UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

☒

QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly period ended March 31, 2017

 

☐

TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____________ to _____________

 

Commission File No. 333-133624

 

WHERE FOOD COMES FROM, INC. 

(exact name of registrant as specified in its charter) 

Colorado	43-1802805
(State or other jurisdiction of  incorporation or organization)	(I.R.S. Employer Identification No.)

 

202 6^th Street, Suite 400 

Castle Rock, CO 80104 

(Address of principal executive offices, including zip code) 

 

Registrant’s telephone number, including area code: 

(303) 895-3002

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports); and (2) has been subject to such filing requirements for the past 90 days.     Yes ☒              No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).         Yes ☒               No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, or a small reporting company. See definitions of “large accelerated filer” and “accelerated filer” and “smaller reporting entity” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer:	☐		Accelerated filer:	☐
Non-accelerated filer:	☐		Smaller reporting company:	☒

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).      Yes  ☐              No  ☒

 

The number of shares of the registrant’s common stock, $0.001 par value per share, outstanding as of May 5, 2017, was 24,647,437.

 

 

Where Food Comes From, Inc.
Table of Contents
March 31, 2017

 

Part 1 - Financial Information
Item 1.	Financial Statements	3
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17
Item 4.	Controls and Procedures	23
Part II - Other Information
Item 1.	Legal Proceedings	23
Item 1A.	Risk Factors	23
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	23
Item 6.	Exhibits	23

 

 

Where Food Comes From, Inc.

Consolidated Balance Sheets

              

		March 31,				December 31,
		2017				2016
Assets		(Unaudited)
Current assets:
Cash and cash equivalents		$	3,247,421			$	2,489,985
Accounts receivable, net of allowance			1,283,549				1,344,646
Short-term investments			733,447				733,104
Prepaid expenses and other current assets			304,898				203,744
Total current assets			5,569,315				4,771,479
Property and equipment, net			1,169,518				1,229,350
Intangible and other assets, net			4,098,100				4,228,228
Goodwill			2,652,250				2,652,250
Total assets		$	13,489,183			$	12,881,307
Liabilities and Equity
Current liabilities:
Accounts payable		$	375,038			$	333,784
Accrued expenses and other current liabilities			422,560				480,047
Customer deposits and deferred revenue			1,152,205				524,396
Current portion of capital lease obligations			4,101				4,067
Total current liabilities			1,953,904				1,342,294
Capital lease obligations, net of current portion			14,697				15,735
Lease incentive obligation			155,316				158,025
Deferred tax liabilities, net			31,440				49,440
Total liabilities			2,155,357				1,565,494
Commitments and contingencies
Contingently redeemable non-controlling interest			1,762,730				1,888,135
Equity:
Preferred stock, $0.001 par value; 5,000,000 shares authorized;
none issued or outstanding			—				—
Common stock, $0.001 par value; 95,000,000 shares authorized;
24,899,121 issued and 24,645,436 outstanding at 3/31/2017 24,890,121 issued and 24,647,186 outstanding at 12/31/2016			24,899				24,890
Additional paid-in-capital			10,103,145				10,052,597
Treasury stock			(547,410	)			(524,892	)
253,685 shares at 3/31/2017
242,935 shares at 12/31/2016
Accumulated deficit			(9,538	)			(124,917	)
Total equity			9,571,096				9,427,678
Total liabilities and stockholders’ equity		$	13,489,183			$	12,881,307

 

The accompanying notes are an integral part of these financial statements.                

 

 

Where Food Comes From, Inc.

 Consolidated Statements of Income

(Unaudited)

 

		Three months ended March 31,
		2017				2016
Revenues:
Verification and certification service revenue		$	2,518,445			$	2,147,402
Product sales			243,266				271,075
Software license, maintenance and support services revenue			159,264				—
Consulting service revenue			116,783				—
Other revenue			36,190				27,275
Total revenues			3,073,948				2,445,752
Costs of revenues:
Labor and other costs of services			1,329,983				1,109,138
Costs of products			153,866				129,499
Cost of software license, maintenance and support services			127,462				—
Total costs of revenues			1,611,311				1,238,637
Gross profit			1,462,637				1,207,115
Selling, general and administrative expenses			1,470,829				1,103,162
Income (loss) from operations			(8,192	)			103,953
Other expense (income):
Interest expense			162				295
Other income, net			(1,328	)			(1,932	)
Income (loss) before income taxes			(7,026	)			105,590
Income tax expense			3,000				49,950
Net income (loss)			(10,026	)			55,640
Net loss attributable to non-controlling interest			125,405				31,605
Net income attributable to Where Food Comes From, Inc.		$	115,379			$	87,245
Per share - net income attributable to Where Food Comes From, Inc.:
Basic		$	*			$	*
Diluted		$	*			$	*
Weighted average number of common shares outstanding:
Basic			24,648,036				23,753,000
Diluted			24,781,511				23,904,880
* less than $0.01 per share

 

The accompanying notes are an integral part of these financial statements.

 

 

Where Food Comes From, Inc.

Consolidated Statements of Cash Flows

(Unaudited)

              

		Three months ended March 31,
		2017				2016
Operating activities:
Net income (loss)		$	(10,026	)		$	55,640
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization			209,921				64,625
Stock-based compensation expense			45,057				29,612
Deferred tax expense			(18,000	)			49,950
Bad debt expense			1,024				381
Changes in operating assets and liabilities:
Accounts receivable			60,073				80,061
Short-term investments			(343	)			—
Prepaid expenses and other assets			(101,154	)			(23,217	)
Accounts payable			41,254				(58,798	)
Accrued expenses and other current liabilities			(60,196	)			86,172
Customer deposits and deferred revenue			627,809				449,987
Net cash provided by operating activities			795,419				734,413
Investing activities:
Acquisition of Validus, remaining 40% interest			—				(162,707	)
Purchases of property and equipment			(19,961	)			(1,999	)
Net cash used in investing activities			(19,961	)			(164,706	)
Financing activities:
Repayments of notes payable			—				(1,931	)
Repayments of capital lease obligations			(1,004	)			(1,136	)
Proceeds from stock option exercise			5,500				14,122
Stock repurchase under Buyback Plan			(22,518	)			(13,695	)
Net cash used in financing activities			(18,022	)			(2,640	)
Net change in cash			757,436				567,067
Cash at beginning of year			2,489,985				3,781,397
Cash at end of year		$	3,247,421			$	4,348,464

 

The accompanying notes are an integral part of these financial statements.

