DBGI 10-Q
Digital Brands Group, Inc. (DBGI)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM
For the quarterly period ended
For the transition period from to
Commission file number:
(Exact name of registrant as specified in its charter)
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(State or other jurisdiction of | (I.R.S. Employer | |
incorporation or organization) | Identification No.) |
(Address of principal executive offices, including zip code)
Tel: (
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class |
| Trading Symbol(s) |
| Name of each exchange on which registered |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and emerging growth company in Rule 12b-2 of the Exchange Act.
Large accelerated filer | ☐ | Accelerated filer | ☐ |
☒ | Smaller reporting company | ||
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| Emerging growth company |
If an emerging growth company, indicate by check mark if this registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes
As of May 22, 2023 the Company had
DIGITAL BRANDS GROUP, NC.
FORM 10-Q
TABLE OF CONTENTS
2
PART I – FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
DIGITAL BRANDS GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
| March 31, |
| December 31, | |||
2023 | 2022 | |||||
Unaudited | Audited | |||||
ASSETS | ||||||
Current assets: |
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Cash and cash equivalents | $ | | $ | | ||
Accounts receivable, net |
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Due from factor, net |
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Inventory |
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Prepaid expenses and other current assets |
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Total current assets |
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Property, equipment and software, net |
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Goodwill |
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Intangible assets, net |
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Deposits |
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Right of use asset | | | ||||
Total assets | $ | | $ | | ||
LIABILITIES AND STOCKHOLDERS’ DEFICIT |
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Current liabilities: |
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Accounts payable | $ | | $ | | ||
Accrued expenses and other liabilities |
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Deferred revenue |
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Due to related parties |
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Contingent consideration liability | | | ||||
Convertible note payable, net |
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Accrued interest payable |
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Note payable - related party |
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Loans payable, current |
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Promissory notes payable, net |
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Right of use liability, current portion | | | ||||
Total current liabilities |
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Loans payable, net of current portion |
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Right of use liability | | — | ||||
Total liabilities |
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Commitments and contingencies |
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Stockholders’ deficit: |
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Undesignated preferred stock, $ |
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Series A preferred stock, $ | ||||||
Series A convertible preferred stock, $ | | | ||||
Common stock, $ | | | ||||
Additional paid-in capital |
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Accumulated deficit |
| ( |
| ( | ||
Total stockholders’ deficit |
| ( |
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Total liabilities and stockholders’ deficit | $ | | $ | | ||
See the accompanying notes to the unaudited condensed consolidated financial statements
3
DIGITAL BRANDS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended | ||||||
March 31, | ||||||
| 2023 |
| 2022 | |||
Restated | ||||||
Net revenues | $ | | $ | | ||
Cost of net revenues |
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Gross profit |
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Operating expenses: |
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General and administrative |
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Sales and marketing |
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Distribution |
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Change in fair value of contingent consideration | — | | ||||
Total operating expenses |
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Loss from operations |
| ( |
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Other income (expense): |
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Interest expense |
| ( |
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Other non-operating income (expenses) |
| ( |
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Total other income (expense), net |
| ( |
| ( | ||
Income tax benefit (provision) |
| — |
| — | ||
Net loss | $ | ( | $ | ( | ||
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Weighted average common shares outstanding - basic and diluted |
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Net loss per common share - basic and diluted | ( | ( | ||||
See the accompanying notes to the unaudited condensed consolidated financial statements
4
DIGITAL BRANDS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ DEFICIT
(UNAUDITED)
Series A Convertible | Additional | Total | |||||||||||||||||
Preferred Stock | Common Stock | Paid-in | Accumulated | Stockholders’ | |||||||||||||||
| Shares |
| Amount |
| Shares |
| Amount |
| Capital |
| Deficit |
| Deficit | ||||||
Balances at December 31, 2021 | — | $ | — |
| | $ | | $ | | $ | ( | $ | ( | ||||||
Conversion of notes into common stock | — |
| — |
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| — |
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Stock-based compensation | — | — | — | — | | — | | ||||||||||||
Net loss | — | — | — | — | — | ( | ( | ||||||||||||
Balances at March 31, 2022 | — | $ | — | | $ | | $ | | $ | ( | $ | ( | |||||||
Balances at December 31, 2022 | | $ | |
| | $ | | $ | | $ | ( | $ | ( | ||||||
Issuance of common stock pursuant to private placement | — | — | | | | — | | ||||||||||||
Offering costs | — | — | — | — | ( | — | ( | ||||||||||||
Shares issued for services | — | — | | | | — | | ||||||||||||
Shares and warrants issued with notes | — | — | | | | — | | ||||||||||||
Stock-based compensation | — | — | — | — | | — | | ||||||||||||
Net loss | — | — | — | — | — | ( | ( | ||||||||||||
Balances at March 31, 2023 | | $ | |
| | $ | | $ | | $ | ( | $ | ( | ||||||
See the accompanying notes to the unaudited condensed consolidated financial statements
5
DIGITAL BRANDS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Three Months Ended | ||||||
March 31, | ||||||
| 2023 |
| 2022 | |||
Cash flows from operating activities: | ||||||
Net loss | $ | ( | $ | ( | ||
Adjustments to reconcile net loss to net cash used in operating activities: |
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Depreciation and amortization |
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Amortization of loan discount and fees |
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Loss on extinguishment of debt | | — | ||||
Stock-based compensation |
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Shares issued for services | | — | ||||
Change in credits due customers | | ( | ||||
Change in fair value of warrant liability |
| — |
| ( | ||
Change in fair value of derivative liability | — | | ||||
Change in fair value of contingent consideration | — | | ||||
Changes in operating assets and liabilities: | ||||||
Accounts receivable, net |
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Factored receivables |
| ( |
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Inventory |
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Prepaid expenses and other current assets | ( | ( | ||||
Accounts payable |
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Accrued expenses and other liabilities |
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Deferred revenue |
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Accrued interest |
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Net cash used in operating activities | ( |
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Cash flows from investing activities: |
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Purchase of property, equipment and software | — | ( | ||||
Deposits |
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Net cash provided by (used in) investing activities |
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Cash flows from financing activities: |
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Proceeds (repayments) from related party advances |
| ( |
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Advances (repayments) from factor | | ( | ||||
Issuance of loans and notes payable |
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Repayments of convertible notes and loans payable |
| ( |
| — | ||
Issuance of common stock pursuant to private placement | | — | ||||
Offering costs |
| ( |
| — | ||
Net cash provided by financing activities | |
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Net change in cash and cash equivalents |
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Cash and cash equivalents at beginning of period |
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Cash and cash equivalents at end of period | $ | | $ | | ||
Supplemental disclosure of cash flow information: |
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Cash paid for income taxes | $ | — | $ | — | ||
Cash paid for interest | $ | | $ | — | ||
Supplemental disclosure of non-cash investing and financing activities: |
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Conversion of notes into common stock | $ | — | $ | | ||
Right of use asset | $ | | $ | | ||
See the accompanying notes to the unaudited condensed consolidated financial statements
6
NOTE 1: NATURE OF OPERATIONS
Digital Brands Group, Inc. (the “Company” or “DBG”), was organized on September 17, 2012 under the laws of Delaware as a limited liability company under the name Denim.LA LLC. The Company converted to a Delaware corporation on January 30, 2013 and changed its name to Denim.LA, Inc. Effective December 31, 2020, the Company changed its name to Digital Brands Group, Inc. (DBG).
The Company is a curated collection of lifestyle brands, including Bailey 44, DSTLD, Harper & Jones, Stateside and ACE Studios, that offers a variety of apparel products through direct-to-consumer and wholesale distribution.
