Introduction and Certain Cautionary Statements
As used in this Quarterly Report, unless the context requires otherwise, references to the "Company," "we," "us," and "our" refer to SG Blocks, Inc. and its subsidiaries. The following discussion and analysis of the financial condition and results of our operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes and schedules included elsewhere in this Quarterly Report on Form 10-Q and with our audited condensed consolidated financial statements and notes for the year ended December 31, 2020, which were included in our Annual Report on Form 10-K for the year then ended December 31, 2020, as filed with the Securities and Exchange Commission (the "SEC") on April 15, 2021 and Amendment No. 1 thereto filed with the SEC on April 30, 2021 (the "2020 Form 10-K"). This discussion, particularly information with respect to our future operations, includes forward-looking statements that involve risks and uncertainties as described under the heading "Special note regarding forward-looking statements" in this Quarterly Report on Form10-Q. You should review the disclosure under the heading "Risk Factors" in this Quarterly Report on Form 10-Q and under Part I, Item IA of the 2020 Form 10-K for a discussion for important factors that could cause our actual results to differ materially from those anticipated in these forward-looking statements.
Special note regarding forward-looking statements
This Quarterly Report on Form-10Q contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those discussed in the forward-looking statements. The statements contained in this report that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Statements contained in this Quarterly Report on Form 10-Q may use forward-looking terminology, such as "anticipates," "believes," "could," "would," "estimates," "may," "might," "plan," "expect," "intend," "should," "will," or other variations on these terms or their negatives. All statements other than statements of historical facts are statements that could potentially be forward-looking. We caution that forward-looking statements involve risks and uncertainties and actual results could differ materially from those expressed or implied in these forward-looking statements or could affect the extent to which a particular objective, projection, estimate or prediction is realized. Factors that could cause or contribute to such differences include, but are not limited to: general economic, political and financial conditions, both in the United States and internationally; our ability to obtain additional financing on acceptable terms, if at all, or to obtain additional capital in other ways; our ability to increase sales, generate income, effectively manage our growth and realize our backlog; competition in the markets in which we operate, including the consolidation of our industry, our ability to expand into and compete in new geographic markets and our ability to compete by protecting our proprietary manufacturing process; a disruption or cybersecurity breach in our or third-party suppliers' information technology systems; our ability to adapt our products and services to industry standards and consumer preferences and obtain general market acceptance of our products; supply chain problems, including product shortages and the availability of raw materials, and potential loss of relationships with key vendors, suppliers or subcontractors; the seasonality of the construction industry in general, and the commercial and residential construction markets in particular; a disruption or limited availability with our third party transportation vendors; the loss or potential loss of any significant customers; exposure to product liability, including the possibility that our liability for estimated warranties may be inadequate, and various other claims and litigation; our ability to attract and retain key employees; our ability to attract private investment for sales of product; the credit risk from our customers and our customers' ability to obtaining third-party financing if and as needed; an impairment of goodwill; the impact of federal, state and local regulations, including changes to international trade and tariff policies, and the impact of any failure of any person acting on our behalf to comply with applicable regulations and guidelines; costs incurred relating to current and future legal proceedings or investigations; the cost of compliance with environmental, health and safety laws and other local building regulations; our ability to utilize our net operating loss carryforwards and the impact of changes in the United States' tax rules and regulations; dangers inherent in our operations, such as natural or man-made disruptions to our facilities and project sites, the impact of COVID-19, and related government “shelter-in-place” mandates and other restrictions on business and commercial activity and the adequacy of our insurance coverage; our ability to comply with the requirements of being a public company; fluctuations in the price of our common stock, including decreases in price due to sales of significant amounts of stock; potential dilution of the ownership of our current stockholders due to, among other things, public offerings or private placements by us or issuances upon the exercise of outstanding options or warrants and the vesting of restricted stock units; the ability of our principal stockholders, management and directors to potentially exert control due to their ownership interest; any ability to pay dividends in the future; potential negative reports by securities or industry analysts regarding our business or the construction industry in general; Delaware law provisions discouraging, delaying or preventing a merger or acquisition at a premium price; our ability to remain listed on the Nasdaq Capital Market; our classification as a smaller reporting company resulting in, among other things, a potential reduction in active trading of our common stock or increased volatility in our stock price; and any factors discussed in "Part II - Item 1A. Risk Factors" to this Quarterly Report on Form 10-Q as well as the Risk Factors set forth in Part I, Item 1A of our 2020 Form 10-K as amended by the Amendment No. 1 thereto, and other filings with the Securities Exchange Commission. Readers are cautioned not to place undue reliance on forward-looking statements. Forward-looking statements speak only as of the date of this report. The Company will not undertake to update any forward-looking statement herein or that may be made from time to time on behalf of the Company.
Overview
Using our proprietary technology and design and engineering expertise, we modify code-engineered cargo shipping containers and purpose-built modules for use for safe and sustainable commercial, industrial and residential building construction. Rather than consuming new steel and lumber, our proprietary technology and design and engineering expertise allows for the redesign, repurpose and conversion of heavy-gauge steel cargo shipping containers into SGBlocks™, which are safe green building blocks for commercial, industrial, and residential building construction.
Our business model originally was a project-based construction model pursuant to which we were responsible for the design, construction and sale of finished products that incorporated our technology to customers throughout the United States primarily in the multi-family housing, restaurant, military and education industries. From October 2019 to June 2021, our business model for residential building construction became a royalty-fee model established under a five-year exclusive license with CPF MF 2019-1 LLC (“CPF”) pursuant to which CPF received an exclusive license for our proprietary technology for residential use, including, without limitation, single-family residences and multi-family residences, but specifically excluding military housing. Our Ridge Avenue Project, a residential housing project in Atlanta, was also excluded from the license to CPF. In June 2021, we terminated the license to CPF and recommenced our original project-based business model pursuant to which we design, construct and sell finished products to customers throughout the United States.
In April 2020, we expanded our product offerings and began focusing on the medical projects when we entered into the COVID-19 diagnostic market through the distribution of COVID-19 diagnostic tests. We have subsequently entered into additional collaborations for the distribution of diagnostic tests as well as collaborations for the use of our modular technology for the building of medical test centers that include COVID-19 testing. During 2020, we entered into a joint venture, and have begun, to provide clinical lab testing, as well as test kit sales related to a separate distributer agreement.
In September 2020, we acquired substantially all the assets of Echo, a Texas limited liability company, except for Echo's real estate holdings for which we obtained a right of first refusal, which we subsequently exercised on February 24, 2021. Echo is a container/modular manufacturer based in Durant, Oklahoma specializing in the design and construction of permanent modular and temporary modular buildings and was one of our key supply chain partners. Echo catered to the military, education, administration facilities, healthcare, government, commercial and residential customers. This acquisition has allowed us to expand our reach for our Modules and offers us an opportunity to vertically integrate a large portion of our cost of goods sold, as well as increase margins, productivity and efficiency in the areas of design, estimating, manufacturing and delivery.
Recent Business Developments
On July 14, 2021, SG DevCorp entered into a Real Estate Lien Note, dated July 14, 2021, in the principal amount of $2,000,000 (the “Short-Term Note”), secured by a Deed of Trust, dated July 14, 2021, on its 50+ acre Lake Travis project site in Lago Vista, Texas and a related Assignment of Leases and Rents, dated July 8, 2021, for net loan proceeds of $1,958,233 after fees. The Short-Term Note has a term of one (1) year, provides for payments of interest only at a rate of twelve percent (12%) per annum and may be prepaid without penalty commencing nine (9) months after its issuance date. If the Short-Term Note is prepaid prior to nine (9) months after its issuance date, a 0.5% prepayment penalty is due. SG DevCorp intends to use the proceeds of the Short-Term Note for its development projects.
