The following discussion of our financial condition and results of operations for the three and nine months endedJune 30, 2020 and 2019 should be read in conjunction with the condensed consolidated financial statements and the notes to those statements that are included elsewhere in this report. Our discussion includes forward-looking statements based upon current expectations that involve risks and uncertainties, such as our plans, objectives, expectations and intentions. Actual results and the timing of events could differ materially from those anticipated in these forward-looking statements because of several factors, including those set forth under the Part I, Item 1A, Risk Factors and Business sections in our 2019 10-K, this report, and our other filings with theSecurities and Exchange Commission . We use words such as "anticipate," "estimate," "plan," "project," "continuing," "ongoing," "expect," "believe," "intend," "may," "will," "should," "could," and similar expressions to identify forward-looking statements. In addition, any statements that refer to projections of our future financial performance, our anticipated growth and trends in our businesses, and other characterizations of future events or circumstances are forward-looking statements. Such statements are based on our current expectations and could be affected by the uncertainties and risk factors described throughout this report. Overview [[Image Removed]] Business
Through our subsidiary, CBDI, we produceand distribute various high-grade, premium CBD products, including tinctures, capsules, gummies, bath bombs and topical creams. In the third quarter of fiscal 2019, we launched a line of pet related CBD products under our Paw CBD brand which includes tinctures, treats, and balms, with additional products under development. InOctober 2019 , following the initial positive response to the Paw CBD brand from retailers and consumers, we organized Paw CBD as a separate wholly-owned subsidiary in an effort to take advantage of its early mover status in the CBD animal health industry. With over 40 SKU's of premium pet CBD products for dogs, cats and horses, we are seeking to grow Paw CBD into a leading brand. 34 We either manufacture our premium line of products at ourCharlotte, NC facility or work with third party manufacturers. We only source cannabinoids, including CBD, which are extracted from non-GMO hemp grown on farms inthe United States . We utilize a manufacturing process which creates hybrid broad-spectrum concentrations including CBD, other cannabinoids, and various other compounds, which we believe creates a superior product, while eliminating tetrahydrocannabinol (THC) content. InJuly 2020 , we filed a new patent application with theU.S. Patent and Trademark Office which will allow us to pursue patented protection in several key areas, including novel formulations and delivery systems, as well as methods of manufacturing and use. SinceDecember 2018 , we have significantly increased the number of locations cbdMD products are available in, and with the building momentum of retailer acceptance subsequent to the passage of the Farm Bill, we continue to pursue multiple opportunities to expand our product distribution via both online and in brick and mortar stores as we continue to work to build cbdMD brand recognition. We also continue to utilize partnerships and sponsorships with professional athletes as a way to gain brand recognition.
The Impact of the COVID-19 Pandemic on our Company
OnMarch 11, 2020 , theWorld Health Organization declared the current coronavirus ("COVID-19") outbreak to be a global pandemic. In response to this declaration and the rapid spread of COVID-19 withinthe United States , federal, state and local governments throughout the country have imposed varying degrees of restrictions on social and commercial activity to promote social distancing in an effort to slow the spread of the illness. These measures have had a significant adverse impact upon many sectors of the economy, including retail commerce. In response to these measures, the "stay at home" order issued by the Governor of theState of North Carolina where our business is located, and for the protection of our employees and customers, we had temporarily closed our corporate office and altered work schedules at our manufacturing and warehouse facilities. Beginning inJune 2020 we implemented return to work policies followingCDC guidelines and we have re-opened our corporate office with staggered work schedules for all departments. To date these actions have not adversely impacted our ability to operate our company. In midMarch 2020 we took steps to increase production to build up our finished goods inventory as well as purchased additional raw material inventory items thereby allowing us to maintain production if supply chain interruptions were to happen. At this time we have not had any impact on our supply chain. Since the pandemic we have experienced an impact and decline on our wholesale sales to our brick and mortar customers as many of the stores have been temporarily closed. In response, we have increased our efforts regarding campaigns and marketing reach to support our online sales efforts by upping our initiatives with associated relevant messaging to connect with our consumer base as well as increased website content and various offerings and changes to make online ordering more effective (auto reorder capability, giveaways, free shipping, etc.). This effort has allowed us to continue to increase sales by offsetting the decline in wholesales sales with substantial increase in our online sales to consumers. We continue to assess the situation on a daily basis and adjust our business, priorities, and processes to enable us to continue to operate effectively until we are able to resume regular operations.