On February 12, 2020, Denim.LA, Inc. entered into an Agreement and Plan of Merger with Bailey 44, LLC (“Bailey”), a Delaware limited liability company. On the acquisition date, Bailey 44, LLC became a wholly owned subsidiary of the Company.
On May 18, 2021, the Company closed its acquisition of Harper & Jones, LLC (“H&J”) pursuant to its Membership Interest Stock Purchase Agreement with D. Jones Tailored Collection, Ltd. to purchase
On August 30, 2021, the Company closed its acquisition of Mosbest, LLC dba Stateside (“Stateside”) pursuant to its Membership Interest Purchase Agreement with Moise Emquies to purchase
On December 30, 2022, the Company closed its previously announced acquisition of Sunnyside, LLC dba Sundry (“Sundry”) pursuant to its Second Amended and Restated Membership Interest Purchase Agreement with Moise Emquies to purchase
NOTE 2: GOING CONCERN
The accompanying condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company has not generated profits since inception, has sustained net losses of $
The Company’s ability to continue as a going concern for the next 12 months from the date the financial statements were available to be issued is dependent upon its ability to generate sufficient cash flows from operations to meet its obligations, which it has not been able to accomplish to date, and/or to obtain additional capital financing. Through the date the financial statements were available to be issued, the Company has been primarily financed through the issuance of capital stock and debt. In the event that the Company cannot generate sufficient revenue to sustain its operations, the Company will need to reduce expenses or obtain financing through the sale of debt and/or equity securities. The issuance of additional equity would result in dilution to existing shareholders. If the Company is unable to obtain additional funds when they are needed or if such funds cannot be obtained on terms acceptable to the Company, the Company would be unable to execute upon the business plan or pay costs and expenses as they are incurred, which would have a material, adverse effect on the business, financial condition and results of operations. No assurance can be given that the Company will be successful in these efforts.
NOTE 3: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accounting and reporting policies of the Company conform to accounting principles generally accepted in the United States of America (“GAAP”).
7
Reverse Stock Split
On October 21, 2022, the Board of Directors approved a -for-100 reverse stock split of its issued and outstanding shares of common stock and a proportional adjustment to the existing conversion ratios for each series of the Company’s preferred stock. The reverse stock split became effective as of November 3, 2022. Accordingly, all share and per share amounts for all periods presented in the accompanying consolidated financial statements and notes thereto have been adjusted retroactively, where applicable, to reflect this reverse stock split and adjustment of the preferred stock conversion ratios.
Unaudited Interim Financial Information
The accompanying unaudited condensed consolidated balance sheet as of March 31, 2023, the unaudited condensed consolidated statements of operations for the three and three months ended March 31, 2023 and 2022 and of cash flows for the three months ended March 31, 2023 and 2022 have been prepared by the Company, pursuant to the rules and regulations of the SEC for the interim financial statements. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to rules and regulations. However, the Company believes that the disclosures are adequate to make the information presented not misleading. The unaudited interim consolidated financial statements have been prepared on a basis consistent with the audited consolidated financial statements and in the opinion of management, reflect all adjustments, consisting of only normal recurring adjustments, necessary for the fair presentation of the consolidated results for the interim periods presented and of the consolidated financial condition as of the date of the interim consolidated balance sheet. The results of operations are not necessarily indicative of the results expected for the year ended December 31, 2023.
The accompanying unaudited interim condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and the notes thereto for the year ended December 31, 2022 included in the Company’s Annual Form 10-K filed with SEC on April 17, 2023.
Principles of Consolidation
These condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries Bailey, H&J and Stateside from the dates of acquisition. All inter-company transactions and balances have been eliminated on consolidation.
Use of Estimates
The preparation of the Company’s financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Significant estimates and assumptions reflected in these financial statements include, but are not limited to, inventory, impairment of long-lived assets, contingent consideration and derivative liabilities. The Company bases its estimates on historical experience, known trends and other market-specific or other relevant factors that it believes to be reasonable under the circumstances. On an ongoing basis, management evaluates its estimates when there are changes in circumstances, facts and experience. Changes in estimates are recorded in the period in which they become known. Actual results could differ from those estimates.
Restatement of Previously Issued Financial Statements
Certain prior year accounts have been reclassified to conform with current year presentation pertaining to cost of net revenue and general and administrative expenses. The Company has reclassified $
Cash and Equivalents and Concentration of Credit Risk
The Company considers all highly liquid securities with an original maturity of less than three months to be cash equivalents. As of March 31, 2023 and December 31, 2022, the Company did not hold any cash equivalents. The Company’s cash and cash equivalents in bank deposit accounts, at times, may exceed federally insured limits of $
8
Fair Value of Financial Instruments
The Company’s financial instruments consist of cash and cash equivalents, prepaid expenses, accounts payable, accrued expenses, due to related parties, related party note payable, and convertible debt. The carrying value of these assets and liabilities is representative of their fair market value, due to the short maturity of these instruments.
The following tables present information about the Company’s financial assets and liabilities measured at fair value on a recurring basis and indicates the level of the fair value hierarchy used to determine such fair values:
Fair Value Measurements | ||||||||||||
as of March 31, 2023 Using: | ||||||||||||
| Level 1 |
| Level 2 |
| Level 3 |
| Total | |||||
Liabilities: | ||||||||||||
Contingent consideration | $ | — | $ | — | $ | | $ | | ||||
$ | — | $ | — | $ | | $ | | |||||
Fair Value Measurements | ||||||||||||
as of December 31, 2022 Using: | ||||||||||||
| Level 1 |
| Level 2 |
| Level 3 |
| Total | |||||
Liabilities: | ||||||||||||
Contingent consideration | $ | — | $ | — | $ | | $ | | ||||
$ | — | $ | — | $ | | $ | | |||||
Contingent Consideration
The Company records a contingent consideration liability relating to stock price guarantees included in its acquisitions of Bailey44 and H&J. The estimated fair value of the contingent consideration is recorded using significant unobservable measures and other fair value inputs and is therefore classified as a Level 3 financial instrument.
The Company estimates and records the acquisition date fair value of contingent consideration as part of purchase price consideration for acquisitions. Additionally, each reporting period, the Company estimates changes in the fair value of contingent consideration and recognizes any change in fair in the consolidated statement of operations. The estimate of the fair value of contingent consideration requires very subjective assumptions to be made of future operating results, discount rates and probabilities assigned to various potential operating result scenarios. Future revisions to these assumptions could materially change the estimate of the fair value of contingent consideration and, therefore, materially affect the Company’s future financial results. The contingent consideration liability is to be settled with the issuance of shares of common stock once contingent provisions set forth in respective acquisition agreements have been achieved. Upon achievement of contingent provisions, respective liabilities are relieved and offset by increases to common stock and additional paid-in capital in the stockholders’ equity section of the Company’s consolidated balance sheets.
The fair value of the contingent consideration liability related to the Company’s business combinations is valued using the Monte Carlo simulation model. The Monte Carlo simulation inputs include the stock price, volatility of common stock, timing of settlement and resale restrictions and limits. The fair value of the contingent consideration is then calculated based on guaranteed equity values at settlement as defined in the acquisition agreements.
The detail of contingent consideration by company is as follows:
March 31, | December 31, | |||||
| 2023 |
| 2022 | |||
Bailey |
| $ | | $ | | |
Harper & Jones |
| |
| | ||
$ | | $ | | |||
The contingent consideration liabilities were revalued for a final time as of May 18, 2022, the anniversary date of the Company’s initial public offering. As of the date of the issuance of these financial statements, the contingent consideration liabilities were not yet settled with shares.