On October 27, 2021, pursuant to the terms of a Securities Purchase Agreement (the “Purchase Agreement”) that we entered into on October 25, 2021 with an institutional investor (the “Purchaser”),we received approximately $11.55 million in gross proceeds and we sold to the Purchaser (A) in a registered direct offering (i) 975,000 shares (the “Public Shares”) of its Common Stock, par value $0.01 per share (the “Common Stock”), and (ii) pre-funded warrants (the “Pre-Funded Warrants”) to purchase up to 2,189,384 shares (the “Pre-Funded Warrant Shares”) of Common Stock and (B) in a concurrent private placement, Series A warrants to purchase up to 1,898,630 shares (the “Common Stock Warrant Shares”) of Common Stock (the “Common Stock Warrants,” and together with the Public Shares and the Pre-Funded Warrants, the “Securities”) (the “Offering The Pre-Funded Warrants were immediately exercisable at a nominal exercise price of $0.001 and all Pre-Funded Warrants sold have been exercised. The Common Stock Warrants have an exercise price of $4.80 per share, are exercisable upon issuance and will expire five years from the date of issuance.
On October 28, 2021, SG Echo LLC (“SG Echo”), a subsidiary of ours entered into a ten year Lease Agreement (the “Lease”) with May Properties, LLC, to lease an approximately 56,775 square foot facility located at 101 Waldron Road in Durant Oklahoma (the “Premises”)initially at a monthly base rent for the Premises will start at $15,991.63 which will increase at the rate of two percent (2%) on an annual basis up to a maximum monthly base rent of $19,111.47 . The date on which SG Echo will become responsible for paying rent under the Lease (the “Lease Commencement Date”) will be the earlier of (i) the date SG Echo begins to operate its business on the Premises or (ii) ninety (90) days after October 28, 2021. The Lease also grants SG Echo an option to purchase the Premises. Pursuant to a Guaranty Agreement, dated October 28, 2021 (the “Guaranty”), SG Echo’s obligations under the Lease have been guaranteed by us. In connection with the Lease, SG Echo entered into a Loan Agreement (“Loan Agreement”) with the Durant Industrial Authority (the “Authority”) pursuant to which it received $750,000 to be used for improvements on the Premises and issued to the Authority a non-interest bearing Forgivable Promissory Note in the principal amount of $750,000 (the “ Forgivable Note”). The Forgivable Note is due on April 29, 2029 and guaranteed by us, provided, if no event of default has occurred under the Forgivable Note or Loan Agreement, one-third (1/3) of the balance of the Forgivable Note will be forgiven on April 29, 2027, one-half (1/2) of the balance of the Forgivable Note will be forgiven on April 29, 2028, and the remainder of the balance of the Forgivable Note will be forgiven on April 29, 2029. The Loan Agreement includes a covenant by SG Echo to employ a minimum of 75 full-time employees in Durant Oklahoma and pay them no less than 1.5 times the federal minimum wage, and provides SG Echo 24 months to comply with the provision.
Results of Operations
Our operations for the nine months ended September 30, 2021 and 2020 may not be indicative of our future operations. Our operations for the three and nine months ended September 30,2021 includes the operations of SG Echo which was acquired in September 2020, Clarity Mobile Venture and Chicago Airport Testing and accordingly the operations for the three and nine months ended September 30, 2020 do not include any revenue or costs associated with Clarity Mobile Venture and Chicago Airport Testing and include a limited amount of revenue and costs from SG Echo.
Impact of Coronavirus (COVID-19)
With the global spread of the ongoing novel coronavirus ("COVID-19") pandemic during 2020, we have implemented business continuity plans designed to address and mitigate the impact of the COVID-19 pandemic on its employees and business. The worldwide spread of the COVID-19 virus has resulted in, and may continue to result in, a global slowdown of certain economic activity which is likely to decrease demand for a broad variety of goods and services, including from our customers, while also resulting in delays in projects due to labor shortages and supplier disruptions for an unknown period of time until the disease is contained. To date, we have experienced some delays and increased costs for materials, especially lumber, in projects due to COVID-19 which we expect to continue to have an impact on our revenue and our results of operations, the size and duration of which we are currently unable to predict. Any quarantines, the timing and length of containment and eradication solutions, travel restrictions, absenteeism by infected workers, labor shortages or other disruptions to the suppliers and contract manufacturers or customers has had and would likely adversely impact our sales, and operating results and result in further project delays. In addition, the pandemic could result in an economic downturn that could affect the ability of our customers and licensees to obtain financing and therefore impact demand for our products. Order lead times could be extended or delayed and increases we have experienced in pricing could continue to increase. Some products or services may become unavailable if the regional or global spread were significant enough to prevent alternative sourcing. Accordingly, we are considering alternative product sourcing in the event that product supply becomes problematic. We expect this global pandemic to have an impact on the Company's revenue and results of operations, the size and duration of which we are currently unable to predict. In addition, to the extent the ongoing COVID-19 pandemic adversely affects our business and results of operations, it may also have the effect of heightening many of the other risks and uncertainties which we face.
Nine Months Ended September 30, 2021 and 2020:
| | For the Nine Months Ended September 30, 2021 | | | For the Nine Months Ended September 30, 2020 | |
Total Revenue | | $ | 29,889,104 | | | $ | 1,404,265 | |
Total Cost of revenue | | | (25,736,809 | ) | | | (789,445 | ) |
| Total Payroll and related expenses |
|
| (2,865,606 | ) |
|
| (1,344,009 | ) |
Total Other Operating expenses | | | (5,098,821 | ) | | | (2,386,374 | ) |
Total Operating loss | | | (3,812,132 | ) | | | (3,115,563 | ) |
Total Other income | | | 67,550 | | | | 51,890 | |
| Net loss before income tax |
|
| (3,744,582 | ) |
|
| (3,063,673 | ) |
| Less: Net income attributable non-controlling interest |
|
| 3,661,459 |
|
|
| — |
|
| Net loss attributable to common stockholders of SG Blocks, Inc. |
| $ | (7,406,041 | ) |
| $ | (3,063,673 | ) |
Revenue
During the nine months ended September 30, 2021, we derived revenue from the following three categories of sources: construction services, engineering services and medical revenue. We commenced receipt of revenue from this source in the fourth quarter of 2020 when Clarity Mobile Venture LLC commenced operations and we continued to derive revenue from this source during the quarter ended September 30, 2021 with strong revenue related to COVID-19 samples collected from our Clarity Mobile joint venture in the first nine months of 2021. Total revenue for the nine months ended September 30, 2021 was $29,889,104 compared to $1,404,265 for the nine months ended September 30, 2020. This increase of $28,484,839 or approximately 2028% was mainly driven by an increase in medical revenue of approximately $23,906,000 (lab testing, test kit sales and equipment but excluding revenue generated from construction of medical related projects) from mainly the collection of COVID-19 test samples with additional medical revenue from the opening and subletting of a testing facility in the Chicago area, an increase in revenue of approximately $1,747,000 in special use projects which includes one legacy contract commitment related to the SG Echo acquisition, an increase in revenue of approximately $2,257,000 in government projects, an increase in revenue of approximately of $400,000 in medical related construction projects and a moderate increase in construction revenue related to office and hotel/hospitality projects for approximately $412,000 and $330,000, respectively, offset by a decrease in revenue related to our retail and other projects for approximately $277,000 and $300,000, respectively, for the nine months ended September 30, 2021, as compared to September 30, 2020.
Cost of Revenue and Gross Profit
Cost of revenue was $25,736,809 for the nine months ended September 30, 2021, compared to $789,445 for the nine months ended September 30, 2020. The increase of $24,947,364 or a increase of approximately 3160%, is primarily related to higher testing volumes which required an increase in procurement of COVID-19 tests and testing supplies and higher procurement and manufacturing costs of modifying containers and wood modular units. Due to capabilities of Echo, we have now increased our sales of wood modular units to our customer base. As previously stated our costs of revenue for the nine months ended September 30, 2021 include costs and expenses associated with the operations of SG Echo, Clarity Mobile Venture and Chicago Airport Testing and our costs of revenue for the nine months ended September 30, 2020 do not include such costs or expenses for Clarity Mobile Venture or Chicago Airport Testing.
Gross profit was $4,152,295 and $614,820 for the nine months ended September 30, 2021 and 2020, respectively.
