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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

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

For the quarterly period ended June 30, 2021

 

or

 

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

 

For the transition period from ___________ to ___________

 

Commission file number: 001-39868

 

Motorsport Games Inc.

(Exact Name of Registrant as Specified in Its Charter)

 

Delaware   86-1791356

State or Other Jurisdiction of

Incorporation or Organization

  I.R.S. Employer
Identification No.
     

5972 NE 4th Avenue

Miami, FL

  33137
Address of Principal Executive Offices   Zip Code

 

Registrant’s Telephone Number, Including Area Code: (305) 507-8799

 

Not Applicable

 

Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class   Trading Symbol(s)   Name of each exchange on which registered
Class A common stock, $0.0001 par value per share   MSGM  

The Nasdaq Stock Market LLC

(The Nasdaq Capital Market)

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

 

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

 

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

 

Large accelerated filer ☐ Accelerated filer ☐
Non-accelerated filer Smaller reporting company
  Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

 

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

 

As of August 10, 2021, the registrant had 11,635,897 shares of Class A common stock and 7,000,000 shares of Class B common stock outstanding.

 

 

 

 

 

 

Motorsport Games Inc.

Form 10-Q

For the Quarter Ended June 30, 2021

 

TABLE OF CONTENTS

 

    Page
Part I. FINANCIAL INFORMATION 1
Item 1. Condensed Consolidated Financial Statements (Unaudited) 1
  Condensed Consolidated Balance Sheets as of June 30, 2021 (Unaudited) and December 31, 2020 1
  Unaudited Condensed Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2021 and 2020 2
  Unaudited Condensed Consolidated Statements of Comprehensive Loss for the Three and Six Months Ended June 30, 2021 and 2020 3
  Unaudited Condensed Consolidated Statements of Stockholders’ Equity / Member’s Equity (Deficiency) for the Three and Six Months Ended June 30, 2021 and 2020 4
  Unaudited Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2021 and 2020 5
  Notes to Unaudited Condensed Consolidated Financial Statements 6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 25
Item 3. Quantitative and Qualitative Disclosures About Market Risk 36
Item 4. Controls and Procedures 36
     
Part II. OTHER INFORMATION 38
Item 1. Legal Proceedings 38
Item 1A. Risk Factors 38
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 38
Item 5. Other Information 38
Item 6. Exhibits  39
Signatures 40

 

 i 
 

 

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

 

 

Certain statements in this Quarterly Report on Form 10-Q (this “Report”) of Motorsport Games Inc. (the “Company,” “Motorsport Games,” “we,” “us” or “our”) are forward-looking statements within the meaning of federal securities laws, including statements that involve expectations, plans or intentions, such as, but not limited to, those relating to: our future business, results of operations or financial condition, including with respect to the ongoing effects of the coronavirus (“COVID-19”) pandemic; new or planned products or offerings, including the anticipated timing of our product launches, such as for our NASCAR 21: Ignition, British Touring Car Championship, iconic 24 Hours of Le Mans endurance race and the associated FIA World Endurance Championship, and INDYCAR video games, as well as the launch of our updated NASCAR Heat Mobile game; our intention to expand our license arrangements to other internationally recognized racing series and the platforms we operate on; our expectation that we will continue to derive significant revenues from sales of our products to a very limited number of distribution partners; our belief that additions to our existing portfolio of games centered around popular licensed racing series will provide us the opportunity to further grow our esports business by having more titles to produce our esports events; our expectation that we will continue to invest in technology, hardware and software to support our games and services, including with respect to security protections; our plans to introduce a slate of NASCAR branded casual gaming options for mobile devices; our intention to continue to look for opportunities to expand the recurring portion of our busines; our liquidity, cash flows and anticipated uses of cash; our plans and intentions with respect to our remediation efforts to address the material weaknesses in our internal control over financial reporting; our beliefs regarding the impact of any claims and litigation that we are subject to; industry trends, potential acquisitions; and management strategies. We use words such as “could,” “would,” “may,” “might,” “will,” “expect,” “likely,” “believe,” “continue,” “anticipate,” “estimate,” “intend,” “plan,” “project” and other similar expressions to identify some forward-looking statements, but not all forward-looking statements include these words. The forward-looking statements contained in this Report are based on assumptions that we have made in light of our industry experience and our perceptions of historical trends, current conditions, expected future developments and other factors we believe are appropriate under the circumstances. As you read and consider this Report, you should understand that these statements are not guarantees of performance or results. They involve risks, uncertainties (many of which are beyond our control) and assumptions. Although we believe that these forward-looking statements are based on reasonable assumptions, you should be aware that many factors could affect our actual operating and financial performance and cause our performance to differ materially from the performance anticipated in the forward-looking statements. Important factors that could cause our actual results to differ materially from those projected in any forward-looking statements are discussed in “Risk Factors” in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2020 as updated in subsequent SEC filings, which include, but are not limited to, the following principal risks:

 

If we do not consistently deliver popular products or if consumers prefer competing products, our business may be negatively impacted.

