AudioEye, Inc. — Q1 2015 Form 10-Q
Business and period: AudioEye provides web-accessibility software and services, including its Ally platform, licensing, and accessibility remediation tools. This unaudited report covers the three months ended March 31, 2015, compared with Q1 2014; balance-sheet comparisons are with December 31, 2014.
Financial performance
| Metric | Q1 2015 | Q1 2014 / prior balance |
|---|---|---|
| Total revenue | $101,038 | $45,652 |
| Cost of revenue | $462,131 | $41,153 |
| Gross profit (loss) | $(361,093) | $4,499 |
| Operating expenses | $2,663,820 | $2,167,880 |
| Operating loss | $(3,024,913) | $(2,163,381) |
| Net loss | $(3,021,806) | $(2,170,364) |
| Basic and diluted loss per share | $(0.04) | $(0.04) |
| Operating cash flow | $(2,418,916) | $(1,275,347) |
| Cash, at period end | $760,277 | $1,672,901 at Dec. 31, 2014 |
- Revenue increased about 121% year over year, but cost of revenue rose substantially faster, driving gross margin to approximately negative 357% from approximately 10%.
- Selling and marketing was $366,368, research and development $142,282, general and administrative $2,021,226, and amortization and depreciation $133,944. Management attributed higher G&A primarily to added employees and benefits and increased stock-option and warrant expense.
- Cash declined by $912,624 during the quarter. Financing provided $1,535,942, including $325,000 from a private placement, $1,175,000 collection of a stock subscription receivable, and $43,942 from warrant exercises.
- At March 31, current assets were $997,394 and current liabilities $562,226; reported working capital from those figures is $435,168. Total liabilities were $606,026, including $67,800 of notes payable ($24,000 current and $43,800 long term). Total assets were $4,691,573.
Material changes, outlook, and risks
- Management said revenue increased with demand, while also attributing the gross loss to higher implementation costs. The MD&A additionally refers to “decreasing sales,” which conflicts with the reported year-over-year revenue increase.
- The company stated that continuing losses and limited cash mean it must raise additional capital through equity, debt, borrowings, or a combination, and warned it may not obtain sufficient funds on acceptable terms or at all; without funding it may be unable to execute its plan or continue operations. No quantified operating guidance is provided.
- Subsequent to quarter-end, the company sold 175,000 Series A preferred shares for $1.75 million. Each was convertible based on a $10 purchase price and an initial $0.1754 conversion price, subject to adjustment; the shares carry a 5% dividend if declared and are redeemable at $12.50 per share plus accumulated dividends. These terms create potential dilution and redemption obligations.
- Management concluded disclosure controls were not effective as of March 31, 2015, citing GAAP disclosure omissions that it said had been substantially corrected by May 18. The company reported implementing processes for non-cash and percentage-of-completion revenue and for customer collectability assessments. It also amended 2014 quarterly reports following a restatement and changed its prior conclusion about controls.
- Two purported shareholder class actions filed in April 2015 concern previously issued 2014 results and guidance that could no longer be relied upon. The company disputed the claims; management said it could not assess loss probability or estimate a range.
- After quarter-end, CEO and President Nathaniel Bradley resigned those roles and became Founder and Chief Innovation Officer and Treasurer; Sean Bradley became President while continuing as CTO and Secretary; COO James Crawford resigned. Additional equity grants and a later executive-chairman agreement are also disclosed.
- Stock-based compensation and stock issued for services were significant non-cash costs. The filing reports $559,793 of stock, option, and warrant expense in operating cash flow adjustments, and $314,663 of common stock issued for services.
Important facts to verify
- Reconcile the MD&A working-capital narrative: it states $2,712,981 at December 31, 2014, but the reported current assets less current liabilities equal $2,117,283.
- Confirm the explanation for the sharp rise in cost of revenue and whether implementation spending can support improved gross margins.
- Review cash runway, financing needs, and the dilution and redemption implications of the preferred-stock financing and subsequent equity awards.
- Assess the status and potential financial exposure of the shareholder lawsuits, and monitor remediation of the disclosed control weaknesses and restatement-related issues.