During this time, we have implemented several measures that we believe will continue to ensure sufficient liquidity and support the business for the next several months. Specific measures, among other things, include the following:
? Negotiating with our landlords to receive temporary rent deferrals on our facilities while utilizing security deposits for April; ? Negotiating with our vendors to defer payments as needed; ? Suspending sponsorship and affiliate agreements as well as renegotiating various agreements based on current events, activities, and trends; ? Shifting sales focus efforts to our online consumer sales while the wholesale sales environment is impacted, this focus continues and has been successful in allowing for continued sales growth to this point; ? Implementation of various cost control measures across the company with a focus on supporting the business growth while reaching a positive cash flow operation and adjusted our budget for the balance of 2020 to reflect the changes; ? Ensuring we had sufficient inventory levels, (both raw and finished goods) allowing us to continue to fulfill orders in the event we must shut down our manufacturing facility or supply chains were impacted; and ? Prioritizing our technology initiatives to align with an online sales focus. To further bolster our working capital, onApril 27, 2020 , we received a loan in the principal amount of$1,456,100 (the "SBA Loan"), under the Paycheck Protection Program ("PPP"), which was established under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act") administered by theU.S. Small Business Administration (the "SBA"). The intent and purpose of the PPP is to support companies, during the COVID-19 pandemic, by providing funds for certain specified business expenses, with a focus on payroll. As a qualifying business as defined by the SBA, we are using the proceeds from this loan to primarily help maintain our payroll as we navigate our business with a focus on returning to normal operations. The term of the Note is two years, though it may be payable sooner in connection with an event of default under the Note. The SBA Loan carries a fixed interest rate of one percent per year, with the first payment due seven months from the date of initial cash receipt. Under the CARES Act and the PPP, certain amounts of loans made under the PPP may be forgiven if the recipients use the loan proceeds for eligible purposes, including payroll costs and certain rent or utility costs, and meet other requirements regarding, among other things, the maintenance of employment and compensation levels. We intend to use the SBA Loan for qualifying expenses and to apply for forgiveness of the SBA Loan in accordance with the terms of the CARES Act. 35 As the adverse impact of COVID-19 on our company, industry, and country continues, our ability to meet customer demands for products may be impaired or, similarly, our customers may experience adverse business consequences due to the COVID-19 pandemic. Reduced demand for products or impaired ability to meet customer demand (including as a result of disruptions at our transportation service providers, third-party manufacturing partners or vendors) could have a material adverse effect on our business, operations and financial performance. While we are not able to estimate the ultimate impact of the COVID-19 pandemic on our financial condition and future results of operations, depending on the prolonged impact of the COVID-19 outbreak, this situation could have a significant adverse effect on our future reported results of operations. As indicated, we have implemented several initiatives allowing us to increase our online direct to consumer sales to date, which we will continue to use as we evaluate changes in the wholesale channel. The extent to which the coronavirus impacts our results and financial condition, however, will depend on future developments, which are highly uncertain and cannot be predicted, including new information that may emerge and the actions to contain and treat its impacts, among others. Growth Strategies and Outlook
While we continue to assess the COVID-19 pandemic and adjust our day to day business, we continue to pursue the following strategies to grow our revenues and expand our business and operations in the balance of fiscal 2020 and beyond:
