Summary of Significant Accounting Policies

9 Months Ended

Sep. 30, 2024

Summary of Significant Accounting Policies [Abstract]

Summary of Significant Accounting Policies

Note 2 — Summary of Significant Accounting Policies

Principles of Consolidation

The condensed consolidated financial statements reflect the consolidated operations of SMFL and its wholly owned subsidiaries DSO, DSO Canada, Nexus, GSP and BSNM (collectively, the “Company”), and are prepared in the United States Dollars in accordance with generally accepted accounting principles in the United States of America (“GAAP”). Ceautamed has been deemed to be a discontinued operation. Intercompany balances and transactions have been eliminated in consolidation.

Reclassifications

Certain prior period amounts have been reclassified to conform with the current year presentation.

Reclassifications - Discontinued Operations to Continued Operations

The 2023 financials have been reclassified from reporting BSNM as discontinued operations to continued operations due to a change in the plan of the sale / leaseback of BSNM. In December 2023, with the board’s approval, the Company planned to sell BSNM. The Company had a buyer, who signed an offer letter, but was unable to work out the economics of the deal and therefore had not closed the transaction. Following this, in October 2024, management and the board revised its decision to sell BSNM and continue operating the business line. Also in October 2024, the Company started moving most of the equipment and much of the usable inventory to its Riviera Beach facility. The Company also surrendered the BSNM facility in November 2024 back to the landlord. As a result, the classification of BSNM has been revised in accordance with Accounting Standards Codification (“ASC”) 360-10, Property, Plant, and Equipment. The results of BSNM have been reclassified from discontinued operations to continuing operations for all periods presented to ensure comparability of the financial statements. The impact of the reclassification on previously reported amounts is summarized below:

1. Reclassification of $505,643 of operating income, $834,487 in cost of goods sold, $1,167,481 in expenses and $58,808 in other expense from discontinued operations to continuing operations.

2. Adjustment to depreciation and amortization expenses, as BSNM is no longer classified as held for sale.

3. Reclassification of $1,401,300 in assets and $3,062,749 in liability balances to reflect continuing operations.

The comparative financial statements for the years ended December 31, 2023 and 2024, have been adjusted accordingly.

Ceautamed has been deemed to be a discontinued operation (see Note 3).

These reclassifications did not impact previously reported net income, earnings per share, or the Company’s consolidated financial position.

Basis of Presentation

The Company’s fiscal year end is December 31. The Company uses the accrual method of accounting. The accompanying unaudited interim condensed consolidated financial statements have been prepared on the same basis as the annual consolidated financial statements. The balance sheet as of December 31, 2023 has been derived from audited consolidated financial statements.

The accompanying unaudited condensed consolidated financial statements for the three and nine months ended September 30, 2024 and 2023 have been prepared in accordance with GAAP for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Accordingly, they do not include all the information and footnotes required by GAAP for complete financial statements.

The unaudited financial information included in this report includes all adjustments (consisting of normal recurring adjustments) which are, in the opinion of management, necessary to reflect a fair statement of the results for the interim periods. The results of operations for the three and nine months ended September 30, 2024 are not necessarily indicative of the results of the full fiscal year.

The condensed consolidated financial statements included in this report should be read in conjunction with the financial statements and notes thereto included in the Company’s financial statements for the fiscal year ended December 31, 2023.

On April 24, 2023, the Company effected a 1-for-50 reverse stock split of its issued and outstanding common stock. The impact of this transaction is reflected within all common stock, options, and warrant information retrospectively in these condensed consolidated financial statements.

On August 2, 2023, the Company effected a 1-for-3 reverse stock split of its authorized and outstanding common stock. The impact of this transaction is reflected within all common stock, options, and warrant information retrospectively in these consolidated financial statements. As a result of the reverse stock split, the Company’s authorized common stock decreased to 166,666,667 shares.

On October 27, 2023, the Company effected a 1-for-3 reverse stock split of its authorized and outstanding common stock. The impact of this transaction is reflected within all common stock, options, and warrant information retrospectively in these consolidated financial statements. As a result of the reverse stock split, the Company’s authorized common stock decreased to 55,555,556 shares.

On April 22, 2024, the Company effected a 1-for-7 reverse stock split of its authorized and outstanding common stock. The impact of this transaction is reflected within all common stock, options, and warrant information retrospectively in these consolidated financial statements. As a result of the reverse stock split, the Company’s authorized common stock decreased to 7,936,508 shares.