 

 

Where Food Comes From, Inc.

Consolidated Statement of Equity

Three months ended March 31, 2017

(Unaudited)

                            

										Additional
		Common Stock								Paid-in				Treasury				Accumulated
		Shares				Amount				Capital				Stock				Deficit				Total
Balance at December 31, 2016			24,647,186				24,890				10,052,597				(524,892	)			(124,917	)			9,427,678
Stock based compensation expense			—								45,057				—				—				45,057
Issuance of common shares upon
exercise of options			5,000				5				5,495				—				—				5,500
Repurchase of common shares
under Buyback Program			(10,750	)			—				—				(22,518	)			—				(22,518	)
Vesting of restricted stock awards			4,000				4				(4	)			—				—				—
Net income attributable to
Where Food Comes From, Inc.			—				—				—				—				115,379				115,379
Balance at March 31, 2017			24,645,436			$	24,899			$	10,103,145			$	(547,410	)		$	(9,538	)		$	9,571,096

 

The accompanying notes are an integral part of these financial statements.

 

 

Where Food Comes From, Inc.

Notes to the Consolidated Financial Statements

(Unaudited)

 

Note 1 – The Company and Basis of Presentation

 

Business Overview

 

Where Food Comes From, Inc. is a Colorado corporation based in Castle Rock, Colorado (“WFCF”, the “Company,” “our,” “we,” or “us”). We provide verification and certification solutions for the agriculture, livestock and food industry. Most of our customers are located throughout the United States.

 

On September 16, 2013, we acquired a 60% interest in Validus Verification Services LLC (“Validus”) which consisted of the auditing business of Praedium Ventures, LLC (“Praedium”), previously known as Validus Ventures LLC. On February 29, 2016, the Company exercised its call option to acquire the remaining 40% interest in Validus (Note 2).

 

On December 28, 2016, we acquired a 60% interest in SureHarvest Services LLC (“SureHarvest”) which consisted of all the business assets of SureHarvest Inc. (Note 2).

 

Basis of Presentation

 

Our unaudited consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”) and include the results of operations, financial position and cash flows of Where Food Comes From, Inc. and its wholly-owned subsidiaries, International Certification Services, Inc. (“ICS”), Validus, Sterling Solutions, LLC (“Sterling”) and SureHarvest (collectively referred to as “we,” “us,” and “our” throughout this Form 10-Q). The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues, costs and expenses during the reporting period. All significant intercompany transactions and amounts have been eliminated. The results of businesses acquired are included in the consolidated financial statements from the date of the acquisition. Actual results could differ from the estimates.

 

The consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and should be read in conjunction with our audited financial statements and footnotes thereto for the year ended December 31, 2016, included in our Form 10-K filed on February 28, 2017. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to such rules and regulations. However, we believe that the disclosures are adequate to make the information presented not misleading. The financial statements reflect all adjustments (consisting primarily of normal recurring adjustments) that are, in the opinion of management, necessary for a fair presentation of our financial position and results of operations. The consolidated operating results for the period ended March 31, 2017 are not necessarily indicative of the results to be expected for any other interim period of any future year.

 

Seasonality

 

Our business is subject to seasonal fluctuations. Significant portions of our revenues are typically realized during the second and third quarters of the fiscal year when the calf marketings and the growing seasons are at their peak. Because of the seasonality of the business and our industry, results for any quarter are not necessarily indicative of the results that may be achieved for any other quarter or for the full fiscal year.

 

 

Where Food Comes From, Inc.

Notes to the Consolidated Financial Statements

(Unaudited)

 

Recently Issued Accounting Pronouncements

 

Lease Accounting

 

In February 2016, the FASB issued ASU 2016-02, “Leases”, which will require lessees to recognize a right-of-use asset and a lease liability for all leases that are not short-term in nature. For a lessor, the accounting applied is also largely unchanged from previous guidance. The new rules will be effective for the Company in the first quarter of 2019. The Company is currently in the process of evaluating the impact of adoption of the new rules on the Company’s financial condition, results of operations and cash flows. Although the evaluation is ongoing, the Company expects that the adoption will impact the Company’s financial statements as the standard requires the recognition on the balance sheet of a right of use asset and corresponding lease liability. The Company is currently analyzing its contracts to determine whether they contain a lease under the revised guidance and has not quantified the amount of the asset and liability that will be recognized on the Company’s balance sheet.

 

Revenue from Contracts with Customers

 

In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers (Topic 606)”, which supersedes current revenue recognition requirements and industry-specific guidance. The codification was amended through additional ASUs and, as amended, requires an entity to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration the entity expects to be entitled to in exchange for those goods or services. The Company is required to adopt the new standard in 2018 and may adopt either retrospectively to each prior reporting period presented or as a cumulative-effect adjustment as of the date of adoption using one of two retrospective application methods. The Company is continuing to evaluate the provisions of this new guidance and has not determined the impact this standard may have on its financial condition, results of operations, cash flows and related disclosures or decided upon the method of adoption.