? Increase our base of product offerings : We currently have a broad offering of CBD products, including topicals, tinctures, gummies, bath bombs, vape oils, capsules, and pet products and continue to evaluate additional offerings within these categories as well as new ways to provide CBD in a manner that meets consumer demands. To that end we are devoting resources to ongoing research and development processes with the goal of expanding our product offerings to meet these expanding consumer demands. InMay 2020 we rolled out lip and body balms and new bundled packages. We have several products in the research and development phase with targeted roll-outs during the balance of 2020; ? Expand our sales channels : As the market continues to evolve, we are expanding our sales channels. During fiscal 2019, we moved from a 100% online sales channel to working with wholesalers and retail channels. Big box retailers are beginning to explore CBD products and we believe this will provide another significant opportunity at some point in the future. In addition, sales channels for the pet line include expanding online to not only retail stores but veterinary and pet care professionals. In addition, we have expanded into international sales and continue to position for increasing international territories and sales; ? Expand our recently formed CBD animal health division : With the formation inOctober 2019 of Paw CBD as a separate wholly-owned subsidiary, we have committed resources to branding and marketing the Paw CBD product line, which we believe will enable us to more effectively expand sales channels as well as utilize our marketing efforts in a more targeted manner; ? Expand our sponsorships toward targeted segments: We have had significant success with attracting high profile sponsors and influencers and expect to continue to assess the segments we have covered with a focus on activation of the sponsorships and influencers which are producing the largest visibility and responsiveness; and ? Acquisitions.We may also choose to further build and maintain our brand portfolio by acquiring additional brands directly or through joint ventures if opportunities arise that we believe are in our best interests. As we are in an emerging market, opportunities could be present as companies establish strong brands and begin to obtain large market share. In assessing potential acquisitions or investments, we expect to utilize our internal resources to primarily evaluate growth potential, the strength of the target brand, offerings of the target, as well as possible efficiencies to gain. We believe that this approach will allow us to effectively screen consumer brand candidates and strategically evaluate acquisition targets and efficiently complete due diligence for potential acquisitions. We are not a party, however at this time, to any agreements or understandings regarding the acquisition of additional brands or companies and there are no assurances we will be successful in expanding our brand portfolio. As a consumer goods manufacturer, we strive to meet or exceed the FDAs Good Manufacturing Practice (GMP) guidelines. Good Manufacturing Practices (GMPs) are guidelines that provide a system of processes, procedures and documentation to assure a product has the identity, strength, composition, quality and purity that appear on its label. These GMP requirements are listed in Section 8 of NSF/ANSI 173 which is the only American National Standard in the dietary supplement industry developed in accordance with theFDA's 21 CFR part 111. With our growth and evolution, challenges could exist and we must continue to review processes and controls and adapt our day to day GMP policies and practices as our manufacturing volume increases. We are dedicated to providing the highest quality CBD consumer goods on the market and therefore will continue to focus substantial efforts on GMP compliance. Our manufacturing facility and warehouse operations are fully GMP compliant and NSF GMP registered. NSF GMP registration verifies that the facility is audited twice annually for quality and safety in compliance with Federal Regulations for dietary supplements good manufacturing practices. We have applied for an additional third-party certification from theU.S. Hemp Authority and are awaiting scheduling of the audit. Additionally, we have secured third party contract manufacturing from FDA registered facilities which are independently GMP certified and subject to continuing independent audit and certification, to handle our increased manufacturing needs. 