SurgePays, Inc. — Q3 2023 Form 10-Q
Reporting period: Three and nine months ended September 30, 2023. Financial statements are unaudited. SurgePays operates wireless and broadband services, fintech and prepaid products, a wholesale marketplace, and legal-services lead generation. Its SurgePhone and Torch Wireless businesses provide subsidized mobile broadband through the federal Affordable Connectivity Program (ACP).
Financial performance and position
- Q3 revenue: $34.2 million, down 5.6% from $36.2 million a year earlier. Operating income was $7.1 million, versus an operating loss of $1.0 million; net income available to common stockholders was $7.1 million, versus a $1.5 million loss. Diluted EPS was $0.49, versus a loss of $0.12 per share.
- First nine months: Revenue was $104.8 million, up 22.9% from $85.3 million. Operating income was $18.0 million, versus an operating loss of $2.9 million; net income available to common stockholders was $17.6 million, versus a loss of $3.7 million. Diluted EPS was $1.19, versus a loss of $0.30 per share.
- Margins: Q3 gross margin, calculated as revenue less cost of revenue, was approximately 30.7%, compared with 5.3% in Q3 2022. Nine-month operating margin was approximately 17.2%, compared with negative 3.4%. The MD&A’s “overall profit margin” figures correspond to operating margin, not gross margin.
- Cash flow: Nine-month operating cash flow was positive $8.3 million, compared with cash used of $4.0 million in 2022. Investing used $0.3 million and financing used $2.4 million. Cash rose $5.7 million to $12.7 million. The MD&A cash-flow table labels the positive operating cash flow as “used”; the financial statements show it as provided.
- Liquidity: Current assets were $37.3 million and current liabilities $14.5 million, producing working capital of $22.8 million, versus $4.1 million at December 31, 2022. Total assets were $43.2 million; total liabilities were $19.4 million; stockholders’ equity was $23.8 million.
- Debt and financing obligations: Notes payable totaled approximately $5.1 million, including $4.6 million owed to related parties. A separate installment-sale liability was $5.9 million, down from $13.0 million at year-end. The installment-sale facility is secured by all company assets and includes financial and subscriber covenants; the company reported compliance at September 30.
Material changes versus the prior comparable period
- Wireless and Torch revenue increased to $30.7 million in Q3 from $27.3 million and to $89.5 million for nine months from $61.5 million. Management attributed the growth to increased ACP subscribers. This segment generated 85.4% of nine-month revenue, up from 72.0%.
- LogicsIQ revenue fell to $0.7 million in Q3 from $4.8 million, which management linked to lower Camp Lejeune case volumes; reported case counts declined from 3,635 to 760. Nine-month revenue decreased to $6.6 million from $10.7 million.
- Surge Fintech and ECS revenue declined 30% in Q3 and 34% for nine months. Management cited customer shifts from prepaid wireless services to ACP and continuing effects of COVID-19.
- Nine-month cost of revenue fell to $76.6 million from $78.6 million despite higher revenue. General and administrative expense rose to $10.2 million from $9.7 million, including higher legal, contractor, and software-maintenance costs. Interest expense decreased to $0.5 million from $1.4 million.
- Cash increased and total liabilities fell from year-end, in part alongside repayment of debt and a reduction in the installment-sale liability. The company issued 182,615 shares for services and received $0.2 million from warrant exercises during the nine months.
Outlook, risks, contingencies, and unusual items
- Management expects revenue growth, particularly from ACP subscribers and active store count, and plans to expand geographically, pursue partnerships and distribution opportunities, and seek near-term cash-flow-positive opportunities. It expects gross margins to improve over the long term through scale and efficiencies, but gives no numerical guidance.
- Management says cash on hand and potential access to debt or equity are sufficient to meet obligations for one year from issuance of the financial statements. It also says borrowing may be needed to support expected ACP growth in 2024. The company notes its history of losses and that sustained profitability is not assured.
- ACP-related revenue is exposed to FCC program administration, statutory changes, rulings, and funding restrictions. The filing says all revenue in the wireless segment comes from FCC-administered programs; program-related receivables represented 98% of accounts receivable at September 30.
- Legal matters include a Blue Skies/True Wireless case against the company, with trial set for April 2024; a TCPA/Florida solicitation class action naming LogicsIQ, for which the company says potential loss cannot be estimated and notes similar matters are usually settled for $100,000 or less; and the company’s suit to collect a defaulted $176,851 promissory note from Blue Skies. Management reported no contingency accrual for the matters described.
- In November 2023, CFO Anthony Evers received an employment agreement with a $510,000 2023 cash bonus and 600,000 restricted shares vesting over three years, among other compensation. The filing also says the CEO’s employment agreement was being finalized.
- Potential dilution is material to review: the filing reports 5,616,892 outstanding, exercisable warrants at a weighted-average exercise price of $4.99, alongside 14,343,261 common shares outstanding at September 30. The CFO’s 600,000 restricted shares were granted after quarter-end.
Important facts for investors to verify
- ACP subscriber growth, reimbursement and collection trends, and the program’s funding outlook, given the segment’s concentration in revenue and receivables.
- Whether improved operating results and cash generation continue, and whether the company needs additional borrowing to fund growth.
- Terms, collateral, covenants, and repayment requirements for the installment-sale facility and related-party notes, including the $4.0 million related-party balance due in 2024.
- Developments and potential exposure in the Blue Skies/True Wireless and TCPA litigation, and collectability of the defaulted note receivable.
- Warrant and restricted-share dilution, including the CFO award and the number of warrants that may become common shares.
- The controls disclosure states that controls were evaluated “as of June 30, 2022,” despite this being a Q3 2023 filing; verify the intended evaluation date. The filing also notes a lack of segregation of duties.