9
In December 2022, the Company paid $
Inventory
Inventory is stated at the lower of cost or net realizable value and accounted for using the weighted average cost method for DSTLD and first-in, first-out method for Bailey, Stateside and Sundry. The inventory balances as of March 31, 2023 and December 31, 2022 consist substantially of finished good products purchased or produced for resale, as well as any raw materials the Company purchased to modify the products and work in progress.
Inventory consisted of the following:
March 31, |
| December 31, | ||||
2023 | 2022 | |||||
Raw materials |
| $ | |
| $ | |
Work in process |
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Finished goods |
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Inventory | $ | | $ | | ||
Goodwill
Goodwill and identifiable intangible assets that have indefinite useful lives are not amortized, but instead are tested annually for impairment and upon the occurrence of certain events or substantive changes in circumstances. The annual goodwill impairment test allows for the option to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. An entity may choose to perform the qualitative assessment on none, some or all of its reporting units or an entity may bypass the qualitative assessment for any reporting unit and proceed directly to step one of the quantitative impairment test. If it is determined, on the basis of qualitative factors, that the fair value of a reporting unit is, more likely than not, less than its carrying value, the quantitative impairment test is required.
Annual Impairment
At December 31, 2022, management determined that certain events and circumstances occurred that indicated that the carrying value of the Company’s brand name assets, and the carrying amount of the reporting units, pertaining to Bailey44 and Harper & Jones may not be recoverable. The qualitative assessment was primarily due to reduced or stagnant revenues of both entities as compared to the Company’s initial projections at the time of each respective acquisition, as well as the entities’ liabilities in excess of assets. As such, the Company compared the estimated fair value of the brand names with its carrying value and recorded an impairment loss of $
10
Net Loss per Share
Net earnings or loss per share is computed by dividing net income or loss by the weighted-average number of common shares outstanding during the period, excluding shares subject to redemption or forfeiture. The Company presents basic and diluted net earnings or loss per share. Diluted net earnings or loss per share reflect the actual weighted average of common shares issued and outstanding during the period, adjusted for potentially dilutive securities outstanding. Potentially dilutive securities are excluded from the computation of the diluted net loss per share if their inclusion would be anti-dilutive. As all potentially dilutive securities are anti-dilutive as of March 31, 2023 and 2022, diluted net loss per share is the same as basic net loss per share for each year. Potentially dilutive items outstanding as of March 31, 2023 and 2022 are as follows:
| March 31, | |||
2023 |
| 2022 | ||
Convertible notes |
| — |
| |
Series A convertible preferred stock | | — | ||
Common stock warrants |
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Stock options |
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Total potentially dilutive shares |
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The stock options and warrants above are out-of-the-money as of March 31, 2023 and 2022.
Recent Accounting Pronouncements
In April 2019, the FASB issued ASU 2019-04, Codification Improvements to Topic 326, Financial Instruments-Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments, which amends and clarifies several provisions of Topic 326. In May 2019, the FASB issued ASU 2019-05, Financial Instruments-Credit Losses (Topic 326): Targeted Transition Relief, which amends Topic 326 to allow the fair value option to be elected for certain financial instruments upon adoption. ASU 2019-10 extended the effective date of ASU 2016-13 until December 15, 2022. The Company adopted this new guidance, including the subsequent updates to Topic 326, on January 1, 2023 and the adoption did not have a material impact on the Company’s condensed consolidated financial statements and related disclosures.
Management does not believe that any other recently issued, but not yet effective, accounting standards could have a material effect on the accompanying financial statements. As new accounting pronouncements are issued, the Company will adopt those that are
Unaudited Pro Forma Financial Information
The following unaudited pro forma financial information presents the Company’s financial results as if the Sundry acquisition had occurred as of January 1, 2022. The unaudited pro forma financial information is not necessarily indicative of what the financial results actually would have been had the acquisitions been completed on this date. In addition, the unaudited pro forma financial information is not indicative of, nor does it purport to project, the Company’s future financial results. The following unaudited pro forma financial information includes incremental property and equipment depreciation and intangible asset amortization as a result of the acquisitions. The pro forma information does not give effect to any estimated and potential cost savings or other operating efficiencies that could result from the acquisition:
| Three Months Ended | ||
March 31, | |||
2022 | |||
Net revenues | $ | | |
Net loss | $ | ( | |
Net loss per common share | $ | ( | |
11
NOTE 4: DUE FROM FACTOR
Due to/from factor consist of the following:
| March 31, |
| December 31, | |||
2023 | 2022 | |||||
Outstanding receivables: | ||||||
Without recourse | $ | | $ | | ||
With recourse |
| |
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Matured funds and deposits | | | ||||
Advances | ( | ( | ||||
Credits due customers | ( | ( | ||||
$ | | $ | | |||
NOTE 5: GOODWILL AND INTANGIBLE ASSETS
The following is a summary of goodwill attributable to each business combination:
| March 31, |
| December 31 | |||
2023 | 2022 | |||||
Bailey | $ | | $ | | ||
Harper & Jones |
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Stateside |
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Sundry |
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$ | | $ | | |||
The following table summarizes information relating to the Company’s identifiable intangible assets as of March 31, 2023:
| Gross |
| Accumulated |
| Carrying | ||||
Amount | Amortization | Value | |||||||
Amortized: |
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Customer relationships | $ | | $ | ( | $ | | |||
$ | | $ | ( | $ | | ||||
Indefinite-lived: |
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Brand name | $ | | — |
| | ||||
$ | | $ | ( | $ | | ||||
The Company recorded amortization expense of $
12
NOTE 6: LIABILITIES AND DEBT
Accrued Expenses and Other Liabilities
The Company accrued expenses and other liabilities line in the consolidated balance sheets is comprised of the following as of March 31, 2023 and December 31,2022:
| March 31, |
| December 31, | |||
2023 | 2022 | |||||
Accrued expenses | $ | | $ | | ||
Reserve for returns |
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Payroll related liabilities |
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Sales tax liability |
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Other liabilities |
| |
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$ | | $ | | |||
As of March 31, 2023, payroll liabilities included an aggregate of $
As of March 31, 2023 and December 31, 2022, accrued expenses included $
Convertible Debt
2020 Regulation D Offering
As of March 31, 2023 and December 31, 2022, there was $
Convertible Promissory Note
On December 29, 2022, the Company and various purchasers executed a Securities Purchase Agreement (“December Notes”) whereby the investors purchased from the Company convertible promissory notes in the aggregate principal amount of $
In connection with the December Notes, the Company issued to the investors an aggregate of
In February 2023, the principal of $
13
The following is a summary of the convertible notes for the three months ended March 31, 2023:
|
| Unamortized |
| Convertible Note | |||||
Principal | Debt Discount | Payable, Net | |||||||
Balance, December 31, 2022 | $ | | $ | ( | $ | | |||
Repayments of notes |
| ( |
| — |
| ( | |||
Amortization of debt discount |
| — |
| |
| | |||
Loss on extinguishment of debt |
| — |
| |
| | |||
Balance, March 31, 2023 | $ | | $ | — | $ | | |||
During the three months ended March 31, 2022, the Company converted an aggregate of $
During the three months ended March 31, 2023 and 2022, the Company amortized $
