Item
1. Business
Business
Combination
Phunware,
Inc. (“Phunware”) was incorporated in the state of Delaware in February 2009. Phunware is a mobile application development
platform and its primary internet address can be accessed at https://www.phunware.com.
On
February 27, 2018, Stellar entered into an Agreement and Plan of Merger, as amended (collectively, the “Merger Agreement”)
with Phunware, Inc. On December 26, 2018, Stellar Acquisition III, Inc., a Republic of the Marshall Islands corporation incorporated
in December 2015 (“Stellar”), deregistered as a corporation in the Republic of the Marshall Islands and domesticated
as a corporation incorporated under the laws of the State of Delaware upon the filing with and acceptance by the Secretary of
State of Delaware of the certificate of domestication in accordance with Section 388 of the Delaware General Corporation Law (the
“Domestication”). Upon the effectiveness of the Domestication, Stellar became a Delaware corporation and, upon the
consummation of the Business Combination, Stellar changed its corporate name to “Phunware, Inc.” (the “Successor”)
and all outstanding securities of Stellar were deemed to constitute outstanding securities of the Successor. Also on December
26, 2018, STLR Merger Subsidiary Inc., a wholly-owned subsidiary of Stellar (“Merger Sub”), merged with and into Phunware,
Inc. (“Phunware”), a corporation incorporated in Delaware in February 2009, with Phunware surviving the merger (the
“Merger”) and becoming a wholly-owned subsidiary of the Successor (the “Business Combination”). Upon the
consummation of the Business Combination, Phunware changed its corporate name to “Phunware OpCo, Inc.” As of the open
of trading on December 28, 2018, the common stock and warrants of the registrant began trading on the Nasdaq Capital Market as
“PHUN” and “PHUNW,” respectively.
In
connection with the consummation of the Business Combination, holders of 1,813,487 shares of Stellar common stock sold in its
initial public offering (“Public Shares”) exercised their right to redeem their Public Shares for cash at a price
of $10.64 per share, for an aggregate amount of approximately $19.3 million. As a result of these redemptions, the Stellar trust
account had approximately $0.4 million immediately prior to Closing.
In
addition, 6,000 shares for aggregate cash proceeds of $6.0 million from the Series A 8% convertible preferred stock financing
(“Series A Financing”) were issued in conjunction with the Business Combination. In connection with the Series A Financing,
the Sponsors transferred an aggregate of 250,000 shares of Stellar common stock and 250,000 warrants to purchase shares of Stellar
common stock to the Series A Financing investor, and 181,391 shares to certain service providers.
Immediately
after giving effect to the Business Combination (including the redemptions and the issuance of shares in the Series A Financing,
both described above), there were approximately 27.3 million shares of common stock and warrants to purchase approximately 18.2
million shares of common stock of Phunware issued and outstanding.
In addition, with the
consummation of the Business Combination, the Sponsors transferred to the former stockholders of Phunware 3,985,244 warrants
to purchase shares of Successor common stock. As consideration for the warrants transferred to Phunware shareholders, a
promissory note was issued to the Sponsors (the “Transfer Sponsor Warrant Note”). The amount of the note was
approximately $1,993,000, which represented $0.50 per warrant transferred to former stockholders of Phunware. The warrants
transferred have an exercise price of $11.50 per share. The Transfer Sponsor
Warrant Note shall mature on December 26, 2019.
The Sponsors also transferred to Stellar
627,864 shares of Stellar common stock, which shall be retained in treasury and available for issuance from time to time by Phunware.
Furthermore, the Company issued 2,211,572 Private Placement Warrants to the Sponsors as repayment in full
for the unsecured promissory notes - related parties. The repayment of the related party notes was calculated at $0.50 per warrant.
Upon
consummation of the Business Combination, the former stockholders of Phunware owned approximately 94.4% of the issued and outstanding
shares of common stock of the Successor. This percentage excludes the impact of outstanding stock options and warrants.
The
Merger Agreement contains representations and warranties of the parties thereto, certain of which are limited by materiality and
material adverse effect. The parties have also each agreed to certain covenants contained in the Merger Agreement. The representations,
warranties and covenants of the parties contained in the Merger Agreement terminated at the Closing, notwithstanding that any
covenant that, by its terms, provides for performance following the consummation of the Business Combination shall survive until
such covenant is performed.
There is no accounting effect or change
in the carrying amount of the consolidated assets and liabilities of the Successor as a result of the domestication. The Business
Combination is accounted for as a reverse merger and recapitalization in accordance with Generally Accepted Accounting Principles
in the United States (“GAAP”). Accordingly, Stellar is the legal acquirer and Phunware is the accounting acquirer and
predecessor whereby the Successor’s historical financial statements reflect the financial position, results of operations
and cash flows of Phunware, and the net cash proceeds obtained from Stellar in the Business Combination is reflected as a capital
infusion. Furthermore, the historical capitalization of Phunware immediately before the Business Combination was adjusted based
on the exchange ratio of 0.459 Successor shares for every one share of Phunware capital stock.
Business
Overview
Phunware
Inc. is the pioneer of Multiscreen-as-a-Service (“MaaS”) platform, a fully integrated enterprise cloud platform for
mobile that provides companies the products, solutions, data and services necessary to engage, manage and monetize their mobile
application portfolios and audiences at scale. According to comScore’s 2017 Mobile App Report, consumers spend 66% of their
total digital time with mobile devices (smartphones and tablets), and 87% of their mobile time in mobile apps (vs. on mobile web).
(Source: comScore 2017 Mobile App Report). Given this reality, brands must establish a strong identity on mobile, especially on
devices and platforms specific to the Apple iOS and Google Android operating systems and ecosystems. We help brands define, create,
launch, promote, monetize and scale their mobile identities as a means to anchor the digital transformation of their customers’
journeys and brand interactions. Our MaaS platform provides the entire mobile lifecycle of applications, media and data in one
login through one procurement relationship.
Our
MaaS platform allows for the licensing and creation of category-defining mobile experiences for brands and their application users
worldwide. We have successfully expanded our addressable market reach into various important and fast-growing markets: mobile
cloud software, media, data science and cryptonetworking. Since our founding in 2009, our goal has been to use our software platform
within the application portfolios of the world’s largest companies and brands to create a massive database of proprietary
Phunware IDs. Phunware IDs are unique identifiers assigned to a mobile device when it becomes first visible across our network
of mobile application portfolios. We measure and accumulate Phunware IDs every month through queries that count unique devices
that access our mobile application portfolio across our network of mobile applications that we have developed and/or support.
The data collected from our Phunware IDs contributes to our data subscription services and application transaction revenue product
lines by helping companies and brands boost campaign performance, target high-value users, maximize conversions and optimize spend.
We offer our platforms as
Software-as-a-Service (“SaaS”), Data-as-a-Service (“DaaS”) and application transactions media. Our
business model includes recurring subscriptions, reoccurring transactions and services, often as one-year to five-year
software or data licenses, or transaction-based media insertion orders. We prioritize our sales and marketing efforts first
on recurring SaaS and DaaS subscriptions, second on reoccurring transactions and third on services. In years in which
transactional engagements are not expected to be attractive for gross margins, they are either avoided or pursued
opportunistically only. Our target customers are enterprise companies with large digital, mobile, marketing and information
technology budgets and spending that are enacting digital transformation in their businesses. These include companies from
all vertical markets, including, for example, Fox Networks Group in Media & Entertainment, Cedars Sinai in Healthcare,
Kohl’s in Retail, Wynn Resorts in Hospitality, Ft. Lauderdale Airport in Aviation, Brickell City Center in Real Estate,
AT&T in Sports and the City of Las Vegas in Government.
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Our
Industry
We participate in four rapidly evolving
markets: mobile cloud software, media, big data and cryptonetworking . Each such market is briefly summarized below, and is driven
by some combination of technological advancements including cloud, software-defined infrastructure, mobility, data analytics, IoT
and decentralization.
Mobile
Cloud Software
— The mobile cloud software market includes SaaS-based mobile software for all businesses, brands
and consumers. The mobile application market is enormous, with worldwide smartphone users downloading more than 175 billion apps
— and spending over $86 billion on them — in 2017. (Source: App Annie, 2017 Retrospective). The number of apps available
to Android and iOS users climbed over 6 million in 2017 as well, and the average number of apps on a user’s phone is approximately
80. (Source: App Annie, 2017 Retrospective). In 2018, the app economy is predicted to enter a new era and surpass $110 billion
in app store spend (Source: App Annie, Top Predictions for the App Economy in 2018).
Media
—
The digital media market includes display, native, video and other types of paid media campaigns
rendered on a connected device and used for audience building, audience engagement or audience monetization. According to eMarketer,
digital media spending including mobile will top $225 billion and represent 49.6% of total media investment by 2021 (Source: eMarketer,
“Worldwide Ad Spending eMarketer’s Updated Estimates and forecast for 2016-2021”). According to the Internet
Advertising Bureau (IAB), users spend 66% of their online time on a mobile device and mobile advertising revenue now makes up
54% of all digital ad revenues (Source: Internet Advertising Bureau (IAB), “Digital Trends: Consumer Usage of Digital and
its Influence on Ad Revenue”). In the first half of 2017, mobile advertising revenue was $21.7 billion in the US alone (Source:
Internet Advertising Bureau (IAB), “Digital Trends: Consumer Usage of Digital and its Influence on Ad Revenue”) and
Goodway Group predicts it will grow nearly 4% month-over-month with an expected overall price increase of over 45% by 2019. (Source:
Goodway Group, “2018 Programmatic Pricing Guide Projects Big Price Increase for mobile Ads by 2019”).
Big
Data
— The big data market includes businesses engaged in the creation, consumption and/or processing of big data.
IDC forecasts that this market will grow from $130 billion in 2016 to more than $203 billion in 2020 (Source: IDC, “Double-Digit
Growth Forecast for the Worldwide Big Data and Business Analytics Market Through 2020 Led by Banking and Manufacturing Investments,
According to IDC,” October 3, 2015). According to Cisco Systems, global mobile data traffic will grow from 7 exabytes per
month in 2016 to 49 exabytes per month in 2021, a compound annual growth rate of 47 percent (Source: Source: Cisco Global Cloud
Index: Forecast and Methodology, 2016-201 White Paper). Users are increasingly willing to share their data and participate
in this market: 40% of broadband households are willing to share data with manufacturers for product monitoring and maintenance
(Source: Parks and Associates, “More than three-fourths of U.S. broadband households use Wi-Fi for in-home connectivity,”
May 31, 2017). Across 17 countries studied, 27% users are willing to share their personal data in exchange for benefits or rewards
like lower costs or personalized service (Source: GFK Insights, “More people firmly agree with sharing personal data, in
return for rewards, than firmly disagree,” January 27, 2017).
Cryptonetworking
—
The cryptonetworking market includes currencies and other tokens that use distributed ledger technology and cryptography to
secure transactions and verify asset transfers. We believe that it grew exponentially over the course of 2017 and 2018 and
will continue to grow, and that cryptocurrencies are larger than many national currencies and other major payment
networks.
Real-time
cryptocurrency market capitalization information is available at the CoinMarketCap website.
PhunCoin
™ (“PhunCoin”)
We
have formed a wholly-owned subsidiary, PhunCoin, Inc. that will be the issuer of our PhunCoin. PhunCoin will be designed for use
within the PhunCoin Ecosystem, which is intended to be a rewards marketplace and data exchange whereby users receive PhunCoin
in exchange for their information and PhunCoin can be redeemed by users for goods and services. The PhunCoin Ecosystem is currently
in the development stage and is intended to enhance and augment our current mobile application platform, which enables businesses
to engage, manage and monetize the information collected by end users and our customers from our consumers.
We
currently anticipate that our products and technologies will be enhanced through the creation of the PhunCoin Ecosystem, and that
users in the new PhunCoin Ecosystem will fall into three basic categories:
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Manufacturers,
consumer product companies, marketing firms, brands and other sellers of goods and services.
We generally refer to this group as our “customers.”
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Individuals
that provide personally identifiable information to us and our customers. We generally
refer to this group as “consumers.”
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Application
developers that will include the PhunCoin software development kits into their applications
and other software developers and engineers that will help create and maintain the PhunCoin
Ecosystem. We generally refer to this group as “developers.”
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We
anticipate that, when the PhunCoin Ecosystem becomes operational, our customers will generally continue to pay us cash for use
of our technology and our consumers and developers generally will receive PhunCoin in exchange for providing services and information
to us and our customers.
In
accordance with the Merger Agreement, PhunCoin Sub has commenced an offering to raise capital to fund the development and creation
of the PhunCoin Ecosystem through the issuance of rights to receive future PhunCoin (the “Rights”). These Rights will
only be issued to accredited investors pursuant to an offering under Rule 506(c) of Regulation D under the Securities Act that
complies with know-your-customer (“KYC”), anti-money-laundering (“AML”) and accredited investor verification
requirements.
Our
current expectation is that the proceeds from the Rule 506(c) offering of Rights is anticipated to be used solely to fund development
of the PhunCoin Ecosystem, with any additional amounts being used at the discretion of the Phunware or PhunCoin Sub. We currently
estimate that the use of proceeds from the Rule 506(c) offering of Rights are anticipated to be used as follows:
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35%
— Sales & Marketing
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35%
— Research & Development
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20%
— Ecosystem Development
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10%
— General & Administrative
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PhunCoin
will be a digital asset built and transacted on top of an existing blockchain technology. We do not intend to create our own blockchain
technology. As a part of research and development, we expect to evaluate several blockchain technologies to determine which of
these providers meet the design specifications we require to create the PhunCoin Ecosystem. We are currently evaluating the feasibility
of potential solutions such as Ethereum, Stellar, Cardano and EOS. For each blockchain technology, we expect to conduct technical
evaluations, performance evaluations, user testing, and other analyses in order to determine the best technology for the PhunCoin
Ecosystem. In addition, we will only launch on a blockchain technology that will enable us to comply with the registration and
other requirements of the federal and state securities laws and other applicable laws and regulations.
When
the PhunCoin Ecosystem is operational (i.e., the “Token Generation Event”), which we expect will be approximately
one year after the Rule 506(c) offering for Rights has closed, PhunCoin Sub intends to issue PhunCoin pursuant to an offering
either registered or eligible for exemption from registration under the Securities Act. However, there is no assurance that the
offering of PhunCoin will be registered or eligible for an exemption from registration under the Securities Act. PhunCoin will
initially be issued to holders of the Rights and also to holders of Phunware’s Series F Preferred Stock who were also issued
warrants that entitle them to receive PhunCoin if the Token Generation Event occurs. These PhunCoin will have the same terms,
other than price, as the PhunCoin being issued to holders of the Rights.
For
securities law purposes, PhunCoin is deemed to have already been sold to the holders of the Rights and the Phunware
warrants with respect to the predecessor Series F Preferred Stock, or the predecessor Series F Warrants. This means that, if and when
issued, such PhunCoin will be restricted as to transfer and that any resale by such holders must be made pursuant to an
exemption from registration or pursuant to an effective resale registration statement. Phunware does not believe that the
PhunCoin issued to holders of the Rights and Series F Warrants will have any material impact on the amount of capital
PhunCoin Sub (or Phunware) may be able to raise for the purposes of creating and operating the PhunCoin Ecosystem or other
future capital needs. This is because PhunCoin Sub (i) does not currently contemplate using the proposed PhunCoin offering,
as described below, to raise capital (although it could determine to do that as well) but rather, to allow PhunCoin to be
distributed in exchange for data and services and (ii) Phunware and the PhunCoin Sub expect to be able to access other
sources of capital, which may include debt financings and equity financings through additional private placements, or other
offerings (including the current Rule 506(c) private placement which is offering up to $100 million of Rights).
Phunware
intends for PhunCoin Sub to be the actual issuer of PhunCoin. Before PhunCoin Sub issues PhunCoin to the holders of the Series
F Warrants, or the Series F Warrantholders, Phunware will obtain the consent of those Series F Warrantholders representing the
requisite vote necessary to amend the Series F Warrants to provide for the assignment by Phunware to PhunCoin Sub of all of Phunware’s
obligations to issue PhunCoin. Pursuant to the amendment, PhunCoin Sub will fully and unconditionally assume all of Phunware’s
obligations to issue PhunCoin that exist under the Series F Warrants. Phunware will notify all Series F Warrantholders of any
amendment to the Series F Warrants and the assignment by Phunware, and the assumption by PhunCoin, of the obligations to issue
PhunCoin and intends to file a Current Report on Form 8-K once the amendment is entered into and becomes effective.
Once
our proposed PhunCoin offering is either registered with the SEC or eligible for an exemption from registration under the Securities
Act, we expect to distribute PhunCoin to developers in exchange for services, i.e. for the inclusion of the PhunCoin software
development kit (i.e. SDK) into the developers’ applications and for the application usage data they provide to the PhunCoin
Ecosystem. We also intend to distribute PhunCoin to consumers in exchange for their agreements to provide certain benefits to
us, including, but not be limited to, enriching their data with additional information and participating in marketing campaigns
that will assist us to deliver increased value to customers.
At
this time, we have not taken any action to list PhunCoin on a trading platform. We intend to list and allow trading of PhunCoin
in the future, but only on those platforms that comply with all applicable federal and state securities laws. Currently, no such
trading platforms exist.
PhunCoin
is intended to be a digital asset that entitles the holder to access the PhunCoin Ecosystem that we are building and to use PhunCoin
in exchange for goods and services in the PhunCoin Ecosystem. Both PhunCoin and the PhunCoin Ecosystem are currently under development
and, therefore, the specific legal and economic rights have not been finalized. However, we do not expect that PhunCoin will have
any governance, voting, dividend or other rights with respect to either PhunCoin Sub or us, and that we expect that all holders
of PhunCoin will have the same rights.
Our
core business is as a mobile application platform enabling our customers to utilize the platform to engage, manage and monetize
their interaction with consumers. Today, this takes the form of software modules such as location-based services, analytics, content
management, marketing automation, and other customer engagement technology designed to create desired business outcomes for that
customer. We expect to integrate PhunCoin into our core business platform as well as create new software and systems to support
the PhunCoin Ecosystem. PhunCoin will complement and supplement our core business by adding new capabilities for our customers
to use “cryptonetworking” to engage consumers, while at the same time creating a new ecosystem that allows those consumers
to benefit from the provision and use of their data. Our core business enables the rapid integration of mobile solutions, but
PhunCoin further enhances that capability by incentivizing customer and consumer engagement with these solutions.