 

Clarifying the Definition of a Business

 

In January 2017, the FASB issued ASU 2017-01, “Clarifying the Definition of a Business,” which provides guidance on evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. The ASU amends ASC 805 to provide a more robust framework to use in determining when a set of assets and activities is a business. In addition, the amendments provide more consistency in applying the guidance, reduce the costs of application, and make the definition of a business more operable. The new guidance will be effective for the Company in the first quarter of 2018. The Company is currently evaluating the provisions of this new guidance and has not determined the impact this standard may have on its financial condition, results of operations, cash flows and related disclosures.

 

Simplifying the Test for Goodwill Impairment

 

In April 2017, the FASB has issued ASU 2017-04, “Simplifying the Test for Goodwill Impairment,” which removes step 2 from the goodwill impairment test. As a result, under the ASU, “an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount and should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit.” The Company is required to adopt the new standard in 2020. The Company is currently evaluating the provisions of this new guidance and has not determined the impact this standard may have on its financial condition, results of operations, cash flows and related disclosures.

 

 

Where Food Comes From, Inc.

Notes to the Consolidated Financial Statements

(Unaudited)

 

Note 2 – Business Acquisition

 

Validus Acquisition

 

On September 16, 2013, we entered into an Asset Purchase and Contribution Agreement (the “Purchase Agreement”), by and among the Company, Validus, and Praedium. In connection with this transaction, Praedium was issued a 40% interest in Validus, with the Company holding a 60% interest. The Company had the first right of refusal on the remaining 40% of the outstanding stock and a call option to acquire the remaining 40% interest.

 

Effective February 29, 2016, the Company exercised its call option to purchase the remaining 40% interest of Validus in exchange for cash consideration of approximately $162,700, and 93,057 shares of common stock valued at approximately $200,100, pursuant to the Purchase Agreement. The carrying amount of the contingently redeemable non-controlling interest was adjusted to $0 to reflect the change in the Company’s ownership interest up to 100%. The difference between the fair value of the consideration paid and the carrying value of the non-controlling interest on the date of the transaction, which totaled approximately $542,000, net of taxes of $110,900, was adjusted to equity.

 

SureHarvest Acquisition

 

On December 28, 2016, we entered into an Asset Purchase Agreement (the “SureHarvest Purchase Agreement”), by and among the Company, SureHarvest Services LLC (the “Buyer” or “SureHarvest”); and SureHarvest, Inc., a California corporation (the “Seller” or “SureHarvest, Inc.”). We acquired substantially all the assets of the Seller. SureHarvest develops software and provides services related to sustainability measurement and benchmarking, traceability, verification and certification to the food and agriculture industries.

 

Pursuant to the SureHarvest Purchase Agreement, WFCF purchased the business assets of the Seller for total consideration of approximately $2.8 million, comprised of approximately $1,122,000 in cash and 850,852 shares of common stock of WFCF valued at approximately $1,710,000 based on the closing price of our stock on December 28, 2016, of $2.01 per share. Additionally, we issued the Seller a 40% membership interest in SureHarvest, with the Company holding a 60% interest. The consideration paid by WFCF in connection with this acquisition was determined by arms-length negotiations between WFCF and SureHarvest, Inc. The transaction was financed through cash on hand.

 

The SureHarvest Purchase Agreement provides for a period of eighteen months to support any indemnification claims for breach of Seller representations, warranties and covenants. It also includes non-dilution provisions.

 

SureHarvest, Inc. made certain additional customary covenants, including not soliciting or initiating discussions, engaging in negotiations or providing any non-public information concerning alternative business combination transactions with respect to the transaction and covenants not to compete.

 

The Company has the right of first refusal on the remaining 40% membership interest of SureHarvest. At any time following the thirty-six-month anniversary of the effective date of the SureHarvest Purchase Agreement, the Company shall have the option, but not the obligation, to purchase all the units (the 40% interest) of SureHarvest held by the Seller, and the Seller shall have the option, but not the obligation, to require the Company to purchase all the units of SureHarvest held by the Seller. The purchase price for the units shall be equal to the amount the selling holders of the units would be entitled to receive upon a liquidation of the SureHarvest assuming all of the assets of SureHarvest are sold for a purchase price equal to the product of eight and half times trailing twelve-month earnings before income taxes, depreciation and amortization, as defined, subject to an $8 million ceiling.

 

 

Where Food Comes From, Inc.

Notes to the Consolidated Financial Statements

(Unaudited)

 

Because SureHarvest, Inc. at its option, can require the Company to purchase its 40% interest in SureHarvest, the SureHarvest non-controlling interest meets the definition of a contingently redeemable non-controlling interest. Redeemable non-controlling interests are presented at the greater of their carrying amount or redemption value at the end of each reporting period and are shown as a separate caption between liabilities and equity (mezzanine section) in the accompanying consolidated balance sheet.

 

The table below summarizes the final allocated fair values assigned to the assets and liabilities acquired in addition to the excess of the purchase price over the net assets acquired:

 

		Dec. 28, 2016
Accounts receivable			290,692
Property and equipment			572,620
Accounts payable and accrued expenses			(138,562	)
Indentifiable intangible assets			2,623,100
Excess attributable to goodwill			1,372,488
Total fair value			4,720,338
Fair value of non-controlling interest			(1,888,135	)
Total consideration		$	2,832,203

 

On the acquisition date, the fair value of the non-controlling interest was estimated to be $1,888,135. This amount was based upon the gross consideration that would have been paid assuming 100% of the outstanding stock had been acquired. Excess attributable to goodwill reflects the excess over the identifiable intangible assets acquired based on the preliminary provisional allocation of the purchase price. Goodwill is primarily attributable to the operational and financial benefits expected to be realized from the acquisition, including cost saving synergies from operating efficiencies, future growth in bundling opportunities across divisions and brands, realized savings from a more sophisticated information technology infrastructure, and strategic advances from expansion of our intellectual property. The final amounts of the components of intangible assets have been recorded as follows:

 

		Dec. 28, 2016
Indentifiable intangible assets and goodwill:
Trademarks		$	218,000
Patents			970,100
Customer relationships			1,435,000
Goodwill			1,372,488
Total intangible assets and goodwill		$	3,995,588

 

The useful lives for intangible assets are expected to be between 3 and 15 years.