Gross profit margin as a percentage of revenue decreased to approximately 13.9% for the nine months ended September 30, 2021 compared to approximately 44% for the nine months ended September 30, 2020. The decrease in gross profit margin percentage was primarily due to a non-recurring single legacy contract recognized in 2020 in the amount of $300,000 with no estimated costs and due to legacy contract commitments from the acquisition of SG Echo that were recognized in the nine months ended September 30, 2021 that incurred losses of approximately $4,600,000 due to escalations in material pricing related to COVID-19 and labor overages.
Payroll and Related Expenses
Payroll and related expenses for the nine months ended September 30, 2021 were $2,865,606 compared to $1,344,009 for the nine months ended September 30, 2020. This increase was primarily caused by an increase in salaries and additional head count hired to help manage the growth of SG Echo and other recently launched subsidiaries such as Chicago Airport Testing, Clarity Mobile Venture, and SG DevCorp of approximately $878,000, an increase of approximately $364,000 in stock-based compensation expense, and an increase of approximately $278,000 for a non-recurring employee pay-out expense recognized for the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020. We recognized $778,657 in stock-based compensation expense related to payroll and related expenses for the nine months ended September 30, 2021, compared to $414,563 for September 30, 2020.
Other Operating Expenses (General and administrative expenses, Marketing and business development expense, and Pre-project expenses)
Other operating expenses (general and administrative expenses, marketing and business development expenses, pre-project expenses) for the nine months ended September 30, 2021 were $5,098,821 compared to $2,386,374 for the nine months ended September 30, 2020. The increase resulted primarily from an increase in rent expense of approximately $91,000 related to COVID-19 cold storage charges and rental expense for the Chicago Airport Testing facility, an increase in expenses associated with being a public company of approximately $157,000, an increase in information technology expense of approximately $196,000, an increase in insurance expense of approximately $193,000 for additional insurance coverage for COVID-19 medical operations and premium increases on existing policies, an increase in contract labor expense of approximately $296,000 with the majority related to the start-up and ongoing operations of the COVID-19 medical and SGB DevCorp projects. We also had an increase of approximately $566,000 in laboratory medical expenses mainly from the start-up and continued operations in Wayne County, Michigan and LAX COVID-19 testing locations and an increase of $40,000 for real estate commissions related for Chicago Airport Testing, an increase in accounting fees of approximately $77,000, an increase of approximately $175,000 due to building maintenance and equipment rental expense for both LAX COVID-19 and Chicago Airport Testing facilities, an increase of approximately $523,500 for manager’s oversight fees related to Clarity Mobile Venture, an increase in depreciation expense of approximately $195,000, an increase in travel expense by approximately $68,000, an increase in bad debt expense of approximately $161,000 due from one legacy customer from the acquisition of SG Echo with a slight decrease in legal fees of approximately $211,000. We recognized no stock-based compensation expense related to legal expense and marketing expense for the nine months ended September 30, 2021 and $57,120 for the nine months ended September 30, 2020.
Interest income for the nine months ended September 30, 2021 was $41,240 mainly derived from bank interest and interest associated with an outstanding note receivable. There was $38,497 of interest income for the nine months ended September 30, 2020. Other income for the nine months ended September 30, 2021 and 2020 was $61,477 and $23,282, respectively. Interest expense for the nine months ended September 30, 2021 and 2020 was $985 and $8,877, respectively. The interest expense for 2020 was mainly related to the Securities Purchase Agreement entered into on February 4, 2020 with an accredited investor. Loss on asset disposal for the nine months ended September 30, 2021 and 2020 was $34,182 and $1,012, respectively.
Income Tax Provision
A 100% valuation allowance was provided against the deferred tax asset consisting of available net operating loss carry forwards and, accordingly, no income tax benefit was provided.
Impact of Inflation
The impact of inflation upon the Company’s revenue and income (loss) from continuing operations during each of the past two fiscal years has not been material to its financial position or results of operations for those years because the Company does not maintain any inventories whose costs are affected by inflation.
Three Months Ended September 30, 2021 and 2020:
|
| For the Three Months Ended September 30, 2021 |
| For the Three Months Ended September 30, 2020 |
|
| Total Revenue |
| $ | 8,847,490 |
| $ | 576,560
|
|
| Total Cost of revenue |
|
| (8,742,420 | ) |
| (381,954
| ) |
| Total Payroll and related expenses |
|
| (1,236,420 | ) |
| (679,863 | ) |
| Total Other Operating expenses |
|
| (1,595,258 | ) |
| (1,040,073
| ) |
| Total Operating loss |
|
| (2,726,608 | ) |
| (1,525,330 | ) |
| Total Other income (expense) | |
| (24,049 | ) |
| 47,057 |
|
| Net loss before income tax |
|
| (2,750,657 | ) |
| (1,478,273 | ) |
| Less: Net income attributable non-controlling interest |
|
| 1,080,248 |
|
| — |
|
| Net loss attributable to common stockholders of SG Blocks, Inc.Net loss |
| $ | (3,830,905 | ) | $ | (1,478,273 | ) |
Revenue
During the three months ended September 30, 2021, we derived revenue from the following three categories of sources: construction services, engineering services and medical revenue. We commenced receipt of revenue from this source in the fourth quarter of 2020 when Clarity Mobile Venture LLC commenced operations and we continued to derive revenue from this source during the quarter ended September 30, 2021 with strong revenue related to COVID-19 samples collected from our Clarity Mobile joint venture in the three months ended September 30, 2021. Total revenue for the three months ended September 30, 2021 was $8,847,490 compared to $576,560 for the three months ended September 30, 2020. This increase of $8,270,930 or approximately 1435% was mainly driven by an increase in medical revenue of approximately $8,164,000 (lab testing, test kit sales and equipment but excluding revenue generated from construction of medical related projects) from mainly the collection of COVID-19 test samples with additional medical revenue from the opening and subletting of a testing facility in the Chicago area, an increase in revenue of approximately $80,000 in special use projects which includes one legacy contract commitment related to the SG Echo acquisition, an increase in revenue of approximately $74,000 in government projects, an increase in revenue of approximately $74,500 in multi-family projects offset by a moderate decrease in revenue of approximately $35,000 in medical related construction projects and approximately $81,000 for hotel/hospitality projects, respectively for the three months ended September 30, 2021, as compared to September 30, 2020.
Cost of Revenue and Gross Profit
Cost of revenue was $8,742,420 for the three months ended September 30, 2021, compared to $381,954 for the three months ended September 30, 2020. The increase of $8,360,466 or an increase of approximately 2189%, is primarily related to higher testing volumes which required an increase in procurement of COVID-19 tests and testing supplies and higher procurement and manufacturing costs of modifying containers and wood modular units.
Gross profit was $105,070 and $194,606 for the three months ended September 30, 2021 and 2020, respectively.
Gross profit as a percentage of revenue decreased to approximately 1% for the three months ended September 30, 2021 compared to approximately 34% for the three months ended September 30, 2020. The decrease in gross profit margin percentage was primarily due to a non-recurring single legacy contract recognized in 2020 in the amount of $300,000 with no estimated costs and due to legacy contract commitments from the acquisition of SG Echo that were recognized in 2021 that incurred losses of approximately $2,250,000 due to escalations in material pricing related to COVID-19 and labor overages
Payroll and Related Expenses
Payroll and related expenses for the three months ended September 30, 2021 were $1,236,420 compared to $679,863 for the three months ended September 30, 2020. This increase was primarily caused by an increase in salaries and additional head count to help manage the growth of SG Echo and other recently launched subsidiaries such as Chicago Airport Testing, Clarity Mobile Ventures, and SG DevCorp of approximately $334,000, an increase of approximately $278,000 for a non-recurring employee pay-out expense and an decrease of approximately $57,000 in stock-based compensation expense, recognized for the three months ended September 30, 2021 compared to the three months ended September 30, 2020. We recognized $246,236 in stock-based compensation expense related to payroll and related expenses for the three months ended September 30, 2021, compared to $303,169 for September 30, 2020.