Cryptonetworking
is currently not available to Phunware customers. To make cryptonetworking available, Phunware intends to deploy a combination
of standalone technology as well as integration into its MaaS platform such that customers could potentially use cryptonetworking
as a reward for consumers taking action in an application built on the MaaS platform. Phunware is not currently generating, nor
in the past has it generated, revenue from this product or solution offering. To the extent that this type of functionality may
require the PhunCoin Ecosystem to become a registered broker-dealer and register as an alternative trading system with the SEC,
PhunCoin Sub intends to undertake those registrations or revise the functionality in order to remain fully compliant with all
applicable laws.
Each
PhunCoin user account will be created using a technology called self-sovereign identity. This is an identity that is based on
blockchain technology and gives the user full control over this identity without a central authority. Since our approach to this
identity starts with an application and the user’s mobile device, the User who creates this identity will then be paired
to the device through a relationship on that identity system. In addition, this identity will be paired with an account on the
blockchain provider, which will then be the blockchain account at which the PhunCoin can be received via transactions. Key recovery
functions and custody of private digital asset keys will be handled by the identity solution provider and integrated into the
software system.
We
do not intend to create our own self-sovereign identity system, but to evaluate other existing systems already proven in the market
and to integrate them into the PhunCoin Ecosystem. Such providers include, but are not limited to, Sovrin/Everynm,
Veres.One and uPort. As a part of research and development, we will evaluate an array
of self-sovereign technology providers to determine which of these providers meet the design specifications we require to create
the PhunCoin Ecosystem. For each provider, we will conduct technical evaluations, performance evaluations, user testing, etc.
to determine the best technology for the PhunCoin Ecosystem. This will include evaluation and implementation of the technical
architecture needed to validate ownership and approve transfer of PhunCoin in order to comply with applicable securities laws.
Where
possible, we intend to use existing mobile security features, such as, but not limited to, Apple Touch ID to further secure and
at the same time enable easy access to the PhunCoin application using biometric/fingerprint capabilities of those devices.
Our
Solution
Our
business model includes a combination of subscription, transaction and service offerings that enable customers to engage, manage
and monetize their mobile application portfolios throughout the mobile application lifecycle, which occurs in four phases:
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Strategize
—
We help brands define the application experience and determine the operating systems,
feature sets and use cases they want their mobile application to support.
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Create
—
We help brands build, buy or lease their application portfolio.
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Launch
—
We help brands launch their applications and build their mobile audience.
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Engage,
Monetize and Optimize
— We help brands activate, monetize and optimize their mobile application portfolios.
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Our
Offerings
Within
the four core markets above, our MaaS platform, products and solutions include the following:
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Software,
including recurring one- to five-year software licensing for
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MaaS software
ingredients that are included inside mobile application portfolios such as Software
Development Kits (“SDKs”), Application Programming Interfaces (“APIs”),
scripts, portals, integrations, interfaces and other software tools, solutions and services
that address
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Business
Intelligence & Analytics (SDK that provides data related to application use and engagement),
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Content
Management (SDK that allows application admins to create and manage app content in a
cloud-based portal),
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Alerts,
Notifications & Messaging (SDK that enables brands to send messages to app users
through the app),
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Marketing
Automation (SDK that enables location-triggered messages and workflow);
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Advertising
(SDK that enables in-app audience monetization);
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Location-Based
Services (module that include Mapping, Navigation, Way finding, Workflow, Asset Management
and Policy Enforcement), and
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Support
& Maintenance of the application;
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MaaS software application frameworks that pre-integrate
all of our MaaS software ingredients for use within mobile application portfolios, solutions and services; and
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MaaS vertical
solutions, which are off-the-shelf, iOS- and Android-based mobile application portfolios,
solutions and services that address
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the patient
experience for healthcare,
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the shopper
experience for retail,
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the
fan experience for sports,
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the
traveler experience for aviation,
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the
luxury resident experience for real estate,
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the
luxury guest experience for hospitality,
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the
student experience for education and
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the
generic user experience for all other verticals and applications.
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Application
transactions, including re-occurring and one-time transactional media purchases, often via insertion orders, for
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application
discovery, user acquisition and audience building,
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audience
engagement, and
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Data,
including re-occurring and one-time application transaction media campaigns and recurring one to five year data licensing
for one-to-one, indoor and outdoor, consumer targeting across
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Global
Position Systems (GPS),
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high-
and low-density WiFi,
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physical
and virtual beacons; and
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Cryptonetworking,
including a PhunCoin crypto ecosystem that directly connects and rewards mobile application users and user segments
worldwide with the businesses that want to reach them locally, regionally or globally at scale. Cryptonetworking and PhunCoin
is not currently available to our customers, as the Phunware is evaluating blockchain technologies for its PhunCoin Ecosystem.
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Competitive
Strengths
Fully
integrated and comprehensive solutions:
Our comprehensive solutions can be used across mobile application experience
definition, application portfolio creation, user discovery, user acquisition, user engagement and user monetization. Data from
application analytics and our database of over one petabyte can be used to inform business decisions related to mobile strategy,
marketing, operations and more.
Data
reach and scale:
Since Phunware’s founding in 2009, our goal has been to use our software platform within the
application portfolios of the world’s largest companies and brands to create a massive database of proprietary Phunware
IDs for every device touching networks globally to then reach everyone, everywhere, indoors and outdoors, in real time, on a 1-to-1
basis.
Built
to be mobile-first, native-first, cloud-based:
Phunware was built from the ground up to focus on native mobile development,
while other companies in the mobile space have attempted to create shortcuts with “write once, run anywhere” software.
The result is almost a decade of platform-specific mobile expertise, a major competitive differentiator.
Results-driven
culture
:
Our employees are granted stock options upon hire and are encouraged to think of Phunware as a company
they own rather than a company for which they work. We also promote from within to reward top performers and encourage leadership
development. The result is an employee base singularly focused on solving problems and driving results.
Intellectual
property portfolio development and world-class engineering resources
:
Through our world-class in-house technical
and engineering organization, we have focused developing our intellectual property, including methods of accessing wireless account
information, rendering content on a wireless device, indoor navigation with a mobile device and more. We are developing creative
solutions to solve complex technical problems and create competitive advantages for our customers.
Consumer-first
mindset:
As news stories about improper use and abuse of consumer data by social networks and app developers continue
to surface, we are in a unique position to capitalize on other technology companies’ lack of foresight. The PhunCoin crypto
token will empower users to control and be compensated for the data they contribute to the PhunCoin Ecosystem, and it will prevent
traditional security breach concerns by storing and biometrically protecting data and self-sovereign identity client-side (versus
in the cloud).
Our
Growth Strategy
Key
elements of our growth strategy include:
Expand
mobile products and services.
Mobile applications, media and data are among the fastest-growing and complex technology
markets. We have made significant investments in research and development and plan to continue extending the functionality and
breadth of our applications in the future.
Deepen
existing customer relationships.
We believe that we are well positioned to identify new opportunities or enhance
existing services and solutions within our existing customers. We create cross and upsell opportunity between subscription, media
and data customers as each customer seeks to deepen its approach to mobile application lifecycle management.
Develop
new relationships to expand our customer base.
We intend to continue to grow our customer base by expanding our team
of sales professionals and developing our indirect channel relationships. We are able to leverage our mobile expertise and capabilities
to compete effectively for new customers both directly and indirectly. Primary indirect channels include hardware, software, carriers
and systems integrators/consultancies.
Continue
to grow our strong domestic footprint and expand internationally.
We have a strong and growing presence in the United
States and we believe there are significant opportunities for further domestic expansion. We believe there are multiple attractive
market opportunities, both domestically and internationally, into which we will continue to opportunistically expand. Top expansion
targets include entertainment, healthcare, retail and real estate — all verticals that benefit from our integrated solutions,
comprehensive lifecycle approach and ability to engage users in both digital and physical worlds.
Add
new capabilities and geographic regions through strategic acquisition.
We operate in a fragmented market that offers
significant consolidation opportunities. We will continue to evaluate strategic acquisitions and partnerships that enhance our
capabilities and expand our geographic footprint, both domestically and internationally.
Expand
our partnership network with third-party providers of tools and services.
We are able to leverage our mobile expertise
and capabilities to compete effectively for new customers both directly and indirectly. Primary indirect channels include hardware,
software, carriers and systems integrators/consultancies. We are focused on building our brand to grow within existing and target
end markets where there is strong demand for the products and solutions we provide.
Our
Customers
Our
target customers are enterprise companies with consistent IT spending that are looking to enact digital transformation in their
business — whether it is retail, healthcare, entertainment, real estate or any other industry. We provide technology and
solutions to support these companies through every stage of the mobile application lifecycle.
We
believe the multi-year contractual nature of our software and managed services provides revenue visibility. Our subscription agreements
with our customers consist of standard services agreements that generally do not contain any minimum commitment terms that would
guarantee business for us and do not impose obligations upon us such as exclusivity or other terms. These agreements provide standard
terms relating to payment, liability, performance, cancellation and termination, confidentiality, and indemnification obligations,
among other provisions. All of these agreements contain terms of service that generally are consistent across Phunware’s
customers. These standard services agreements are, for the most part, governed by the standard terms and conditions from the Interactive
Advertising Bureau’s (“
IAB
”) Standard Terms and Conditions for Internet Advertising for Media Buys One
Year or Less, which provides that in the event that payments are not paid to the agency, then the media company, or us, agrees
to hold the advertiser solely liable.
Concentration
of Major Customers
During the fiscal year ended December
31, 2017, Phunware’s sales were concentrated with Fox Networks Group (“Fox”) and Fetch Media, Ltd.
(“Fetch”), which accounted for 44% and 11% of our net sales, respectively. During the fiscal year ended December
31, 2016, Fetch accounted for 49% of our net sales. As with our other subscriptions and
services customers, our contractual arrangements with Fox are governed by standard terms of service and statements of work.
Furthermore, our contractual arrangements with our application transaction customers, including Fetch, are governed by
insertion orders, which in addition to being governed by our standard terms and conditions are also governed by IAB terms,
including but not limited to payment liability and obligations. The revenue concentration of these customers is simply a
function of the Company selling additional services and expanding the scope of work. Terms are consistent with our standard
terms and contain no materially different terms or conditions.
Our
agreements, including those with Fox and Fetch, are pursuant to standard services agreements. All of these agreements contain
standard terms of service that generally are consistent across Phunware’s customers.
Our
application transaction agreements, also known as insertion orders, are typically governed by the IAB Standard Terms and Conditions
for Internet Adverting for Media Buys One Year or Less (V3.0) (the “IAB Terms”), which can be found on the IAB’s
website. The IAB Terms in Section III.c provide that in the event that payments are not paid to the agency, then the media company,
or us, agrees to hold the advertiser solely liable . Phunware views the agreements as contracts that ordinarily accompany the
business conducted by Phunware and, because of the lack of any commitments to provide a certain amount of business, Phunware is
not substantially dependent on the agreements.
Technology
Infrastructure and Operations
Our
hybrid SaaS solutions enable us to develop and deliver products to customers at large scale with best-fit cost efficiencies. Our
customers are served from geographically disperse datacenter and cloud hosting providers primarily located on the United States
West and East coasts, Ireland, and Tokyo, along with content delivery network (“CDN”) providers located throughout
the world.
Each
hosting facility has multiple compliance accreditations including ISO 27001, 27017, 27018, SOC 1-3, SSAE-16, HIPAA and PCI-DSS.
All facilities have 24x7 on-site security staff, biometric access control, security cameras and pre-approved and escorted access
controls. Our facilities feature redundant power, battery backup, air conditioning systems and diesel generators to ensure our
uptime and availability.
Our
solutions are built using service and micro-service oriented architecture principles, utilizing open source and commercially available
software. All of our products are built with scale, fault tolerance and redundancy as foundational pillars. Our operations teams
are on-call and staffed 24x7x365 ensuring we can meet the high levels of uptime and performance demanded by our customers, and
to meet or exceed our 99.9% SLA availability commitment outside of planned maintenance windows.
We
believe application security is paramount to the foundational design for all the software we write. Our software architects treat
code security as a core requirement and our development teams follow security standards at each stage of our Secure Development
Lifecycle (“SDLC”). Our products contain numerous features designed to keep our platform and products secure, including
encrypted data transportation (“HTTPs”), multi-factor authentication, API/SDK authentication and authorization, role-based
access controls, and encrypted data at rest. We implement manual code reviews, static application security testing (“SAST”),
open source analysis (“OSA”), in-house QA/QC engineering and third party security assessments to ensure our technology
infrastructure is secure.
Competition
The
market for technology and solutions related to mobile application lifecycle management is evolving, highly competitive and significantly
fragmented. With the introduction of new technologies and the potential entry of new competitors into the market, we expect competition
to increase and intensify in the future, which could harm our ability to increase sales, maintain or increase renewals and maintain
our prices.
We
compete primarily with companies offering cloud-based software solutions for location-based services, mobile marketing automation,
content management, analytics and audience monetization, as well as data and campaign management for audience building and engagement.
We also sometimes compete with application development agencies, in-house mobile teams and products developed by software providers
that allow customers to build and scale new mobile applications. Our competitors include Adobe, Oracle, Urban Airship, Chaotic
Moon, Adroll and many more.
We
believe the principal competitive factors in our market include the following:
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product
features and functionality;
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location
accuracy and latency;
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technology
architecture;
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level
of customer satisfaction;
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ease
of use;
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deployment
options and hardware flexibility;
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breadth
and depth of application functionality;
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professional
services and customer support;
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total
costs of ownership;
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brand
awareness and reputation;
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sophistication
of technology platform;
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actionable
insights through big data analytics;
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capability
for customization, configurability, integration, security, scalability and reliability of applications;
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ability
to innovate and respond to customer needs rapidly;
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size
of customer base and level of user adoption; and
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ability
to integrate with legacy enterprise infrastructures and third-party applications.
|
Some
of our current competitors have, and future competitors may have, greater financial, technical, marketing and other resources,
greater resources to devote to the development, promotion, sale and support of their products and services, more extensive customer
bases and broader customer relationships, and/or longer operating histories and greater name recognition. As a result, these competitors
may be better able to respond quickly to new technologies and to undertake more extensive marketing campaigns. In a few cases,
some competitors may also be able to offer competing solutions at little or no additional cost by bundling them with their existing
suite of solutions.
Government
Regulation
We
are subject to numerous U.S. and foreign laws and regulations that are applicable to companies engaged in the business of advertising
on mobile devices. In addition, many areas of law that apply to our business are still evolving and could potentially affect our
business to the extent they restrict our business practices or impose a greater risk of liability.
Given
the nascent stage of mobile advertising, industry practices are rapidly evolving. We participate in the Digital Advertising Alliance
and other industry groups that are developing best practices for the mobile advertising industry.
Privacy
and Data Protection
Privacy
and data protection laws play a significant role in our business. In the United States, at both the state and federal level,
there are laws that govern activities such as the collection and use of data by companies like us and privacy and data
protection issues generally have gained wide media and public attention recently. Online advertising activities in the United
States have primarily been subject to regulation by the FTC, which has regularly relied upon Section 5 of the Federal Trade
Commission Act to enforce against unfair and deceptive trade practices. Section 5 has been the primary regulatory tool used
to enforce against alleged violations of online privacy policies and would apply to privacy practices in the mobile
advertising industry. In December 2012, the FTC adopted amendments to rules under COPPA, which went into effect in July 2013.
These amendments broadened the potential applicability of COPPA compliance obligations to our activities and those of our
clients. Further, Europe’s new General Data Protection Regulation (which came into force in May 2018) extends the
jurisdictional scope of European data protection law. As a result, we will be subject to the
European Union’s
General Data Protection Regulation (“GDPR”) when we provide our media and data services in Europe. The GDPR
imposes stricter data protection requirements that may necessitate changes to our services and business practices.
The
issue of privacy in the mobile advertising industry is still evolving. Federal legislation and rulemaking has been proposed from
time to time that would govern certain advertising practices as they relate to mobile devices, including the use of precise geolocation
data. Although such legislation has not been enacted, it remains a possibility that such federal and state laws may be passed
in the future.
There
have been numerous civil lawsuits, including class action lawsuits, filed against companies that conduct business in the mobile
device industry, including makers of mobile devices, mobile application providers, mobile operating system providers and mobile
third-party networks. Plaintiffs in these lawsuits have alleged a range of violations of federal, state and common laws, including
computer trespass and violation of privacy laws.
In
addition, mobile services are generally not restricted by geographic boundaries and our services reach mobile devices throughout
the world. We transact business with our customers in Europe and Southeast Asia and, as a result, some of our activities may also
be subject to the laws of foreign jurisdictions. In particular, European data protection laws can be more restrictive regarding
the collection and use of data than those in U.S. jurisdictions. As we continue to expand into other foreign countries and jurisdictions,
we may be subject to additional laws and regulations that may affect how we conduct business.
Research
and Development
Our
ability to compete depends in large part on our continuous commitment to research and development and our ability to rapidly introduce
new applications, technologies, features and functionality into our solutions. Our research and development efforts are focused
on improving and enhancing our existing service offerings by working closely with our customers, conducting quality assurance
testing and improving our core technology as well as developing new proprietary services and solutions. Performance, security,
functional depth and breadth, and usability of our solutions drive our technology decisions and product development.
Intellectual
Property
Our
ability to protect our intellectual property, including our technologies, is an important factor in the success and continued
growth of our business. We protect our intellectual property through trade secrets law, patents, copyrights, trademarks and contracts.
We have established business procedures designed to maintain the confidentiality of our proprietary information such as the use
of our license agreements with customers and our use of our confidentiality agreements and intellectual property assignment agreements
with our employees, consultants, business partners and advisors where appropriate. Some of our technologies rely upon third party
licensed intellectual property.
In
the United States, we have 13 patents issued and 6 non-provisional patent applications pending. The issued patents expire
between the years 2027 and 2036. In addition, we have registered “Phunware” as a trademark in the United States
and Canada. We cannot assure you that any of our patent applications will result in the issuance of a patent or whether the
examination process will require us to narrow our claims. Furthermore, even if a patent is issued, we cannot assure you that
such patent will be adequate to protect our business. We also license software from third parties for integration into our
solutions, including open source software and other software available on commercially reasonable terms.
Despite
our efforts to protect our technology and proprietary rights through intellectual property rights, licenses and confidentiality
agreements, unauthorized parties may still copy or otherwise obtain and use our software and other technology. In addition, we
intend to expand our international operations, and effective patent, copyright, trademark, and trade secret protection may not
be available or may be limited in foreign countries.