In January 2023, the Company issued
Loan Payable — PPP and SBA Loan
As of March 31, 2023 and December 31, 2022, H&J had an outstanding loan under the EIDL program of $
As of both March 31, 2023 and December 31, 2022, Bailey had an outstanding PPP Loan balance of $
Loan Payable
In May 2021, H&J entered into a loan payable with a bank and received proceeds of $
Note Payable – Related Party
As of both March 31, 2023 and December 31, 2022, H&J had an outstanding note payable of $
Merchant Advances
In 2022, H&J entered into merchant advance loans for proceeds of $
In 2022, the Company obtained several merchant advances. These advances are, for the most part, secured by expected future sales transactions of the Company with expected payments on a weekly basis. As of December 31, 2022, $
In 2023, the Company obtained merchant advances totaling $
14
Promissory Note Payable
As of March 31, 2023 and December 31, 2022, the outstanding principal on the note to the sellers of Bailey was $
The Company issued a promissory note in the principal amount of $
In March 2023, the Company and various purchasers executed a Securities Purchase Agreement (“March 2023 Notes”) whereby the investors purchased from the Company promissory notes in the aggregate principal amount of $
The following is a summary of promissory notes payable, net:
| March 31, |
| December 31, | |||
2023 | 2022 | |||||
Bailey Note | $ | | $ | | ||
Sundry Note |
| |
| | ||
March 2023 Notes - principal |
| |
| — | ||
March 2023 Notes - unamortized debt discount |
| ( |
| — | ||
Promissory note payable, net | $ | | $ | | ||
NOTE 7: STOCKHOLDERS’ DEFICIT
On January 11, 2023, the Company, entered into a Securities Purchase Agreement (the “Purchase Agreement”) with a certain accredited investor (the “Investor”), pursuant to which the Company agreed to issue and sell, in a private placement (the “January Private Placement”), an aggregate of
In January 2023, the Company issued
In March 2023, the Company issued an aggregate of
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During the three months ended March 31, 2022, the Company converted an aggregate of $
NOTE 8: RELATED PARTY TRANSACTIONS
During the three months ended March 31, 2023 and 2022, the Company made repayments for amounts due to related parties totaling $
As of March 31, 2023 and December 31, 2022, H&J had an outstanding note payable of $
NOTE 9: SHARE-BASED PAYMENTS
Common Stock Warrants
In connection with the January Private Placement, the Company granted
In connection with merchant advances (Note 6), the Company granted
The following is a summary of warrant activity:
| Common |
| Weighted | ||
Stock | Average | ||||
Warrants | Exercise Price | ||||
Outstanding - December 31, 2022 | | $ | | ||
Granted | |
| | ||
Exercised | ( | | |||
Forfeited | — |
| — | ||
Outstanding - March 31, 2023 | | $ | | ||
Exercisable at December 31, 2022 | | $ | | ||
Exercisable at March 31, 2023 |
| | $ | | |
Stock Options
As of March 31, 2023 and December 31, 2022, the Company had
Stock-based compensation expense of $
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NOTE 10: LEASE OBLIGATIONS
In January 2023, the Company entered into a lease agreement extension for its corporate office and distribution center in Vernon, California that expires on December 31, 2023. The lease has monthly base rent payments of $
In May 2023, the Company entered into a lease agreement extension for a showroom space in Los Angeles, California that commences in March 2023 and expires in January 2025. The original lease began in April 2018 and terminated in May 2020, at which point the lease was month to month. The lease has a monthly base rent of $
Stateside and Sundry utilize a lease for a showroom in Los Angeles, California which is month to month.
Total rent expense for the three months ended March 31, 2023 and 2022 was $
NOTE 11: CONTINGENCIES
On March 21, 2023, a vendor filed a lawsuit against Digital Brands Group related to trade payables totaling approximately $
On February 7, 2023, a vendor filed a lawsuit against Digital Brands Group related to trade payables totaling approximately $
On November 9, 2022, a vendor filed a lawsuit against Digital Brand’s Group related to prior services rendered. The claims (including fines, fees, and legal expenses) total an aggregate of $
In August 2020 and March 2021,
On December 21, 2020, a Company investor filed a lawsuit against DBG for reimbursement of their investment totaling $
A vendor filed a lawsuit against Bailey 44 related to a retail store lease in the amount of $
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The Company has been involved in a dispute with the former owners of H&J regarding its obligation to “true up” their ownership interest in our company further to that membership interest purchase agreement dated May 18, 2021 whereby we acquired all of the outstanding membership interests of H&J (the “H&J Purchase Agreement”). Further to the H&J Purchase Agreement, we agreed that if, at May 18, 2022, the one year anniversary of the closing date of our initial public offering, the product of the number of shares of our common stock issued at the closing of such acquisition multiplied by the average closing price per share of our shares of common stock as quoted on the NasdaqCM for the thirty () day trading period immediately preceding such date plus the gross proceeds, if any, of shares of our stock issued to such sellers and sold by them during the one year period from the closing date of the offering does not exceed the sum of $
All claims above, to the extent management believes it will be liable, have been included in accounts payable and accrued expenses and other liabilities in the accompanying consolidated balance sheet as of March 31, 2023.
Except as may be set forth above the Company is not a party to any legal proceedings, and the Company is not aware of any claims or actions pending or threatened against us. In the future, the Company might from time to time become involved in litigation relating to claims arising from its ordinary course of business, the resolution of which the Company does not anticipate would have a material adverse impact on our financial position, results of operations or cash flows.
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q and our audited financial statements and related notes for the year ended December 31, 2022 included in Annual Report on Form 10-K filed with the Securities and Exchange Commission, or SEC on April 17, 2023.
Unless otherwise indicated by the context, references to “DBG” refer to Digital Brands Group, Inc. solely, and references to the “Company,” “our,” “we,” “us” and similar terms refer to Digital Brands Group, Inc., together with its wholly-owned subsidiaries Bailey 44, LLC (“Bailey”), Harper & Jones LLC (“H&J”), MOSBEST, LLC (“Stateside”) and Sunnyside (“Sundry”).
Some of the statements contained in this discussion and analysis or set forth elsewhere in this Quarterly Report on Form 10-Q, including information with respect to our plans and strategy for our business, constitute forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. We have based these forward-looking statements on our current expectations and projections about future events. The following information and any forward-looking statements should be considered in light of factors discussed elsewhere in this Quarterly Report on Form 10-Q, particularly including those risks identified in Part II-Item 1A “Risk Factors” and our other filings with the SEC.
Our actual results and timing of certain events may differ materially from the results discussed, projected, anticipated, or indicated in any forward-looking statements. We caution you that forward-looking statements are not guarantees of future performance and that our actual results of operations, financial condition and liquidity, and the development of the industry in which we operate may differ materially from the forward-looking statements contained in this Quarterly Report on Form 10-Q. Statements made herein are as of the date of the filing of this Form 10-Q with the SEC and should not be relied upon as of any subsequent date. Even if our results of operations, financial condition and liquidity, and the development of the industry in which we operate are consistent with the forward-looking statements contained in this Quarterly Report on Form 10-Q, they may not be predictive of results or developments in future periods. We disclaim any obligation, except as specifically required by law and the rules of the SEC, to publicly update or revise any such statements to reflect any change in our expectations or in events, conditions or circumstances on which any such statements may be based or that may affect the likelihood that actual results will differ from those set forth in the forward-looking statements.