Results of Operations (continued)
Other Operating Expenses (General and administrative expenses, Marketing and business development expense, and Pre-project expenses)
Other operating expenses (general and administrative expenses, marketing and business development expenses, pre-project expenses) for the three months ended September 30, 2021 were $1,595,258 compared to $1,040,073 for the three months ended September 30, 2020. The increase resulted primarily from an increase in expenses associated with being a public company of approximately $47,500, an increase in information technology expense of approximately $62,000, an increase in insurance expense of approximately $94,000 for additional insurance coverage for COVID-19 medical operations and premium increases on existing policies, and an increase in accounting fees of $47,000. The Company had an increase of approximately $107,500 in laboratory medical expenses mainly from the start-up and continued operations in Wayne County, Michigan and LAX COVID-19 testing locations, an increase of approximately $171,000 for manager’s oversight fees related to Clarity Mobile Venture, an increase in depreciation expense of approximately $65,500, an increase of approximately $54,000 due to building maintenance and equipment rental expense for both LAX COVID-19 and Chicago Airport Testing facilities, an increase in travel expense by approximately $17,500. The Company also had a decrease in contract labor and consulting expense of approximately $62,000 and a slight decrease in legal fees of approximately $107,000.
Other Income (Expense)
Interest income for the three months ended September 30, 2021 and 2020 was $9,973 and $27,401 mainly derived from bank interest and interest associated with an outstanding note receivable. Interest expense for the three months ended September 30, 2021 and 2020 was $293 and $2,614 and mainly related to the Securities Purchase Agreement entered into on February 4, 2020 with an accredited investor. Other income for the three months ended September 30, 2021 and 2020 was $453 and $23,282. Loss on asset disposal for the three months ended September 30, 2021 and 2020 was $34,182 and $1,012, respectively.
Liquidity and Capital Resources
As of September 30, 2021 and December 31, 2020, we had an aggregate of $3,290,702 and $13,010,356, respectively, of cash and cash equivalents. To date, we have financed our operations from revenue generated from operations and sales of our equity and to a lesser extent debt financings.
On February 4, 2020, we entered into a Securities Purchase Agreement with an accredited investor, pursuant to which we issued to the investor a secured note in the aggregate principal amount of $200,000 (the “Long-Term Note”), which bore interest at a rate of nine percent (9%) per annum and was due on July 31, 2023, and was secured by a security interest in the royalty payable to us under that certain Exclusive License Agreement, dated October 3, 2019, with CPF GP 2019-1 LLC. During the third quarter of 2020, the Long-Term Note to investor of $200,000 and unpaid accrued interest of $6,263 was converted into 73,665 shares of common stock.
In April 2020, we completed a public offering where we pursuant to which we sold 440,000 shares of common stock at a public offering price of $4.25 per share which resulted in net proceeds of approximately $1,522,339 after deducting underwriting discounts and commissions and other expenses related to the offering.
In May 2020, we completed a public offering pursuant to which we sold an aggregate of 6,900,000 shares of common stock at a public offering price of $2.50 per share which resulted in net proceeds of approximately $15,596,141 after deducting underwriting discounts and commissions and other expenses related to the offering.
In October 2021, we completed a registered direct offering and concurrent private offering pursuant to which we sold an aggregate of 975,000 shares of common stock and and pre-funded warrants to purchase up to 2,189,384 shares of Common Stock and warrants to purchase 1,898,630 shares of Common Stock which resulted in net proceeds of approximately $10,520,000 after deducting underwriting commission and other expenses related to the offering.
At September 30, 2021 and December 31, 2020 we had a cash balance of $3,290,702 (which does not include the proceeds from the offering we consummated in October 2021) and $13,010,356, respectively. As of September 30, 2021, our stockholders’ equity was $13,119,952, compared to $18,437,823 as of December 31, 2020. Our net loss for the nine months ended September 30, 2021 was $3,744,582 and net cash used in operating activities was $1,032,417. We anticipate our cash balance is sufficient to last at least twelve months from November 15, 2021. We anticipate cost of revenue will increase once the Lease at 101 Waldon Road commences and SG Echo fulfills its obligations under the loan agreement to employ a minimum of 75 full time employees in Durant, Oklahoma and pay them no less than 1.5 times the federal minimum wages within a 24 month period.
We may need to generate additional revenues or secure additional financing sources, such as debt or equity capital, to fund future growth, which financing may not be available on favorable terms or at all. We do not have any additional sources secured for future funding, and if we are unable to raise the necessary capital at the times we require such funding, we may need to materially change our business plan, including delaying implementation of aspects of such business plan or curtailing or abandoning such business plan altogether.
Cash Flow Summary
| Nine Months Ended September 30, |
|
|
|
| 2021 | | 2020 |
Net cash provided by (used in): | | | | | | | |
Operating activities | | $ | (1,032,417 | ) | $ | (4,453,862 | ) |
Investing activities | | | (8,283,525 | ) | | (1,442,602 | ) |
Financing activities | | | (403,712 | ) | | 17,318,358 | |
Net increase (decrease) in cash and cash equivalents | | $ | (9,719,654 | ) | $ | 11,421,894 | |
Operating activities used net cash of $1,032,417 during the nine months ended September 30, 2021, and $4,453,862 during the nine months ended September 30, 2020. Generally, our net operating cash flows fluctuate primarily based on changes in our profitability and working capital. Cash used in operating activities decreased by approximately $3,421,000 primarily due to an decrease in working capital of approximately $3,287,000 due in part to increases in accrued losses from the legacy SG Echo contracts we assumed and increases in accounts payable with the additions of operations of new entities, SG DevCorp, Chicago Airport Testing, and SG Echo, from the corresponding period of the prior year. In addition, we had an increase of approximately $307,000 in stock-based compensation, an increase of approximately $292,000 in depreciation expense, an increase of approximately $161,000 in bad debt expense and an increase in the overall net loss of approximately $681,000, in the nine months ended September 30, 2021 compared to the nine months ended September 30, 2020.
Investing activities used net cash of $8,283,525 during the nine months ended September 30, 2021, and $1,442,602 during the nine months ended September 30, 2020. Cash used in investing activities increased from the corresponding period of the prior year primarily due to the purchase of property, plant and equipment of approximately $4,756,000 which includes the land purchase for the Lago Vista - Austin project, purchase of intangible assets of $42,500, payments on assumed liabilities related to the Echo DCL, LLC acquisition of approximately $195,000, an investments in two SG DevCorp entities totaling approximately $3,464,000 and we received proceeds from the sale of equipment for $225,000.
Financing activities used net cash of $403,712 during the nine months ended September 30, 2021, and provided net cash of $17,318,358 during the nine months ended September 30, 2020. Cash provided by financing activities decreased by approximately $17,318,000 due to a decrease in proceeds from public stock offerings and proceeds from long-term note payable in the nine months ended September 30, 2021. Cash used by financing activities for the nine months ended September 30, 2021 increased by approximately $3,059,000 as compared to the nine months ended September 30, 2020 due to distributions paid to our non-controlling interest partner, offset by an increase of approximately $707,000 in proceeds from conversion of outstanding warrants to common stock and proceeds from short-term note payable of $1,948,000.
We provide services to our construction and engineering customers in three separate phases: the design phase, the architectural and engineering phase and the construction phase. Each phase is independent of the other, but builds through a progression of concept through delivery of a completed structure. These phases may be embodied in a single contract or in separate contracts, which is typical of a design build process model. As of September 30, 2021, we had 15 projects totaling $20,074,693 under contract, which, if they all proceed to construction, will result in our constructing approximately 232,898 square feet of container and modular space. Of these contracts, all fifteen projects combine all three phases or parts thereof and including construction. We expect that all of this revenue will be realized by September 30, 2023.
Backlog may fluctuate significantly due to the timing of orders or awards for large projects and is not necessarily indicative of future backlog levels or the rate at which backlog will be recognized as revenue. The decrease in backlog of approximately $5,042,000 from December 31, 2020 is primarily attributable to one new contract we entered into during the first quarter of 2021 for approximately $1,325,000, one new contract in the third quarter of 2021 for approximately $857,000 and had one large partial contract cancellation of approximately ($1,300,000) and offset by work in progress or completed contracts during the first nine months of 2021 for approximately $5,983,000.
