Business Context and Reporting Period
Company: Surge Holdings, Inc. (f/k/a Ksix Media Holdings, Inc.)
Filing Type: Form 10-Q (Unaudited)
Period Ended: June 30, 2018
Reporting Status: Smaller Reporting Company; Not a Shell Company
Outstanding Shares: 85,339,256 shares of common stock as of August 14, 2018.
The Company operates through multiple subsidiaries, including DigitizeIQ (digital advertising), KSIX (internet marketing), and True Wireless, Inc. (TW), a telecommunications provider specializing in the FCC Lifeline program. On April 11, 2018, the Company completed a reverse acquisition merger with TW. The financial statements reflect the consolidation of TW as of the closing date.
Key Financial Metrics
| Metric | Six Months Ended June 30, 2018 | Six Months Ended June 30, 2017 |
|---|---|---|
| Revenue | $7,485,563 | $6,466,608 |
| Gross Profit | $3,565,293 | $2,328,378 |
| Gross Margin | 47.6% | 36.0% |
| Operating Profit (Loss) | $216,329 | $(163,641) |
| Net Income (Loss) | $25,883 | $(169,182) |
| Cash and Cash Equivalents | $1,626,526 | $1,328,156 |
| Working Capital | $(4,967,853) Deficit | $178,891 Surplus |
| Total Liabilities | $9,132,275 | $3,694,078 |
| Stockholders' Deficit | $(4,324,931) | $(617,240) |
Cash Flow (Six Months Ended June 30, 2018):
- Operating Activities: $435,285 provided
- Investing Activities: $243,768 provided (net cash received in business combination)
- Financing Activities: $(326,687) used (primarily loan repayments to related parties)
Material Changes vs. Prior Period
- Revenue Growth: Revenue increased 16% ($1.02M) year-over-year, driven primarily by the consolidation of True Wireless, Inc. (TW).
- Margin Expansion: Gross profit increased 53% ($1.24M) due to renegotiated supply contracts within the TW segment.
- Expense Increase: Selling, General, and Administrative (SG&A) expenses rose 32% ($797k) to $3.29M. This includes $709k in expenses from the Surge entities not present in the prior year and professional fees associated with the merger.
- Debt Load: Total liabilities increased by $5.44M. This includes a $3.0M promissory note issued to TW shareholders as part of the merger consideration and increased related-party notes.
- Asset Composition: The Company acquired cryptocurrency mining equipment (LTC coins valued at $55,466) and recorded $866,782 in goodwill from the TW acquisition.
Outlook, Risks, and Contingencies
Going Concern: The Company has a working capital deficit of approximately $5.0 million and an accumulated deficit of $856,585. Management states that the ability to continue as a going concern is dependent on securing equity investments to pay down debt and cover operational shortfalls. The Company projects cash flow positivity by the end of fiscal year 2018.
Legal Proceedings:
- American Express Bank FSB: A civil complaint for ~$336k regarding a credit card issued to a subsidiary was dismissed in July 2017, but indemnification obligations remain a potential risk.
- West Publishing v. DigitizeIQ: A pending breach of contract claim for $435,700. The Company contends this is an accounting error and is defending vigorously.
- FCC Forfeiture: A 2013 Notice of Apparent Liability for $5.5M regarding ineligible Lifeline lines. Management believes the forfeiture is without merit and would not materially affect financial position.
Internal Controls: Management determined disclosure controls and procedures were not effective as of June 30, 2018, citing a lack of segregation of duties, lack of an audit committee, and lack of documented controls.
Investor Verification Checklist
- Debt Structure: Verify the terms and repayment schedule of the $3.0M merger note and the $3.67M in related-party notes payable.
- Going Concern Plan: Confirm the status of negotiations with institutional investors for the equity financing required to sustain operations.
- Legal Exposure: Monitor the outcome of the West Publishing litigation and any potential indemnification claims related to the dismissed American Express case.
- Revenue Quality: Assess the sustainability of the Lifeline revenue stream and the impact of FCC compliance audits on future cash flows.
- Related Party Transactions: Review the volume of transactions with related parties (e.g., Axia Management, 321 Communications, CenterCom Global) which constitute a significant portion of costs and liabilities.