Our
industry is characterized by the existence of a large number of patents and claims and related litigation regarding patent and
other intellectual property rights. In particular, leading companies in our markets have extensive patent portfolios and are regularly
involved in litigation. From time to time, third parties, including certain of these leading companies, may assert patent, copyright,
trade secret, and other intellectual property rights against us, our channel partners or our customers. Our standard license and
other agreements may obligate us to indemnify our channel partners and customers against such claims. Successful claims of infringement
by a third party could prevent us from continuing to offer our solution or performing certain services, require us to expend time
and money to develop non-infringing solutions, or force us to pay substantial damages, including treble damages if we are found
to have willfully infringed patents or copyrights, royalties or other fees. Competitors may also be more likely to claim that
our solutions infringe their proprietary rights and seek an injunction against us from continuing to offer our platform. We cannot
assure you that we do not currently infringe, or that we will not in the future infringe, upon any third-party patents or other
proprietary rights.
Employees
We leverage our employees’ long-standing,
deep customer relationships and strong technical expertise to deliver complex solutions that meet customer needs and advance mobile
technology. As of November 30, 2018, we had 153 employees, including 109 software developers, engineers, QA engineers and product
managers. We employed a sales and marketing force of approximately 22 professionals.
We
believe it is as the result of its employee base that we have long-standing customer engagements and strong financial performance.
None of our employees are currently covered under any collective bargaining agreements. We believe our relations with our employees
are good.
Facilities
Our
corporate headquarters is located in Austin, Texas, where we currently lease approximately 10,600 square feet under the lease
agreement set to expire in 2020. We also lease facilities in Newport Beach, California; San Diego, California; and Miami, Florida.
We believe our current facilities are adequate to meet our ongoing needs and that, to accommodate growth, we will seek additional
facilities as needed to satisfy our growth.
Corporate Information
Our principal executive offices are located
at 7800 Shoal Creek Blvd, Suite 230-S, Austin, TX, and our telephone number is 512-693-4199. We also lease facilities in Newport
Beach, California; San Diego, California; and Miami, Florida. Our website is located at www.phunware.com.
Management
and Board Expertise
We
have assembled a group of directors, including independent directors, who provide public company governance, executive leadership,
operations oversight, private equity investment management and capital markets experience. Our Board members have extensive experience,
having served as directors, CEO’s or CFO’s, or in other executive and advisory capacities for publicly-listed and
privately-owned companies. Our directors have experience with acquisitions, divestitures and corporate strategy and implementation,
which we believe will continue to be of significant benefit to us as we evaluate potential acquisition or merger candidates as
well as following the completion of our initial business combination.
Significant
Activities Since Inception
On
August 24, 2016, Stellar consummated its IPO of 6,500,000 units. Each unit consisted of one share of common stock and one warrant
to purchase one share of common stock at an exercise price of $11.50 per share. The units were sold at an offering price of $10.00
per unit, generating gross proceeds of $65,000,000. On August 24, 2016, simultaneously with the consummation of such offering,
Stellar completed a private placement of an aggregate of 7,650,000 warrants to its Sponsor, generating gross proceeds of $3,825,000.
The
underwriters exercised their over-allotment option in part and, on September 28, 2016, the underwriters purchased 400,610 units,
which were sold at an offering price of $10.00 per unit, generating gross proceeds of $4,006,100. On September 28, 2016, simultaneously
with the sale of such units, Stellar consummated the private sale of an additional 320,488 Private Placement Warrants to our Sponsor,
generating gross proceeds of $160,244. In connection with the partial over-allotment exercise, certain of the Initial Shareholders
forfeited an aggregate of 166,758 Founder Shares.
A
total of $70,386,222 of the net proceeds from Stellar’s IPO (including the partial exercise of the over-allotment option)
and the private placements was deposited in a Trust Account established for the benefit of our Public Shareholders.
On
August 24, 2017, Stellar issued unsecured promissory notes in the aggregate amount of $303,300 to the Sponsors. The Sponsors deposited
into Stellar’s Trust Account an aggregate of $303,300 and Stellar instructed the Trust Agent to apply toward the principal
held in the Trust Account $99,236 of interest earned on the funds in the Trust Account available for withdrawal, representing
an aggregate of $402,536, or $0.058 per public share, as described in the prospectus filed by Stellar in connection with its IPO.
As a result, the period of time Stellar had to consummate a business combination was extended by three months to November 24,
2017. The notes bear no interest and were repayable in full upon consummation of Stellar’s initial business combination.
On
November 24, 2017, Stellar issued additional unsecured promissory notes to the Sponsors. The Sponsors deposited into
Stellar’s Trust Account an aggregate of $301,000 and Stellar instructed the Trust Agent to apply toward the principal
held in the Trust Account $101,536 of interest earned on the funds in the Trust Account available for withdrawal,
representing an aggregate of $402,536, or $0.058 per Public Share. As a result, the period of time Stellar had to consummate
a business combination was extended by three months to February 24, 2018.
The notes bear no interest and were
repayable in full upon consummation of Stellar’s initial business combination.
On
February 24, 2018, Stellar issued additional unsecured promissory notes to the Sponsors. The Sponsors deposited into Stellar’s
Trust Account an aggregate of $167,100 and Stellar instructed the Trust Agent to apply toward the principal held in the Trust
Account $34,168 of interest earned on the funds in the Trust Account available for withdrawal, representing an aggregate of $201,268.
In addition, Phunware deposited into Stellar’s Trust Account an aggregate of $201,268 in exchange for an unsecured promissory
note to Phunware. The aggregate of the Sponsors and Phunware contributions to the Trust Account amounted to $402,536, or $0.058
per Public Share.
The notes bear no interest and were repayable in full upon consummation of Stellar’s initial business
combination.
As a result, the period of time Stellar
had to consummate a business combination was extended by three months to May 24, 2018.
On May 22, 2018, Stellar held a special
meeting of shareholders (the “May 2018 Extension Meeting”), at which its shareholders approved (i) an amendment to
Stellar’s Second Amended and Restated Articles of Incorporation, extending the date by which Stellar must consummate its
initial business combination from May 24, 2018 to August 24, 2018 or such earlier date as determined by its board of directors;
and (ii) the amendment and restatement of that certain Investment Management Trust Agreement, dated as of August 18, 2016, by
and between Stellar and Continental Stock Transfer & Trust Company (“Continental”), to extend the date on which
Continental must liquidate the Trust Account if Stellar has not completed an initial business combination, from May 24, 2018 to
August 24, 2018, and to permit the withdrawal of funds from the Trust Account to pay shareholders who properly exercise their
redemption rights in connection with such amendment. Shareholders holding 3,353,060 Public Shares exercised their right to redeem
such Public Shares into a pro rata portion of the Trust Account. As a result, an aggregate of approximately $34,787,998 (or approximately
$10.375 per share) were removed from the Trust Account to pay such holders.
In addition, the Sponsors agreed to contribute
to Stellar as a loan $0.035 for each Public Share that was not redeemed, for each calendar month (commencing on May 24, 2018 and
on the 24
th
day of each subsequent month), or portion thereof, that is needed by Stellar to complete a business combination
from May 24, 2018 until August 24, 2018, to be deposited in the Trust Account. Accordingly, The Sponsors contributed an aggregate
of approximately $124,164 (the “Monthly Extension Contribution Notes”) to Stellar by the 24
th
day of each
such calendar month, with the initial Contribution made on May 24, 2018. The Monthly Extension Contribution Notes did not bear
interest and was repayable by Stellar to the Sponsors upon consummation of an initial business combination.
On August 22, 2018, Stellar held a special
meeting of shareholders (the “August 2018 Extension Meeting”), at which its shareholders approved (i) an amendment
to the Company’s Second Amended and Restated Articles of Incorporation, extending the date by which Stellar must consummate
its initial business combination from August 24, 2018 to December 26, 2018 or such earlier date as determined by Stellar’s
board of directors, and (ii) the amendment and restatement of that certain Amended and Restated Investment Management Trust Agreement,
dated as of May 23, 2018, by and between Stellar and Continental, to extend the date on which Continental must liquidate the Trust
Account to permit the withdrawal of funds from the Trust Account to pay shareholders who properly exercise their redemption rights
in connection with such extension. Shareholders holding 1,695,830 Public Shares exercised their right to redeem such Public Shares
into a pro rata portion of the Trust Account. As a result, an aggregate of approximately $17,772,299 (or approximately $10.48 per
share) were removed from the Trust Account to pay such holders.
In connection with the August 2018
Extension Meeting, the Sponsors agreed to contribute to Stellar as a loan $0.04 for each Public Share that was not redeemed,
for each calendar month (commencing on August 24, 2018 and on the 24th day of each subsequent month), or portion thereof,
that is needed by Stellar to complete a business combination from August 24, 2018 until December 26, 2018, to be deposited in
the Trust Account. Accordingly, The Sponsors contributed an aggregate of approximately $158,452 (the “Additional
Monthly Extension Contribution Notes”) to Stellar within five calendar days from the beginning of each such calendar
month, with the initial contribution contributed by August 29, 2018. The Additional Monthly Extension Contribution Notes bear
no interest and were repayable in full upon consummation of Stellar’s initial business combination.
In
connection with such extensions, the per Public Share amount in Stellar’s Trust Account increased from $10.20 (as of the
closing of its IPO) to $10.64, as of the date of the Business Combination.
On
December 26, 2018, Stellar Acquisition III, Inc., a Republic of the Marshall Islands corporation incorporated in December 2015
(“Stellar”), deregistered as a corporation in the Republic of the Marshall Islands and domesticated as a corporation
incorporated under the laws of the State of Delaware upon the filing with and acceptance by the Secretary of State of Delaware
of the certificate of domestication in accordance with Section 388 of the Delaware General Corporation Law (the “Domestication”).
Upon the effectiveness of the Domestication, Stellar became a Delaware corporation and, upon the consummation of the Business
Combination (as defined below), Stellar changed its corporate name to “Phunware, Inc.” (the “Successor”)
and all outstanding securities of Stellar were deemed to constitute outstanding securities of the Successor. Also on December
26, 2018, STLR Merger Subsidiary Inc., a wholly-owned subsidiary of Stellar (“Merger Sub”), merged with and into Phunware,
Inc. (“Phunware”), a corporation incorporated in Delaware in February 2009, with Phunware surviving the merger (the
“Merger”) and becoming a wholly-owned subsidiary of the Successor (the “Business Combination”). Upon the
consummation of the Business Combination, Phunware changed its corporate name to “Phunware OpCo, Inc.” As of the open
of trading on December 28, 2018, the common stock and warrants of the registrant began trading on the Nasdaq Capital Market as
“PHUN” and “PHUNW,” respectively.
The above notes to the Sponsors bear
no interest and were repayable in full upon consummation of Stellar’s initial business combination. The Sponsors have
the option to convert any unpaid balance of such notes into warrants exercisable for shares of the Stellar’s common
stock, based on a conversion price of $0.50 per warrant. The terms of any such warrants shall be identical to the terms of
the warrants issued pursuant to the private placement that was consummated by Stellar in connection with Stellar’s IPO.
At the closing of the Business Combination, the Sponsors were issued 2,211,572 Private Placement Warrants as repayment in
full for the unsecured promissory notes.
From February 2018 through November 2018,
the Company issued notes payable to Phunware in the aggregate of $535,655. The notes to Phunware bears no interest and repayable
in full upon consummation of Stellar’s initial business combination. The notes Phunware were eliminated with the assumption
of Stellar’s balance sheet as a result of the Business Combination.
Government,
Environmental and Other Regulations
The
regulatory framework for privacy issues is evolving worldwide and various government and consumer agencies and public advocacy
groups have called for new regulation and changes in industry practices, including some directed at the digital advertising industry
in particular. It is possible that new laws and regulations will be adopted in the United States and internationally, or existing
laws and regulations may be interpreted in new ways, that would affect our business, particularly with regard to collection or
use of data to target ads and communication with consumers and the international transfer of data from Europe to the U.S. The
U.S. government, including the FTC and the Department of Commerce, has announced that it is reviewing the need for greater regulation
of the collection of consumer information, including regulation aimed at restricting some targeted advertising practices. In Europe,
in October 2015 the Court of Justice of the European Union invalidated the “U.S.-EU Safe Harbor framework,” which
created a safe harbor under the European Data Protection Directive for certain European data transfers to the U.S. We had not
self-certified under this regime and therefore were not directly affected by this decision. In July 2016, the European Commission
approved the Privacy Shield, which is a set of principles and related rules that are intended to replace the U.S.-EU Safe harbor
framework. We are in the process of determining whether to join the Privacy Shield program. Stricter regulation of European data
transfers to U.S. in future may impact our ability to serve European customers effectively, or require us to open and operate
datacenters in the European Union which would result in a higher cost of doing business in these jurisdictions.
In
particular, the GDPR extends the jurisdictional scope
of European data protection law. As a result, we will be subject to the GDPR when we provide our targeting services in Europe.
The GDPR imposes stricter data protection requirements that may necessitate changes to our services and business practices. Potential
penalties for non-compliance with the GDPR include administrative fines of up to 4% of annual worldwide revenue. Complying with
any new regulatory requirements could force us to incur substantial costs or require us to change our business practices in a
manner that could reduce our revenue or compromise our ability to effectively pursue our growth strategy.
The
FTC has also adopted revisions to the Children’s Online Privacy Protection Act (“COPPA”) that expand liability
for the collection of information by operators of websites and other electronic solutions that are directed to children. Questions
exist as to how regulators and courts may interpret the scope and circumstances for potential liability under COPPA and the FTC
continues to provide guidance and clarification as to its 2013 revisions of COPPA. FTC guidance or enforcement precedent may make
it difficult or impractical for us to provide advertising on certain websites, services or applications. In addition, the FTC
recently fined an ad network for certain methods of collecting and using data from mobile applications, including certain applications
directed at children and failing to disclose the data collection to mobile application developers in their network.
While
we have not collected data that is traditionally considered personal data, such as name, email address, physical address, phone
numbers or social security numbers, we typically collect and store IP addresses, geo-location information and device or other
persistent identifiers that are or may be considered personal data in some jurisdictions or otherwise may be the subject of legislation
or regulation. For example, some jurisdictions in the EU regard IP addresses as personal data and certain regulators, such as
the California Attorney General’s Office, have advocated for including IP addresses, GPS-level geolocation data and unique
device identifiers as personal data under California law. Furthermore, the GDPR makes
clear that online identifiers (such as IP addresses and other device identifiers) will be treated as “personal data”
going forward and therefore subject to stricter data protection rules.
Executive
Officers
The
following table sets forth the names, ages and positions of our executive officers as of the date of this Report:
Name
|
|
Age
|
|
Position
|
Executive Officers
|
|
|
|
|
Alan S. Knitowski
|
|
49
|
|
Chief Executive Officer and Director
|
Luan Dang
|
|
47
|
|
Chief Technical Officer
|
Matt Aune
|
|
43
|
|
Chief Financial Officer
|
Randall Crowder
|
|
38
|
|
Chief Operating Officer and Director
|
EXECUTIVE
OFFICERS
Alan
Knitowski
co-founded Phunware and has served as its Chief Executive Officer and a member of the board of directors since
February 2009. Prior to co-founding Phunware, Mr. Knitowski served as President of Strategic Investments and Managing Director
for Trymetris Capital Management, LLC, or Trymetris, a hedge fund sponsor, from April 2004 to February 2009. Mr. Knitowski holds
a B.S. in Industrial Engineering from The University of Miami, an M.S. in Industrial Engineering from the Georgia Institute of
Technology and an M.B.A from the Haas School of Business at the University of California, Berkeley.
Luan
Dang
co-founded our Phunware and has served as its Chief Technology Officer since February 2009. Prior to co-founding
Phunware, he served as President of Alternative Investments for Trymetris from April 2004 to February 2009. Mr. Dang holds a B.S.
in Computer Engineering from the University of California at San Diego and an M.S. in Computer Science from Stanford University.
Matt
Aune
has served as Phunware’s Chief Financial Officer since August 2013. Mr. Aune previously served as its Director
of Finance and Accounting from August 2011 to August 2013. Prior to joining Phunware, Mr. Aune was employed by Sony Computer Entertainment
America as Senior Business Finance and Operations Analyst from July 2010 to August 2011. From 2003 to 2009, Mr. Aune served in
a variety of roles at Midway Games, a video game developer and publisher, with his final role as the Senior Manager of Financial
Planning and Analysis for Worldwide Product Development. Mr. Aune holds a B.A. in Economics from the University of California,
San Diego and an M.B.A. from San Diego State University.
Randall
Crowder
has served as Phunware’s Chief Operating Officer since February 2018. In September 2017, he founded and
continues to serve as the Managing Partner at Nove Ventures, a venture capital firm, which focuses on investing in established
companies like Phunware that are looking to leverage blockchain technology to complement their core business model. Since August
2009, Mr. Crowder has also been a co-founder and Managing Partner at TEXO Ventures, which focuses primarily on tech-enabled health
services. Mr. Crowder holds a B.S. in General Management from the United States Military Academy at West Point and an M.B.A. from
the McCombs School of Business at the University of Texas at Austin.
Item
1a. Risk Factors
An
investment in our securities involves a high degree of risk. You should consider carefully the risks and uncertainties described
below, together with all of the other information contained in this Report, including our consolidated financial statements and
related notes, before deciding to invest in our securities. If any of the following events occur, our business, financial condition
and operating results may be materially adversely affected. In that event, the trading price of our securities could decline,
and you could lose all or part of your investment. The risks and uncertainties described below are not the only ones we face.
Additional risks and uncertainties that we are unaware of, or that we currently believe are not material, may also become important
factors that adversely affect our business or results of operations.
Risks
Related to Our Business, Operations and Industry
Our
revenue has declined, we have a history of losses, we expect to continue to incur losses and we may not achieve or sustain profitability
in the future.
