Kartoon Studios, Inc. quarterly report, Q2 FY2019

Genius Brands International, Inc. (now Kartoon Studios, Inc.) — Q2 2019 Form 10-Q Summary

Business context and reporting period

The filing covers the quarter and six months ended June 30, 2019. At the time, the registrant was named Genius Brands International, Inc. and traded on Nasdaq under GNUS. The company develops, produces, licenses, and distributes children’s multimedia content and related consumer products, including Rainbow Rangers, Llama Llama, Baby Genius, and Thomas Edison’s Secret Lab.

Key financial metrics

Metric	Three months ended June 30, 2019	Three months ended June 30, 2018	Six months ended June 30, 2019	Six months ended June 30, 2018
Revenue	$464,263	$76,411	$1,685,194	$169,624
Loss from operations	$(1,666,859)	$(2,188,963)	$(2,916,974)	$(3,452,433)
Net loss	$(1,715,152)	$(2,189,783)	$(6,722,632)	$(3,453,247)
Net loss applicable to common shareholders	$(1,715,152)	$(2,189,783)	$(7,044,872)	$(3,453,247)
Basic and diluted loss per share	$(0.16)	$(0.26)	$(0.69)	$(0.42)
Cash used in operating activities	Not separately provided	Not separately provided	$(2,550,140)	$(3,365,437)

Q2 revenue increased 508% year over year, driven primarily by Rainbow Rangers and Llama Llama licensing and by international television deliveries. Six-month revenue increased 893%. Despite higher revenue, the company remained substantially loss-making. The Q2 operating loss was approximately 359% of revenue, and the six-month operating loss was approximately 173% of revenue.

Q2 licensing and royalties increased 507% to $149,659.
Q2 television and home entertainment revenue increased 764% to $295,454.
Six-month licensing and royalties increased 446% to $499,845.
Six-month television and home entertainment revenue increased 2,918% to $1,145,561.
Marketing and sales expense rose 26% in Q2 and 28% for the six months, primarily to promote Rainbow Rangers.
General and administrative expense rose 17% in Q2 and 21% for the six months, mainly from higher salaries, related costs, and rent.
Interest expense increased to $137,542 in Q2 and $666,744 for the six months, primarily due to secured convertible notes and production loans.

Balance sheet, debt, and liquidity

Cash, cash equivalents, and restricted cash totaled $2,631,334 at June 30, 2019, compared with $3,085,026 at December 31, 2018.
Cash and cash equivalents were $2,229,735; restricted cash was $401,599 and was held for production of Llama Llama.
Current assets were $4,352,922 versus current liabilities of $7,848,987, resulting in negative working capital of $3,496,065. Working capital was positive at $971,663 at December 31, 2018.
Total liabilities were $17,154,333, compared with $11,762,370 at year-end 2018. Stockholders’ equity was $9,190,612, compared with $12,839,771.
Senior secured convertible notes were recorded at $4.5 million and bore interest at 10%. They were scheduled to mature on August 20, 2019 and were secured by specified company assets.
Production-facility borrowings were $2,613,110 net at June 30, 2019, with maturity of the newer facility scheduled for March 31, 2021.
The company had an accumulated deficit of $57,751,666.
Common shares outstanding increased to 10,475,740 from 9,457,859 at December 31, 2018. Warrants outstanding increased to 9,491,175 from 5,899,389.

Material changes versus the prior comparable period

Revenue grew sharply from a low prior-year base, reflecting deliveries and licensing activity for newer properties.
The Q2 operating loss narrowed to $1.67 million from $2.19 million, partly because prior-year direct operating costs included unusually high film amortization and a favorable cost adjustment.
The six-month net loss widened to $6.72 million from $3.45 million. The period included $3.35 million of loss on extinguishment of debt and substantially higher interest expense.
Operating cash burn improved by $815,297, or 24%, but remained negative at $2.55 million.
Financing activities provided $2.11 million, primarily from $1.76 million of net equity proceeds and $434,912 of net production-loan borrowings.
Film and television costs increased to $9.15 million from $8.17 million, primarily due to production and development of Rainbow Rangers season one and Llama Llama season two.
The company adopted the new lease standard, recognizing a $1.94 million right-of-use asset and $1.99 million of lease liabilities at June 30, 2019.

Guidance, outlook, risks, contingencies, and unusual items

The filing provides no quantitative revenue or earnings guidance.
Management stated that current assets were insufficient to repay the secured convertible notes and fund planned operations, creating substantial doubt about the company’s ability to continue as a going concern.
The company stated that it did not have sufficient cash to repay the notes in full and would need additional financing, refinancing, conversion, or an extension. Failure to reach an arrangement could result in default, acceleration, bankruptcy, or liquidation.
After quarter-end, on July 22, 2019, noteholders agreed to amendments related to a proposed offering, including reducing the note conversion price from $2.50 to $1.515 and issuing warrants for 1.8 million shares at $1.14 per share.
The company deposited $750,000 into escrow to guarantee repayment of at least that amount of a noteholder’s $1 million outstanding balance by August 20, 2019.
Customer concentration was significant: two customers represented 52% of Q2 revenue and 57% of six-month revenue; three customers represented 75% of accounts receivable at June 30, 2019.
The company reported no material pending legal proceedings and no defaults upon senior securities as of the filing date.
Management stated that disclosure controls were effective, while noting a previously identified potential material weakness involving timely accounting analysis for warrants issued with convertible notes.
Future contractual obligations totaled $3.92 million, including $2.60 million of operating lease obligations and $1.32 million of employment-contract obligations.

Most important facts for an investor to verify

Whether the August 2019 maturity obligations were repaid, converted, refinanced, or extended, and the resulting dilution and debt balance.
The terms and proceeds of the proposed August 2019 equity offering and any subsequent financings.
Actual cash runway, operating cash burn, and the company’s ability to fund content production and operating commitments.
Revenue sustainability and customer concentration, particularly the reliance on Rainbow Rangers, Llama Llama, and a small number of distributors.
The potential dilution from 9.49 million outstanding warrants, convertible notes, preferred stock, and stock options.
Recoverability and impairment risk associated with $9.15 million of film and television costs and $10.37 million of goodwill.
Resolution of the disclosed going-concern uncertainty and compliance with Nasdaq listing requirements.