There can be no assurance that our customers will decide to and/or be able to proceed with these construction projects, or that we will ultimately recognize revenue from these projects in a timely manner or at all.
Off-Balance Sheet Arrangements
As of September 30, 2021 and December 31, 2020, we had no material off-balance sheet arrangements to which we are a party.
In the ordinary course of business, we enter into agreements with third parties that include indemnification provisions which, in our judgment, are normal and customary for companies in our industry sector. These agreements are typically with consultants and certain vendors. Pursuant to these agreements, we generally agree to indemnify, hold harmless, and reimburse indemnified parties for losses suffered or incurred by the indemnified parties with respect to actions taken or omitted by us. The maximum potential amount of future payments we could be required to make under these indemnification provisions is unlimited. We have not incurred material costs to defend lawsuits or settle claims related to these indemnification provisions. As a result, the estimated fair value of liabilities relating to these provisions is minimal. Accordingly, we have no liabilities recorded for these provisions as of September 30, 2021.
Critical Accounting Policies and New Accounting Pronouncements
Critical Accounting Policies
Our condensed consolidated financial statements have been prepared using generally accepted accounting principles in the United States of America (“GAAP”). In connection with the preparation of the financial statements, we are required to make assumptions and estimates and apply judgments that affect the reported amounts of assets, liabilities, revenue, and expenses, and the related disclosures. We base our assumptions, estimates, and judgments on historical experience, current trends, and other factors that we believe to be relevant at the time the consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates, and judgments to ensure that our financial statements are presented fairly and in accordance with GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material.
Our significant accounting policies are discussed in “Note 3— Summary of Significant Accounting Policies” of the notes to our condensed consolidated financial statements included elsewhere in this report. We believe that the following accounting policies are the most critical in fully understanding and evaluating our reported financial results.
Share-based payments. We measure the cost of services received in exchange for an award of equity instruments based on the fair value of the award. For employees and directors, including non-employee directors, the fair value of the award is measured on the grant date. For non-employees, the fair value of the award is generally re-measured on interim financial reporting dates and vesting dates until the service period is complete. The fair value amount is then recognized over the period services are required to be provided in exchange for the award, usually the vesting period. We recognize stock-based compensation expense on a graded-vesting basis over the requisite service period for each separately vesting tranche of each award. Stock-based compensation expense to employees and all directors is reported within payroll and related expenses in the consolidated statements of operations. Stock-based compensation expense to non-employees is reported within marketing and business development expense in the consolidated statements of operations.
Other derivative financial instruments. SGB classifies as equity any contracts that (i) require physical settlement or net-share settlement or (ii) provide a choice of net-cash settlement or settlement in SGB’s own shares (physical settlement or net-share settlement), provided that such contracts are indexed to SGB’s own stock. SGB classifies as assets or liabilities any contracts that (i) require net-cash settlement (including a requirement to net-cash settle the contract if any event occurs and if that event is outside SGB’s control) or (ii) give the counterparty a choice of net-cash settlement or settlement shares (physical settlement or net-cash settlement). SGB assesses classification of common stock purchase warrants and other free-standing derivatives at each reporting date to determine whether a change in classification between assets and liabilities or equity is required.
Critical Accounting Policies (continued)
Convertible instruments. SGB bifurcates conversion options from their host instruments and accounts for them as free-standing derivative financial instruments according to certain criteria. The criteria include circumstances in which (i) the economic characteristics and risks of the embedded derivative instrument are not clearly and closely related to the economic characteristics and risks of the host contract; (ii) the hybrid instrument that embodies both the embedded derivative instrument and the host contract is not re-measured at fair value under otherwise applicable GAAP measures with changes in fair value reported in earnings as they occur; and (iii) a separate instrument with the same terms as the embedded derivative instrument would be considered a derivative instrument.
SGB determined that the embedded conversion options that were included in the previously outstanding convertible debentures should be bifurcated from their host and a portion of the proceeds received upon the issuance of the hybrid contract has been allocated to the fair value of the derivative. The derivative was subsequently marked to market at each reporting date based on current fair value, with the changes in fair value reported in results of operations.
Revenue recognition – we determine, at contract inception, whether it will transfer control of a promised good or service over time or at a point in time, regardless of the length of contract or other factors. The recognition of revenue aligns with the timing of when promised goods or services are transferred to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. To achieve this core principle, we apply the following five steps in accordance with its revenue policy:
(1) Identify the contract with a customer
(2) Identify the performance obligations in the contract
(3) Determine the transaction price
(4) Allocate the transaction price to performance obligations in the contract
(5) Recognize revenue as performance obligations are satisfied
On certain contracts, we apply recognition of revenue over time, which is similar to the method we applied under previous guidance (i.e. percentage of completion). Due to uncertainties inherent in the estimation process, it is possible that estimates of costs to complete a performance obligation will be revised in the near-term. For those performance obligations for which revenue is recognized using a cost-to-cost input method, changes in total estimated costs, and related progress toward complete satisfaction of the performance obligation, are recognized on a cumulative catch-up basis in the period in which the revisions to the estimates are made. When the current estimate of total costs for a performance obligation indicate a loss, a provision for the entire estimated loss on the unsatisfied performance obligation is made in the period in which the loss becomes evident.
Critical Accounting Policies (continued)
For product or equipment sales, we apply recognition of revenue when the customer obtains control over such goods, which is at a point in time.
On October 3, 2019, we entered into an Exclusive License Agreement (“ELA” ) pursuant to which we granted an exclusive license for our technology as outlined in the ELA. The ELA is described below. Under the ELA, we were to receive royalty payments based upon gross revenues earned by the licensee for commercialized products within the field of design and project management platforms for residential use, including single-family residences and multi-family residences, but excluding military housing. We have determined that the ELA granted the licensee a right to access our intellectual property throughout the license period (or its remaining economic life, if shorter), and thus recognizes revenue over time as the licensee recognizes revenue and we have the right to payment of royalties. No revenue has been recognized under the ELA for the nine months ended September 30, 2021. On June 15, 2021 we terminated the Exclusive License Agreement with CPF that we had entered into on October 3, 2019.
We entered into a joint venture agreement with Clarity Lab Solutions, LLC (“Clarity Labs”) (the “JV”) in the fourth quarter of 2020. Revenue from the activities of the JV is related to clinical testing services and is recognized when services have been rendered, which is at a point in time. In addition, we formed Chicago Airport Testing, LLC which collects rental revenue. During the nine months ended September 30, 2021, we recognized $23,757,962 in revenue related to activities through the two JV's, which are included in medical revenue on the accompanying consolidated statements of operations.
We acquired a 10% non-dilutable equity interest for JDI-Cumberland Inlet, LLC and acquired a 50% membership interest in Norman Berry II Owner LLC in the second quarter of 2021. We have determined we are not the primary beneficiary and thus will not consolidated the activities on the condensed consolidated financial statements. We will use the equity method to report the activities as an investment in on our condensed consolidated financial statements.
Goodwill – Goodwill represents the excess of reorganization value over the fair value of identified net assets upon emergence from bankruptcy. In accordance with the accounting guidance on goodwill, we perform our impairment test of goodwill at the reporting unit level each fiscal year, or more frequently if events or circumstances change that would more likely than not reduce the fair value of its reporting unit below its carrying value. Our evaluation of goodwill completed during the year ended December 31, 2020, resulted in no impairment loss. There was no impairment during the nine months ended September 30, 2021.
Intangible assets – Intangible assets consist of $2,766,000 of proprietary knowledge and technology which is being amortized over 20 years, $97,164 of trademarks which is being amortized over 5 years, $47,800 of website fees which is being amortized over 5 years. Our evaluation of intangible assets for impairment during the year ended December 31, 2020, determined that there were no impairment losses. There was no impairment during the nine months ended September 30, 2021.
New Accounting Pronouncements
See Note 3 to the accompanying consolidated financial statements for all recently adopted and new accounting pronouncements.