Liquidity, Capital Resources and Going Concern

The accompanying condensed consolidated financial statements have been prepared assuming that the Company will continue as a going concern. The Company has sustained recurring losses and has a deficiency in working capital of approximately $8.2 million at September 30, 2024, which raises substantial doubt about its ability to continue as a going concern. The condensed consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

Use of Estimates

The preparation of the condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. These estimates include, among other items, assessing the collectability of receivables, the realization of deferred taxes, useful lives and recoverability of tangible and intangible assets, assumptions used in the valuation of options, the computation of revenue based on the proportional delivery of services, and accruals for commitments and contingencies. Some of these estimates can be subjective and complex and, consequently, actual results could differ materially from those estimates.

Cash Equivalents

The Company considers all highly liquid investments purchased with an original maturity of three (3) months or less to be cash equivalents. At September 30, 2024 and December 31, 2023, there were no cash equivalents.

Accounts Receivable and Allowance for Doubtful Accounts

The Company’s accounts receivable consists primarily of receivables from customers. The balance is presented net of an allowance for expected credit losses. The Company monitors the financial condition of its customers and records the allowance for expected credit losses on receivables when it believes customers are unable to make their required payments based on factors such as delinquencies and aging trends. The allowance for expected credit loss is the Company’s best estimate of the amount of probable credit losses related to existing accounts receivable. Accounts receivable are presented net of an allowance for expected credit losses of $22,686 and $22,686 at September 30, 2024 and December 31, 2023, respectively.

Inventory

Inventory consists of raw materials, packaging materials, and finished goods and is valued at the lower of cost (first-in, first-out) (replacement cost or net realizable value). An allowance for inventory obsolescence is provided for slow moving or obsolete inventory to write down historical cost to net realizable value. The Company primarily performs its manufacturing for functional foods and nutraceuticals in the form of bars, cookies, powders, tablets and capsules.

The allowance for obsolescence is an estimate established through charges to cost of goods sold. Management’s judgment in determining the adequacy of the allowance is based upon several factors which include, but are not limited to, analysis of slow-moving inventory, analysis of the selling price of inventory, the predetermined shelf life of the product, and management’s judgment with respect to current economic conditions. Given the nature of the inventory, it is reasonably possible the Company’s estimate of the allowance for obsolescence will change in the near term.

Property and Equipment

Property and equipment are recorded at cost. Expenditures for major betterments and additions are charged to the asset accounts, while replacements, maintenance and repairs which do not improve or extend the lives of the respective assets are charged to expense as incurred. The Company provides for depreciation and amortization over the estimated useful lives of various assets using the straight-line method ranging from 3-7 years.

Goodwill

The Company allocates goodwill to reporting units based on the reporting unit expected to benefit from the business combination. The Company evaluates its reporting units on an annual basis and, if necessary, reassign goodwill using a relative fair value allocation approach. Goodwill is tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on December 31 and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. These events or circumstances could include a significant change in the business climate, legal factors, operating performance indicators, competition, or sale or disposition of a significant portion of a reporting unit.

No goodwill impairments were recognized during the three and nine months ended September 30, 2024 and 2023.

Intangible Assets

Intangible assets consist of customer contracts, developed technology, non-compete agreements, license agreements, and intellectual property acquired in the acquisitions of BSNM, DSO, Nexus, GSP, and Ceautamed. The Company amortizes intangible assets with finite lives on a straight-line basis over their estimated useful lives which ranges from 3 to 15 years.

Long-Lived Assets

The Company assesses potential impairments to its long-lived assets when there is evidence that events or changes in circumstances indicate that the carrying amount of an asset may not be recovered. An impairment loss is recognized when the undiscounted cash flows expected to be generated by an asset (or group of assets) is less than its carrying amount. Any required impairment loss is measured as the amount by which the asset’s carrying value exceeds its fair value and is recorded as a reduction in the carrying value of the related asset and a charge to operating results.

Lease Right-of-Use Assets and Liabilities

The Company records a right-of-use asset and lease liability on the condensed consolidated balance sheets for all leases with terms longer than 12 months. Leases are classified either as finance or operating with the classification affecting the pattern of expense recognition.

Related Parties

The Company follows ASC 850, “Related Party Disclosures,” for the identification of related parties and disclosure of related party transactions (see Note 13).

Debt Issuance Costs

In accordance with ASC 835-30, Other Presentation Matters, the Company has reported debt issuance cost as a deduction from the carrying amount of debt and amortizes these costs using the effective interest method over the term of the debt as interest expense.

