Surge Holdings, Inc. (identified in the request as Surgepays, Inc.) — Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018. The unaudited filing reports Surge Holdings, Inc. and subsidiaries. True Wireless, Inc. was acquired in April 2018 and consolidated from the closing date; reported comparisons therefore do not reflect equivalent business scope.
Financial results and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Revenue | $4.05 million | $3.36 million | $11.54 million | $9.82 million |
| Gross profit | $1.81 million | $1.39 million | $5.38 million | $3.72 million |
| Gross margin | 44.7% | 41.4% | 46.6% | 37.9% |
| Operating income (loss) | $(0.40) million | $0.05 million | $(0.18) million | $(0.12) million |
| Net income (loss) | $(0.43) million | $2.59 million | $(0.40) million | $2.42 million |
- Management attributed revenue growth of 21% for Q3 and 17% for the nine-month period primarily to the True Wireless merger. Gross-profit increases were attributed primarily to renegotiated True Wireless supply contracts.
- Prior-year net income included a $2.55 million gain on settlement of liabilities; the 2018 nine-month period recorded a $61,709 gain. This substantially affects the net-income comparison.
- Cash was $1.41 million at September 30, 2018, versus $1.27 million at year-end 2017. Nine-month cash flow was $188,000 from operations, $244,000 from investing, and $(297,000) from financing; cash increased $135,000.
- Current assets were $3.78 million and current liabilities $8.69 million, producing a $4.91 million working-capital deficit. Total liabilities were $9.38 million and total stockholders’ deficit was $4.06 million. Related-party notes payable totaled $3.70 million, including a $3.00 million merger note due December 31, 2018.
- Gross margin improved, but operating expenses rose to $2.21 million in Q3 and $5.56 million for nine months. Management cited merger-related costs, compensation, telecom operations, consultants, web hosting and professional services.
Business developments, outlook and risks
- The company describes operations spanning subsidized and commercial wireless services, merchant-oriented SurgePays products, digital advertising and cryptocurrency mining. True Wireless serves qualifying low-income customers; the filing states it served more than 60,000 customers.
- Management projected cash-flow positivity by fiscal year-end 2018, relying on higher operating cash flow and debt restructuring. It also described discussions with institutional investors for equity funding. These are plans, not reported outcomes; continuation as a going concern depends on their success.
- The filing identifies substantial going-concern uncertainty, noting the working-capital deficit, recurring operating losses and need to borrow to meet basic operating costs. Financial statements include no adjustments that might be required if the company cannot continue.
- Subsequent to quarter-end, the company agreed to fund an initial $190,000 advance and $10,000 in fees under a Pastime Foods distribution arrangement intended to reach more than 15,000 retail locations, with a longer-term target above 40,000. These are stated targets and contractual terms, not achieved results.
- In November 2018, the company settled West Publishing litigation for $125,000 principal plus 7% interest; it reported a $30,000 initial payment and scheduled a further $95,000 in principal payments through March 2019.
- An FCC notice proposed a $5.50 million forfeiture over allegedly ineligible subscriber lines in 2012–2013. Management disputed the claim and said it did not expect a material effect; the matter remains a contingency disclosed in the filing.
- Management said disclosure controls were ineffective because of inadequate segregation of duties, no audit committee and insufficiently documented controls. It reported that management was developing controls.
- The filing describes related-party financing and service arrangements, including payments to entities associated with company owners or officers. A reported $130,000 loss contingency is also included on the balance sheet.
- Planned launches included SurgePays Visa and money-order products, as well as a utility token and smartphone app; the filing provides target launch periods but no assurance of completion. No formal financial guidance is provided.
Important facts for investors to verify
- Whether planned equity financing and debt restructuring were completed, and whether the company achieved the projected year-end 2018 cash-flow positivity.
- The status and repayment or refinancing of the $3.00 million merger note due December 31, 2018, other overdue or demand debt, and related-party advances.
- True Wireless’s post-acquisition contribution and comparable operating performance, separating merger effects from underlying growth.
- Cash conversion and working-capital quality, including the $1.05 million Lifeline revenue receivable from USAC and the increase in customer phone inventory.
- Progress, economics and actual reach of the Pastime distribution arrangement and other announced products.
- Resolution and financial exposure of the FCC matter, West settlement and other disclosed legal or loss contingencies.
- Share-count and capitalization details: the filing reports 87,513,372 common shares at September 30 and 86,338,372 shares outstanding at November 14, 2018. The reason for the difference is not clear from the supplied filing text.
- Whether control deficiencies were remediated and whether governance and related-party oversight improved.