 

 

Where Food Comes From, Inc.

Notes to the Consolidated Financial Statements

(Unaudited)

 

The following unaudited pro forma information presents the results of operations for the three months ended March 31, 2016, as if the acquisition of SureHarvest had occurred on January 1, 2016. This pro forma information does not reflect any integration activities or cost savings from operating efficiencies, synergies, asset dispositions or other restructurings that could result from the acquisition, nor does it purport to represent what the Company’s actual results would have been if the acquisition had occurred as of the date indicated or what such results would be for any future periods.

		Three months ended
		March 31, 2016
Total revenue		$	2,820,794
Net income attributable to Where Food Comes From, Inc.		$	69,515
Basic and diluted earnings per share		$	—

 

Note 3 – Basic and Diluted Net Income per Share

 

Basic net income per share was computed by dividing income available to common shareholders by the weighted average number of common shares outstanding during the period. Diluted net income per share is based on the assumption that all dilutive convertible shares and stock options were converted or exercised. Dilution is computed by applying the treasury stock method. Under this method, options and restricted stock awards are assumed to be exercised at the beginning of the period (or at the time of issuance, if later), and as if funds obtained thereby were used to purchase common stock at the average market price during the period.

 

The following is a reconciliation of the share data used in the basic and diluted income per share computations:

 

		Three months ended March 31,
		2017				2016
Basic:
Weighted average shares outstanding			24,648,036				23,753,000
Diluted:
Weighted average shares outstanding			24,648,036				23,753,000
Weighted average effects of dilutive securities			133,475				151,880
Total			24,781,511				23,904,880
Antidilutive securities:			94,000				98,751

 

The effect of the inclusion of the antidilutive shares would have resulted in an increase in earnings per share. Accordingly, the weighted average shares outstanding have not been adjusted for antidilutive shares.

 

 

Where Food Comes From, Inc.
Notes to the Consolidated Financial Statements
(Unaudited)

 

Note 4 – Intangible and Other Assets

 

The following table summarizes our intangible and other assets:

 

		March 31,				December 31,				Estimated
		2017				2016				Useful life
Intangible assets subject to amortization:
Tradenames and Trademarks		$	282,307			$	282,307			2.5  - 8.0 years
Accreditations			88,663				88,663			5.0 years
Customer Relationships			2,836,330				2,836,330			8.0 - 15.0 years
Beneficial Lease Arrangement			120,200				120,200			11.0 years
Patents			970,100				970,100			4.0 years
			4,297,600				4,297,600
Less accumulated amortization			678,045				547,917
			3,619,555				3,749,683
Tradenames/trademarks (not subject to amortization)			465,000				465,000
			4,084,555				4,214,683
Deposit			13,545				13,545
		$	4,098,100			$	4,228,228

 

Note 5 – Stock-Based Compensation

 

In addition to cash compensation, the Company may compensate certain service providers, including employees, directors, consultants, and other advisors, with equity based compensation in the form of stock options and restricted stock awards. The Company recognizes all equity-based compensation as stock-based compensation expense based on the fair value of the compensation measured at the grant date. For stock options, fair value is calculated using the Black-Scholes-Merton option pricing model. For restricted stock awards, fair value is the closing stock price for the Company’s common stock on the grant date. The expense is recognized over the vesting period of the grant. For the periods presented, all stock-based compensation expense was classified as a component within selling, general and administrative expense in the Company’s statements of income.

 

The amount of stock-based compensation expense is as follows:

 

		Three months ended March 31,
		2017				2016
Stock options		$	14,691			$	11,805
Restricted stock awards			30,366				17,807
Total		$	45,057			$	29,612

 

 

Where Food Comes From, Inc.
Notes to the Consolidated Financial Statements
(Unaudited)

 

As of March 31, 2017, the estimated unrecognized compensation cost from unvested awards which will be recognized ratably over the remaining vesting phase is as follows:

 

	Years ended December 31st:			Unvested stock options				Unvested restricted stock awards				Total Unrecognized Compensation Expense
	2017 (nine months remaining)			$	44,123			$	87,677			$	131,800
	2018				58,695				81,001				139,696
	2019				53,552				25,046				78,598
				$	156,370			$	193,724			$	350,094

 

Equity Incentive Plans

 

Our 2016 Equity Incentive Plan (the “Equity Incentive Plan”) provides for the issuance of stock-based awards to employees, officers, directors and consultants. The Plan permits the granting of stock awards and stock options. The vesting of stock-based awards is generally subject to the passage of time and continued employment through the vesting period.

 

Stock Option Activity

 

Stock option activity under our Equity Incentive Plan is summarized as follows:

 

															Weighted Avg.
							Weighted Avg.				Weighted Avg.				Remaining
			Number of				Exercise Price				Fair Value				Contractual Life				Aggregate
			Awards				per Share				per Share				(in years)				Intrinsic Value
Outstanding, December 31, 2016				273,586			$	1.22			$	1.22				7.05			$	217,892
Granted				—			$	—			$	—				—
Exercised				(5,000	)		$	1.10			$	1.20				5.41
Expired/Forfeited				.			$	—			$	—				—
Outstanding, March 31, 2017				268,586			$	0.84			$	0.85				6.43			$	416,278
Exercisable, December 31, 2016				174,836			$	0.83			$	0.85				5.46			$	204,438
Unvested, March 31, 2017				94,000			$	1.89			$	1.87				9.71			$	17,860

 

The aggregate intrinsic value represents the total pre-tax intrinsic value (the aggregate difference between the closing price of our common stock on March 31, 2017 and the exercise price for the in-the-money options) that would have been received by the option holders if all the in-the-money options had been exercised on March 31, 2017.

