to maintain an appropriate electronic trading venue for our securities; the impact of any potential new governmental regulations, especially any new governmental regulations focusing on the processing, handling, storage or sale of nanomaterials, that could be difficult to respond to or costly to comply with; business interruptions due to unexpected events or public health crises, including viral pandemics such as COVID-19; and the resolution of litigation or other legal proceedings in which we may become involved. In addition, our forward-looking statements could be affected by general industry and market conditions and growth rates. Readers of this Quarterly Report on Form 10-Q should not place undue reliance on any forward-looking statements. Except as required by federal securities laws, we undertake no obligation to update or revise these forward-looking statements to reflect new events or uncertainties.

 

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Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Not required for a smaller reporting company.

 

Item 4. Controls and Procedures

 

Disclosure controls

 

We are responsible for establishing and maintaining disclosure controls and procedures that are designed to ensure that information required to be disclosed by us in the reports filed by us under the Exchange Act is: (a) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms; and (b) accumulated and communicated to our management, including our principal executive and principal financial officers, to allow timely decisions regarding required disclosures. It should be noted that in designing and evaluating our disclosure controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and that our management necessarily was required to apply its judgment regarding the design of our disclosure controls and procedures. As of the end of the period covered by this report, we conducted an evaluation, under the supervision (and with the participation) of our management, including our Chief Executive Officer Chief Financial Officer, and Chief OperatingFinancial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rules 13a-15(e) and 15d-15(e) of the Exchange Act. Based on that evaluation, other than the previously identified material weakness discussed below, our Chief Executive Officer and Chief Financial Officer (which roles are currently filled by the same person), and Chief Operating Officer have concluded that as a resultour disclosure controls and procedures were effective at reaching that level of the material weakness, as of the end of the period covered by this Quarterly Report on Form 10-Q, our Disclosure Controls were not effective.reasonable assurance. Management identified a material weakness in the way the Company tracked and accounted for its inventory at December 31, 2021, as disclosed in our 10-K, filed on March 31, 2022. Controls were not effectively designed, documented, and maintained to verify that the existence of all inventories subject to physical inventory counts were correctly counted, and our process for compiling and communicating inventory data to ensure accurate reporting in our financial statements was not effective, including inadequate verification for completeness and accuracy of key reports used to review and monitor inventory balances. A consequence of this was that the process of conducting a full physical inventory required an inordinate amount of time to establish an accurate valuation. We are still in the process of remediating this control issue.issue, and believe that, while incomplete, we have made significant progress since March 31, 2022. Notwithstanding such material weakness in internal control over inventory, our management concluded that our consolidated financial statements in this Quarterly Report on Form 10-Q present fairly, in all material respects, the Company’s financial position, results of operations and cash flows as of the dates, and for the periods presented, in conformity with U.S. generally accepted accounting principles (“U.S. GAAP”).

 

Internal control over financial reporting

 

The Company’s management, including the CEO (who is also currently acting as both the Company’s principal executive officer and the Company’s principal financial officer), confirm that there was no change in the Company’s internal control over financial reporting during the period covered by this report that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

PART II – OTHER INFORMATION

 

Item 1.  Legal Proceedings

 

We are not a party to any pending legal proceedings or claims that we believe will result in a material adverse effect on our business, financial condition, or operating results. 

On August 31, 2022, counsel for Nanophase Technologies Corporation (“Nanophase”) received a letter from lawyers representing BASF Corporation (“BASF”) stating that BASF had filed a complaint against Nanophase in the Superior Court of New Jersey (“SCNJ”) on August 9, 2022 (the “New Jersey Complaint”) and that Nanophase’s registered agent for service of process had been served with the New Jersey Complaint on August 11, 2022. The August 31, 2022 letter from BASF’s lawyers was Nanophase’s first notice of the New Jersey Complaint, which Nanophase thereafter obtained from the New Jersey court.

The New Jersey Complaint claims that Nanophase breached the Zinc Oxide Supply Agreement dated as of September 16, 1999 between Nanophase and BASF, as assignee, as amended through January 1, 2019 (the “Agreement”). The New Jersey Complaint specifically alleges that Nanophase breached the exclusivity provision of the Agreement by selling zinc oxide to entities other than BASF, including sales to Nanophase’s subsidiary Solésence, LLC (“Solésence”), in markets designated as being in the field of use (the “Field”) under the Agreement. The New Jersey Complaint also relatedly alleges that Nanophase breached the capacity and inventory provisions of the Agreement. In addition, the New Jersey Complaint alleges claims for unjust enrichment and violation of the duty of good faith and fair dealing. The New Jersey Complaint seeks an unspecified amount of damages, a permanent injunction, counsel fees, and litigation expenses. The New Jersey Complaint is not seeking termination of the Agreement.

Management believes that the allegations of BASF’s New Jersey Complaint are without merit and are unsupported by the terms of the Agreement and governing law. On September 8, 2022, Nanophase filed a Motion to Dismiss (“MTD”) the New Jersey Complaint with the SCNJ, arguing that BASF’s claims in its New Jersey Complaint are not supported by the terms of the Agreement. All briefing on the MTD was completed on October 8, 2022. Our expectation, presuming a negotiated commercial situation is not reached beforehand, is that the SCNJ will hold a hearing on the MTD in March 2023.

On September 7, 2022, Nanophase filed a Complaint for Declaratory Judgment against BASF in the Circuit Court of Cook County, Illinois (the “Illinois Complaint”). The Illinois Complaint asks the court to declare that contrary to BASF’s views, the exclusivity provision of the Agreement does not apply to all products containing zinc oxide as an ingredient for uses designated under the Agreement nor does the exclusivity provision prohibit Nanophase’s sales of Solésence products containing zinc oxide as an ingredient.

Given our view, we have decided that it is not appropriate to record a contingent liability relating to these actions at this time

Nanophase intends to continue negotiating with BASF in good faith to resolve these issues. In the event that an acceptable solution is not reached, and litigation proceeds, the ultimate resolution cannot now be determined with certainty. However, management believes that Nanophase will ultimately prevail under the terms of the Agreement and governing law.

 

Item 1A. Risk Factors

 

Not required for a smaller reporting company.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

None

 

Item 3. Defaults Upon Senior Securities

 

None.

 

Item 4. Mine Safety Disclosures

 

Not applicable.     

 

Item 5. Other Information

 

None.  

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Item 6. Exhibits

 

 Exhibit 31.1Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Exchange Act.
   
 Exhibit 31.2Certification of Principal Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Exchange Act.
   
 Exhibit 32Certification of the Chief Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350.
   
 Exhibit 101The following materials from Nanophase Technologies Corporation’s Quarterly Report on Form 10-Q for the quarter ended March 31,September 30, 2022, formatted in XBRL (Extensible Business Reporting Language): (1) the Balance Sheets, (2) the Statements of Operations, (3) the Statements of Shareholders Equity, (4) the Statements of Cash Flows, and (5) the Notes to Unaudited Consolidated Condensed Financial Statements.


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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 
NANOPHASE TECHNOLOGIES CORPORATION
    
Date: May 16,November 14, 2022 By:/s/ JESS A. JANKOWSKI
   Jess A. Jankowski
   President and Chief Executive Officer
   (principal executive officer, and principal financial officer)

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