36 Results of operations The following tables provide certain selected consolidated financial information for the periods presented: Three Months Ended June 30, Nine Months Ended June 30, 2020 2019 change 2020 2019 change (unaudited) (unaudited) (unaudited) (unaudited) Total net sales$10,636,545 $8,005,149 2,631,396$30,183,817 $14,107,414 16,076,403 Cost of sales 3,748,024 2,929,160 818,864 10,180,637 5,009,187 5,171,450 Gross profit as a percentage of net sales 64.7% 63.4% 1.3% 66.3% 64.5% 1.8% Operating expenses 8,226,029 11,542,628
(3,316,599) 33,053,962 18,683,905 14,370,057 (Increase) decrease on contingent liability
(7,580,000) (21,547,606) 64.8% 30,580,000 (52,461,680) 158.3% Net income (loss) before taxes (8,944,921) (28,021,178) 68.1% 16,669,518 (62,074,970) 126.9% Net income (loss) attributable to cbdMD, Inc. common shareholders$(9,052,752) $(27,699,249) 67.3%
$18,594,035 $(61,600,703) 130.2% Sales We record product sales primarily through two main delivery channels, direct to consumers via online capabilities (E-commerce) and direct to wholesalers utilizing our internal sales team. In addition, we record revenue upon delivery of services (consulting, marketing and brand strategy). The following table provides information on the contribution of net sales by type of sale to our total net sales. Three months ended Three months ended June 30, 2020 % of total June 30, 2019 % of total Wholesale sales$2,410,719 22.7%$3,366,807 42.1% Consumer sales 8,225,826 77.3% 4,638,342 57.9%
Service oriented sales - 0% - 0%
Total net sales$10,636,545 $8,005,149 Nine months ended Nine months ended June 30, 2020 % of total June 30, 2019 % of total Wholesale sales$8,238,832 27.3%$4,741,900 33.6% Consumer sales 21,944,985 72.7% 9,365,514 66.4% Service oriented sales - 0% - 0% Total net sales$30,183,817 $14,107,414 Of our total net sales as indicated above, during the three months endedJune 30, 2020 and 2019 our Paw CBD line accounted for net sales of$1,228,860 and$593,718 , respectively and for the nine months endedJune 30, 2020 and 2019 accounted for net sales of$2,818,414 and$1,211,999 , respectively. 37 Cost of sales Our cost of sales includes costs associated with distribution, fill and labor expense, components, manufacturing overhead, third-party providers, and outbound freight for our product sales (consumer and wholesale sales), and includes labor for our service sales. The following table provides information on the cost of sales to our net sales for the three and nine months endedJune 30, 2020 and 2019: Three months ended Three months ended June 30, 2020 June 30, 2019 change
Product sales
13,860 (13,860) Total cost of sales$3,748,024 $2,929,160 $818,864 Nine months ended Nine months ended June 30, 2020 June 30, 2019 change
Product sales
53,120 (53,120)
Total cost of sales
Our cost of sales as a percentage of sales was 35.2% and 36.6% for the three months endedJune 30, 2020 and 2019, respectively, and was 33.7% and 35.5% for the nine months endedJune 30, 2020 ad 2019, respectively. The change reflects the growth and maturation of the business and its manufacturing process, and changes in the cost of raw materials as we continue to evaluate key vendors to work with and leverage volume purchasing as we grow as well as additional product offerings which continue to impact our cost of production. We expect product sales will maintain cost of sales as a percentage of net sales, between 30% and 37%, as we continue to manage our overall cost for manufacturing and production. Operating expenses
Our principal operating expenses include staff related expense, advertising (which includes expenses related to industry distribution and trade shows), sponsorships, affiliate commissions, merchant fees, technology, travel, rent, professional service fees, and business insurance expense. Our operating expenses on a consolidated basis decreased approximately 28.7% for the three months endedJune 30, 2020 from the same period endedJune 30, 2019 . The decrease can be attributed to the implementation of cost controls as we have set our eyes on continued growth and positive cash flow as well as additional cost reductions as a result of the COVID pandemic. Our operating expense on a consolidated basis increased approximately 76.9% for the nine months endedJune 30, 2020 from the same periods endedJune 30, 2019 , respectively, and is directly related to the Mergers onDecember 20, 2018 and the significant growth and ramp up of our CBD business to build the brand. 38