We have incurred significant losses in
each fiscal year since our inception. We experienced a consolidated net loss for the fiscal year ended December 31, 2017, and
expect to have a net loss for the fiscal year ended December 31, 2018. These losses were due to both a reduction in revenue
in 2017 and for the nine months ended September 30, 2018, and the substantial investments we made to build our products and
services, grow and maintain our business and acquire customers. You should not consider our historical revenue levels or
operating expenses prior to recent periods as indicative of our future performance. Key elements of our growth strategy
include acquiring new customers and continuing to innovate and build our brand. As a result, we expect our operating expenses
to increase in the future due to expected increased sales and marketing expenses, operations costs, research and development
costs and general and administrative costs and, therefore, our operating losses will continue or even potentially increase
for the foreseeable future. In addition, as a public company we incur significant legal, accounting and other expenses that
we did not incur as a private company. Furthermore, to the extent that we are successful in increasing our customer base, we
will also incur increased expenses because costs associated with generating and supporting customer agreements are
generally incurred up front, while revenue is generally recognized ratably over the committed term of the agreement. Our
efforts to grow our business may be costlier than we expect and we may not be able to increase our revenue enough to offset
our higher operating expenses. We may incur significant losses in the future for many reasons, including the other risks
described in this report and unforeseen expenses, difficulties, complications and delays and other unknown events. You should
not rely upon our recent bookings or revenue growth as indicative of our future performance. We cannot assure you that we
will reach profitability in the future or at any specific time in the future or that, if and when we do become profitable, we
will sustain profitability. If we are ultimately unable to generate sufficient revenue to meet our financial targets, become
profitable and have sustainable positive cash flows, investors could lose their investment.
Our
results of operations and ability to grow could be negatively affected if we cannot adapt and expand our technology offerings
and services in response to ongoing market changes.
The
collaboration and technology solutions business and markets are characterized by rapid technological change, evolving industry
standards, changing customer preferences and new product and service introductions. Our success depends on our ability to continue
to develop and implement technology offerings and services that anticipate or timely respond to rapid and continuing changes in
technology and industry developments and offerings by new technology providers to serve the evolving needs of our customers. Examples
of areas of significant change in the industry include cloud, software defined infrastructure, virtualization, security, mobility,
data analytics and IoT, the continued shift from maintenance to managed services and ultimately to cloud based services, as-a-service
solutions, security and information technology automation. In addition, enterprises are continuing to shift from on-premise, hardware
infrastructure to software centric hosted solutions. Technological developments such as these may materially affect the cost and
use of technology and services by our customers and could affect the nature of how our revenue is generated. These technologies
and others that may emerge, could reduce and, over time, replace some of our current business. In addition, customers may delay
spending under existing contracts and engagements and may delay entering into new contracts while they evaluate new technologies.
If we do not sufficiently invest in new technology, industry developments and our personnel, or evolve and expand our business
at sufficient speed and scale, or if we do not make the right strategic investments to respond to these developments and successfully
drive innovation, our technology offerings and services, our results of operations and our ability to develop and maintain a competitive
advantage and to continue to grow could be negatively affected.
In addition, if we are unable to keep up with changes in technology
and new hardware, software and services offerings, for example, by providing the appropriate training to out account managers,
sales technology specialists, engineers and consultants to enable them to effectively sell and deliver such new offerings to customers,
our business, results of operations, or financial condition could be adversely affected.
If
we are unable to expand or renew sales to existing customers, or attract new customers, our growth could be slower than expected
and our business may be harmed.
Our
future growth depends upon expanding sales and renewals of our technology offerings and services with existing customers. Our
customers may not purchase our technology offerings and services, or our customers may reduce their purchase rate of services,
if we do not demonstrate the value proposition for their investment and we may not be able to replace existing customers with
new customers. In addition, our customers may not renew their contracts with us on the same terms, or at all, because of dissatisfaction
with our service. If our customers do not renew their contracts, our revenue may grow more slowly than expected, may not grow
at all, or may decline.
Additionally,
increasing incremental sales to our current customer base may require increasingly sophisticated and costly sales efforts that
are targeted at senior management. We plan to continue expanding our sales efforts but we may be unable to hire qualified sales
personnel, may be unable to successfully train those sales personnel that we are able to hire and sales personnel may not become
fully productive on the timelines that we have projected, or at all. Additionally, although we dedicate significant resources
to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales.
We cannot assure you that its efforts will increase sales to existing customers or additional revenue. If our efforts to upsell
to our customers are not successful, our future growth may be limited.
Our
ability to achieve significant growth in revenue in the future will also depend upon our ability to attract new customers. This
may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate
competing technology offerings and services into our business, as such organization may be reluctant or unwilling to invest in
new technology offerings and services. If we fail to attract new customers and maintain and expand those customer relationships,
our revenue may grow more slowly than expected and our business may be harmed.
Demand
for our technology offerings and services could be adversely affected by volatile, negative, or uncertain economic conditions
and the effects of these conditions on our customers’ businesses.
Our
revenue and profitability depend on the demand for our technology offerings and services, which could be negatively affected by
numerous factors, many of which are beyond our control. Volatile, negative, or uncertain economic conditions affect our customers’
businesses and the markets we serve. Such economic conditions in our markets have undermined and could in the future undermine,
business confidence in our markets and cause our customers to reduce or defer their spending on new technology offerings and services,
or may result in customers reducing, delaying or eliminating spending under existing contracts with us, which would negatively
affect our business. Growth in the markets we serve could be at a slow rate, or could stagnate or contract, in each case for an
extended period of time. Ongoing economic volatility and uncertainty and changing demand patterns affect our business in a number
of other ways, including making it more difficult to accurately forecast customer demand and effectively build our revenue and
resource plans.
Economic
volatility and uncertainty is particularly challenging because it may take some time for the effects and changes in demand patterns
resulting from these and other factors to manifest themselves in our business and results of operations. Changing demand patterns
from economic volatility and uncertainty could have a significant negative impact on our business, results of operations, or financial
condition.
Substantial
competition could reduce our market share and significantly harm our financial performance.
We
expect the competitive landscape in which we compete to continue to change as new technologies are developed. While innovation
can help our business as we create new offerings for us to sell and provide complementary services, it can also disrupt our business
model and create new and stronger competitors. For instance, while cloud based solutions present an opportunity for us, cloud
based solutions and technologies that deliver technology solutions as a service could increase the amount of sales directly to
customers rather than through solutions providers like us, or could reduce the amount of hardware we sell, leading to a reduction
in our technology offerings revenue and/or profitability. In addition, some of our hardware and software technology partners sell
and could intensify their efforts to sell, their products directly to our customers. Moreover, traditional OEMs have increased
their services capabilities through mergers and acquisitions with service providers, which could potentially increase competition
in the market to provide comprehensive technology solutions to customers. If any of these trends becomes more prevalent, it could
adversely affect our business, results of operations, or financial condition.
Our
future results will depend on our ability to continue to focus our resources and manage costs effectively.
We
are continually implementing productivity measures and focusing on measures intended to further improve cost efficiency. We may
be unable to realize all expected cost savings in connection with these efforts within the expected time frame, or at all and
we may incur additional and/or unexpected costs to realize them. Further, we may not be able to sustain any achieved savings in
the future. Future results will depend on the success of these efforts.
If
we are unable to control costs, we may incur losses, which could decrease our operating margins and significantly reduce or eliminate
our profits. Our future profitability will depend on our ability to manage costs or increase productivity. An inability to effectively
manage costs could adversely impact our business, results of operations, or financial condition.
Our
profitability could suffer if we are not able to manage large and complex projects and complete fixed price, fixed timeframe contracts
on budget and on time.
Our
profitability and operating results are dependent on the scale of our projects and the prices we are able to charge for our technology
offerings and services. We perform a significant portion of our work through fixed price contracts, in which we assume full control
of the project team and manage all facets of execution. As a significant portion of our projects are on a fixed price model, we
may be unable to accurately estimate the appropriate project price and successfully manage such projects. Although we use specified
technical processes and our past experience to reduce the risks associated with estimating, planning and performing fixed price
and fixed timeframe projects, we face the risk of cost overruns, completion delays and wage inflation in connection with these
projects. If we fail to accurately estimate the resources or time required for a project or future rates of wage inflation, or
if we fail to perform contractual obligations within the contractual timeframe, our profitability could suffer.
The
challenges of managing larger and more complex projects include:
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maintaining
high quality control and process execution standards;
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maintaining
planned resource utilization rates on a consistent basis;
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maintaining
productivity levels and implementing necessary process improvements;
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controlling
project costs;
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maintaining
close customer contact and high levels of customer satisfaction;
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recruiting
and retaining sufficient numbers of skilled IT professionals; and
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maintaining
effective customer relationships.
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In
addition, large and complex projects may involve multiple engagements or stages and there is a risk that a customer may choose
not to retain us for additional stages or may cancel or delay additional planned engagements. Such cancellations or delays may
make it difficult to plan our project resource requirements and may result in lower profitability levels than we anticipated upon
commencing engagements.
Our
investments in new services and technologies may not be successful and our business strategy is evolving and may involve pursuing
new lines of business or strategic transactions and investments, or dispositions of assets or businesses that may no longer help
us meet our objectives, and such efforts may not be successful.
We
continue to invest in new services and technologies, including cloud, virtualization, security, mobility, data analytics and blockchain.
The complexity of these solutions, our learning curve in developing and supporting them and significant competition in the markets
for these solutions could make it difficult for us to market and implement these solutions successfully. Additionally, there is
a risk that our customers may not adopt these solutions widely, which would prevent us from realizing expected returns on these
investments. Even if these solutions are successful in the market, they still rely on third-party hardware and software and our
ability to meet stringent service levels. If we are unable to deploy these solutions successfully or profitably, it could adversely
impact our business, results of operations, or financial condition.
Our
industry is undergoing significant change and our business strategy is continuing to evolve to meet these changes. In order to
profitably grow our business, we may need to expand into new lines of business beyond our current focus of providing mobile advertising
analytics products and services, which may involve pursuing strategic transactions, including potential acquisitions of, or investments
in, related or unrelated businesses. In addition, we may seek divestitures of existing businesses or assets. There can be no assurance
that we will be successful with our efforts to evolve our business strategy and we could suffer significant losses as a result,
which could have a material adverse effect on our business, financial condition and results of operations.
If
we decide to sell assets or a business, we may encounter difficulty in finding buyers or alternative exit strategies on acceptable
terms in a timely manner, which could delay the achievement of our strategic objectives. We may also dispose of a business at
a price or on terms that are less desirable than we had anticipated. In addition, we may experience greater dis-synergies than
expected and the impact of the divestiture on our revenue may be larger than projected.
If
we lose any of our key personnel, or are unable to attract and retain the talent required for our business, our business could
be disrupted and our financial performance could suffer.
Our
success is heavily dependent upon our ability to attract, develop, engage and retain key personnel to manage and grow our business,
including our key executive, management, sales, services and technical personnel.
Our
future success will depend to a significant extent on the efforts of our executive officers, as well as the continued service
and support of other key employees. Our future success also will depend on our ability to attract and retain highly skilled technology
specialists, engineers and consultants, for whom the market is extremely competitive.
Our
inability to attract, develop and retain key personnel could have an adverse effect on our relationships with our technology partners
and customers and adversely affect our ability to expand our offerings of technology offerings and services. Moreover, our inability
to train our sales, services and technical personnel effectively to meet the rapidly changing technology needs of our customers
could cause a decrease in the overall quality and efficiency of such personnel. Such consequences could adversely affect our business,
results of operations, or financial condition.
It
may be difficult for us to retain or attract qualified officers and directors, which could adversely affect our business and our
ability to maintain the listing of our common stock on Nasdaq.
We
may be unable to attract and retain qualified officers, directors and members of board committees required to provide for our
effective management as a result of changes in the rules and regulations which govern publicly-held companies, including, but
not limited to, certifications from executive officers and requirements for financial experts on boards of directors. The perceived
increased personal risk associated with these changes may deter qualified individuals from accepting these roles. Further, applicable
rules and regulations of the SEC and Nasdaq heighten the requirements for board or committee membership, particularly with respect
to an individual’s independence from the corporation and level of experience in finance and accounting matters. We may have
difficulty attracting and retaining directors with the requisite qualifications. If we are unable to attract and retain qualified
officers and directors, our business and our ability to maintain the listing of our shares of common stock on Nasdaq could be
adversely affected.
Our
ability to attract and retain business and personnel may depend on our reputation in the marketplace.
We
believe our brand name and our reputation in the marketplace are important corporate assets that help distinguish our technology
offerings and services from those of competitors and contribute to our ability to recruit and retain talented personnel, in particular
our engineers and consulting professionals. However, our corporate reputation is potentially susceptible to material damage by
events such as disputes with customers, cybersecurity breaches, service outages, internal control deficiencies, delivery failures,
or compliance violations. Similarly, our reputation could be damaged by actions or statements of current or former customers,
directors, employees, competitors, vendors, partners, joint ventures or joint venture partners, adversaries in legal proceedings,
legislators, or government regulators, as well as members of the investment community or the media. There is a risk that negative
information about us, even if based on rumor or misunderstanding, could adversely affect our business. Damage to our reputation
could be difficult, expensive and time-consuming to repair, could make potential or existing customers reluctant to select us
for new engagements, resulting in a loss of business and could adversely affect our recruitment and retention efforts. Damage
to our reputation could also reduce the value and effectiveness of our brand name and could reduce investor confidence in us,
adversely affecting the Successor’s share price.
Future
acquisitions could disrupt our business and may divert management’s attention and, if unsuccessful, harm our business.
We
may choose to expand by making additional acquisitions that could be material to our business. We have in the past made several
acquisitions of complementary businesses, including acquisitions in Odyssey, Simplikate, Digby, Tapit! and GoTV. Acquisitions
involve many risks, including the following:
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an
acquisition may negatively affect our results of operations and financial condition because it may require us to incur charges
or assume substantial debt or other liabilities, may cause adverse tax consequences or unfavorable accounting treatment, may
expose us to claims and disputes by third parties, including intellectual property claims and disputes, or may not generate
sufficient financial return to offset additional costs and expenses related to the acquisition;
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we
may encounter difficulties or unforeseen expenditures in integrating the business, technologies, products, personnel, or operations
of any company that we acquire, particularly if key personnel of the acquired company decide not to work for us;
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an
acquisition may disrupt our ongoing business, divert resources, increase our expenses, or distract our management;
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an
acquisition may result in a delay or reduction of customer purchases for both us and the company we acquired due to customer
uncertainty about continuity and effectiveness of service from either company;
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we
may encounter difficulties in, or may be unable to, successfully sell any acquired technology offerings or services;
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an
acquisition may involve the entry into geographic or business markets in which we have little or no prior experience or where
competitors have stronger market positions;
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the
challenges inherent in effectively managing an increased number of employees in diverse locations;
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the
potential strain on our financial and managerial controls and reporting systems and procedures;
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the
potential known and unknown liabilities associated with an acquired company;
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our
use of cash to pay for acquisitions would limit other potential uses for our cash;
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if
we incur additional debt to fund such acquisitions, such debt may subject us to additional material restrictions on our ability
to conduct our business as well as additional financial maintenance covenants;
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the
risk of impairment charges related to potential write-downs of acquired assets or goodwill in future acquisitions;
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to
the extent that we issue a significant amount of equity or equity linked securities in connection with future acquisitions,
existing stockholders may be diluted and earnings per share may decrease; and
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managing
the varying intellectual property protection strategies and other activities of an acquired company.
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We
may not succeed in addressing these or other risks or any other problems encountered in connection with the integration of any
acquired business. The inability to integrate successfully the business, technologies, products, personnel, or operations of any
acquired business, or any significant delay in achieving integration, could harm our business, results of operations, or financial
condition.
We
may not be able to recognize revenue in the period in which our services are performed, which may cause our margins to fluctuate.
Our
services are performed under both time and material and fixed price contract arrangements. All revenue is recognized pursuant
to applicable accounting standards. Our failure to meet all the obligations, or otherwise meet a customer’s expectations,
may result in us having to record the cost related to the performance of services in the period that services were rendered, but
delay the timing of revenue recognition to a future period in which all obligations have been met.
Our
financial results may be adversely affected by changes in accounting principles applicable to us.
U.S. generally accepted accounting principles
(“GAAP”) is subject to interpretation by the Financial Accounting Standards Board (“FASB”), the SEC, and
other various bodies formed to promulgate and interpret appropriate accounting principles. For example, in May 2014, the FASB
issued Accounting Standards Update No. (“ASU”) No. 2014-09 (Topic 606),
Revenue from Contracts with Customers
,
which supersedes nearly all existing revenue recognition guidance under GAAP. We are required to implement this guidance in the
first quarter of our fiscal year 2019, as we have elected to take advantage of the extended transition period provided in Securities
Act Section 7(a)(2)(B) for complying with new or revised accounting standards. The most significant impact relates to our accounting
for subscriptions to our MaaS licenses and application development services, which may potentially make revenue more volatile
and difficult to predict. In addition, accounting for commissions is impacted significantly as we have to capitalize and amortize
most commissions under the new standard instead of expensing commissions as incurred. Due to the complexity of certain of our
contracts, the revenue recognition treatment required under the new standard is dependent on contract-specific terms. Any difficulties
in implementing these pronouncements or adequately accounting after adoption could cause us to fail to meet our financial reporting
obligations, which could result in regulatory discipline and harm investors’ confidence in us. In addition, to adopt the
new standard we had to implement a new revenue recognition module in our accounting system, hire consultants and increase our
spending on audit fees, thereby increasing our general and administrative expense. That increased spending will continue through
at least our first fiscal quarter of 2019 and will likely increase our audit fees on an ongoing basis thereafter.
There has been limited precedence set for financial accounting
of digital assets, it is unclear how the Company will be required to account for digital assets transactions in the future.
There has been limited precedence set for the
financial accounting of digital assets, it is unclear how the Company will be required to account for digital asset transactions
or assets. Furthermore, a change in regulatory or financial accounting standards could result in the necessity to restate the
Company’s financial statements. Such a restatement could negatively impact the Company’s business, prospects, financial
condition and results of operation. Such circumstances would have a material adverse effect on the ability of the Company to continue
as a going concern or to pursue this segment at all, which would have a material adverse effect on the business, prospects or
operations of the Company and potentially the value of any cryptocurrencies the Company holds or expects to acquire for its own
account, including accounting for PhunCoin, and harm investors.
We
may experience quarterly fluctuations in our operating results due to a number of factors, which makes our future results difficult
to predict and could cause our operating results to fall below expectations.