Business Overview
Recent Development
We have been involved in a dispute with the former owners of H&J regarding our obligation to “true up” their ownership interest in our company further to that membership interest purchase agreement dated May 10, 2021 whereby we acquired all of the outstanding membership interests of H&J (as amended, the “H&J Purchase Agreement”). Further to the H&J Purchase Agreement, we agreed that if, at May 18, 2022, the one year anniversary of the closing date of our initial public offering, the product of the number of shares of our common stock issued at the closing of such acquisition multiplied by the average closing price per share of our shares of common stock as quoted on the NasdaqCM for the thirty (30) day trading period immediately preceding such date plus the gross proceeds, if any, of shares of our stock issued to such sellers and sold by them during the one year period from the closing date of the offering does not exceed the sum of $9.1 million, less the value of any shares of common stock cancelled further to any indemnification claims or post-closing adjustments under the H&J Purchase Agreement, then we shall issue to the subject sellers an additional aggregate number of shares of common stock equal to any such valuation shortfall at a per share price equal to the then closing price per share of our common stock as quoted on the NasdaqCM. We did not honor our obligation to issue such shares and the former owner of H&J have claimed that they were damaged as a result. As part of a proposed settlement with such holders, we have tentatively agreed to the following: (i) to transfer all membership interests of H&J back to the original owners, (ii) to pay such owners the sum of $229,000, (iii) issue the former owners of H&J an aggregate of $1,400,000 worth of our common stock to be issued on May 16, 2023 based on the lower of (a) the stock closing price per share on May 15, 2023, and (b) the average common stock closing price based on the average of the 5 trading days preceding May 16, 2023, with the closing price on May 9, 2023. Such tentative terms are to be memorialized in definitive purchase agreements and as such there is no assurance that such arrangements will be finalized.
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Our Company
Digital Brands Group is a curated collection of lifestyle brands, including Bailey 44, DSTLD, Harper & Jones, Stateside, Sundry and ACE Studios, that offers a variety of apparel products through direct-to-consumer and wholesale distribution. Our complementary brand portfolio provides us with the unique opportunity to cross merchandise our brands. We aim for our customers to wear our brands head to toe and to capture what we call “closet share” by gaining insight into their preferences to create targeted and personalized content specific to their cohort. Operating our brands under one portfolio provides us with the ability to better utilize our technological, human capital and operational capabilities across all brands. As a result, we have been able to realize operational efficiencies and continue to identify additional cost saving opportunities to scale our brands and overall portfolio.
Our portfolio currently consists of four significant brands that leverage our three channels: our websites, wholesale and our own stores.
| ● | Bailey 44 combines beautiful, luxe fabrics and on-trend designs to create sophisticated ready-to-wear capsules for women on-the-go. Designing for real life, this brand focuses on feeling and comfort rather than how it looks on a runway. Bailey 44 is primarily a wholesale brand, which we are transitioning to a digital, direct-to-consumer brand. |
| ● | DSTLD offers stylish high-quality garments without the luxury retail markup valuing customer experience over labels. DSTLD is primarily a digital direct-to-consumer brand, to which we recently added select wholesale retailers to generate brand awareness. |
| ● | Harper & Jones was built with the goal of inspiring men to dress with intention. It offers hand- crafted custom fit suits for those looking for a premium experience. Harper & Jones is primarily a direct-to-consumer brand using its own showrooms. |
| ● | Stateside is an elevated, America first brand with all knitting, dyeing, cutting and sewing sourced and manufactured locally in Los Angeles. The collection is influenced by the evolution of the classic t-shirt offering a simple yet elegant look. Stateside is primarily a wholesale brand that we will be transitioning to a digital, direct-to-consumer brand. |
| ● | Sundry offers distinct collections of women’s clothing, including dresses, shirts, sweaters, skirts, shorts, athleisure bottoms and other accessory products. Sundry’s products are coastal casual and consist of soft, relaxed and colorful designs that feature a distinct French chic, resembling the spirits of the French Mediterranean and the energy of Venice Beach in Southern California. Sundry is primarily a wholesale brand that we will be transitioning to a digital, direct-to-consumer brand. |
We believe that successful apparel brands sell in all revenue channels. However, each channel offers different margin structures and requires different customer acquisition and retention strategies. We were founded as a digital-first retailer that has strategically expanded into select wholesale and direct retail channels. We strive to strategically create omnichannel strategies for each of our brands that blend physical and online channels to engage consumers in the channel of their choosing. Our products are sold direct-to-consumers principally through our websites and our own showrooms, but also through our wholesale channel, primarily in specialty stores and select department stores. With the continued expansion of our wholesale distribution, we believe developing an omnichannel solution further strengthens our ability to efficiently acquire and retain customers while also driving high customer lifetime value.
We believe that by leveraging a physical footprint to acquire customers and increase brand awareness, we can use digital marketing to focus on retention and a very tight, disciplined high value new customer acquisition strategy, especially targeting potential customers lower in the sales funnel. Building a direct relationship with the customer as the customer transacts directly with us allows us to better understand our customer’s preferences and shopping habits. Our substantial experience as a company originally founded as a digitally native-first retailer gives us the ability to strategically review and analyze the customer’s data, including contact information, browsing and shopping cart data, purchase history and style preferences. This in turn has the effect of lowering our inventory risk and cash needs since we can order and replenish product based on the data from our online sales history, replenish specific inventory by size, color and SKU based on real times sales data, and control our mark-down and promotional strategies versus being told what mark downs and promotions we have to offer by the department stores and boutique retailers.
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We define “closet share” as the percentage (“share”) of a customer’s clothing units that (“of closet”) she or he owns in her or his closet and the amount of those units that go to the brands that are selling these units. For example, if a customer buys 20 units of clothing a year and the brands that we own represent 10 of those units purchased, then our closet share is 50% of that customer’s closet, or 10 of our branded units divided by 20 units they purchased in entirety. Closet share is a similar concept to the widely used term wallet share, it is just specific to the customer’s closet. The higher our closet share, the higher our revenue as higher closet share suggests the customer is purchasing more of our brands than our competitors.
We have strategically expanded into an omnichannel brand offering these styles and content not only on-line but at selected wholesale and retail storefronts. We believe this approach allows us opportunities to successfully drive Lifetime Value (“LTV”) while increasing new customer growth. We define Lifetime Value or LTV as an estimate of the average revenue that a customer will generate throughout their lifespan as our customer. This value/revenue of a customer helps us determine many economic decisions, such as marketing budgets per marketing channel, retention versus acquisition decisions, unit level economics, profitability and revenue forecasting.
We acquired Bailey in February 2020, H&J in May 2021, Stateside in August 2021 and Sundry in December 2022. We agreed on the consideration that we paid in each acquisition in the course of arm’s length negotiations with the holders of the membership interests in each of Bailey, H&J, Stateside and Sundry. In determining and negotiating this consideration, we relied on the experience and judgment of our management and our evaluation of the potential synergies that could be achieved in combining the operations of Bailey, H&J, Stateside and Sundry. We did not obtain independent valuations, appraisals or fairness opinions to support the consideration that we paid/agreed to pay.
Material Trends, Events and Uncertainties
Supply Chain Disruptions
We are subject to global supply chain disruptions, which may include longer lead times for raw fabrics, inbound shipping and longer production times. Supply chain issues have specifically impacted the following for our brands:
| ● | Increased costs in raw materials from fabric prices, which have increased 10% to 100% depending on the fabric, the time of year, and the origin of the fabric, as well as where the fabric is being shipped; |
| ● | Increased cost per kilo to ship via sea or air, which has increased from 25% to 300% depending on the time of year and from the country we are shipping from; |
| ● | Increased transit time via sea or air, which have increased by two weeks to two months; and |
| ● | Increased labor costs for producing the finished goods, which have increased 5% to 25% depending on the country and the labor skill required to produce the goods. |
Seasonality
Our quarterly operating results vary due to the seasonality of our individual brands, and are historically stronger in the second half of the calendar year.