 

 

Where Food Comes From, Inc.
Notes to the Consolidated Financial Statements
(Unaudited)

 

Restricted Stock Activity

 

Restricted stock activity under our Equity Incentive Plan is summarized as follows:

 

							Weighted Avg
			Number of				Grant Date
			Options				Fair Value
Non-vested restricted shares, December 31, 2016				136,000			$	2.44
Granted				—			$	—
Vested				(4,000	)		$	2.10
Forfeited				—			$	—
Non-vested restricted shares, March 31, 2017				132,000			$	2.45

 

Note 6 – Income Taxes

 

Deferred tax assets and liabilities have been determined based upon the differences between the financial statement amounts and the tax bases of assets and liabilities as measured by enacted tax rates expected to be in effect when these differences are expected to reverse. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. Our net operating loss (“NOL”) carry forwards are the most significant component of our deferred tax assets; however, the ultimate realization of our deferred tax assets is dependent upon generation of future taxable income. We consider past history, the scheduled reversal of taxable temporary differences, projected future taxable income, and tax planning strategies in making this assessment. Utilization of our NOL carry forwards reduces our federal and state income tax liability incurred.

 

The Company’s subsidiary, SureHarvest, is a California limited liability company (LLC). As an LLC, management believes SureHarvest is not subject to income taxes, and such taxes are the responsibility of the respective members.

 

The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. For the three months ended March 31, 2017 and 2016, we recorded income tax expense of $3,000 and $49,950, respectively.

 

Note 7 – Commitments and Contingencies

 

Unison Revolving Line of Credit

 

The Company has a revolving line of credit (“LOC”) agreement which matures April 12, 2020. The LOC provides for $70,080 in working capital. The interest rate is at the Wall Street Journal prime rate plus 1.50% and is adjusted daily. Principal and interest are payable upon demand, but if demand is not made, then annual payments of accrued interest only are due, with the principal balance due on maturity. As of March 31, 2017, the effective interest rate was 5.5%. The LOC is collateralized by all the business assets of ICS. As of March 31, 2017, there were no amounts outstanding under this LOC.

 

 

Where Food Comes From, Inc.
Notes to the Consolidated Financial Statements
(Unaudited)

 

Operating Leases & Lease Incentive Obligation

 

The Company relocated its headquarters within Castle Rock, Colorado, during the third quarter 2016 and entered into a new lease agreement for approximately 8,000 square feet of office space. This space is being leased from a company in which our CEO and President, each a related party to the Company, have a 27% ownership interest. The lease agreement has an initial term of five years plus two renewal periods, which the Company is more likely than not to renew. The office space lease term commenced August 1, 2016. Rental payments are approximately $19,000 per month, which includes common area charges, and provides for escalating rental payments annually over the term of the lease. The Company recognizes rent expense on a straight-line basis over the non-cancelable lease term and option renewal periods. The resulting deferred rent is included in accrued expenses and other current liabilities on the consolidated balance sheet. The Company recorded leasehold improvements of approximately $406,400, which included approximately $163,000 in lease incentives. Leasehold improvements are included in property and equipment on the consolidated balance sheet. Lease incentives have been included in lease incentive obligation as a long-term liability on the consolidated balance sheet and will reduce rent expense on a straight-line basis over 15 years. Lease incentives are excluded from minimum lease payments in the schedule below.

 

As of March 31, 2017, future minimum lease payments for all operating leases are as follows:

 

Years ended December 31st:			Total
2017 (remaining nine months)			$	183,819
2018				220,749
2019				227,060
2020				233,871
2021				240,888
Thereafter				2,707,132
Total lease commitments			$	3,813,519

 

Legal proceedings

 

From time to time, we may become involved in various legal actions, administrative proceedings and claims in the ordinary course of business. We generally record losses for claims in excess of the limits of purchased insurance in earnings at the time and to the extent they are probable and estimable. We are not aware of any legal actions currently pending against us.

 

Note 8 – Contingently Redeemable Non-Controlling Interest

 

Contingently redeemable non-controlling interest on our consolidated balance sheet represents the non-controlling interest related to the SureHarvest acquisition, in which the non-controlling interest holder, at its election, can require the Company to purchase its 40% investment in SureHarvest. Below is a table reflecting the activity of the contingently redeemable non-controlling interest at March 31, 2017.

 

Balance, December 31, 2016		$	1,888,135
Net loss attributable to non-controlling interest in SureHarvest for the three months ended March 31, 2017			(125,405	)
Balance, March 31, 2017		$	1,762,730

 

The contingently redeemable non-controlling interest was adjusted to the greater of the carrying value or redemption value as of each period end.

 

 

Where Food Comes From, Inc.
Notes to the Consolidated Financial Statements
(Unaudited)

 

Note 9 – Supplemental Cash Flow Information

 

		Three Months ended March 31,
		2017				2016
Cash paid for:
Interest expense		$	162			$	295
Income taxes		$	—			$	—
Non-cash investing and financing activities:
Common stock issued for remaining interest in Validus Verification Services LLC		$	—			$	200,072

 

 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

General

 

This information should be read in conjunction with the consolidated financial statements and the notes included in Item 1 of Part I of this Quarterly Report and the audited consolidated financial statements and notes, and Management’s Discussion and Analysis of Financial Condition and Results of Operations, contained in the Form 10−K for the fiscal year ended December 31, 2016. The following discussion and analysis includes historical and certain forward−looking information that should be read together with the accompanying consolidated financial statements, related footnotes and the discussion below of certain risks and uncertainties that could cause future operating results to differ materially from historical results or from the expected results indicated by forward−looking statements.