Our
quarterly operating results have fluctuated in the past and we expect them to fluctuate in the future due to a variety of factors,
many of which are outside of our control. As a result, our past results may not be indicative of our future performance and comparing
our operating results on a period-to-period basis may not be meaningful. In addition to the other risks described herein, factors
that may affect our quarterly operating results include:
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changes
in spending on subscriptions, services and application transactions media offerings and services by our current or prospective
customers;
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pricing
our technology offerings and services effectively so that we are able to attract and retain customers without compromising
our operating results;
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attracting
new customers and increasing our existing customers’ use of our technology offerings and services;
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the
mix between new contracts and renewals;
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customer
renewal rates and the amounts for which agreements are renewed;
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seasonality
and its effect on customer demand;
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awareness
of our brand;
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changes
in the competitive dynamics of our market, including consolidation among competitors or customers and the introduction of
new technologies and technology enhancements;
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changes
to the commission plans, quotas and other compensation related metrics for our sales representatives;
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the
amount and timing of payment for operating expenses, particularly sales and marketing expense;
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our
ability to manage our existing business and future growth, domestically and internationally;
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unforeseen
costs and expenses related to the expansion of our business, operations and infrastructure, including disruptions in our hosting
network infrastructure and privacy and data security; and
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general
economic and political conditions in our domestic and international markets.
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customer
delays in purchasing decisions in anticipation of new products or product enhancements by us or our competitors;
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budgeting
cycles of our customers;
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changes
in the competitive dynamics of our market, including consolidation among competitors or customers;
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the
amount and timing of payment for operating expenses, particularly research and development and sales and marketing expenses
(including marketing events and commissions and bonuses associated with performance) and employee benefit expenses;
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the
amount and timing of non-cash expenses, including stock-based compensation, goodwill impairments and other non-cash charges;
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the
amount and timing of costs associated with recruiting, training and integrating new employees;
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the
amount and timing of cash collections from our customers and the mix of quarterly and annual billings;
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introduction
and adoption of our marketing solutions in markets outside of the United States;
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unforeseen
costs and expenses related to the expansion of our business, operations and infrastructure;
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awareness
of our thought leadership and brand on a global basis;
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changes
in the levels of our capital expenditures;
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foreign
currency exchange rate fluctuations; and
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general
economic and political conditions in our domestic and international markets.
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We
may not be able to accurately forecast the amount and mix of future technology offerings and services, size or duration of contracts,
revenue and expenses and, as a result, our operating results may fall below our estimates.
We
could be held liable for damages or our reputation could suffer from security breaches or disclosure of confidential information
or personal data.
We
are dependent on technology networks and systems to process, transmit and securely store electronic information and to communicate
among our locations and with our customers. Security breaches of this infrastructure could lead to shutdowns or disruptions of
our systems and potential loss or unauthorized disclosure of confidential information or data, including personal data. In addition,
many of our engagements involve projects that are critical to the operations of our customers’ businesses. The theft and/or
unauthorized use or publication of our, or our customers’, confidential information or other proprietary business information
as a result of such an incident could adversely affect our competitive position and reduce marketplace acceptance of our services.
Any failure in the networks or computer systems used by us or our customers could result in a claim for substantial damages against
us and significant reputational harm, regardless of our responsibility for the failure.
In
addition, we often have access to or are required to manage, utilize, collect and store sensitive or confidential customer or
employee data, including personal data. As a result, we are subject to numerous U.S. and non-U.S. laws and regulations designed
to protect this information, such GDPR and various
U.S. federal and state laws governing the protection of personal data. If any person, including any of our employees, negligently
disregards or intentionally breaches controls or procedures with which we are responsible for complying with respect to such data,
or otherwise mismanages or misappropriates that data, or if unauthorized access to or disclosure of data in our possession or
control occurs, we could be subject to liability and penalties in connection with any violation of applicable privacy laws and/or
criminal prosecution, as well as significant liability to our customers or our customers’ clients’ for breaching contractual
confidentiality and security provisions or privacy laws. These risks will increase as we continue to grow our cloud based offerings
and services and store and process increasingly large amounts of our customers’ confidential information and data and host
or manage parts of our customers’ businesses, especially in industries involving particularly sensitive data such as the
financial services industry and the healthcare industry. The loss or unauthorized disclosure of sensitive or confidential customer
or employee data, including personal data, whether through breach of computer systems, systems failure, employee negligence, fraud
or misappropriation, or otherwise, could damage our reputation and cause us to lose customers. Similarly, unauthorized access
to or through our information systems and networks or those we develop or manage for our customers, whether by our employees or
third parties, could result in negative publicity, legal liability and damage to our reputation, which could in turn harm our
business, results of operations, or financial condition.
If
we cause disruptions in our customers’ businesses or provide inadequate service, our customers may have claims for substantial
damages against us, which could cause us to lose customers, have a negative effect on our corporate reputation and adversely affect
our results of operations.
If
we make errors in the course of delivering services to our customers or fail to consistently meet our service level obligations
or other service requirements of our customers, these errors or failures could disrupt our customer’s business, which could
result in a reduction in our revenue or a claim for substantial damages against us. In addition, a failure or inability by us
to meet a contractual requirement could subject us to penalties, cause us to lose customers or damage our brand or corporate reputation
and limit our ability to attract new business.
The
services we provide are often critical to our customers’ businesses. Certain of our customer contracts require us to comply
with security obligations including maintaining network security and backup data, ensuring our network is virus free, maintaining
business continuity planning procedures and verifying the integrity of employees that work with our customers by conducting background
checks. Any failure in a customer’s system, failure of our data center, cloud or other offerings, or breach of security
relating to the services we provide to the customer could damage our reputation or result in a claim for substantial damages against
us. Any significant failure of our equipment or systems, or any major disruption to basic infrastructure in the locations in which
we operate, such as power and telecommunications, could impede our ability to provide services to our customers, have a negative
impact on our reputation, cause us to lose customers and adversely affect our results of operations.
Under
our customer contracts, our liability for breach of our obligations is in some cases limited pursuant to the terms of the contract.
Such limitations may be unenforceable or otherwise may not protect us from liability for damages. In addition, certain liabilities,
such as claims of third parties for which we may be required to indemnify our customers, are generally not limited under our contracts.
The successful assertion of one or more large claims against us in amounts greater than those covered by our current insurance
policies could harm our business, results of operations, or financial condition. Even if such assertions against us are unsuccessful,
we may incur reputational harm and substantial legal fees.
Our
technology offerings and services could infringe upon the intellectual property rights of others or we might lose our ability
to use intellectual property of others.
We
cannot be sure that our brand, technology offerings and services, including, for example, the software solutions of others that
we offer to our customers, do not infringe on the intellectual property rights of third parties and these third parties could
claim that we or our customers are infringing upon their intellectual property rights. These claims could harm our reputation,
cause us to incur substantial costs or prevent us from offering some services or solutions in the future, or require us to rebrand.
Any related proceedings could require us to expend significant resources over an extended period of time. In most of our contracts,
we agree to indemnify our customers for expenses and liabilities resulting from claimed infringements of the intellectual property
rights of third parties. In some instances, the amount of these indemnities could be greater than the revenue we receive from
the customer. Any claims or litigation in this area, regardless of merit, could be time-consuming and costly, damage our reputation,
and/or require us to incur additional costs to obtain the right to continue to offer a service or solution to our customers. If
we cannot secure this right at all or on reasonable terms, or, alternatively, substitute a non-infringing technology, our business,
results of operations, or financial condition could be harmed. Similarly, if we are unsuccessful in defending a trademark claim,
we could be forced to re-brand, which could harm our business, results of operations, or financial condition. Additionally, in
recent years, individuals and firms have purchased intellectual property assets where their sole or primary purpose is to assert
claims of infringement against technology providers and customers that use such technology. Any such action naming us or our customers
could be costly to defend or lead to an expensive settlement or judgment against us. Moreover, such an action could result in
an injunction being ordered against our customer or our own services or operations, causing further damages.
If
we are unable to protect our intellectual property rights from unauthorized use or infringement by third parties, our business
could be adversely affected.
Our
success depends, in part, upon our ability to protect our proprietary methodologies and other intellectual property. Existing
laws offer only limited protection of our intellectual property rights and the protection in some countries in which we operate
or may operate in the future may be very limited. We rely upon a combination of confidentiality policies, nondisclosure and other
contractual arrangements and trade secret, copyright and trademark laws to protect our intellectual property rights. These laws
are subject to change at any time and could further limit its ability to protect our intellectual property. There is uncertainty
concerning the scope of available intellectual property protection for software and business methods, which are fields in which
we rely on intellectual property laws to protect our rights. The validity and enforceability of any intellectual property right
we obtain may be challenged by others and, to the extent we have enforceable intellectual property rights, those intellectual
property rights may not prevent competitors from reverse engineering our proprietary information or independently developing technology
offerings and services similar to or duplicative of us. Further, the steps we take in this regard might not be adequate to prevent
or deter infringement or other misappropriation of our intellectual property by competitors, former employees or other third parties
and we might not be able to detect unauthorized use of, or take appropriate and timely steps to enforce, our intellectual property
rights. Enforcing our rights might also require considerable time, money and oversight and we may not be successful in enforcing
our rights.
If
we are unable to collect our receivables from, or bill our unbilled services to, our customers, our business, results of operations,
or financial condition could be adversely affected.
Our
business depends on our ability to successfully obtain payment from our customers of the amounts they owe us for technology offerings
sold or services performed. We typically evaluate the financial condition of our customers and usually bill and collect on relatively
short cycles. We maintain allowances against receivables and unbilled services. Actual losses on customer balances could differ
from those that we currently anticipate and, as a result, we might need to adjust our allowances. There is no guarantee that we
will accurately assess the creditworthiness of our customers. Macroeconomic conditions could also result in financial difficulties
for our customers, including limited access to the credit markets, insolvency, or bankruptcy, and, as a result, could cause customers
to delay payments to us, request modifications to their payment arrangements that could increase our receivables balance, or default
on their payment obligations to us. Timely collection of customer balances also depends on our ability to complete its contractual
commitments and bill and collect our contracted revenue. If we are unable to meet our contractual requirements, we might experience
delays in collection of and/or be unable to collect our customer balances and if this occurs, our business, results of operations,
or financial condition could be adversely affected. In addition, if we experience an increase in the time to bill and collect
for our services, our cash flows could be adversely affected.
Increased
costs of labor and employee health and welfare benefits may adversely impact our results of operations.
Given
our number of employees, labor related costs represent a significant portion of our expenses. An increase in labor costs, for
example, as a result of increased competition for skilled labor, or employee benefit costs, such as health care costs or otherwise,
could adversely impact our business, results of operations, or financial condition.
Our
global operations are subject to complex risks, some of which might be beyond our control.
Our
customers have operations across North and South America, Europe, Australia and Asia and other locations. Although international
revenue currently represents a small portion of our business, our revenue from customers outside of the United States may expand
in the future as we expand our international presence. As a result, we may be subject to risks inherently associated with international
operations, including risks associated with foreign currency exchange rate fluctuations, difficulties in enforcing intellectual
property and/or contractual rights, the burdens of complying with a wide variety of foreign laws and regulations, potentially
adverse tax consequences, tariffs, quotas and other barriers, potential difficulties in collecting accounts receivable, international
hostilities, terrorism and natural disasters. Expansion of international operations also increases the likelihood of potential
or actual violations of domestic and international anticorruption laws, such as the Foreign Corrupt Practices Act, or of U.S.
and international export control and sanctions regulations. We may also face difficulties integrating any new facilities in different
countries into our existing operations, as well as integrating employees that we hire in different countries into our existing
corporate culture. If we are unable to manage the risks of our global operations, our business, results of operations, or financial
condition could be adversely affected.
Economic
uncertainties or downturns in the general economy or the industries in which our customers operate could disproportionately affect
the demand for our marketing solutions and negatively impact our operating results.
General
worldwide economic conditions have experienced a significant downturn and fluctuations in recent years and market volatility and
uncertainty remain widespread. As a result, we and our customers find it extremely difficult to accurately forecast and plan future
business activities. In addition, these conditions could cause our customers or prospective customers to reduce their marketing
and sales budgets, which could decrease corporate spending on our marketing solutions, resulting in delayed and lengthened sales
cycles, a decrease in new customer acquisition and/or loss of customers. Furthermore, during challenging economic times, our customers
may face issues with their cash flows and with gaining timely access to sufficient credit or obtaining credit on reasonable terms,
which could impair their ability to make timely payments to us, impact customer renewal rates and adversely affect our revenue.
If such conditions occur, we may be required to increase our reserves, allowances for doubtful accounts and write-offs of accounts
receivable and our operating results would be harmed. In addition, a downturn in the technology sector may disproportionately
affect us because a significant portion of our customers are technology companies. We cannot predict the timing, strength or duration
of any economic slowdown or recovery, whether global, regional or within specific markets. If the conditions of the general economy
or markets in which we operate worsen, our business could be harmed. In addition, even if the overall economy does not worsen
or improves, the market for marketing software may not experience growth or we may not experience growth.
If
platform subscriptions renewal rates decrease, or we do not accurately predict subscription renewal rates, our future revenue
and operating results may be harmed.
Our
customers have no obligation to renew their subscriptions for our solutions after the expiration of their subscription period,
which is typically one year, but generally ranges from one to three years. In addition, our customers may renew for lower subscription
amounts or for shorter contract lengths. We may not accurately predict renewal rates for our customers. Our renewal rates may
decline or fluctuate as a result of a number of factors, including customer usage, pricing changes, number of applications used
by our customers, customer satisfaction with our service, increased competition, the acquisition of our customers by other companies
and deteriorating general economic conditions. If our customers do not renew their subscriptions for our solutions or decrease
the amount they spend with us, our revenue will decline and our business will suffer.
If
we are unable to attract new customers or sell additional services and functionality to our existing customers, our revenue growth
will be adversely affected.
To
increase our revenue, we must add new customers, encourage existing customers to renew their subscriptions on terms favorable
to us, increase their usage of our solutions and sell additional functionality and services to existing customers. As our industry
matures, as interactive channels develop further, or as competitors introduce lower cost and/or differentiated products or services
that are perceived to compete with ours, our ability to sell and renew based on pricing, technology and functionality could be
impaired. In addition, attracting, retaining and growing our relationship with enterprise customers may require us to effectively
employ different strategies than we have historically used with current customers and we may face challenges in doing so. As a
result, we may be unable to renew our agreements with existing customers or attract new customers or new business from existing
customers on terms that would be favorable or comparable to prior periods, which could have an adverse effect on our revenue and
growth.
Because
we recognize revenue from platform subscriptions and services over the term of the relevant contract, downturns or upturns in
sales are not immediately reflected in full in our operating results.
As
a subscription-based business, we recognize revenue over the term of each of our contracts, which is typically one year, but ranges
from one to three years. As a result, much of the revenue we report each quarter results from contracts entered into during previous
quarters. Consequently, a shortfall in demand for our solutions and professional services or a decline in new or renewed contracts
in any one quarter may not significantly reduce our revenue for that quarter but could negatively affect our revenue in the future.
Accordingly, the effect of significant downturns in new sales or renewals of our marketing solutions will not be reflected in
full in our operating results until future periods. Our revenue recognition model also makes it difficult for us to rapidly increase
our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable term
of the contracts.
If
we fail to forecast our revenue accurately, or if we fail to match our expenditures with corresponding revenue, our operating
results could be adversely affected.
The
lengthy sales cycle for the evaluation and implementation of our solutions, which typically extends for several months, may cause
us to experience a delay between increasing operating expenses for such sales efforts, and, upon successful sales, the generation
of corresponding revenue. Accordingly, we may be unable to prepare accurate internal financial forecasts or replace anticipated
revenue that we do not receive as a result of delays arising from these factors. As a result, our operating results in future
reporting periods may be significantly below the expectations of the public market, equity research analysts or investors, which
could harm the price of our common stock.
The
length and unpredictability of the sales cycle for our technology offerings and services could delay new sales and cause our revenue
and cash flows for any given quarter to fail to meet our projections or market expectations.
The
sales cycle between our initial contact with a potential customer and the signing of a contract to provide technology offerings
and services varies. As a result of the variability and length of the sales cycle, we have a limited ability to forecast the timing
of sales. A delay in or failure to complete transactions could harm our business and financial results and could cause our financial
results to vary significantly from quarter to quarter. Our sales cycle varies widely, reflecting differences in our potential
customers’ decision-making processes, procurement requirements and budget cycles and is subject to significant risks over
which we have little or no control, including:
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customers’ budgetary constraints and priorities;
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the
timing of our customers’ budget cycles; and
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length and timing of customers’ approval processes.
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Privacy
concerns and consumers’ acceptance of Internet behavior tracking may limit the applicability, use and adoption of our marketing
solutions.
Privacy
concerns may cause consumers to resist providing the personal data necessary to allow our customers to use our service effectively.
We have implemented various features intended to enable our customers to better protect consumer privacy, but these measures may
not alleviate all potential privacy concerns and threats. For example, the ECJ Ruling had the effect of invalidating the Safe
Harbor framework. As a result, the framework no longer provides a valid legal basis for companies to transfer personal data from
the European Union to the United States. Companies, including our customers, must comply with relevant aspects of European Union
data protection laws using alternate mechanisms and our customers may not implement the alternate mechanisms that we offer. Additionally,
our alternative measures may be challenged or deemed insufficient. Even the perception of privacy concerns, whether or not valid,
may inhibit market adoption of our service in certain industries. In addition to government activity privacy advocacy groups and
the marketing and other industries are considering various new, additional or different self-regulatory standards that may place
additional burdens on us. The costs of compliance with and other burdens imposed by, the foregoing laws, regulations, policies
and actions may limit the use and adoption of our cloud-based marketing solutions and reduce overall demand for it, or lead to
significant fines, penalties or liabilities for any noncompliance or loss of any such action.
We
require significant additional capital funding and such capital may not be available to us.
We
expect that our operating expenses will be higher than our net revenue for the foreseeable future, we currently lack sufficient
working capital and, we do not currently have financing
available to pay all liabilities as they are scheduled to come due in the next twelve months. We are working on several contingency
plans within our control to conserve existing liquidity through the reduction of discretionary expenses. We are also exploring
various alternatives including debt and equity financing vehicles, alternative offerings (launching an offering for a new token
pursuant to Rule 506(c) of Regulation D as promulgated under the Securities Act) strategic partnerships and the Business Combination.
Our
cash requirements relate primarily to our current negative working capital balance plus working capital needed to operate and
grow our business, including funding operating expenses and continued development and expansion of our services. We are currently
unable to fund our operations without additional external financing and therefore cannot sustain future operations, we may be
required to delay, reduce and/or cease our operations and/or seek bankruptcy protection. Although we have successfully raised
funds from investors in the past, no assurances can be made that we will be able to obtain sufficient additional capital to satisfy
the current negative working capital balances and future operations. Furthermore, if adequate additional funds are not available,
we will be required to delay, reduce the scope of, or eliminate material parts of the implementation of our business strategy,
including potential additional acquisitions or internally-developed businesses, which could seriously harm our business and operating
results.