Components of Our Results of Operations
Net Revenue
DSTLD sells its products to our customers directly through our website. In those cases, sales, net represents total sales less returns, promotions, and discounts.
Bailey sells its products directly to customers. Bailey also sells its products indirectly through wholesale channels that include third-party online channels and physical channels such as specialty retailers and department stores.
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H&J sells its products directly to customers through their showrooms and sales reps.
Stateside and Sundry sell its products directly to customers. Stateside and Sundry also sell its products indirectly through wholesale channels that include third-party online channels and physical channels such as specialty retailers and department stores.
Cost of Net Revenue
DSTLD, Bailey, Stateside and Sundry’s cost of net revenue include direct cost of purchased merchandise; inventory shrinkage; inventory adjustments due to obsolescence, including excess and slow-moving inventory and lower of cost and net realizable reserves, duties; and inbound freight.
H&J’s cost of net revenue sold is associated with procuring fabric and custom tailoring each garment.
Operating Expenses
Our operating expenses include all operating costs not included in cost of net revenues. These costs consist of general and administrative, sales and marketing, and fulfillment and shipping expense to the customer.
General and administrative expenses consist primarily of all payroll and payroll-related expenses, stock-based compensation, professional fees, insurance, software costs, and expenses related to our operations at our headquarters, including utilities, depreciation and amortization, and other costs related to the administration of our business.
Sales and marketing expense primarily includes digital advertising; photo shoots for wholesale and direct-to-consumer communications, including email, social media and digital advertisements; and commission expenses associated with sales representatives.
We expect to incur additional expenses as a result of operating as a public company, including costs to comply with the rules and regulations applicable to companies listed on a national securities exchange, costs related to compliance and reporting obligations pursuant to the rules and regulations of the SEC and higher expenses for insurance, investor relations and professional services. We expect these costs will increase our operating costs.
Distribution expenses includes costs paid to our third-party logistics provider, packaging and shipping costs to the customer from the warehouse and any returns from the customer to the warehouse.
At each reporting period, we estimate changes in the fair value of contingent consideration and recognize any change in fair in our consolidated statement of operations, which is included in operating expenses. Additionally, amortization of the identifiable intangibles acquired in the acquisitions is also included in operating expenses.
Interest Expense
Interest expense consists primarily of interest related to our debt outstanding to promissory notes, convertible debt, and other interest bearing liabilities.
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Results of Operations
Three Months Ended March 31, 2023 compared to Three Months Ended March 31, 2022
The following table presents our results of operations for the three months ended March 31, 2023 and 2022:
| Three Months Ended | |||||
March 31, | ||||||
| 2023 |
| 2022 | |||
Net revenues |
| $ | 5,095,234 | $ | 3,432,410 | |
Cost of net revenues |
| 2,656,652 |
| 2,292,191 | ||
Gross profit |
| 2,438,582 |
| 1,140,219 | ||
General and administrative | 4,636,844 | 4,277,955 | ||||
Sales and marketing |
| 1,115,643 |
| 1,040,572 | ||
Other operating expenses | 270,185 | 1,403,169 | ||||
Operating loss | (3,584,090) | (5,581,477) | ||||
Other expenses | (2,552,259) | (2,251,465) | ||||
Loss before provision for income taxes | (6,136,349) | (7,832,942) | ||||
Provision for income taxes | — | — | ||||
Net loss | $ | (6,136,349) | $ | (7,832,942) | ||
Net Revenues
Revenues increased by $1.7 million to $5.1 million for the three months ended March 31, 2023, compared to $3.4 million in the corresponding fiscal period in 2022. The increase was primarily due to full results in 2023 pertaining to the acquisition of Sundry in December 2022.
Gross Profit
Our gross profit increased by $1.3 million for the three months ended March 31, 2023 to $2.4 million from a gross profit of $1.1 million for the corresponding fiscal period in 2022. The increase in gross margin was primarily attributable to increased revenue in the three months ended March 31, 2023 and the gross profit achieved by Sundry since the acquisition.
Our gross margin was 47.9% for three months ended March 31, 2023 compared to 33.2% for the three months ended March 31, 2022. The increase in gross margin was due to our ability to achieve cost efficiencies amongst all brands after the Sundry acquisition in December 2022, as well as heavy discounting in the first quarter of 2022.
Operating Expenses
Our operating expenses decreased by $0.7 million for the three months ended March 31, 2023 to $6.0 million compared to $6.7 million for the corresponding fiscal period in 2022. The decrease in operating expenses was primarily due to the change in fair value of contingent consideration of $1.2 million in 2022, as well as slightly lower general and administrative expenses in 2022 due to various cost cutting measures and efficiencies in fully absorbing all of our brands. The decrease was partially offset by $0.5 million in general and administrative expenses in 2023 based on shares issued to employees. We expect operating expenses to increase in total dollars and as a percentage of revenues as our revenue base increases.
Other Income (Expenses)
Other income/expenses was $2.6 and $2.3 million for the three months ended March 31, 2023 and 2022, respectively. Other expense includes interest expense, consisting of interest on outstanding loans and amortization of debt discount, loss on extinguishment of debt in 2023 and change in fair value of derivative liability in 2022.
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Net Loss
Our net loss decreased by $1.7 million to a loss of $6.1 million for the three months ended March 31, 2023 compared to a loss of $7.8 million for the corresponding fiscal period in 2022 primarily due to higher gross profit resulting from our Sundry acquisition and less operating expenses driven by the change in fair value of contingent consideration.
Liquidity and Capital Resources
Each of DBG, Bailey, H&J, Stateside and Sundry has historically funded operations with internally generated cash flow and borrowings and capital raises. Changes in working capital, most notably accounts receivable, are driven primarily by levels of business activity. Historically each of DBG, Bailey, H&J, Stateside and Sundry has maintained credit line facilities to support such working capital needs and makes repayments on that facility with excess cash flow from operations.
As of March 31, 2023, we had cash of $2.0 million, but we had a working capital deficit of $31.2 million. The Company requires significant capital to meet its obligations as they become due. These factors raise substantial doubt about our Company’s ability to continue as a going concern. Throughout the next twelve months, the Company plans to continue to fund its capital funding needs through a combination of public or private equity offerings, debt financings or other sources. There can be no assurance as to the availability or terms upon which such financing and capital might be available in the future. If the Company is unable to secure additional funding, it may be forced to curtail its business plans.
Cash Flow Activities
The following table presents selected captions from our condensed statement of cash flows for the three months ended March 31, 2023 and 2022:
| Three Months Ended | |||||
March 31, | ||||||
| 2023 |
| 2022 | |||
Net cash provided by operating activities: | ||||||
Net loss | $ | (6,136,349) |
| $ | (7,832,942) | |
Non-cash adjustments | $ | 3,774,961 | $ | 3,652,067 | ||
Change in operating assets and liabilities | $ | 668,867 | $ | 3,545,719 | ||
Net cash used in operating activities | $ | (1,692,520) | $ | (635,156) | ||
Net cash provided by (used in) investing activities | $ | 87,379 | $ | (5,576) | ||
Net cash provided by financing activities | $ | 2,291,109 | $ | 678,351 | ||
Net change in cash | $ | 685,968 | $ | 37,619 | ||
Cash Flows Used In Operating Activities
Our cash used by operating activities increased by $1.1 million to cash used of $1.7 million for the three months ended March 31, 2023 as compared to cash used of $0.6 million for the corresponding fiscal period in 2022. The increase in net cash used in operating activities was primarily driven by changes in our operating assets and liabilities, partially offset by a lower net loss in 2023.