Non-GAAP Financial Information
In addition to our results under GAAP, we also present EBITDA and Adjusted EBITDA for historical periods. EBITDA and Adjusted EBITDA are non-GAAP financial measures and have been presented as supplemental measures of financial performance that are not required by, or presented in accordance with, GAAP. We calculate EBITDA as net income (loss) before interest expense, income tax benefit (expense), depreciation and amortization. We calculate Adjusted EBITDA as EBITDA before certain non-recurring adjustments such as loss on conversion of convertible debentures, change in fair value of financial instruments, litigation expenses and stock compensation expense.
EBITDA and Adjusted EBITDA are presented because they are important metrics used by management as one of the means by which it assesses our financial performance. EBITDA and Adjusted EBITDA are also frequently used by analysts, investors and other interested parties to evaluate companies in our industry. These measures, when used in conjunction with related GAAP financial measures, provide investors with an additional financial analytical framework that may be useful in assessing us and our results of operations.
EBITDA and Adjusted EBITDA have certain limitations. EBITDA and Adjusted EBITDA should not be considered as alternatives to net income (loss), or any other measures of financial performance derived in accordance with GAAP. These measures also should not be construed as an inference that our future results will be unaffected by unusual or non-recurring items for which these non-GAAP measures make adjustments. Additionally, EBITDA and Adjusted EBITDA are not intended to be liquidity measures because of certain limitations, including, but not limited to:
| ● | They do not reflect our cash outlays for capital expenditures; |
| ● | They do not reflect changes in, or cash requirements for, working capital; and |
| ● | Although depreciation and amortization are non-cash charges, the assets are being depreciated and amortized and may have to be replaced in the future, and these non-GAAP measures do not reflect cash requirements for such replacements. |
Other companies, including other companies in our industry, may not use such measures or may calculate one or more of the measures differently than as presented in this Quarterly Report on Form 10-Q, limiting their usefulness as a comparative measure.
In evaluating EBITDA and Adjusted EBITDA, you should be aware that in the future we will incur expenses that are the same or similar to some of the adjustments made in our calculations, and our presentation of EBITDA and Adjusted EBITDA should not be construed to mean that our future results will be unaffected by such adjustment. Management compensates for these limitations by using EBITDA and Adjusted EBITDA as supplemental financial metrics and in conjunction with our results prepared in accordance with GAAP. The non-GAAP information should be read in conjunction with our consolidated financial statements and related notes.
Non-GAAP Financial Information (continued)
The following is a reconciliation of EBITDA and Adjusted EBITDA to the nearest GAAP measure, net loss:
|
| Three Months Ended
September 30, 2021 | | | Three Months Ended
September 30, 2020 |
| | Nine Months Ended
September 30, 2021 | | | Nine Months Ended
September 30, 2020 | |
Net loss attributable to common stockholders of SG Blocks, Inc. | | $ | (3,830,905 | ) |
| $ | (1,478,273 | )
| | $ | (7,406,041) | ) | | $ | (3,063,673) | ) |
| Addback interest expense |
|
| 293
|
|
|
| 2,614 |
|
|
| 985 |
|
|
| 8,877 |
|
| Subtract interest income |
|
| (9,973 | ) |
|
| (27,401 | )
|
|
| (41,240 | ) |
|
| (38,497 | ) |
| Addback depreciation and amortization |
|
| 148,482 |
|
|
| 47,488
|
|
|
| 449,502 |
|
|
| 142,290 |
|
EBITDA (non-GAAP) |
|
| (3,692,103 | ) |
|
| (1,455,572 | ) | | | (6,996,794) | ) | | | (2,951,003) | ) |
| Addback loss on asset disposal |
|
| 34,182 |
|
|
| 1,012
|
|
|
| 34,182 |
|
|
| 1,012 |
|
| Addback litigation expense |
|
| 413,796 |
|
|
| 127,205 |
|
|
| 555,068 |
|
|
| 395,045 |
|
| Addback stock compensation expense |
|
| 246,236 |
|
|
| 303,169
|
|
|
| 778,657 |
|
|
| 471,683 |
|
Adjusted EBITDA (non-GAAP) |
| $ | (2,997,889 | ) |
| $ | (1,024,186 | ) | | $ | (5,628,887) | ) | | $ | (2,083,263) | ) |
Not applicable.
Evaluation of Disclosure Controls and Procedures
Management of SG Blocks, Inc., with the participation of our Principal Executive Officer and Principal Financial Officer, carried out an evaluation of the effectiveness of our “disclosure controls and procedures” (as defined in the Securities Exchange Act of 1934, as amended (the “Exchange Act”), Rules 13a-15(e) or 15d-15(e)) as of the end of the period covered by this Quarterly Report on Form 10-Q (the “Evaluation Date”). Based upon that evaluation, our Principal Executive Officer and Principal Financial Officer concluded that, as of the Evaluation Date, our disclosure controls and procedures were not effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act (i) is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms and (ii) is accumulated and communicated to our management, including our Principal Executive Officer and Principal Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
The Principal Executive Officer and the Principal Financial Officer believe that the condensed consolidated financial statements and other information contained in this Quarterly Report on Form 10-Q present fairly, in all material respects, our business, financial condition and results of operations.
As previously reported, management had identified deficiencies in our internal control over financial reporting, which was related to the timely closing of the accounting records, caused by insufficient accounting resources and a lack of formal review procedures and technical accounting guidance to complex and/or new transactions. Our management had concluded that we do not maintain effective controls related to both deficiencies surrounding the timely closing of the accounting records and technical accounting guidance. Management had determined that the aggregate impact of this deficiency resulted in a material weakness. The material weakness did not result in any identified misstatements in the current period consolidated financial statements, nor in any restatements of consolidated financial statements previously reported by us, and there were no changes in previously released financial results.
A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company's annual or interim financial statements will not be prevented or detected on a timely basis.
Remediation Steps to Address the Material Weakness
Since identifying the material weakness related to the timely closing of accounting records and technical accounting guidance to complex and/or new transactions, we have taken steps to strengthen the control function related to the financial closing process. These steps include retaining two additional senior accounting resources to help enhance the timeliness of the accounting close process and to have additional oversight for new and complex accounting transactions. We also engaged an outside consulting firm in the third quarter of 2021 to assist the Company with enhancing its accounting practices. We will continue to enhance controls to ensure the financial closing process is effectively implemented. Although we plan to complete this remediation process as quickly as possible, we cannot at this time estimate when the remediation will be completed.
Changes in Internal Control over Financial Reporting
Other than as described above, for the fiscal quarter ended September 30, 2021, there have been no changes in our internal control over financial reporting identified in connection with the evaluations required by Rule 13a-15(d) or Rule 15d-15(d) under the Exchange Act that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Inherent Limitations on Effectiveness of Controls
Our management, including our CEO and our CFO, do not expect that our disclosure controls or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. The design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Further, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures.
The information included in "Note 16 - Commitments and Contingencies" of the Company's condensed consolidated financial statements included elsewhere in this Form 10-Q is incorporated by reference into this Item.
Investing in our common stock involves a high degree of risk. You should consider carefully the following risks, together with all other information in this Quarterly Report on Form 10-Q, including our unaudited condensed consolidated financial statements and notes thereto. If any of the following risks actually materializes, our operating results, financial condition and liquidity could be materially adversely affected. As a result, the trading price of our common stock could decline and you could lose part or all of your investment. The following information updates, and should be read in conjunction with, the information disclosed in Part I, Item 1A, "Risk Factors," contained in the Annual Report on Form 10-K for the year ended December 31, 2020 as amended by the Amendment No. 1 thereto (the “2020 Form 10-K”). There have been no material changes from the risk factors disclosed in “Part I—Item 1A. Risk Factors” in our 2020 Form 10-K, except as follows:
If we are not successful in our efforts to increase sales or raise capital, we could experience a shortfall in cash over the next twelve months, and our ability to obtain additional financing on acceptable terms, if at all, may be limited.