The following table provides information on our approximate operating expenses
for the three and nine months ended
Three months ended June 30, Three months ended 2020 June 30, 2019 change Staff related expense$3,290,812 $2,952,018 $338,794 Accounting/legal expense 212,766 132,507 80,259
Professional outside services 120,303 684,389
(564,086)
Advertising/marketing/social media/events/tradeshows 1,699,262 2,582,685 (883,423) Sponsorships 588,059 780,939 (192,880) Affiliate commissions 504,440 574,361 (69,921) Merchant fees 522,374 626,330 (103,956) Technology 363,936 174,077 189,859 Travel expense 10,916 283,786 (272,870) Rent expense 401,231 100,289 300,942 Business insurance 125,450 87,869 37,581 Non-cash stock compensation 331,985 1,389,224 (1,057.239) All other expenses 54,495 1,174,155 (1,119,660) Totals$8,226,029 $11,542,629 $(3,316,600) During the three months endedJune 30, 2020 , the Company implemented various cost control measures with a focus on supporting the business growth while reaching a positive cash flow operation and in addition adjusted other expenses in relation to the COVID-19 pandemic. As a result, we have reduced our merchant fee expense, sponsorships, outside services, and other general expenses. As many events and tradeshows have been canceled during COVID-19 we have had a reduction in overall advertising/marketing expense and in addition have adjusted and focused key marketing/advertising expenses in our ongoing budget for this significant category. Nine months ended Nine months ended June 30, 2020 June 30, 2019 change Staff related expense$11,193,791 $5,467,349 $5,726,442 Accounting/legal expense 938,859 670,329 268,530 Professional outside services 962,407 1,366,025 (403,618) Advertising/marketing/social media/events/tradeshows 7,534,488 4,174,166 3,360,322 Sponsorships 4,160,366 780,939 3,379,427 Affiliate commissions 1,434,048 1,052,200 381,848 Merchant fees 1,937,836 1,030,138 907,698 Technology 904,994 225,936 679,058 Travel expense 379,959 420,137 (40,178) Rent expense 1,145,422 274,504 870,918 Business insurance 391,113 245,231 145,882 Non-cash stock compensation 1,447,860 1,552,372 (104,512) All other expenses 622,819 1,424,579 (801,760) Totals$33,053,962 $18,683,905 $14,370,057 39
During the nine months endedJune 30, 2020 and 2019, the increase in staff related expense is a direct result of the build out of the CBDI team. The decrease in professional outside services is related to the use of outside agencies and firms to support the growth while we built our infrastructure and added staff to handle certain functions. The increase in advertising/marketing, sponsorships, affiliate commissions, and technology are a result of execution on the business strategy and building of the CBD brand while increasing market share. The increase in merchant fees is a direct result of increased business through our E-commerce site. The non-cash stock compensation expense reflects the value of restricted stock awards and options as they vest. The significant increase in operating expenses is related to the continued ramping up of the CBDI business, which included increased staff hiring, a full blown sales, advertising and marketing process and expenses related to infrastructure expansion. With an established business foundation and infrastructure, we are now focused on activation of our assets to continue to build our brand while we transition with a focus on overall execution and profitability.
Corporate overhead and allocation of management fees to our segments
Included in our consolidated operating expenses are expenses associated with our corporate overhead which are not allocated to the operating business unit, including (i) staff related expenses; (ii) accounting and legal expenses; (iii) professional outside services; (iv) travel and entertainment expenses; (v) rent; (vi) business insurance; and (vii) non-cash stock compensation expense.