Cash Flows Provided By Investing Activities
Our cash provide by investing activities was $87,379 in 2023 due to return of deposits. Our cash used in investing activities was $5,576 in 2022 due to purchases of property and equipment.
Cash Flows Provided by Financing Activities
Cash provided by financing activities was $2.3 million for the three months ended March 31, 2023. Cash inflows included $4.3 million in net proceeds from the January Private Transaction, $3.5 million in proceeds from loans and promissory notes and $0.2 million in advances from the factor.
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Cash provided by financing activities was $0.7 million for the three months ended March 31, 2022. Cash inflows in the three months ended March 31, 2022 were primarily related to $0.9 million in proceeds from venture debt and loans, partially offset by factor repayments of $0.2 million.
Contractual Obligations and Commitments
As of March 31, 2023, we have a $13.6 million in outstanding principal on debt, primarily our promissory notes due to the Bailey44 and Sundry Sellers, the March 2023 Notes, PPP and merchant advances. Aside from our remaining non-current SBA obligations, all outstanding loans have maturity dates through 2024.
Critical Accounting Policies and Estimates
Our management’s discussion and analysis of financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles in the United States. The preparation of our consolidated financial statements and related disclosures requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, costs and expenses and the disclosure of contingent assets and liabilities in our financial statements. We base our estimates on historical experience, known trends and events and various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We evaluate our estimates and assumptions on an ongoing basis. Our actual results may differ from these estimates under different assumptions or conditions.
Emerging Growth Company Status
We are an emerging growth company as that term is used in the Jumpstart Our Business Startups Act of 2012 and, as such, have elected to comply with certain reduced public company reporting requirements.
Section 107 of the JOBS Act provides that an emerging growth company can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. In other words, an emerging growth company can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have elected to take advantage of the benefits of this extended transition period. Our financial statements may, therefore, not be comparable to those of companies that comply with such new or revised accounting standards
Off-Balance Sheet Arrangements
We did not have during the periods presented, and we do not currently have, any off-balance sheet arrangements, as defined in the rules and regulations of the Securities and Exchange Commission.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are a smaller reporting company as defined by Rule 12b-2 of the Securities and Exchange Act of 1934, as amended (the “Exchange Act”) and are not required to provide the information required under this item.
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ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
We maintain “disclosure controls and procedures” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the Exchange Act, that are designed to ensure that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure. In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and management necessarily applies its judgment in evaluating the benefits of possible controls and procedures relative to their costs.
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, who serve as our principal executive officer and principal financial and accounting officer, respectively, has evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2023. In making this evaluation, our management considered the material weakness in our internal control over financial reporting described below. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were not effective as of such date.
We have initiated various remediation efforts, including the hiring of additional financial personnel/consultants with the appropriate public company and technical accounting expertise and other actions that are more fully described below. As such remediation efforts are still ongoing, we have concluded that the material weaknesses have not been fully remediated. Our remediation efforts to date have included the following:
| ● | We have made an assessment of the basis of accounting, revenue recognition policies and accounting period cutoff procedures. In some cases, we made the necessary adjustments to convert the basis of accounting from cash basis to accrual basis. In all cases we have done the required analytical work to ensure the proper cutoff of the financial position and results of operations for the presented accounting periods. |
| ● | We have made an assessment of the current accounting personnel, financial reporting and information system environments and capabilities. Based on our preliminary findings, we have found these resources and systems lacking and have concluded that these resources and systems will need to be supplemented and/or upgraded. We are in the process of identifying a single, unified accounting and reporting system that can be used by the Company and Bailey, with the goal of ensuring consistency and timeliness in reporting, real time access to data while also ensuring ongoing data integrity, backup and cyber security procedures and processes. |
| ● | We engaged external consultants with public company and technical accounting experience to facilitate accurate and timely accounting closes and to accurately prepare and review the financial statements and related footnote disclosures. We plan to retain these financial consultants until such time that the internal resources of the Company have been upgraded and the required financial controls have been fully implemented. |
The actions that have been taken are subject to continued review, implementation and testing by management, as well as audit committee oversight. While we have implemented a variety of steps to remediate these weaknesses, we cannot assure you that we will be able to fully remediate them, which could impair our ability to accurately and timely meet our public company reporting requirements.
Notwithstanding the assessment that our internal controls over financial reporting are not effective and that material weaknesses exist, we believe that we have employed supplementary procedures to ensure that the financial statements contained in this filing fairly present our financial position, results of operations and cash flows for the reporting periods covered herein in all material respects.
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Limitations on Effectiveness of Controls and Procedures
Our management, including our Chief Executive Officer (Principal Executive Officer) and Chief Financial Officer (Principal Financial Officer), does not expect that our disclosure controls and procedures will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include, but are not limited to, the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Management believes that the material weakness set forth above did not have an effect on our financial results.
Changes in Internal Control over Financial Reporting
No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the three months ended March 31, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are currently involved in, and may in the future be involved in, legal proceedings, claims, and government investigations in the ordinary course of business. These include proceedings, claims, and investigations relating to, among other things, regulatory matters, commercial matters, intellectual property, competition, tax, employment, pricing, discrimination, consumer rights, personal injury, and property rights. See Note 11 in the accompanying condensed consolidated financial statements for a complete listing of legal proceedings, which include:
On March 21, 2023, a vendor filed a lawsuit against Digital Brands Group related to trade payables totaling approximately $43,501. Such amounts include interest due, and are included in accounts payable, net of payments made to date, in the accompanying consolidated balance sheets. The Company does not believe it is probable that the losses in excess of such trade payables will be incurred.
On February 7, 2023, a vendor filed a lawsuit against Digital Brands Group related to trade payables totaling approximately $182,400. Such amounts include interest due, and are included in accounts payable, net of payments made to date, in the accompanying consolidated balance sheets. The Company does not believe it is probable that the losses in excess of such trade payables will be incurred.
On November 9, 2022, a vendor filed a lawsuit against Digital Brand’s Group related to prior services rendered. The claims (including fines, fees, and legal expenses) total an aggregate of $50.190. The matter was settled in January 2023 and are on payment plans which will be paid off in April 2023.
In August 2020 and March 2021, two lawsuits were filed against Bailey’s by third-party’s related to prior services rendered. The claims (including fines, fees, and legal expenses) total an aggregate of $96,900. Both matters were settled in February 2022 and are on payment plans which will be paid off in July and September of 2023.
On December 21, 2020, a Company investor filed a lawsuit against DBG for reimbursement of their investment totaling $100,000. Claimed amounts are included in short-term convertible note payable in the accompanying consolidated balance sheets and the Company does not believe it is probable that losses in excess of such short-term note payable will be incurred. The Company is actively working to resolve this matter.
A vendor filed a lawsuit against Bailey 44 related to a retail store lease in the amount of $1.5 million. The Company is disputing the claim for damages and the matter is ongoing. The vendor has recently updated the claim to now be $450,968 after signing a long-term lease with another brand for this location. The Company is disputing this new amount after review of the lease.