Fair Value Measurement

Under ASC Topic 820, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (i.e., an exit price). ASC Topic 820 establishes a hierarchy for inputs to valuation techniques used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that reflect assumptions market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. There are three levels to the hierarchy based on the reliability of inputs, as follows:

Level 1 - Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 - Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices for similar assets or liabilities in active markets, or quoted prices for identical or similar assets and liabilities in markets that are not active.

Level 3 - Unobservable inputs for the asset or liability. The degree of judgment exercised by the Company in determining fair value is greatest for instruments categorized in Level 3.

The Company’s cash and cash equivalents are measured using Level 1 inputs and include cash on hand, deposits in banks, certificates of deposit and money market funds. Due to their short-term nature, the carrying amounts reported in the consolidated balance sheets approximate the fair value of cash and cash equivalents.

The Company has certain assets that are measured at fair value on a non-recurring basis including those described in Note 6, and are adjusted to fair value only when the carrying values are more than the fair values. The categorization of the framework used to price the assets is considered a Level 3 measurement due to the subjective nature of the unobservable inputs used to determine the fair value.

Certain nonfinancial assets and liabilities are measured at fair value on a non-recurring basis and are subject to fair value adjustments in certain circumstances, such as when there is evidence of impairment. The estimated fair value of financial instruments is determined using the best available market information and appropriate valuation methodologies. Considerable judgment is necessary, however, in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented are not necessarily indicative of the amounts that the Company could realize in a current market exchange, or the value that ultimately will be realized upon maturity or disposition. In the evaluation of the estimated value of such assets, data for determining the value of the estimates are utilized based on the relevant facts and circumstances. The use of different market assumptions may have a material effect on the estimated fair value amounts.

Revenue Recognition

The Company evaluates and recognizes revenues by:

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identifying the contract(s) with the customer,

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identifying the performance obligations in the contract,

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determining the transaction price,

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allocating the transaction price to performance obligations in the contract; and

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recognizing revenue as each performance obligation is satisfied through the transfer of a promised good or service to a customer (i.e., “transfer of control”).

Products (BSNM, DSO, GSP, and Ceautamed)

The Company generates product revenues by manufacturing and packaging of nutraceutical products as a contract manufacturer for customers. The majority of the Company’s revenue is recognized when it satisfies a single performance obligation by transferring control of its products to a customer. Control is generally transferred when the Company’s products are either shipped or delivered based on the terms contained within the underlying contracts or agreements. The Company’s general payment terms are short-term in duration. For the three months ended September 30, 2024 and 2023, revenue was made up of contract manufacturing of $19,475 and $467,177, online marketing of $1,249,898 and $1,537,044, wholesale of $0 and $201,940, and direct marketing of $0 and $33,394, respectively. For the nine months ended September 30, 2024 and 2023, revenue was made up of contract manufacturing of $19,475 and 1,990,579, online marketing of $2,603,989 and $2,549,532, wholesale of $0 and $185,698, and direct marketing of $2,500 and $91,882, respectively. The Company does not have significant financing components or payment terms. The Company records deferred revenues for prepaid amounts from customers due to no performance obligations being met at such time. The Company had unsatisfied performance obligations of $405,762 and $496,762 at September 30, 2024 and December 31, 2023, respectively.

Distribution expenses to transport the Company’s products, where applicable, and warehousing expense after manufacture are accounted for within operating expenses.

Advertising /Marketing (Nexus)

Nexus generates advertising revenue when sales of listed products are sold by product vendors through its network as a result of the marketing efforts of digital marketers. The products on the network come from several different customers, which pay Nexus a specific amount per sale, the amount of which is dictated by the customer. The revenue is recognized upon the sale of a product by the customer, net of fraudulent traffic or disputed transactions. A portion of the specific amount received by Nexus for that sale is paid out to the digital marketer as a commission, which is recorded in cost of sales.

Nexus’ general payment terms are short-term in duration. Nexus does not have significant financing components or payment terms. Nexus had unsatisfied performance obligations of $4,058 at September 30, 2024 and December 31, 2023.

Freight

Freight costs for the nine months ended September 30, 2024 and 2023 amounted to $147,844 and $115,337, respectively. Freight costs for the three months ended September 30, 2024 and 2023 were $74,139 and $26,170, respectively.