Additionally,
even if we raise sufficient capital through additional equity or debt financings, strategic alternatives or otherwise, there can
be no assurance that the revenue or capital infusion will be sufficient to enable us to develop our business to a level where
it will be profitable or generate positive cash flow. If we raise additional funds through the issuance of equity or convertible
debt securities, the percentage ownership of our stockholders could be significantly diluted and these newly issued securities
may have rights, preferences or privileges senior to those of existing stockholders. If we incur additional debt, a substantial
portion of our operating cash flow may be dedicated to the payment of principal and interest on such indebtedness, thus limiting
funds available for our business activities. The debt holders would have rights senior to common stockholders to make claims on
our assets and the terms of any debt securities issued could also impose significant restrictions on our operations. Because our
decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we
cannot predict or estimate the amount, timing or nature of our future offerings. As a result, our stockholders bear the risk of
our future securities offerings reducing the market price of our common stock and diluting their interest. Broad market and industry
factors may seriously harm the market price of our common stock, regardless of our operating performance and may adversely impact
our ability to raise additional funds. If we raise additional funds through collaborations and/or licensing arrangements, we might
be required to relinquish significant rights to our technologies, or grant licenses on terms that are not favorable to us.
We
intend to raise capital to fund a Token Generation Event, pursuant to a Rule 506(c) of Regulation D offering by our wholly-owned
subsidiary, PhunCoin, Inc. (“PhunCoin Sub”) of rights to receive future PhunCoin. There can be no assurance that the
PhunCoin will ever be issued and, any significant difficulties we and PhunCoin Sub may experience with the offering could result
in claims against us, and the Token Generation Event and PhunCoin will subject us to various other business and regularity uncertainties.
Pursuant
to the agreement and plan of merger, dated as of February 27, 2018 (as amended or supplemented from time to time, the “Merger
Agreement”) among Stellar, Phunware and certain other parties, as amended by the first amendment to the Merger Agreement
dated as of November 1, 2018, we have agreed to use commercially reasonable efforts to raise between $10 million and $100 million
through a PhunCoin offering. In accordance with that obligation, in June 2018, PhunCoin Sub launched an offering to raise capital
by offering investors the right to acquire PhunCoin pursuant to Rule 506(c) of Regulation D as promulgated under the Securities
Act. As of the date of this Report, $990 thousand has been raised in the rights offering. We will use our commercially reasonable
efforts to develop and issue PhunCoin, but there is no assurance that it will do so. If the Token Generation Event, defined as
the launch of the PhunCoin Ecosystem, is not consummated or the rights offering does not result in substantial proceeds, it could
have a material adverse effect on our cash position. If the Token Generation Event is not consummated, we would have to reduce
our planned expenditures and/or would require additional funding from other sources in order to carry out our business plan. Also,
any significant difficulties we may experience with the Token Generation Event or the development of the PhunCoin could result
in claims against us and could have a material adverse effect on the holders of our common stock.
The
growth of the blockchain industry in general, as well as the networks on which PhunCoin will rely to consummate the Token Generation
Event, is subject to a high degree of uncertainty. The cryptocurrency and cryptosecurities industries as a whole have been characterized
by rapid changes and innovations and are constantly evolving. The slowing or stopping of the development, general acceptance and
adoption and usage of blockchain networks and blockchain assets may materially adversely affect our business plans to launch and
maintain PhunCoin. For example, given the regulatory complexity with respect to cryptocurrency and related digital assets, complying
with such regulations, which could change in the future or be subject to new interpretations, could have a material and adverse
effect on our ability to develop, launch and continue to operate PhunCoin and the PhunCoin Ecosystem, which is intended to be
a rewards marketplace and data exchange whereby users receive PhunCoin in exchange for their information and PhunCoin can be redeemed
by users for goods and services. In addition, the tax and accounting consequences to us of the Token Generation Event and PhunCoin
are uncertain, which could lead to incorrect reporting, classification or liabilities. If the Token Generation Event occurs and
PhunCoin is developed, its structural foundation, the software applications and other interfaces or applications upon which it
relies or that will be built are unproven. There can be no assurances that PhunCoin will be fully secure, which may result in
impermissible transfers, a complete loss of users’ PhunCoin on the PhunCoin Ecosystem or an unwillingness of users to access,
adopt and utilize PhunCoin, whether through system faults or malicious attacks. Any such faults or attacks on PhunCoin may materially
and adversely affect our business.
Because
PhunCoin will be a digital asset built and transacted on top of an existing blockchain technology, Phunware is reliant on another
blockchain network, and users are subject to the risk of wallet incompatibility and blockchain protocol risks.
We
are evaluating several blockchain technologies to determine which of these providers meet the design specifications that would
be required to create the PhunCoin Ecosystem. Reliance upon another blockchain technology subjects us and PhunCoin Ecosystem users
to the risk of digital wallet incompatibility, or additional ecosystem malfunction, unintended function, unexpected functioning
of, or attack on, the blockchain protocol that Phunware intends to use, which may cause PhunCoin to malfunction or function in
an unexpected manner, including, but not limited to, slowdown or complete cessation in functionality of the network.
The
PhunCoin Ecosystem is designed to distribute PhunCoin to consumers in exchange for their agreement to provide certain personal
information to us. Providing this data exposes us to risks of privacy data breach and cybersecurity attacks.
We
utilize a substantial amount of electronic information. This includes transaction information and sensitive personal information
of the users of the PhunCoin Ecosystem. The service providers used by us, may also use, store, and transmit such information.
We intend to implement detailed cybersecurity policies and procedures and an incident response plan designed to protect such information
and prevent data loss and security breaches.
There
can be no assurances that PhunCoin or a user’s data will be fully secure, which may result in impermissible transfer, a
complete loss of users’ PhunCoin or data on the PhunCoin Ecosystem or an unwillingness of users to access, adopt and utilize
PhunCoin, whether through system faults or malicious attacks. Any such faults or attacks on PhunCoin and users’ data may
materially and adversely affect PhunCoin and the PhunCoin Ecosystem. There are a number of data protection, security, privacy
and other government- and industry-specific requirements, including those that require companies to notify individuals of data
security incidents involving certain types of personal data. Security compromises could harm the PhunCoin Ecosystem’s reputation,
erode user confidence in the effectiveness of its security measures, negatively impact its ability to attract new users, or cause
existing users to stop using the PhunCoin Ecosystem or PhunCoin. We may be compelled to disclose personal information about a
user or users of the PhunCoin Ecosystem to federal or state government regulators or taxation authorities. Accordingly,
certain information concerning users may be shared outside Phunware.
The
regulatory regime governing blockchain technologies, cryptocurrencies, digital assets, utility tokens, and offerings of digital
assets and utility tokens such as PhunCoin is uncertain, and new regulations or policies may materially adversely affect the development
and the value of PhunCoin.
Regulation
of digital assets, like PhunCoin, cryptocurrencies, blockchain technologies and cryptocurrency exchanges, is currently undeveloped
and likely to rapidly evolve as government agencies take greater interest in them. Regulation also varies significantly among
international, federal, state and local jurisdictions and is subject to significant uncertainty. Various legislative and executive
bodies in the United States and in other countries may in the future adopt laws, regulations, or guidance, or take other actions,
which may severely impact the permissibility of tokens generally and the technology behind them or the means of transaction or
in transferring them. In addition, any violations of laws and regulations relating to the safeguarding of private information
in connection with PhunCoin could subject us to fines, penalties or other regulatory actions, as well as to civil actions by affected
parties. Any such violations could adversely affect the ability of Phunware to maintain PhunCoin, which could have a material
adverse effect on our operations and financial condition. Failure by us to comply with any laws, rules and regulations, some of
which may not exist yet or are subject to interpretation and may be subject to change, could result in a variety of adverse consequences,
including civil penalties and fines.
The
actual market for our solutions could be significantly smaller than estimates of total potential market opportunity and if customer
demand for our services does not meet expectations, our ability to generate revenue and meet our financial targets could be adversely
affected.
While
we expect strong growth in the markets for our products, it is possible that the growth in some or all of these markets may not
meet our expectations, or materialize at all. The methodology on which our estimate of our total potential market opportunity
is based includes several key assumptions based on our industry knowledge and customer experience. If any of these assumptions
proves to be inaccurate, then the actual market for our solutions could be significantly smaller than our estimates of our total
potential market opportunity. If the customer demand for our services or the adoption rate in our target markets does not meet
our expectations, our ability to generate revenue from customers and meet our financial targets could be adversely affected.
We
are highly dependent on advertising agencies as intermediaries and this may adversely affect our ability to attract and retain
business.
Nearly
all of our application transaction revenue comes from executing brand advertising campaigns for advertising agencies that purchase
our solutions on behalf of their advertiser customers. Advertising agencies are instrumental in assisting brand owners to plan
and purchase advertising and each advertising agency will allocate advertising spend from brands across numerous channels. We
do not have exclusive relationships with advertising agencies and we depend on agencies to work with us as they embark on marketing
campaigns for brands. While in some cases we are invited by advertising agencies to present directly to their advertiser customers
or otherwise have developed a relationship directly with an advertiser, we nevertheless depend on advertising agencies to present
to their advertiser customers the merits of our digital video advertising solutions. Inaccurate descriptions of our digital video
advertising solutions by advertising agencies, over which we have no control, negative recommendations to use our service offerings
or failure to mention our solutions at all could hurt our business. In addition, if an advertising agency is dissatisfied with
our solutions on a marketing campaign or in general, we risk losing the business of the advertiser for whom the campaign was run
and of other advertisers represented by that agency. With advertising agencies acting as intermediaries for multiple brands, our
customer base is more concentrated than might be reflected by the number of brand advertisers for which we conduct marketing campaigns.
Since many advertising agencies are affiliated with other agencies in a larger corporate structure, if we fail to maintain good
relations with one agency in such an organization, we may lose business from the affiliated agencies as well.
Our
sales could be adversely impacted by industry changes relating to the use of advertising agencies. For example, if advertisers
seek to bring their marketing campaigns in-house rather than using an advertising agency, we would need to develop direct relationships
with the advertisers, which we might not be able to do and which could increase our sales and marketing expense. Moreover, because
of dealing primarily with advertising agencies, we have a less direct relationship with advertisers than would be the case if
advertisers dealt with us directly. This may drive advertisers to attribute the value we provide to the advertising agency rather
than to us, further limiting our ability to develop long-term relationships directly with advertisers. Advertisers may move from
one advertising agency to another, and, accordingly, even if we have a positive relationship with an advertising agency, we may
lose the underlying business when an advertiser switches to a new agency. The presence of advertising agencies as intermediaries
between us and the advertisers thus creates a challenge to building our own brand awareness and affinity with the advertisers
that are the ultimate source of our revenue.
In
addition, our advertising agency customers may offer components of our solutions, including selling advertising inventory through
their own sources. As a result, these advertising agencies are, or may become, our competitors. If they further develop their
capabilities they may be more likely to offer their own solutions to advertisers, which could compromise our ability to compete
effectively and adversely affect our business, financial condition and operating results.
If
we fail to detect advertising fraud or other actions that impact our advertising campaign performance, we could harm our reputation
with advertisers or agencies, which would cause our revenue and business to suffer.
Our
business relies on our ability to deliver successful and effective video advertising campaigns. Some of those campaigns may experience
fraudulent and other invalid impressions, clicks or conversions that advertisers may perceive as undesirable, such as non-human
traffic generated by machines that are designed to simulate human users and artificially inflate user traffic on websites. These
activities could overstate the performance of any given video advertising campaign and could harm our reputation. It may be difficult
for us to detect fraudulent or malicious activity because we do not own content and rely in part on our digital media properties
to control such activity. These risks become more pronounced as the digital video industry shifts to programmatic buying. Industry
self-regulatory bodies, the Federal Trade Commission (“FTC”) and certain influential members of Congress have increased
their scrutiny and awareness of and have taken recent actions to address, advertising fraud and other malicious activity. While
we routinely review the campaign performance on our digital media properties’ inventory, such reviews may not detect or
prevent fraudulent or malicious activity. If we fail to detect or prevent fraudulent or other malicious activity, the affected
advertisers may experience or perceive a reduced return on their investment and our reputation may be harmed. High levels of fraudulent
or malicious activity could lead to dissatisfaction with our solutions, refusals to pay, refund or future credit demands or withdrawal
of future business. In addition, advertisers increasingly rely on third party vendors to measure campaigns against audience guarantee,
viewability and other requirements and to detect fraud. If we are unable to successfully integrate our technology with such vendors,
or our measurement and fraud detection differs from their findings, our customers could lose confidence in our solutions, we may
not get paid for certain campaigns and our revenues could decrease. Further, if we are unable to detect fraudulent or other malicious
activities and advertisers demand fraud-free inventory, our supply could fall drastically, making it impossible to sustain our
current business model. If we fail to detect fraudulent or other malicious activities that impact the performance of our brand
advertising campaigns, we could harm our reputation with our advertisers or agencies and our revenue and business would suffer.
The
mobile advertising market may develop more slowly than expected, which could harm our business.
If
the market for mobile marketing and advertising develops more slowly than we expect, our business could suffer. Our future success
is highly dependent on the commitment of advertisers and marketers to mobile communications as an advertising and marketing medium,
the willingness of our potential advertisers to outsource their mobile advertising and marketing needs and our ability to sell
our mobile advertising services to reseller partners and agencies. The mobile advertising and marketing market is rapidly evolving.
Businesses, including current and potential advertisers, may find mobile advertising or marketing to be less effective than traditional
advertising media or marketing methods or other technologies for promoting their products and services. As a result, the future
demand and market acceptance for mobile marketing and advertising is uncertain. Many of our current or potential advertisers may
have little or no experience using mobile communications for advertising or marketing purposes and have allocated only a limited
portion of their advertising or marketing budgets to mobile communications advertising or marketing and there is no certainty
that they will allocate more funds in the future, if any. Funds to these types of campaigns may fluctuate greatly as different
agencies and advertisers test and refine their overall marketing strategies to include mobile advertising and analytics tools.
The adoption rate and budget commitments may vary from period to period as agencies and advertisers determine the appropriate
mix of media and lead sources in short term and longer-term campaigns.
We
may be unable to deliver advertising in a context that is appropriate for mobile advertising campaigns, which could harm our reputation
and cause our business to suffer.
It
is very important to advertisers that their brand advertisements not be placed in or near content that is unlawful or would be
deemed offensive or inappropriate by their customers. Unlike advertising on television, where the context in which an advertiser’s
ad will appear is highly predictable and controlled, digital media content is more unpredictable and we cannot guarantee that
digital video advertisements will appear in a context that is appropriate for the brand. We rely on continued access to premium
ad inventory in high-quality and brand-safe environments, viewable to consumers across multiple screens. If we are not successful
in delivering context appropriate digital video advertising campaigns for advertisers, our reputation will suffer and our ability
to attract potential advertisers and retain and expand business with existing advertisers could be harmed, or our customers may
seek to avoid payment or demand future credits for inappropriately placed advertisements, any of which could harm our business,
financial condition and operating results.
We
may experience foreign currency gains and losses and expect to continue to experience those gains and losses; fluctuations in
currency exchange rates can adversely affect our profitability.
We
may incur foreign currency transaction gains and losses, primarily related to foreign currency exposures that arise from British
Pound Sterling and Euro denominated transactions that we expect to cash settle in the near term, which are charged against earnings
in the period incurred. We have a program which utilizes foreign currency forward contracts designed to offset the risks associated
with certain foreign currency transaction exposures. We may suspend the program from time to time. As a part of this program,
we enter into foreign currency forward contracts so that increases or decreases in our foreign currency exposures are offset at
least in part by gains or losses on the foreign currency forward contracts in an effort to mitigate the risks and volatility associated
with our foreign currency transaction gains or losses. We expect that we will continue to realize gains or losses with respect
to our foreign currency exposures, net of gains or losses from our foreign currency forward contracts. For example, we will experience
foreign currency gains and losses in certain instances if it is not possible or cost effective to mitigate our foreign currency
exposures, if our mitigation efforts are ineffective, or if we suspend our foreign currency forward contract program. Our ultimate
realized loss or gain with respect to currency fluctuations will generally depend on the size and type of cross-currency exposures
that we enter into, the currency exchange rates associated with these exposures and changes in those rates, whether we have entered
into foreign currency forward contracts to offset these exposures and other factors. All of these factors could materially impact
our results of operations, financial position and cash flows.
Our
business depends on our ability to collect and use data to deliver ads and to disclose data relating to the performance of our
ads; any limitation on these practices could significantly diminish the value of our solutions and cause us to lose customers
and revenue.
When
we deliver an ad to an internet-connected device, we are able to collect information about the placement of the ad and the interaction
of the device user with the ad, such as whether the user visited a landing page or watched a video. We are also able to collect
information about the user’s IP address, device, mobile location and some demographic characteristics. We may also contract
with one or more third parties to obtain additional pseudonymous information about the device user who is viewing a particular
ad, including information about the user’s interests. As we collect and aggregate this data provided by billions of ad impressions,
we analyze it in order to optimize the placement and scheduling of ads across the advertising inventory provided to us by digital
media properties.
Although
the data we collect does not enable us to determine the actual identity of any individual, our customers or end users might decide
not to allow us to collect some or all of the data or might limit our use of it. For example, a digital media property might not
agree to provide us with data generated by interactions with the content on its apps, or device users might not consent to share
their information about device usage. Any limitation on our ability to collect data about user behavior and interaction with content
could make it more difficult for us to deliver effective digital video advertising programs that meet the demands of our customers.
This in turn could harm our revenue and impair our business.
Although
our contracts with advertisers generally permit us to aggregate data from advertising campaigns, sometimes an advertiser declines
to permit the use of this data, which limits the usefulness of the data that we collect. Furthermore, advertisers may request
that we discontinue using data obtained from their campaigns that have already been aggregated with other advertisers’ campaign
data. It would be difficult, if not impossible, to comply with these requests and complying with these kinds of requests could
cause us to spend significant amounts of resources. Interruptions, failures or defects in our data collection, mining, analysis
and storage systems, as well as privacy concerns and regulatory restrictions regarding the collection, use and processing of data,
could also limit our ability to aggregate and analyze the data from our customers’ advertising campaigns. If that happens,
we may not be able to optimize the placement of advertising for the benefit of our advertising customers, which could make our
solutions less valuable, and, as a result, we may lose customers and our revenue may decline.