At September 30, 2021 and December 31, 2020, we had cash and cash equivalents, collectively, of $3,290,702 and $13,010,356, respectively. However, during the nine months ended September 30, 2021 and year ended December 31, 2020, we reported a net loss of $3,744,582 and $4,508,162, respectively, and used $1,032,417 and $2,887,950 of cash for operations, respectively. If we are not successful with our efforts to increase revenue, we could experience a shortfall in cash over the next twelve months. If there is a shortfall, we may be forced to reduce operating expenses, among other steps, all of which would have a material adverse effect on our operations going forward. Subsequent to the end of the third quarter 2021, we had a private placement offering that provided net proceeds of approximately $10,520,000 in additional cash, see Note 17 for additional information on this private placement.
We may also seek to obtain debt or additional equity financing to meet any cash shortfalls. The type, timing and terms of any financing we may select will depend on, among other things, our cash needs, the availability of other financing sources and prevailing conditions in the financial markets. However, there can be no assurance that we will be able to secure additional funds if needed and that, if such funds are available, the terms or conditions would be acceptable to us. If we are unable to secure additional financing, further reduction in operating expenses might need to be substantial in order for us to ensure enough liquidity to sustain our operations. Any equity financing would be dilutive to our stockholders. If we incur debt, we will likely be subject to restrictive covenants that significantly limit our operating flexibility and require us to encumber our assets. If we fail to raise sufficient funds and continue to incur losses, our ability to fund our operations, take advantage of strategic opportunities, or otherwise respond to competitive pressures will be significantly limited. Any of the above limitations could force us to significantly curtail or cease our operations, and you could lose all of your investment in our common stock. These circumstances have raise substantial doubt about our ability to continue as a going concern, and continued cash losses may risk our status as a going concern. Our consolidated financial statements do not include any adjustments that might be necessary should we be unable to continue as a going concern.
In December 2019, a novel strain of coronavirus, COVID-19, was reported to have surfaced in Wuhan, China. Since then, the COVID-19 coronavirus has spread to multiple countries, including the United States. The impact of the COVID-19 coronavirus outbreak, or similar global health concerns, has negatively impacted our ability to source certain materials and product pricing, could impact our customers’ ability or that of our licensee to obtain financing and may continue to have a negative impact on our business.
In March 2020, the World Health Organization declared COVID-19 a global pandemic. This contagious disease outbreak, which has continued to spread, and the related adverse public health developments, have adversely affected work forces, economies and financial markets globally. Our ability to obtain and source certain materials, especially lumber, from third-party suppliers has been negatively impacted by the COVID-19 coronavirus outbreak. In addition, any outbreak of COVID at our Echo facility could result in closures of the facility and negatively impact our ability to meet timelines. To date, we have experienced some delays and cost-overruns in projects due to COVID-19. Any quarantines, the timing and length of containment and eradication solutions, travel restrictions, absenteeism by infected workers, labor shortages or other disruptions to our suppliers and their contract manufacturers or our customers would likely adversely impact our sales and operating results and result in further project delays. In addition, the pandemic could result in an economic downturn that could affect the ability of our customers and licensees to obtain financing and therefore impact demand for our products. Order lead times could be extended or delayed and pricing could continue to increase. Some products or services may become unavailable if the regional or global spread were significant enough to prevent alternative sourcing. Accordingly, we are considering alternative product sourcing in the event that product supply becomes problematic. We expect this global pandemic to have a negative impact on our revenue and our results of operations, the size and duration of which we are currently unable to predict.
In addition, the outbreak of the COVID-19 coronavirus could disrupt our operations due to absenteeism by infected or ill members of management or other employees, or absenteeism by members of management and other employees who elect not to come to work due to the illness affecting others in our office or other workplace, or due to quarantines. COVID-19 illness could also impact members of our Board of Directors resulting in absenteeism from meetings of the directors or committees of directors, and making it more difficult to convene the quorums of the full Board of Directors or its committees needed to conduct meetings for the management of our affairs.
The global outbreak of the COVID-19 coronavirus continues to rapidly evolve. The extent to which the COVID-19 coronavirus may impact our business and clinical trials will depend on future developments, which are highly uncertain and cannot be predicted with confidence, such as the ultimate geographic spread of the disease, the duration of the outbreak, travel restrictions and social distancing in the United States and other countries, business closures or business disruptions and the effectiveness of actions taken in the United States and other countries to contain and treat the disease.
Our failure to have the registration statement that we filed to register the resale of the shares of Common Stock within certain time limits could result in a breach of the Purchase Agreement.
The Purchase Agreement provides that we are required within 30 days of the closing of the Offering to file a registration statement providing for the resale of the shares of Common Stock issued and issuable upon the exercise of the Common Stock Warrants, which registration statement was filed on November 12, 2021. We are required to use commercially reasonable efforts to cause such registration to become effective within 45 days of the closing of the Offering (or 60 days in the event of a full review by the Commission) and to keep such registration statement effective at all times until no investor owns any Common Stock Warrants or Common Stock Warrant Shares. Our failure to comply with such requirements would result in a breach of the Purchase Agreement and subject us to liquidated damages of equal to the product of 2.0% multiplied by the aggregate subscription amount paid by each purchaser under the Purchase Agreement.
We may be unable to successfully integrate the Echo business with its current management and structure and the acquisition of Echo may not result in the benefits anticipated.
Our failure to successfully complete the integration of Echo could have an adverse effect on our prospects, business activities, cash flow, financial condition, results of operations and stock price. Integration challenges may include the following:
- assimilating Echo’s technology and retaining personnel;
- estimating the capital, personnel and equipment required for Echo based on the historical experience of management with the businesses;
- managing cost overruns on fixed-price legacy Echo projects as a result of delays in deliveries of, and increased costs for, materials for projects, especially lumber, due to COVID-19;
- minimizing potential adverse effects on existing business relationships; and
- successfully developing new products and services.
There can be no assurance that the anticipated benefits of the Echo acquisition will materialize or that if they materialize will result in increased stockholder value or revenue stream to the combined company.
An unsuccessful determination in the litigation related to Echo DCL, could result in incurrence of significant liabilities or loss of assets.
ICON Construction Inc. (“ICON”) is alleging that Echo DCL breached the terms of the asset purchase agreement Echo DCL entered into with ICON pursuant to which Echo DCL had acquired the assets of ICON. ICON claims that we have agreed to assume certain liabilities of Echo DCL under the asset purchase agreement and accept a security interest in the assets conveyed to us by Echo DCL. If we should be unsuccessful in the litigation we could incur significant liabilities and/or loss of the assets we acquired from Echo DCL. Litigation is subject to many uncertainties, and the outcome of this action is not predicted with assurance. We are unable to predict the possible loss or range of loss, if any, associated with the resolution of this litigation, and, accordingly, we have made no provision related to this matter in the condensed consolidated financial statements.
The loss of one or a few customers could have a material adverse effect on us.
A few customers have in the past, and may in the future, account for a significant portion of our revenues in any one year or over a period of several consecutive years. For example, for the nine months ended September 30, 2021 approximately 90% of our revenue was generated from one customer and for the year ended December 31, 2020, approximately 61% of our revenue was generated from three customers. Although we have contractual relationships with many of our significant customers, our customers may unilaterally reduce or discontinue their contracts with us at any time. The loss of business from a significant customer could have a material adverse effect on our business, financial condition, results of operations and cash flows.
The inability to secure materials and products from our suppliers in a timely manner or at competitive prices could adversely affect our business.
We have relationships with key materials vendors, and we rely on suppliers for our purchases of products from them. The worldwide spread of the COVID-19 has, among other things resulted in delays in deliveries of, and increased costs for, materials, especially lumber, in projects which we expect to continue to have an impact on our revenue and our results of operations. Any inability to obtain materials or services in the volumes required and at competitive prices from our major trading partners, the loss of any major trading partner or the discontinuation of vendor financing (if any) may seriously harm our business because we may not be able to meet the demands of our customers on a timely basis in sufficient quantities or at all. In addition, we have experienced cost overruns on fixed-price legacy Echo projects as a result of delays in deliveries of, and increased costs for, materials for projects, especially lumber. Other factors, including reduced access to credit by our vendors resulting from economic conditions, may impair our vendors’ ability to provide products in a timely manner or at competitive prices. We also rely on other vendors for critical services such as transportation, supply chain and professional services. Any negative impacts to our business or liquidity could adversely impact our ability to establish or maintain these relationships. For the nine months ended September 30, 2021 68% of our costs of revenue related to three vendors. For the year ended December 31, 2020, there were no vendors which represented 10% or more of our cost of revenue.