The Company has been involved in a dispute with the former owners of H&J regarding its obligation to “true up” their ownership interest in our company further to that membership interest purchase agreement dated May 18, 2021 whereby we acquired all of the outstanding membership interests of H&J (the “H&J Purchase Agreement”). Further to the H&J Purchase Agreement, we agreed that if, at May 18, 2022, the one year anniversary of the closing date of our initial public offering, the product of the number of shares of our common stock issued at the closing of such acquisition multiplied by the average closing price per share of our shares of common stock as quoted on the NasdaqCM for the thirty (30) day trading period immediately preceding such date plus the gross proceeds, if any, of shares of our stock issued to such sellers and sold by them during the one year period from the closing date of the offering does not exceed the sum of $9.1 million, less the value of any shares of common stock cancelled further to any indemnification claims or post-closing adjustments under the H&J Purchase Agreement, then we shall issue to the subject sellers an additional aggregate number of shares of common stock equal to any such valuation shortfall at a per share price equal to the then closing price per share of our common stock as quoted on the NasdaqCM. We did not honor our obligation to issue such shares and the former owner of H&J have claimed that they were damaged as a result. As part of a proposed settlement with such holders, the Company has tentatively agreed to the following: (i) to transfer all membership interests of H&J back to the original owners, (ii) to pay such owners the sum of $229,000, (iii) issue the former owners of H&J an aggregate of $1,400,000 worth of our common stock to be issued on May 16, 2023 based on the lower of (a) the stock closing price per share on May 15, 2023, and (b) the average common stock closing price based on the average of the 5 trading days preceding May 16, 2023, with the closing price on May 9, 2023. Such tentative terms are to be memorialized in definitive purchase agreements and as such there is no assurance that such arrangements will be finalized.
All claims above, to the extent management believes it will be liable, have been included in accounts payable and accrued expenses and other liabilities in the accompanying consolidated balance sheet as of March 31, 2023.
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Except as may be set forth above the Company is not a party to any legal proceedings, and the Company is not aware of any claims or actions pending or threatened against us. In the future, the Company might from time to time become involved in litigation relating to claims arising from its ordinary course of business, the resolution of which the Company does not anticipate would have a material adverse impact on our financial position, results of operations or cash flows.
Except as may be set forth above the Company is not a party to any legal proceedings, and the Company is not aware of any claims or actions pending or threatened against us. In the future, the Company might from time to time become involved in litigation relating to claims arising from its ordinary course of business, the resolution of which the Company does not anticipate would have a material adverse impact on our financial position, results of operations or cash flows.
ITEM 1A. RISK FACTORS
Investing in our common stock involves a high degree of risk. Before investing in our common stock, you should consider carefully the risks described in our Report on Form 8-K filed on August 2, 2022, together with the other information contained in this Quarterly Report on Form 10-Q, including our financial statements and the related notes and in our other filings with the Securities and Exchange Commission. If any of the risks occur, our business, financial condition, results of operations and prospects could be materially and adversely affected. In these circumstances, the market price of our common stock could decline, and you may lose all or part of your investment.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Recent Sales of Unregistered Securities
On January 11, 2023, the Company, entered into a Securities Purchase Agreement (the “Purchase Agreement”) with a certain accredited investor (the “Investor”), pursuant to which the Company agreed to issue and sell, in a private placement (the “Private Placement”), an aggregate of 475,000 shares (the “Shares”) of the Company’s common stock (“Common Stock”), and accompanying warrants (the “Common Warrants”) to purchase 475,000 shares of Common Stock, at a combined purchase price of $3.915 per share and Common Warrant, and (ii) 802,140 pre-funded warrants (the “Pre-Funded Warrants” and together with the Common Warrants, the “Warrants” and together with the Shares and the shares of Common Stock underlying the Warrants, the “Securities”) exercisable for 802,140 shares of Common Stock, and accompanying Common Warrants to purchase 802,140 shares of Common Stock, at a combined purchase price of $3.915 per Pre-Funded Warrant and accompanying Common Warrant, to the Investors, for aggregate gross proceeds from the Private Placement of approximately $5 million before deducting placement agent fees and related offering expenses. As a result of the transaction, the Company issued 1,277,140 shares of common stock, including the 475,000 shares and the immediate exercise of 802,140 pre-funded warrants, for gross proceeds of $5.0 million. The Company received net proceeds of $4.3 million after deducting placement agent fees and offering expenses.
In connection with the January Private Placement, the Company granted 802,140 pre-funded warrants which were immediately exercised for shares of common stock. The Company also granted an additional 1,277,140 warrants as part of the offering. Each warrant has an exercise price of $3.80 per share, is immediately exercisable upon issuance and expires five years after issuance. The Company also granted the placement agent 95,786 warrants to purchase common stock at an exercise price of $4.8938 per share, which is immediately exercisable upon issuance and expires five years after issuance.
In connection with merchant advances, the Company granted 152,380 warrants to purchase common stock at an exercise price of $5.25. The warrants are immediately exercisable upon issuance and expires five years after issuance.
In January 2023, the Company issued 110,000 shares of common stock to a former convertible noteholder pursuant to default provisions.
In March 2023, the Company issued an aggregate of 118,890 shares of common stock to Sundry executives based on their employment agreements with the Company.
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ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. MINE SAFETY DISCLOSURE
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
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ITEM 6. EXHIBITS
Exhibit |
| Description of Exhibit |
2.1 | ||
2.2 | ||
2.3 | ||
2.4 | ||
2.5 | ||
2.6 | ||
2.7 | ||
2.8 | ||
3.1 | ||
3.2 | ||
3.3 | ||
3.4 | ||
3.5 | ||
3.6 | ||
3.7 | ||
3.8 | ||
3.9 | ||
4.1 |
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4.2 | ||
4.3 | ||
4.4 | ||
4.5 | ||
4.6 | ||
4.7 | ||
4.8 | ||
4.9 | ||
4.10 | ||
4.11 | ||
4.12 | ||
4.13 | ||
4.14 | ||
4.15 | ||
4.16 | ||
4.17 | ||
4.18 | ||
4.19 | ||
4.20 | ||
4.21 | ||
4.22 | ||
4.23 | ||
4.24 |
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4.25 | ||
4.26 | ||
4.27 | ||
4.28 | ||
10.1 | ||
10.2# | ||
10.3# | ||
10.4# | ||
10.5# | ||
10.6 | ||
10.7 | ||
10.8 | ||
10.9 | ||
10.10 | ||
10.11 | ||
10.12 | ||
10.13 | ||
10.14 | ||
10.15 |
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10.16 | ||
10.17 | ||
10.18 | ||
10.19 | ||
10.20 | ||
10.21 | ||
10.22 | ||
10.23 | ||
10.24 | ||
10.25 | ||
10.26 | ||
10.27 | ||
10.28 | ||
10.29 | ||
10.30 | ||
10.31 | ||
10.32+ | ||
10.33+ |
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10.34 | ||
10.35 | ||
10.36 | ||
10.37 | ||
10.38 | ||
10.39 | ||
10.40 | ||
10.41 | ||
10.42 | ||
10.43 | ||
31.1* | Certification of Principal Executive Officer Pursuant to Rules 13a-14(a) and 15d-14(a) | |
31.2* | Certification of Principal Financial Officer Pursuant to Rules 13a-14(a) and 15d-14(a) | |
32.1** | Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350 | |
32.2** | Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350 | |
101.INS* | Inline XBRL Instance | |
101.SCH* | Inline XBRL Taxonomy Extension Schema | |
101.CAL* | Inline XBRL Taxonomy Extension Calculation | |
101.LAB* | Inline XBRL Taxonomy Extension Labels | |
101.PRE* | Inline XBRL Taxonomy Extension Presentation | |
104 | Cover Page Interactive Data File (embedded within the Inline XBRL and contained in Exhibit 101) |
*Filed herewith.
**Furnished herewith
#Indicates management contract or compensatory plan or arrangement.
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SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
DIGITAL BRANDS GROUP, INC. | ||
May 22, 2023 | By: | /s/ John Hilburn Davis, IV |
John Hilburn Davis, IV, Chief Executive Officer | ||
May 22, 2023 | By: | /s/ Reid Yeoman |
Reid Yeoman, Chief Financial Officer | ||
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