Our
business practices with respect to data could give rise to liabilities, restrictions on our business or reputational harm as a
result of evolving governmental regulation, legal requirements or industry standards relating to consumer privacy and data protection.
In
the course of providing our solutions, we collect, transmit and store information related to and seeking to correlate internet-connected
devices, user activity and the ads we place. Federal, state and international laws and regulations govern the collection, use,
processing, retention, sharing and security of data that we collect across our advertising solutions. We strive to comply with
all applicable laws, regulations, policies and legal obligations relating to privacy and data collection, processing use and disclosure.
However, the applicability of specific laws may be unclear in some cases and domestic and foreign government regulation and enforcement
of data practices and data tracking technologies is expansive, not clearly defined and rapidly evolving. In addition, it is possible
that these requirements may be interpreted and applied in a manner that is new or inconsistent from one jurisdiction to another
and may conflict with other rules or our practices. Any actual or perceived failure by us to comply with U.S. federal, state or
international laws, including laws and regulations regulating privacy, data, security or consumer protection, or disclosure or
unauthorized access by third parties to this information, could result in proceedings or actions against us by governmental entities,
competitors, private parties or others. Any proceedings or actions against us alleging violations of consumer or data protection
laws or asserting privacy-related theories could hurt our reputation, force us to spend significant amounts in defense of these
proceedings, distract our management, increase our costs of doing business, adversely affect the demand for our solutions and
ultimately result in the imposition of monetary liability. We may also be contractually liable to indemnify and hold harmless
our customers from the costs or consequences of litigation resulting from using our solutions or from the disclosure of confidential
information, which could damage our reputation among our current and potential customers, require significant expenditures of
capital and other resources and cause us to lose business and revenue.
The
regulatory framework for privacy issues is evolving worldwide and various government and consumer agencies and public advocacy
groups have called for new regulation and changes in industry practices, including some directed at the digital advertising industry
in particular. It is possible that new laws and regulations will be adopted in the United States and internationally, or existing
laws and regulations may be interpreted in new ways, that would affect our business, particularly with regard to collection or
use of data to target ads and communication with consumers and the international transfer of data from Europe to the U.S. The
U.S. government, including the FTC and the Department of Commerce, has announced that it is reviewing the need for greater regulation
of the collection of consumer information, including regulation aimed at restricting some targeted advertising practices. In Europe,
in October 2015 the Court of Justice of the European Union invalidated the “U.S.-EU Safe Harbor framework,” which
created a safe harbor under the European Data Protection Directive for certain European data transfers to the U.S. We had not
self-certified under this regime and therefore were not directly affected by this decision. In July 2016, the European Commission
approved the Privacy Shield, which is a set of principles and related rules that are intended to replace the U.S.-EU Safe harbor
framework. We are in the process of determining whether to join the Privacy Shield program. Stricter regulation of European data
transfers to U.S. in future may impact our ability to serve European customers effectively, or require us to open and operate
datacenters in the European Union which would result in a higher cost of doing business in these jurisdictions.
In
particular, the GDPR extends the jurisdictional scope of European data protection law. As a result, we will be subject to the
GDPR when we provide our targeting services in Europe. The GDPR imposes stricter data protection requirements that may necessitate
changes to our services and business practices. Potential penalties for non-compliance with the GDPR include administrative fines
of up to 4% of annual worldwide revenue. Complying with any new regulatory requirements could force us to incur substantial costs
or require us to change our business practices in a manner that could reduce our revenue or compromise our ability to effectively
pursue our growth strategy.
The
FTC has also adopted revisions to the Children’s Online Privacy Protection Act (“COPPA”) that expand liability
for the collection of information by operators of websites and other electronic solutions that are directed to children. Questions
exist as to how regulators and courts may interpret the scope and circumstances for potential liability under COPPA and the FTC
continues to provide guidance and clarification as to its 2013 revisions of COPPA. FTC guidance or enforcement precedent may make
it difficult or impractical for us to provide advertising on certain websites, services or applications. In addition, the FTC
recently fined an ad network for certain methods of collecting and using data from mobile applications, including certain applications
directed at children and failing to disclose the data collection to mobile application developers in their network.
While
we have not collected data that is traditionally considered personal data, such as name, email address, physical address, phone
numbers or social security numbers, we typically collect and store IP addresses, geo-location information and device or other
persistent identifiers that are or may be considered personal data in some jurisdictions or otherwise may be the subject of legislation
or regulation. For example, some jurisdictions in the EU regard IP addresses as personal data and certain regulators, such as
the California Attorney General’s Office, have advocated for including IP addresses, GPS-level geolocation data and unique
device identifiers as personal data under California law. Furthermore, the GDPR makes
clear that online identifiers (such as IP addresses and other device identifiers) will be treated as “personal data”
going forward and therefore subject to stricter data protection rules.
Evolving
definitions of personal data within the European Union, the United States and elsewhere, especially relating to the classification
of IP addresses, machine or device identifiers, geo-location data and other such information, may cause us to change our business
practices, diminish the quality of our data and the value of our solution and hamper our ability to expand our offerings into
the European Union or other jurisdictions outside of the United States. Our failure to comply with evolving interpretations of
applicable laws and regulations, or to adequately protect personal data, could result in enforcement action against us or reputational
harm, which could have a material adverse impact on our business, financial condition and results of operations.
In
addition to compliance with government regulations, we voluntarily participate in trade associations and industry self-regulatory
groups that promulgate best practices or codes of conduct addressing the provision of internet advertising. We could be adversely
affected by changes to these guidelines and codes in ways that are inconsistent with our practices or in conflict with the laws
and regulations of U.S. or international regulatory authorities. For instance, new guidelines, codes, or interpretations, by self-regulatory
organizations or government agencies, may require additional disclosures, or additional consumer consents, such as “opt-in”
permissions to share, link or use data, such as health data from third parties, in certain ways. If we fail to abide by, or are
perceived as not operating in accordance with, industry best practices or any industry guidelines or codes with regard to privacy,
our reputation may suffer and we could lose relationships with advertisers and digital media properties.
Any
inability to deliver successful mobile advertising campaigns due to technological challenges or an inability to persuasively demonstrate
success will prevent us from growing or retaining our current advertiser base.
It
is critical that we deliver successful mobile advertising campaigns on behalf of our advertisers. Factors that may adversely affect
our ability to deliver successful mobile advertising campaigns include:
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Inability
to accurately process data and extract meaningful insights and trends, such as the failure to accurately process data to place
ads effectively at digital media properties;
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Faulty
or out-of-date algorithms that fail to properly process data or result in inability to capture brand-receptive audiences at
scale;
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Technical
or infrastructure problems causing digital video not to function, display properly or be placed next to inappropriate context;
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Inability
to control video completion rates, maintain user attention or prevent end users from skipping advertisements;
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Inability
to detect and prevent advertising fraud and other malicious activity;
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Inability
to fulfill audience guarantee or viewability requirements of advertiser customers;
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Inability
to integrate with third parties that measure campaigns against audience guarantee or viewability requirements;
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Unavailability
of campaign data for advertisers to effectively measure the success of their campaigns; and
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Access
to quality inventory at sufficient volumes to meet the needs of advertisers’ campaigns.
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Our
ability to deliver successful advertising campaigns also depends on the continuing and uninterrupted performance of our own internal
and third party managed systems, which we utilize to place ads, monitor the performance of advertising campaigns and manage advertising
inventory. Our revenue depends on the technological ability of our solutions to deliver ads and measure them. Sustained or repeated
system failures that interrupt our ability to provide solutions to customers, including security breaches and other technological
failures affecting our ability to deliver ads quickly and accurately and to collect and process data in connection with these
ads, could significantly reduce the attractiveness of our solutions to advertisers, negatively impact operations and reduce our
revenue. Our systems are vulnerable to damage from a variety of sources, including telecommunications failures, power outages,
malicious human acts and natural disasters. In addition, any steps we take to increase the reliability and redundancy of systems
may be expensive and may not be successful in preventing system failures. Also, advertisers may perceive any technical disruption
or failure in ad performance on digital media properties’ platforms to be attributable to us and our reputation could similarly
suffer, or advertisers may seek to avoid payment or demand future credits for disruptions or failures, any of which could harm
our business and results of operations. If we are unable to deliver successful advertising campaigns, our ability to attract potential
advertisers and retain and expand business with existing advertisers could be harmed and our business, financial condition and
operating results could be adversely affected.
Our
business is subject to the risks of earthquakes, fires, floods and other natural catastrophic events and to interruption by man-made
problems such as computer viruses or terrorism.
Our
systems and operations are vulnerable to damage or interruption from earthquakes, fires, floods, power losses, telecommunications
failures, terrorist attacks, acts of war, human errors, break-ins and similar events. For example, a significant natural disaster,
such as a tornado, earthquake, mudslides, fire or flood, could have a material adverse effect on our business, results of operations
and financial condition and our insurance coverage may be insufficient to compensate us for losses that may occur. We have an
office and at least one data center located in California, a region known for earthquakes and mudslides. A significant amount
of our development and ad operations work is located in California. We also have corporate offices in Texas and Florida, both
of which are susceptible to floods and hurricanes. In addition, acts of terrorism, which may be targeted at metropolitan areas
that have higher population density than rural areas, could cause disruptions in our or our advertisers’ businesses or the
economy as a whole. Our servers may also be vulnerable to computer viruses, break-ins, denial-of-service attacks and similar disruptions
from unauthorized tampering with our computer systems, which could lead to interruptions, delays, loss of critical data. We may
not have sufficient protection or recovery plans in some circumstances, such as natural disasters affecting California, Texas
or Florida. As we rely heavily on our data centers, computer and communications systems and the internet to conduct our business
and provide high-quality customer service, such disruptions could negatively impact our ability to run our business and either
directly or indirectly disrupt our advertisers’ businesses, which could have a material adverse effect on our business,
results of operations and financial condition.
Activities
of our advertising customers with which we do business could damage our reputation or give rise to legal claims against us.
We
do not monitor or have the ability to control whether our advertising customers’ advertising of their products and solutions
complies with federal, state, local and foreign laws. Failure of our advertising customers to comply with federal, state, local
or foreign laws or our policies could damage our reputation and expose us to liability under these laws. We may also be liable
to third parties for content in the ads we deliver if the content involved violates copyrights, trademarks or other intellectual
property rights of third parties or if the content is defamatory, unfair and deceptive, or otherwise in violation of applicable
laws. A third party or regulatory authority may file a claim against us even if our advertising customer has represented that
its ads are lawful and that they have the right to use any copyrights, trademarks or other intellectual property included in an
ad. Any of these claims could be costly and time-consuming to defend and could also hurt our reputation within the advertising
industry. Further, if we are exposed to legal liability, we could be required to pay substantial fines or penalties, redesign
our business methods, discontinue some of our solutions or otherwise expend significant resources. Similarly, we do not monitor
or have the ability to control whether digital media property owners with which we do business are in compliance with applicable
laws and regulations, or intellectual property rights of others and their failure to do so could expose us to legal liability.
Third parties may claim that we should be liable to them for content on digital media properties if the content violates copyrights,
trademarks or other intellectual property rights of third parties or if the content is defamatory, unfair and deceptive, or otherwise
in violation of applicable laws or other brand protection measures. These risks become more pronounced as the digital video industry
shifts to programmatic buying.
Our
agreements with partners, employees and others may not adequately prevent disclosure of trade secrets and other proprietary information.
We
rely in part on confidentiality agreements and other restrictions with our customers, partners, employees, consultants and others
to protect our proprietary technology and other proprietary information. These agreements may not effectively prevent disclosure
of confidential information and may not provide an adequate remedy in the event of unauthorized disclosure of confidential information.
Despite our efforts to protect our proprietary technology, processes and methods, unauthorized parties may attempt to misappropriate,
reverse engineer or otherwise obtain and use them. Moreover, policing unauthorized use of our technologies, products and intellectual
property is difficult, expensive and time-consuming, particularly in foreign countries where applicable laws may be less protective
of intellectual property rights than those in the United States and where enforcement mechanisms for intellectual property rights
may be weak. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights
and failure to obtain or maintain trade secret protection could adversely affect our competitive business position.
We
could be subject to additional income tax liabilities.
We
are subject to income taxes in the United States and certain foreign jurisdictions. We use significant judgment in evaluating
our worldwide income-tax provision. During the ordinary course of business, we conduct many transactions for which the ultimate
tax determination is uncertain. For example, our effective tax rates could be adversely affected by earnings being lower than
anticipated in countries where we have lower statutory rates and higher than anticipated in countries where we have higher statutory
rates, by changes in currency exchange rates, by changes in the valuation of our deferred tax assets and liabilities or by changes
in the relevant tax, accounting and other laws, regulations, principles and interpretations. We are subject to audit in various
jurisdictions, and such jurisdictions may assess additional income tax against us. Although we believe our tax estimates are reasonable,
the final determination of tax audits and any related litigation could be materially different from our historical income-tax
provisions and accruals. The results of an audit or litigation could have a material effect on our operating results or cash flows
in the period or periods for which that determination is made.
Our
international operations subject us to potential adverse tax consequences.
We
generally conduct our international operations through wholly owned subsidiaries and report our taxable income in various jurisdictions
worldwide based upon our business operations in those jurisdictions. Our intercompany relationships are subject to complex transfer
pricing regulations administered by taxing authorities in various jurisdictions. The relevant taxing authorities may disagree
with our determinations as to the income and expenses attributable to specific jurisdictions. If such a disagreement were to occur,
and our position was not sustained, we could be required to pay additional taxes, interest and penalties, which could result in
one-time tax charges, higher effective tax rates, reduced cash flows and lower overall profitability of our operations.
Taxing
authorities may successfully assert that we should have collected or in the future should collect sales and use, value-added or
similar taxes, and we could be subject to liability with respect to past or future sales, which could adversely affect our operating
results.
We
do not collect sales and use, value-added or similar taxes in all jurisdictions in which we have sales, based on our belief that
such taxes are either not applicable or an exemption from such taxes applies. Sales and use, value-added and similar tax laws
and rates vary greatly by jurisdiction. Certain jurisdictions in which we do not collect such taxes may assert that such taxes
are applicable, which could result in tax assessments, penalties and interest, and we may be required to collect such taxes in
the future, including as a result of a change in law. Such tax assessments, penalties and interest or future requirements may
adversely affect our business, financial condition and results of operations.
Our
net operating loss carryforwards may expire unutilized or be underutilized, which could prevent us from offsetting future
taxable income.
We may be limited in the portion of net
operating loss carryforwards that we can use in the future to offset taxable income for U.S. federal income tax purposes, including
any limitations that may be imposed under Section 382 of the Code as a result of our past ownership changes or an ownership change
in connection with the Business Combination. At December 31, 2017, we had federal net operating loss carryforwards of approximately
$80 million, which expire at various dates beginning in 2030. At December 31, 2017, we had state and local net operating loss carryforwards
of approximately $29 million, which will begin to expire in 2030.
We periodically assess the likelihood that
we will be able to recover net deferred tax assets. We consider all available evidence, both positive and negative, including historical
levels of income, expectations and risks associated with estimates of future taxable income and ongoing prudent and feasible profits.
As a result of this analysis of all available evidence, both positive and negative, we concluded that a full valuation allowance
against our net U.S. deferred tax assets should be applied as of December 31, 2017. To the extent we determine that all or a portion
of our valuation allowance is no longer necessary, we will recognize an income tax benefit in the period this determination is
made for the reversal of the valuation allowance. Once the valuation allowance is eliminated or reduced, its reversal will no longer
be available to offset our current tax provision. These events could have a material impact on our reported results of operations.
We
have a concentration of sales with key customers and any substantial reduction in sales to these customers would have a material
adverse effect on our results of operations and financial condition.
During the year ended December 31, 2017,
the Successor has sales concentration with Fox Networks Group (“Fox”) and Fetch Media, Ltd. (“Fetch”),
which accounted for 44% and 11%, respectively, of our net sales. During the fiscal year ended December 31, 2016, Fetch accounted
for 49% of our net sales. The decline in percentage of sales to Fetch was due to a Fetch advertiser significantly dropping ad traffic,
which directly caused a substantial decline in the amount of ads and application transaction revenue through our publishing network.
Fetch and Fox are currently of key importance to our business, and our results of operations would be materially adversely affected
if these relationships ceased or were reduced in any material respect. We cannot guarantee that the volume of sales will remain
consistent going forward. Any substantial change in traffic or purchasing decisions by these customers, whether due to actions
by our competitors, industry factors or otherwise, could have a material adverse effect on our business, financial condition and
results of operations.
If
any of our largest customers are acquired, such acquisition may impact its advertising spending or budget with us, arising from
factors such as rebranding, change in advertising agency, or change in media tactics. A significant reduction in advertising spending
or budgets by our largest customers, or the loss of one or more of these customers, if not replaced by new customers or an increase
in business from other existing customers, would have a material adverse effect on our business, financial condition and results
of operations.
Our
large customers have substantial negotiating leverage, which may require that we agree to terms and conditions that may have an
adverse effect on our business.
Our
large customers have substantial purchasing power and leverage in negotiating contractual arrangements with us. These customers
may request us to develop additional features without providing us additional revenue, may require penalties for failure to deliver
such features, may seek discounted product or service pricing and may seek more favorable contractual terms. As we sell more products
and services to this class of customer, we may be required to agree to such terms and conditions. Such large customers also have
substantial leverage in negotiating the resolution of any disagreements or disputes that may arise between us. Any of the foregoing
factors could have a material adverse effect on our business, financial condition and results of operations.
If
some of our customers experience financial distress or suffer disruptions in their business, their weakened financial position
could negatively affect our own financial position and results.
We
have a diverse customer base and, at any given time, one or more customers may experience financial distress, file for bankruptcy
protection, go out of business, or suffer disruptions in their businesses. If a customer with whom we do a substantial amount
of business experiences financial difficulty or suffers disruptions in its business, it could delay or jeopardize the collection
of accounts receivable, result in significant reductions in services provided by us and may have a material adverse effect on
our business, financial condition and results of operations.
If
we do not maintain and grow a critical mass of advertisers and distribution partners, the value of our services could be adversely
affected.