Advertising

Advertising costs are expensed as incurred. Advertising costs for the nine months ended September 30, 2024 and 2023 were $362,577 and $1,349,648, respectively. Advertising costs for the three months ended September 30, 2024 and 2023 were $184,981 and $472,854, respectively.

Paycheck Protection Program

The Company records Paycheck Protection Program (“PPP”) loan proceeds in accordance with ASC 470, “Debt.” Debt is extinguished when either the debtor pays the creditor or the debtor is legally released from being the primary obligor, either judicially or by the creditor.

Stock-based Compensation

The Company recognizes expense for stock options and warrants granted over the vesting period based on the fair value of the award at the grant date and valued using a Black-Scholes option pricing model to determine the fair market value of the stock options and warrants. Forfeitures are reduced from options and warrants outstanding and the Company calculates the amount of tax benefit available by tracking each stock option award on an employee-by-employee basis and on a grant-by-grant basis. The Company then compares the recorded expense to the tax deduction received for each stock option and warrant grant. The Company’s policy is to recognize forfeitures as they occur.

Income Taxes

The Company accounts for income taxes under the provisions of ASC 740, “Income Taxes.” The Company records a liability for uncertain tax positions when it is probable that a loss has been incurred and the amount can be reasonably estimated. At September 30, 2024 and December 31, 2023, the Company had no liabilities for uncertain tax positions. The Company continually evaluates expiring statutes of limitations, audits, proposed settlements, changes in tax law and new authoritative rulings. The Company’s tax years subject to examination by tax authorities generally remain open for three (3) years from the date of filing.

The provision for income taxes is computed using the asset and liability method, under which deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities, and for operating losses and tax credit carry forwards. Deferred tax assets and liabilities are measured using the currently enacted tax rates that apply to taxable income in effect for the years in which those tax assets are expected to be realized or settled. The Company records a valuation allowance to reduce deferred tax assets to the amount that is believed more likely than not to be realized. Due to the continued losses, the Company has recorded a full valuation allowance at the end of September 30, 2024 and December 31, 2023.

Employee Retention Credits

In accordance with the Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”), the Company filed for Employee Retention Credits for applicable periods in 2020 and 2021. As amounts to be refunded are subject to IRS calculations, and the timing for processing of the credits are unknown, the Company recognizes as other income amounts refunded upon the receipt of the payment. During the nine months ended September 30, 2024 and 2023 the Company received $0 and $586,556, respectively.

Recent Accounting Standards Adopted

On August 5, 2020, the Financial Accounting Standards Board (“FASB”) issued ASU 2020-06, “Debt – Debt With Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging – Contracts in Entity’s Own Equity (Subtopic 815-40),” which simplifies the accounting for certain financial instruments with characteristics of liabilities and equity, including convertible instruments and contracts on an entity’s own equity. The ASU is part of the FASB’s simplification initiative, which aims to reduce unnecessary complexity in GAAP. This ASU is effective for fiscal years beginning after December 31, 2023. The adoption of this guidance did not materially impact the financial statements.

Recent Accounting Standards Not Yet Effective

In December 2023, the FASB issued ASU No. 2023-09, “Improvements to Income Tax Disclosures”. The ASU is intended to improve the transparency of income tax disclosures by requiring consistent categories and greater disaggregation of information in the rate reconciliation, as well as income taxes paid disaggregated by jurisdiction. The ASU is effective for annual periods beginning after December 15, 2024 and should be applied on a prospective basis, but retrospective application is permitted. We are currently assessing the impact that this ASU will have on the Company’s financial statements.

In March 2024, the FASB issued ASU 2024-02, “Codification Improvements – Amendments to Remove References to the Concept Statements”. The ASU is part of the Board’s standing project to make “Codification updates for technical corrections such as conforming amendments, clarifications to guidance, simplifications to wording or the structure of guidance, and other minor improvements.” We are currently assessing the impact that this ASU will have on the Company’s financial statements.

In November 2024, the FASB issued ASU No. 2024-03, “Disaggregation of Income Statement Expenses”. The ASU is intended to improve financial reporting by requiring disaggregated disclosure of certain costs and expenses. The ASU is effective for fiscal years beginning after December 15, 2026 and for interim periods within fiscal years beginning after December 15, 2027, with early adoption permitted. The ASU may be applied on either a prospective or retrospective basis. We are currently assessing the impact that this ASU will have on the Company’s financial statements.

The Company has reviewed all other recently issued accounting pronouncements and concluded that they were either not applicable or not expected to have a material impact on the Company’s financial statements.

SMART FOR LIFE, INC. 10-Q