 

Business Overview

 

Where Food Comes From, Inc. and its subsidiaries (“WFCF”, “the Company”, “our”, “we”, or “us”) is a leading trusted resource for third-party verification of food production practices in North America. The Company supports more than 12,000 farmers, ranchers, vineyards, wineries, processors, retailers, distributors, trade associations and restaurants with a wide variety of value-added services provided through its family of verifiers, including IMI Global, International Certification Services (“ICS”), Validus Verification Services, Sterling Solutions, and our newest acquisition, SureHarvest Services (“SureHarvest”). In order to have credibility, product claims such as gluten-free, non-GMO, non-hormone treated, humane handling, and others require verification by an independent third-party such as WFCF. The Company’s principal business is conducting both on-site and desk audits to verify that claims being made about livestock, crops and other food products are accurate. In addition, the Company’s Where Food Comes From Source Verified® retail and restaurant labeling program utilizes the verification of product attributes to connect consumers directly to the source of the food they purchase through product labeling and web-based information sharing and education. With the use of Quick Response Code (“QR”) technology, consumers can instantly access information about the producers behind their food.

 

WFCF was founded in 1996 and incorporated in the state of Colorado as a subchapter C corporation in 2005. The Company’s shares of common stock trade on the OTCQB marketplace under the stock ticker symbol, “WFCF”.

 

The Company’s original name – Integrated Management Information, Inc. (d.b.a. IMI Global, Inc.) – was changed to Where Food Comes From, Inc. in 2012 to better reflect the Company’s mission. Early growth was attributable to source and age verification services for beef producers who wanted access to markets overseas following the discovery of “mad cow” disease in the U.S. Over the years, WFCF has expanded its portfolio to include verification and software services for most food groups and 30 standards. This growth has been achieved both organically and through the acquisition of other companies.

 

Current Marketplace Opportunities

 

Because of growing demand for increased transparency into food production practices, we believe there are three main market drivers to promote forward momentum for our business:

 

Market Driver #1 - Consumer awareness and expectations

 

●

A recent survey conducted by Acosta, a leading full-service sales and marketing agency in the consumer packaged goods industry, which was released in 2015, indicates consumers are actually changing their shopping habits in the grocery store. Increasingly more Americans are shopping the perimeter of the grocery store rather than stocking their pantries, and choosing to cook healthy meals at home, even if it comes at a higher cost.

 

●

According to the US Grocery Shopper Trends 2014 Report, more than 25% of consumers surveyed are seeking products that are minimally processed, locally grown or produced, with recognizable and a short list of ingredients. Jenny Zegler, Global Food and Drink Analyst at Mintel, said “These trends explore how consumers’ evolving priorities, opportunities from advancements in functional formulation and the almost inescapable reach of technology will affect food and drink in the coming year. Consumers are not only the influencers, as shifting economics, natural phenomena and social media are shaping what, how, where and with whom consumers are choosing to eat and drink…”

 

 

●

Based on a survey in the March 13, 2014 Cone Communication Food Issues Trend Tracker, food safety and nutritional value rose to the top as the most important factors when hitting the grocery aisles. Additionally, at least two-thirds of Americans prioritized the following as significant factors when deciding what makes it into the shopping cart: locally produced, sustainable packaging, animal welfare, non-GMO, protection and renewal of natural resources.

 

●

Three in five Americans are on the lookout for non GMO-labeled foods when shopping. Per the March 13, 2014 Cone Communication Food Issues Trend Tracker, 39% believe that non-GMO foods are healthier, 32% are concerned about the effects on the environment, and 24% question the ethics behind the use of GMOs.

 

●

According to the USDA website, the U.S. market for certified organic products was estimated at more than $39 billion as of October 2015 while USDA-approved organic operations have grown more than 250% since 2002. Increasing consumer demand for healthy, better-for-you products produced with sustainable agricultural practices is driving growth in the organic market.

 

Market Driver #2 - Global competitiveness among retailers

 

●

Restaurant chains and retailers with dominant market shares and large buying power, like McDonald’s and Wal-Mart, are leading the way in prioritizing sustainable food supply initiatives in answer to consumer demands. With information literally at our fingertips, Google searches and smart phone apps are making it easier to expose where sustainable food supply chains are, and where they are not.

 

●

Producers, packers, distributors and retailers understand that verification, identification and traceability are key competitive differentiators. Oftentimes, it is necessary for export into international markets, including Korea, Russia and the European Union.

 

Market Driver #3 - Government regulation

 

●

In January 2013, the Food Safety Modernization Act (FSMA) issued two major proposed rules regarding preventive controls in human/animal food and produce safety. Compliance dates for some businesses began September 2016. Under the new rules, the food safety plan defined by the regulation differs from traditional hazard analysis and critical control points (HACCP) plans. It must include a hazard analysis, preventive controls, monitoring procedures, corrective action procedures, verification procedures, a supply chain program, and a recall program. We have begun to see significant movement in companies requesting our consulting expertise to developing programs designed to assist them in maintaining compliance with the new rules.

 

●

The Animal Disease Traceability Rule primarily covers beef cattle 18 months of age or older. Under the final rule, unless specifically exempted, livestock moved interstate must be officially identified and accompanied by an interstate certificate of veterinary inspection or other documentation, such as owner-shipper statements or brand certificates.

 

●

The Saudi Arabia market closed to U.S. beef in 2012. Since that time, the beef industry has been working with the U.S. government to re-open that market, which officially happened in early August 2016. In order to be approved to meet the export requirements, a company must have or must be approved by a process verified plan (PVP), like our Verified Natural product. U.S. exports to Saudi Arabia in 2010 and 2011 were valued at approximately $30 million. We believe the Saudi Arabia market focuses on the highest quality middle meats, making it a valuable market for the U.S. to re-gain access.

 

 

●

After a recent visit to the US which included an audit of the beef supply chain, Chinese officials announced in September 2016 that the ban on imports of US beef has been lifted. While the technical requirements for export verification have yet to be determined, source and age verification will be required, at a minimum. China is the world’s second largest buyer of beef, but beef imports from the US to China have been banned since the 2003 Bovine Spongiform Encephalopathy (BSE) outbreak, also known as “Mad Cow Disease.”