Our
success depends, in large part, on the maintenance and growth of a critical mass of advertisers and distribution partners. Advertisers
will generally seek the most competitive return on investment from advertising and marketing services. Distribution partners will
also seek the most favorable payment terms available in the market. Advertisers and distribution partners may change providers
or the volume of business with a provider, unless the product and terms are competitive. In this environment, we must compete
to acquire and maintain our network of advertisers and distribution partners. If our business is unable to maintain and grow our
base of advertisers, our current distribution partners may be discouraged from continuing to work with us and this may create
obstacles for us to enter into agreements with new distribution partners. Our business also depends in part on certain of our
large reseller partners and agencies to grow their base of advertisers, as these advertisers become increasingly important to
our business and our ability to attract additional distribution partners and opportunities. Similarly, if our distribution network
does not grow and does not continue to improve over time, current and prospective advertisers and distribution partners and agencies
may reduce or terminate this portion of their business with us. Any decline in the number of advertisers and distribution partners
could adversely affect the value of our services.
If
we are unable to obtain and maintain adequate insurance, our financial condition could be adversely affected in the event of uninsured
or inadequately insured loss or damage. Our ability to effectively recruit and retain qualified officers and directors may also
be adversely affected if we experience difficulty in maintaining adequate directors’ and officers’ liability insurance.
We
may not be able to obtain and maintain insurance policies on terms affordable to us that would adequately insure our business
and property against damage, loss or claims by third parties. To the extent our business or property suffers any damages, losses
or claims by third parties that are not covered or adequately covered by insurance, our financial condition may be materially
adversely affected. We currently have directors’ and officers’ liability insurance. If we are unable to maintain sufficient
insurance as a public company to cover liability claims made against our officers and directors, we may not be able to retain
or recruit qualified officers and directors to manage our company, which could have a material adverse effect on our business,
financial condition and results of operations.
The
report of our independent registered public accounting firm expresses substantial doubt about our ability to continue as a going
concern.
Our
auditor, Marcum LLP, has indicated in its report on our financial statements for the fiscal year ended December 31, 2018 that
conditions exist that raise substantial doubt about our ability to continue as a going concern due to our recurring losses from
operations and substantial decline in our working capital. A “going concern” qualification could impair our ability
to finance our operations through the sale of equity, to incur debt, or to pursue other financing alternatives. Our ability to
continue as a going concern will depend upon the availability and terms of future funding, continued growth in services, improved
operating margins and our ability to profitably meet our after-sale service commitments with existing customers. If we are unable
to achieve these goals, our business would be jeopardized and may not be able to continue. If we ceased operations, it is likely
that all of our investors would lose their investment.
The
requirements of being a public company may strain our systems and resources, divert management’s attention and be costly.
As
a public company, we will be subject to the reporting requirements of the Securities Exchange Act of 1934, as amended (the “Exchange
Act”), the Sarbanes-Oxley Act of 2002, the Dodd-Frank Wall Street Reform and Consumer Protection Act and the rules and regulations
of Nasdaq. The requirements of these rules and regulations will increase our legal, accounting and financial compliance costs,
will make some activities more difficult, time consuming and costly and may also place undue strain on our personnel, systems
and resources. The Exchange Act requires, among other things, that we file annual, quarterly and current reports with respect
to our business and results of operations.
We
are continuing the costly process of implementing and testing our systems to report our results as a public company, to continue
to manage our growth and to implement internal controls. We will be required to implement and maintain various other control and
business systems related to our equity, finance, treasury, information technology, other recordkeeping systems and other operations.
As a result of this implementation and maintenance, management’s attention may be diverted from other business concerns,
which could adversely affect our business. Furthermore, we supplement our internal team with third party software and system providers
to support our reporting obligations to achieve effective internal controls.
To
the extent we do not sufficiently manage these third parties, and they fail to provide us with adequate service, we may not effectively
manage our future growth which may result in ineffective internal controls over financial reporting and an increased cost of compliance.
The Sarbanes-Oxley Act requires, among other things, that we maintain effective disclosure controls and procedures and internal
control over financial reporting. In addition, changing laws, regulations and standards relating to corporate governance and public
disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities
more time consuming. These laws, regulations and standards are subject to varying interpretations, in many cases due to their
lack of specificity, and as a result, their application in practice may evolve over time as new guidance is provided by regulatory
and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by
ongoing revisions to disclosure and governance practices. We intend to invest resources to comply with evolving laws, regulations
and standards, and this investment may result in increased general and administrative expenses and a diversion of management’s
time and attention from revenue-generating activities to compliance activities. If our efforts to comply with new laws, regulations
and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application
and practice, regulatory authorities may initiate legal proceedings against us, and our business may be adversely affected.
In
addition, we expect these laws, rules and regulations to make it more difficult and more expensive for us to obtain director and
officer liability insurance, and we may be required to incur substantial costs to maintain appropriate levels of coverage. These
factors could also make it more difficult for us to attract and retain qualified executive officers and members of our board of
directors, particularly members to serve on our audit committee.
As
a result of disclosure of information in this Report and in other filings required of a public company, our business and financial
condition will become more visible, which we believe may result in threatened or actual litigation by third parties. If such claims
are successful, our business and results of operations could be adversely affected, and even if the claims do not result in litigation
or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and resources
of our management and adversely affect our business and results of operations.
We are an “emerging growth company,” and we cannot
be certain if the reduced reporting requirements applicable to emerging growth companies will make our common stock less attractive
to investors.
We are an “emerging growth company,”
as defined in the Jumpstart Our Business Startups Act, or the JOBS Act. For as long as we continue to be an emerging growth company,
we may take advantage of exemptions from various reporting requirements that are applicable to other public companies that are
not emerging growth companies, including not being required to comply with the auditor attestation requirements of Section 404
of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements
and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and shareholder approval of
any golden parachute payments not previously approved. We could be an emerging growth company for up to five years after our Initial
Public Offering in 2016, although circumstances could cause us to lose that status earlier, including if the market value of our
common stock held by non-affiliates exceeds $700 million as of any June 30 before that time, in which case we would no longer be
an emerging growth company as of the following December 31. We cannot predict if investors will find our common stock less attractive
because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less
active trading market for our common stock and our stock price may be more volatile.
Under the JOBS Act, emerging growth companies
can also delay adopting new or revised accounting standards until such time as those standards apply to private companies. We
have irrevocably elected not to avail ourself of this exemption from new or revised accounting standards and, therefore, will
be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.
Risks
Related to Capitalization Matters and Corporate Governance
The
price of our common stock and warrants has been, and may continue to be, volatile, and you could lose all or part of your investment.
Technology
stocks have historically experienced high levels of volatility. The trading price and volume of our common stock and warrants
has fluctuated, and may continue to fluctuate following this offering, substantially due to a variety of factors, including those
described in this “Risk Factors” section, many of which are beyond our control and may not be related to our operating
performance. These fluctuations could cause you to lose all or part of your investment in our common stock. Factors that could
cause fluctuations in the trading price of our common stock and warrants include the following:
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price
and volume fluctuations in the overall stock market from time to time;
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the
announcement of new products, solutions or technologies, investments, commercial relationships, acquisitions or other events
by us or our competitors;
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fluctuations
in the trading volume of our shares or the size of our public float, especially considering that we became a publicly-listed
company through the Business Combination with a special purpose acquisition company, and that the trading price of our common
stock since the consummation of the Business Combination has been very volatile on a relatively low public float for our trading
volume;
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changes
in how customers perceive the benefits of our products and future offerings;
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the
addition or departure of key personnel;
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the
public’s reaction to our press releases, other public announcements and filings with the SEC;
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sales
of large blocks of our common stock or warrants;
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developments
concerning intellectual property rights;
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changes
in legal, regulatory and enforcement frameworks impacting our products;
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variations
in our and our competitors’ results of operations;
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whether
our results of operations meet the expectations of securities analysts or investors;
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actual
or anticipated fluctuations in our quarterly and annual results and those of other public companies in our industry;
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the
failure of securities analysts to publish research about us, or shortfalls in our results of operations compared to levels
forecast by securities analysts;
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actual
or perceived significant data breach involving our products or website;
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litigation
involving us, our industry or both;
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governmental
or regulatory actions or audits;
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general
economic conditions and trends;
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flash
crashes,” “freeze flashes” or other glitches that disrupt trading on the securities exchange on which we
are listed; and
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major
catastrophic events in our domestic and foreign markets.
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In
addition, if the market for technology stocks or the stock market in general experiences a loss of investor confidence, the trading
price of our common stock and/or warrants could decline for reasons unrelated to our business, results of operations or financial
condition. The trading price of our common stock and warrants might also decline in reaction to events that affect other companies
in our industry even if these events do not directly affect us. In the past, following periods of volatility in the trading price
of a company’s securities, securities class action litigation has often been brought against that company. If our stock
price is volatile, we may become the target of securities litigation. Securities litigation could result in substantial costs
and divert our management’s attention and resources from our business. This could have an adverse effect on our business,
results of operations and financial condition.
From December 28, 2018, the date the Successor’s
common stock began trading on Nasdaq, through March 1, 2019, the closing price of our common stock has ranged from $10.84 per
share to $308.40 per share on an average trading volume of 12,720, and the closing price of our warrants has ranged from $0.22
per warrant to $0.84 per warrant on an average trading volume of approximately 273,000. From time to time, we may have volatility
in our stock or warrant prices for reasons that are unknown to us.
As
of the date of this Report, our executive officers, directors and holders of 5% or more of our common stock collectively beneficially
own over 50% of the outstanding shares of our common stock and continue to have substantial control over us, which will limit
your ability to influence the outcome of important transactions, including a change in control.
As
of the date of this Report, our executive officers, directors and each of our stockholders who own 5% or more of our outstanding
common stock and their affiliates, in the aggregate, beneficially own over 50% of the outstanding shares of our common stock.
As a result, these stockholders, if acting together, will be able to influence or control matters requiring approval by our stockholders,
including the election of directors and the approval of mergers, acquisitions or other extraordinary transactions. They may also
have interests that differ from yours and may vote in a way with which you disagree and which may be adverse to your interests.
This concentration of ownership may have the effect of delaying, preventing or deterring a change in control of our company, could
deprive our stockholders of an opportunity to receive a premium for their common stock as part of a sale of our company and might
ultimately affect the market price of our common stock.
If
securities or industry analysts do not publish or cease publishing research or reports about the Company, our business or our
market, or if they change their recommendations regarding the our common stock adversely, the price and trading volume of our
common stock could decline.
The
trading market for our common stock will be influenced by the research and reports that industry or securities analysts may publish
about the Company, our business, our market or our competitors. Securities and industry analysts do not currently, and may never,
publish research on us. If no securities or industry analysts commence coverage of us, our stock price and trading volume would
likely be negatively impacted. If any of the analysts who may cover us change their recommendation regarding our stock adversely,
or provide more favorable relative recommendations about our competitors, the price of our common stock would likely decline.
If any analyst who may cover us were to cease coverage of us or fail to regularly publish reports on it, we could lose visibility
in the financial markets, which could cause our stock price or trading volume to decline.
Sales
of substantial amounts of our common stock in the public markets, or the perception that such sales could occur, could reduce
the price that our common stock might otherwise attain.
Sales
of a substantial number of shares of our common stock and warrants in the public market after this offering, or the perception
that such sales could occur, could adversely affect the market price of our common stock and warrants and may make it more difficult
for you to sell your common stock or warrants at a time and price that you deem appropriate.
At
the consummation of the Business Combination, each of the Sponsors and our officers, directors and stockholders owning more
than 1% of our outstanding equity immediately prior to the effective time of the Business Combination (each, a
“Significant Stockholder”) is subject to a lock-up or such Significant Stockholder is otherwise subject to
substantially similar transfer restrictions in favor of Phunware (the “Lock-Ups”). Pursuant to such Lock-Ups,
each such holder agreed not to, during the period commencing from the consummation of the Business Combination and ending on
the earlier of (A) the 180 days of the date of the consummation of the Business Combination and (B) the date after the
consummation of the Business Combination on which we consummate a liquidation, merger, share exchange or other similar
transaction with an unaffiliated third party that results in all of our stockholders having the right to exchange their
equity holdings in Phunware for cash, securities or other property: (x) lend, offer, pledge, hypothecate, encumber, donate,
assign, sell, contract to sell, sell any option or contract to purchase, purchase any option or contract to sell, grant any
option, right or warrant to purchase, or otherwise transfer or dispose of, directly or indirectly, any restricted securities,
(y) enter into any swap or other arrangement that transfers to another, in whole or in part, any of the economic
consequences of ownership of the restricted securities, or (z) publicly disclose the intention to do any of the foregoing,
whether any such transaction described in clauses (x), (y) or (z) above is to be settled by delivery of restricted securities
or other securities, in cash or otherwise. When the lock-up period in the Lock-Ups expires, the locked-up securityholders
will be able to sell our shares in the public market.
We
do not currently intend to pay dividends on our common stock and, consequently, your ability to achieve a return on your investment
will depend on appreciation in the price of our common stock.
We
have never declared nor paid any cash dividends on our capital stock. However, our Series A Preferred Stock is redeemable at the
holder’s option in an amount equal to 104% of the original purchase price for such shares. We currently intend to retain
any future earnings to finance the operation and expansion of our business, and we do not expect to declare or pay any cash dividends
in the foreseeable future. Any determination to pay dividends in the future will be at the discretion of our board of directors.
As a result, stockholders must rely on sales of their common stock after price appreciation as the only way to realize any future
gains on their investment, if any.
Delaware
law and our certificate of incorporation and bylaws contain certain provisions, including anti-takeover provisions, that limit
the ability of stockholders to take certain actions and could delay or discourage takeover attempts that stockholders may consider
favorable.
Our
certificate of incorporation and bylaws and the DGCL contain provisions that could have the effect of rendering more difficult,
delaying, or preventing an acquisition deemed undesirable by our board of directors and therefore depress the trading price of
our common stock and warrants. These provisions could also make it difficult for stockholders to take certain actions, including
effecting changes in our management. Among other things, our certificate of incorporation and bylaws include provisions regarding:
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a
classified board of directors with three-year staggered terms, which could delay the ability of stockholders to change the
membership of a majority of our board of directors;
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the
ability of our board of directors to issue shares of preferred stock, including “blank check” preferred stock
and to determine the price and other terms of those shares, including preferences and voting rights, without stockholder approval,
which could be used to significantly dilute the ownership of a hostile acquirer;
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the
limitation of the liability of, and the indemnification of, our directors and officers;
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the
exclusive right of our board of directors to elect a director to fill a vacancy created by the expansion of our board of directors
or the resignation, death or removal of a director, which prevents stockholders from being able to fill vacancies on our board
of directors;
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the
requirement that directors may only be removed from our board of directors for cause;
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a
prohibition on stockholder action by written consent, which forces stockholder action to be taken at an annual or special
meeting of stockholders and could delay the ability of stockholders to force consideration of a stockholder proposal or to
take action, including the removal of directors;
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the
requirement that a special meeting of stockholders may be called only by our board of directors, the chairperson of our board
of directors, chief executive officer or president (in the absence of a chief executive officer), which could delay the ability
of stockholders to force consideration of a proposal or to take action, including the removal of directors;
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controlling
the procedures for the conduct and scheduling of board of directors and stockholder meetings;
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the
requirement for the affirmative vote of holders of at least 66
2
∕3% of the voting power of all of the then
outstanding shares of the voting stock, voting together as a single class, to amend, alter, change or repeal any provision
of our certificate of incorporation or bylaws, which could preclude stockholders from bringing matters before annual or special
meetings of stockholders and delay changes in our board of directors and also may inhibit the ability of an acquirer to effect
such amendments to facilitate an unsolicited takeover attempt;
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the
ability of our board of directors to amend the bylaws, which may allow our board of directors to take additional actions to
prevent an unsolicited takeover and inhibit the ability of an acquirer to amend the bylaws to facilitate an unsolicited takeover
attempt; and
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advance
notice procedures with which stockholders must comply to nominate candidates to our board of directors or to propose matters
to be acted upon at a stockholders’ meeting, which could preclude stockholders from bringing matters before annual or
special meetings of stockholders and delay changes in our board of directors and also may discourage or deter a potential
acquirer from conducting a solicitation of proxies to elect the acquirer’s own slate of directors or otherwise attempting
to obtain control of Phunware.
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These
provisions, alone or together, could delay or prevent hostile takeovers and changes in control or changes in our board of directors
or management.
In
addition, as a Delaware corporation, we are subject to provisions of Delaware law, including Section 203 of the DGCL, which may
generally prohibit certain stockholders holding 15% or more of our outstanding capital stock from engaging in certain business
combinations with us for a specified period of time unless certain conditions are met.
Any
provision of our certificate of incorporation, bylaws or Delaware law that has the effect of delaying or preventing a change in
control could limit the opportunity for stockholders to receive a premium for their shares of our capital stock and could also
affect the price that some investors are willing to pay for our common stock.
Our
certificate of incorporation will designate a state or federal court located within the State of Delaware as the exclusive forum
for substantially all disputes between us and our stockholders, and also provide that the federal district courts will be the
exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act or Exchange Act, each
of which could limit our stockholders’ ability to choose the judicial forum for disputes with us or our directors, officers,
or employees.
Our
certificate of incorporation provides that, unless we consent in writing to the selection of an alternative forum, the sole and
exclusive forum for (i) any derivative action or proceeding brought on behalf of Phunware, (ii) any action asserting a claim of
breach of a fiduciary duty owed by any director, officer or other employee or agent to us or our stockholders, (iii) any action
asserting a claim against us arising pursuant to any provision of the DGCL or our certificate of incorporation or bylaws, (iv)
any action to interpret, apply, enforce or determine the validity of our certificate of incorporation or bylaws, or (v) any action
asserting a claim against us governed by the internal affairs doctrine, in each such case subject to said Court of Chancery having
personal jurisdiction over the indispensable parties named as defendants therein. Unless we consent in writing to the selection
of an alternative forum, the federal district courts of the United States of America shall be the exclusive forum for the resolution
of any complaint asserting a cause of action arising under the Securities Act or the Exchange Act.
Our
certificate of incorporation will also provide that the federal district courts of the United States of America will be the exclusive
forum for resolving any complaint asserting a cause of action arising under the Securities Act or the Exchange Act.
Any
person or entity purchasing or otherwise acquiring any interest in any of our securities shall be deemed to have notice of and
consented to this provision. These exclusive-forum provisions may limit a stockholder’s ability to bring a claim in a judicial
forum of its choosing for disputes with us or our directors, officers or other employees, which may discourage lawsuits against
us and our directors, officers and other employees. If a court were to find either exclusive-forum provision in our bylaws to
be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving the dispute in other jurisdictions,
which could harm its results of operations.