The following table provides information on our approximate corporate overhead
for three and nine months ended
Three months ended Three months ended June 30, 2020 June 30, 2019 change Staff related expense$276,490 $186,532 $89,958 Accounting/legal expense 81,198 130,152 (48,954) Professional outside services 45,566 307,181 (261,615) Travel expense - 36,323 (36,323) Business insurance 99,875 58,131 41,744 Non-cash stock compensation 331,985 1,389,224 (1,057,239) Totals$835,114 $2,107,543 $(1,272,429) Nine months ended Nine months ended June 30, 2020 June 30, 2019 change Staff related expense$986,731 $952,333 $34,398 Accounting/legal expense 517,090 665,680 (148,590) Professional outside services 365,596 793,323 (427,727) Travel expense 22,342 80,279 (57,937) Business insurance 282,339 198,945 83,394 Non-cash stock compensation 1,447,860 1,552,372 (104,512) Totals$3,621,958 $4,242,932 $(620,974)
The corporate operating expenses are primarily related to the ongoing public company related activities.
40
Other income and other non-operating expenses
Interest income (expense)
Our interest income (expense) was$3,436 and$6,229 for the three months endedJune 30, 2020 and 2019, respectively. For the nine months endedJune 30, 2020 and 2019, our interest income (expense) was$46,311 and$50,189 , respectively.
Contingent liability
As consideration for the Mergers, under the terms of the Merger Agreement, we had a contractual obligation to issue 15,250,000 initial shares of our common stock (the "Initial Shares"), after approval by our shareholders, to the members ofCure Based Development , to be issued in two tranches 6,500,000 shares and 8,750,000 shares, both of which are subject to leak out provisions. The unrestricted voting rights to 8,750,000 tranche of shares vest over a five year period and until those voting rights vest are subject to voting proxy agreements. As ofJune 30, 2020 , unrestricted voting rights to 2,187,500 shares have vested and those shares are no longer subject to voting proxy agreements. The Merger Agreement also provided that an additional 15,250,000 Earnout Shares of our common stock can be issued upon the satisfaction of certain aggregate net revenue criteria by cbdMD within 60 months following the closing date of the Mergers. The Initial Shares and Earnout Shares were approved by our shareholders and the Initial Shares were issued onApril 19, 2019 . The Initial Shares value atApril 19, 2019 was$53,215,163 , and with the issuance of the Initial Shares, the contingent liability related to the Initial Shares was reclassified to shareholders' equity by$53,215,163 . In addition, the first marking period for the Earnout Shares wasDecember 31, 2019 and based on measurement criteria, 5,127,792 shares were issued onFebruary 27, 2020 and had a value of$4,620,000 . Additionally, as the 5,127,792 Earnout Shares were issued onFebruary 27, 2020 , the value of the shares in the amount of$4,620,000 was reclassified from the contingent liability to additional paid in capital on the balance sheet. The earn out provision is accounted for and recorded as a contingent liability with increases in the liability recorded as a non cash other expense and decreases in the liability recorded as a non cash other income. The value of the contingent liability was$15,400,000 and$7,820,000 atJune 30, 2020 andMarch 31, 2020 , respectively, and represents the balance of Earnout Shares not issued in the first marking period. The increase in value of$7,580,000 is recorded in the Statement of Operations for the three months endedJune 30, 2020 . The Company utilized both a market approach and a Monte Carlo simulation in valuing the contingent liability and a key input in both of those methods is the stock price. The main driver of the change in the value of the Earnout Shares within the contingent liability was the increase of the Company's stock price, which was$1.91 atJune 30, 2020 as compared to$0.93 onMarch 31, 2020 .
Realized and unrealized gain (loss) on marketable and other securities
We value investments in marketable securities at fair value and record a gain or loss upon sale at each period in realized and unrealized gain (loss) on marketable securities. For the three months endedJune 30, 2020 and 2019 we recorded$(30,849) and$(13,162) of realized and unrealized gain (loss) on marketable and other securities. For the nine months endedJune 30, 2020 and 2019 we recorded$(146,011) and$(77,802) of realized and unrealized gain (loss) on marketable and other securities. The discontinued operations recorded a realized and unrealized gain (loss) of$(484,289) and$(1,627,266) , for the three and nine months endedJune 30, 2019 , which is included in the net income (loss) from discontinued operations on the statement of operations. For the three and nine months endedJune 30, 2020 we had an impairment on other securities of$0 and$600,000 , respectively as well as an impairment of$0 and$160,000 , respectively, against other account receivable representing an investment other security that was to be received.