 

Current Concerns in Our Industry

 

US Beef

 

U.S. beef exports to the European Union (EU) must be third-party verified as High Quality Beef (a USDA feeding claim) and non-hormone treated cattle (NHTC). With duty-free access to the EU lowering the cost of doing business in Europe, we believe that it offers significantly more potential for third-party NHTC verification services and High Quality Beef verification services. However, due to the current strength of the US dollar, we are seeing downward pressure on NHTC cattle prices causing the momentum of these programs to slow.

 

Cattle markets moved to the lowest level since 2011 in the continuation of a trend that began during the first quarter of this year. High prices in cattle date back to the drought of 2012. When grain prices exploded to all-time highs, animal protein producers could not afford to feed their herds. As feed prices rose, producers sent the animals to processing plants early to avoid losses that would result from high feed costs. It takes between 18 and 24 months to raise cattle, so thus began the great cattle bull market of 2014. Moreover, the population of planet Earth now stands at over 7.3 billion people. In Asia, diets have changed as wealth has grown. A traditional rice-based diet now includes more complex proteins, which has increased demand for beef and pork in the region. In 2015 and early 2016, ample supplies of grains lowered the input costs for producing cattle. Therefore, lower grain or feed prices filtered through and caused the price of live cattle to drop over the course of 2015, and this continued into 2016.

 

During the second quarter, a rally in soybean and soybean product prices caused feed prices to rally. Live cattle prices fell as producers were facing a scenario similar to what they saw in 2012. The potential for an early slaughter to avoid high feed prices caused live cattle futures to fall as soybeans, and other grain prices moved higher. Slower growth in China along with rising feed prices contributed to lower cattle prices during 2016. Lower cattle prices are driving many producers to reduce overall operating costs, which includes opting out of certain verification programs.

 

We believe this may be a short-sighted reaction and we encourage our customers to stay in those verification programs. We continue to see higher premiums paid for verified beef. We also know that early slaughter creates a short-term oversupply and increases the chances of another shortage developing in 2017 as herd sizes decline. Retail meats markets have remained virtually unchanged. At this time, we have no way to reasonably estimate the future impact this could have on our business. Management continues to monitor the situation. We believe we have diversified our product offerings across multiple species such that it did not have a significant negative impact on our 2016 operations and we do not believe it will have a significant impact upon our 2017 operations.  

 

Seasonality

 

Our business is subject to seasonal fluctuations. Significant portions of our revenues are typically realized during the second and third quarters of the fiscal year when the calf marketings and the growing seasons are at their peak. Because of the seasonality of the business and our industry, results for any quarter are not necessarily indicative of the results that may be achieved for any other quarter or for the full fiscal year.

 

Liquidity and Capital Resources

 

At March 31, 2017, we had cash, cash equivalents and short-term investments of $3,980,868 compared to $3,223,089 at December 31, 2016. Our working capital at March 31, 2017 was $3,615,411 compared to $3,429,185 at December 31, 2016.

 

 

Net cash provided by operating activities for the three months ended March 31, 2017 was approximately $795,400 compared to net cash provided of approximately $734,400 during the same period in 2016. Net cash provided by operating activities is driven by our net income (loss) and adjusted by non-cash items. Non-cash adjustments primarily include depreciation, amortization of intangible assets, stock based compensation expense, and deferred taxes.

 

Net cash used in investing activities for the three months ended March 31, 2017, was approximately $20,000 compared to approximately $164,700 used in the 2016 period. Net cash used in the 2017 period was attributable to the purchase of property and equipment of approximately $20,000. Net cash used in the 2016 period was primarily attributable to the acquisition of the non-controlling interest of Validus, as well as nominal purchases of property and equipment of approximately $2,000.

 

Net cash used in financing activities for the three months ended March 31, 2017, was approximately $18,000 compared to approximately $2,600 used in the 2016 period. Net cash used in the 2017 period was due repayments under lease obligations of approximately $1,000 and repurchase of common shares under the Buyback Plan of approximately $22,500, offset by cash received from stock option exercises of approximately $5,500. Net cash used in the 2016 period was due to repayments of debt and lease obligations of approximately $3,100 and repurchase of common shares under the Buyback Plan of approximately $13,700 offset by proceeds from stock option exercises of approximately $14,100.

 

Historically, our growth has been funded through a combination of convertible debt from private investors and private placement offerings. We continually evaluate all funding options including additional offerings of our securities to private, public and institutional investors and other credit facilities as they become available.

 

The primary driver of our operating cash flow is our third-party verification solutions, specifically the gross margin generated from services provided. Therefore we focus on the elements of those operations including revenue growth and long term projects that ensure a steady stream of operating profits to enable us to meet our cash obligations. On a weekly basis we review the performance of each of our revenue streams focusing on third party verification solutions compared with prior periods and our operating plan. We believe that our various sources of capital, including cash flow from operating activities, overall improvement in our performance, and our ability to obtain additional financing are adequate to finance current operations as well as the repayment of current debt obligations. We are not aware of any other event or trend that would negatively affect our liquidity. In the event such a trend develops, we believe that there are sufficient financing avenues available to us and from our internal cash generating capabilities to adequately manage our ongoing business.

 

The culmination of all our efforts toward net income has brought opportunities to us including: increased investor confidence and renewed interest in our company, third-party interest in our expertise, as well as the potential to develop business relationships with long term strategic partners. In keeping with our core business, we will continue to review our business model with a focus on profitability, long term capital solutions and the potential impact of acquisitions or divestitures, if such an opportunity arises.

 

Our plan for continued growth is primarily based upon acquisitions as well as intensifying our focus on international markets. We believe that there are significant growth opportunities available to us because often the only means to entry as imposed on international market imports/exports is via a quality verification program.