Our clients may adjust, cancel or suspend the contracts in our backlog; as such, our backlog is not necessarily indicative of our future revenues or earnings. In addition, even if fully performed, our backlog is not a good indicator of our future gross margins.
Backlog represents the total dollar amount of revenues we expect to record in the future as a result of performing work under contracts we have been awarded. Backlog may fluctuate significantly due to the timing of orders or awards for large projects and is not necessarily indicative of future backlog levels or the rate at which backlog will be recognized as revenue. We include in backlog only those contracts for which we have reasonable assurance that the customer can obtain the permits for construction and can fund the construction. As of December 31, 2020, our backlog totaled approximately $25.1 million and as of September 30, 2021, our backlog totaled approximately $20.1 million. The decrease in backlog at September 30, 2021 from December 31, 2020 is primarily attributable to work in progress or completed contracts during the first nine months of 2021 for approximately $6 million and executing one contract during the first quarter of 2021 in the amount of approximately $1.3 million, an one contract during the third quarter of 2021 in the amount of approximately $857,000 and one partial contract cancellation to an existing contract of approximately ($1.3) million. Our backlog is described more in detail in “Note 12—Construction Backlog” of the notes to our consolidated financial statements included elsewhere in this Quarterly Report. We cannot provide assurance that our backlog will be realized as revenues in the amounts reported or, if realized, will result in profits. In accordance with industry practice, substantially all of our contracts are subject to cancellation, termination or suspension at our customer’s discretion. In the event of a project cancellation, we generally would not have a contractual right to the total revenue reflected in our backlog. Projects can remain in backlog for extended periods of time because of the nature of the project and the timing of the particular services required by the project. In addition, the risk of contracts in backlog being cancelled or suspended generally increases during periods of widespread economic slowdowns or in response to changes in commodity prices.
The contracts in our backlog are subject to changes in the scope of services to be provided and adjustments to the costs relating to the contracts. The revenue for certain contracts included in backlog is based on estimates. Additionally, our performance of our individual contracts can affect greatly our gross margins and, therefore, our future profitability. We can provide no assurance that the contracts in backlog, assuming they produce revenues in the amounts currently estimated, will generate gross margins at the rates we have realized in the past.
The issuance of shares of our common stock upon the exercise of outstanding options, warrants and restricted stock units may dilute the percentage ownership of the then-existing stockholders and may make it more difficult to raise additional equity capital.
At September 30, 2021, there were options, including options granted to non-employees and non-directors, restricted stock units and warrants to purchase 36,436, 884,344 and 126,890 shares of common stock, respectively, outstanding that could potentially dilute future net income per share. Because we had a net loss as of September 30, 2021, it is prohibited from including potential common shares in the computation of diluted per share amounts. Accordingly, we used the same number of shares outstanding to calculate both the basic and diluted loss per share. At September 30, 2020, there were options, including options to non-employees and non-directors, restricted stock units and warrants to purchase 52,337, 465,518 and 353,190 shares of common stock, respectively, outstanding that could potentially dilute future net income per share.
Our residential construction business is difficult to evaluate because we recently changed our business model.
From October 2019 until September 2021, our residential construction business was operated under a licensing model. We recently terminated the licensing business model for our residential construction business in the United States. There is a risk that we will be unable to successfully generate revenue from this new business model or generate profit as we will not be responsible for supplying the capital, personnel and equipment for our residential construction projects. There can be no assurance that we will generate the income that we anticipate. We are subject to many risks associated with this business model such as our dependence upon suppliers and contractors to perform services. There is no assurance that our activities will be successful or will result in any revenues or profit. Even if we generate revenue, there can be no assurance that we will be profitable.
Our projections of the number of units we anticipate building for each project and the timelines although based upon assumptions that we believe are reasonable, may not be realized.
We have provided projections of our development plans that include the number of units we plan to develop for certain projects and the timelines for commencement and completion of such development activities which are based upon current contracts that we have entered into, anticipated timelines to complete such projections and current estimates of costs and expenses associated with such projects. For certain projects such as the JDI-Cumberland project, we must submit budgets that require approval in order for SG Echo to be awarded the fabrication and installation work anticipated to be awarded to SG Echo. Although we have based our projections upon assumptions that we believe are reasonable, our projections may not be realized. The projected and actual results will vary, and those variations may be material and likely to increase over time, and the inclusion of the projections in this Quarterly Report on Form 10-Q should not be regarded as a representation or guarantee by us that the projections will be achieved. These projections are only predictions and actual events or results may differ from those in the projections.
The failure to comply with the terms of SG DevCorp’s Note could result in a default under the terms of the Short-Term Note and, if uncured, it could potentially result in action against our pledged assets.
SG DevCorp’s Note in the principal amount of $2,000,000 is secured by a deed of trust on our Lake Travis project site in Lago Vista, Texas and a related assignment of leases and rents to the holder of the Note. The Short-Term Note is due in July 2022 and provides for payments of interest only at a rate of twelve percent (12%) per annum. If SG DevCorp were to fail to comply with the terms of the Short-Term Note, the holder of the Short-Term Note could declare a default and if the default were to remain uncured would have the right to proceed against any or all of the collateral securing the Short-Term Note. SG DevCorp’s failure to make such payments when due could result in our loss of its interest in the Lake Travis project site in Lago Vista, Texas. Any action to proceed against SG DevCorp’s assets would likely have a serious disruptive effect on its business operations, especially if the Lake Travis project site were foreclosed upon.
The Short-Term Note requires that SG DevCorp pay a significant amount of cash to the lender. SG DevCorp’s ability to generate sufficient cash to make all required payments under the Note depends on many factors beyond its control.
SG DevCorp’s ability to make payments on and to refinance the Short-Term Note, to fund planned capital expenditures and to maintain sufficient working capital depends on its and our ability to generate cash in the future. This, to a certain extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. We cannot assure you that our business will generate sufficient cash flow from operations or from other sources in an amount sufficient to enable us to service our debt, SG DevCorp’s debt or to fund our other liquidity needs. To date, we have continued to generate losses from operations and have financed a significant portion our capital needs from sales of our equity. There can be no assurance that financing options will be available to us when needed to make payments under the Short-Term Note or if available, that they will be on favorable terms. If our cash flow and capital resources are insufficient to allow us to make payments due under the Short-Term Note, we may need to seek additional capital or restructure or refinance all or a portion of the Short-Term Note on or before the maturity thereof, any of which could have a material adverse effect on our business, financial condition or results of operations. We cannot assure you that we will be able to refinance the Short-Term Note on commercially reasonable terms or at all. If we are unable to generate sufficient cash flow to repay or refinance our debt on favorable terms, it could significantly adversely affect our financial condition. Our ability to restructure or refinance the Short-Term Note will depend on the condition of the capital markets and our financial condition. Any refinancing of the Short-Term Note could be at higher interest rates and may require us to comply with more onerous covenants, which could further restrict our business operations. There can be no assurance that we will be able to obtain any financing when needed.
Our real estate investments may not maintain their value or appreciate in value.
There can be no assurance that our investments in various real estate assets, such as SG DevCorp’s $3,500,000 investment in the 50+ acre Lake Travis project site in Lago Vista, Texas, will appreciate in value, maintain their present value, or be sold at a profit. If the real estate assets we have acquired decline in value or if we are unable to make any payments under any related indebtedness, including but not limited to any payments under SG DevCorp’s $2,000,000 secured Short-Term Note, as and when they become due, or otherwise fail to perform our obligations under such indebtedness, our financial condition and results of operations may be adversely affected. The marketability and value of the Lake Travis project site will depend upon many factors beyond our control.
None.
None.
Not applicable.