Liquidity and Capital Resources
We had cash and cash equivalents on hand of$15,006,319 and working capital of$19,725,327 atJune 30, 2020 as compared to cash on hand of$4,689,966 and working capital of$12,033,157 atSeptember 30, 2019 . Our current assets increased approximately 53.1% atJune 30, 2020 fromSeptember 30, 2019 , and is primarily attributable to an increase in cash and inventory, offset by a decrease in accounts receivable, marketable and other securities, merchant reserve, prepaid expenses, and assets from discontinued operations. Our current liabilities increased approximately 18.2% atJune 30, 2020 fromSeptember 30, 2019 . This increase is primarily attributable to increases in accrued expenses, note payable and operating lease short term liability offset by decreases in accounts payable. 41
During the three and nine months ended
We do not have any commitments for capital expenditures. We have a commitment for cumulative cash dividends at an annual rate of 8% payable monthly in arrears for the prior month to our preferred shareholders. We have multiple endorsement or sponsorship agreements for varying time periods up throughDecember 2022 and provide for financial commitments from the Company based on performance/participation (see Note 13 Commitments and Contingencies). We have sufficient working capital to fund our operations. Our goal from a liquidity perspective is to use operating cash flows to fund day to day operations and we have not met this goal as cash flow from operations has been a net use of$10,277,081 and$9,055,308 for the nine months endedJune 30, 2020 and 2019, respectively. OnOctober 16, 2019 we closed a follow-on firm commitment underwritten public offering of shares of our 8.0% Series A Convertible Preferred Stock resulting in total net proceeds to us of$4,525,100 . OnJanuary 15, 2020 , we closed a follow-on firm underwritten public offering of shares of our common stock resulting in total net proceeds to us of$16,928,100 . We are using the net proceeds from the offerings for brand development and expansion, advertising, marketing, and general working capital. In addition, as described earlier in this report, inApril 2020 we received a PPP Loan of$1,456,100 .
Related Parties
As described in Note 9 in notes to our consolidated financial statements appearing elsewhere in this report, we have engaged in related party transactions. We have reported transactions with related parties within the consolidated financial statements as well as within the notes to the consolidated financial statements.
Critical accounting policies
The preparation of financial statements and related disclosures in conformity with US GAAP and our discussion and analysis of our financial condition and operating results require our management to make judgments, assumptions and estimates that affect the amounts reported in our consolidated financial statements and accompanying notes. Note 1, "Organization and Summary of Significant Accounting Policies," of the Notes to our consolidated financial statements appearing elsewhere in this report describes the significant accounting policies and methods used in the preparation of our consolidated financial statements. Management bases its estimates on historical experience and on various other assumptions it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates, and such differences may be material. Please see Part II, Item 7 - Critical Accounting Policies appearing in our 2019 10-K for the critical accounting policies we believe involve the more significant judgments and estimates used in the preparation of our consolidated financial statements and are the most critical to aid you in fully understanding and evaluating our reported financial results. Management considers these policies critical because they are both important to the portrayal of our financial condition and operating results, and they require management to make judgments and estimates about inherently uncertain matters.
Recent accounting pronouncements
Please see Note 1 - Organization and Summary of Significant Accounting Policies appearing in the consolidated financial statements included in this report for information on accounting pronouncements.
Off balance sheet arrangements
As of the date of this report, we do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors. The term "off-balance sheet arrangement" generally means any transaction, agreement or other contractual arrangement to which an entity unconsolidated with us is a party, under which we have any obligation arising under a guarantee contract, derivative instrument or variable interest or a retained or contingent interest in assets transferred to such entity or similar arrangement that serves as credit, liquidity or market risk support
for such assets. 42 ITEM 3.
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