 

Debt Facility

 

The Company has a revolving line of credit (“LOC”) agreement which matures April 12, 2020. The LOC provides for $70,080 in working capital. The interest rate is at the Wall Street Journal prime rate plus 1.50% and is adjusted daily. Principal and interest are payable upon demand, but if demand is not made, then annual payments of accrued interest only are due, with the principal balance due on maturity. As of March 31, 2017, the effective interest rate was 5.5%. The LOC is collateralized by all the business assets of ICS. As of March 31, 2017, there were no amounts outstanding under this LOC.

 

 

Off-Balance Sheet Arrangements

 

As of March 31, 2017, we had no off-balance sheet arrangements of any type.   

 

RESULTS OF OPERATIONS

 

Three Months Ended March 31, 2017 Compared to the Same Period in Fiscal Year 2016

 

Revenues

 

Total revenues for the three months ended March 31, 2017, increased 25.7% compared to the same period in 2016.

 

Verification and certification service revenues consist of fees charged for verification audits and other verification and certification related services that the Company performs for customers. Verification and certification service revenues for the three months ended March 31, 2017, of approximately $2,518,400 increased approximately $371,000 or 17.3% compared to the same period in 2016. Overall, the increase is due to both an increase in new verification customers, as well as an increase in product offerings.

 

Product sales represent sales of cattle identification ear tags. Product sales of approximately $243,300 for the three months ended March 31, 2017 decreased approximately $27,800 or 10.3% compared to the same period in 2016. As further discussed under “Current Concerns in Our Industry,” product sales have mostly decreased in response to a slowing NHTC beef export market due to the strength of the US dollar.

 

Software license, maintenance and support services revenue of $159,300 represents a new revenue stream specific to our acquisition of SureHarvest, as further described in Note 2 to the consolidated financial statements above.

 

Consulting service revenue of $116,800 primarily represents fees earned from professional appearances, customer education and training related services. It is a new revenue stream specific to our acquisition of SureHarvest, as further described in Note 2 to the consolidated financial statements above.

 

Other revenue primarily represents the fees earned from our WFCF labeling program. Other revenue of approximately $36,200 for the three months ended March 31, 2017 increased approximately $8,900 or 32.9% compared to the same period in 2016. The increase is partly due to the addition of new customers and new product lines for our existing customers.

 

Cost of Revenues and Gross Margin

 

Total costs of revenues for the three months ended March 31, 2017 was approximately $1,611,300 compared to approximately $1,238,600 during the same period in 2016. Gross margin for the three months ended March 31, 2017 decreased slightly to 47.6% of revenues compared to 49.4% of revenues for the three months ended March 31, 2016. The decrease is partially due to a change in the overall product mix due to our SureHarvest acquisition in which margins tend to be lower.

 

Our margins are impacted by various costs such as cost of products, salaries and benefits, insurance, and taxes. Because certain elements of our cost of revenues are fixed in nature, incremental sales positively impact our margins.

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses for the three months ended March 31, 2017 were approximately $1,470,800, an increase of approximately $367,700, or 33.3% over the three months ended March 31, 2016. The dollar increase is predominately due to higher head count and increased administrative costs incurred because of our SureHarvest acquisition. Selling, general and administrative expenses as a percentage of revenue slightly increased to 47.8% in 2017 compared to 45.1% in 2016. The percentage increase for the three months ended March 31, 2017 is due to higher costs related to being a publicly held company. Historically, our first quarter costs are always higher with a smaller revenue base to spread them over for comparability purposes.

 

 

Income Tax Expense

 

The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. For the three months ended March 31, 2017 and 2016, we recorded income tax expense of approximately $3,000 and $50,000, respectively.

 

Net Income and Per Share Information

 

As a result of the foregoing, net income attributable to WFCF shareholders for the three months ended March 31, 2017 was approximately $115,400, or less than $0.01 per basic and diluted common share, compared to approximately $87,200, or less than $0.01 per basic and diluted common share for the three months ended March 31, 2016.

 

 

ITEM 4. CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

Our Chief Executive Officer and Chief Financial Officer, after evaluating the effectiveness of the Company’s “disclosure controls and procedures” (as defined in the Securities Exchange Act of 1934 (Exchange Act) Rule 13a-15(e) as of the end of the period covered by this report, have concluded that our disclosure controls and procedures are effective based on our evaluation of these controls and procedures as required by paragraph (b) of Exchange Act Rules 13a-15 or 15d-15.

 

Internal Control Over Financial Reporting

 

There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rule 13a-15(f) under the Exchange Act) during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

PART II – OTHER INFORMATION

 

ITEM 1.  LEGAL PROCEEDINGS

 

From time to time, we may become involved in various legal actions, administrative proceedings and claims in the ordinary course of business. We generally record losses for claims in excess of the limits of purchased insurance in earnings at the time and to the extent they are probable and estimable.

 

ITEM 1A. RISK FACTORS

 

Our business is subject to a number of risks, including those identified in Item 1A. — “Risk Factors” of our 2016 Annual Report on Form 10−K, that could have a material effect on our business, results of operations, financial condition and/or liquidity and that could cause our operating results to vary significantly from period to period. As of March 31, 2017, there have been no material changes to the risks disclosed in our most recent Annual Report on Form 10−K. We may also disclose changes to such factors or disclose additional factors from time to time in our future filings with the SEC.

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

None

 

ITEM 6. EXHIBITS

 

(a) Exhibits

 

Number		Description
31.1		Certification of CEO pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Certification of CFO pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1		Certification of CEO pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002
32.2		Certification of CFO pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002
101.INS		XBRL Instance Document
101.SCH		XBRL Taxonomy Extension Schema Document
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF		XBRL Taxonomy Extension Definition Linkbase Document
101.LAB		XBRL Taxonomy Extension Label Linkbase Document
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document

 

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

Date: May 9, 2017	Where Food Comes From, Inc.
	By:		/s/ John K. Saunders
			Chief Executive Officer

	By:		/s/ Dannette Henning
			Chief Financial Officer