 

Our business and products are highly concentrated in the racing game genre, and our operating results may suffer if consumer preferences shift away from this genre.

 

If we do not provide high-quality products in a timely manner, our business may be negatively impacted.

 

The ongoing and prolonged COVID-19 pandemic has impacted our operations and could continue to adversely affect our business operations, financial performance and results of operations, the extent of which is uncertain and difficult to predict.

 

Declines in consumer spending and other adverse changes in the economy could have a material adverse effect on our business, financial condition and operating results.

 

We depend on a relatively small number of franchises for a significant portion of our revenues and profits.

 

Our ability to acquire and maintain licenses to intellectual property, especially for sports titles, affects our revenue and profitability.

 

The importance of retail sales to our business exposes us to the risks of that business model.

 

We primarily depend on a single third-party distribution partner to distribute our games for the retail channel, and our ability to negotiate favorable terms with such partner and its continued willingness to purchase our games is critical for our business.

 

We plan to continue to generate a portion of our revenues from advertising and sponsorship during our esports events. If we fail to attract more advertisers and sponsors to our gaming platform, tournaments or competitions, our revenues may be adversely affected.

 

We are reliant on the retention of certain key personnel and the hiring of strategically valuable personnel, and we may lose or be unable to hire one or more of such personnel.

 

The success of our business relies heavily on our marketing and branding efforts, and these efforts may not be successful.

 

If we do not adequately address the shift to mobile device technology by our customers, operating results could be harmed and our growth could be negatively affected.

 

Failure to adequately protect our intellectual property, technology and confidential information could harm our business and operating results.

 

Motorsport Network, LLC (“Motorsport Network”) controls the direction of our business and its ownership of our Class A common stock and Class B common stock will prevent you and other stockholders from influencing significant decisions.

 

If we are no longer controlled by or affiliated with Motorsport Network, we may be unable to continue to benefit from that relationship, which may adversely affect our operations and have a material adverse effect on us.

 

We have incurred significant losses since our inception, and we may continue to experience losses in the future.

 

Our limited operating history makes it difficult to evaluate our current business and future prospects, and we may not be able to effectively grow our business or implement our business strategies.

 

We are an emerging growth company and a smaller reporting company, and we cannot be certain if the reduced disclosure requirements applicable to us will make our Class A common stock less attractive to investors.

 

The dual class structure of our common stock may adversely affect the trading market for our Class A common stock.

 

Additionally, there are other risks and uncertainties described from time to time in the reports that we file with the Securities and Exchange Commission (the “SEC”). Should one or more of these risks or uncertainties materialize or should any of these assumptions prove to be incorrect, our actual operating and financial performance may vary in material respects from the performance projected in these forward-looking statements. Further, any forward-looking statement speaks only as of the date on which it is made, and except as required by law, we undertake no obligation to update any forward-looking statement contained in this Report to reflect events or circumstances after the date on which it is made or to reflect the occurrence of anticipated or unanticipated events or circumstances, except as otherwise required by law. New factors that could cause our business not to develop as we expect emerge from time to time, and it is not possible for us to predict all of them. Further, we cannot assess the impact of each currently known or new factor on our results of operations or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.

 

 ii 
 

 

PART I: FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

MOTORSPORT GAMES INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

 

   June 30, 2021   December 31, 2020 
   (unaudited)     
Assets          
           
Current assets:          
Cash  $28,303,204   $3,990,532 
Accounts receivable, net of allowances of $2,350,624 and $2,150,684, at June 30, 2021 and December 31, 2020, respectively   3,840,842    5,975,414 
Prepaid expenses and other current assets   1,312,923    507,177 
Total Current Assets   33,456,969    10,473,123 
Property and equipment, net   452,612    162,148 
Goodwill   5,099,065    137,717 
Intangible assets, net   19,657,911    5,568,452 
Deferred offering costs   -    749,370 
Other assets   -    296,200 
Total Assets  $58,666,557   $17,387,010 
           
Liabilities and Stockholders’ Equity / Member’s Equity          
           
Current liabilities:          
Accounts payable  $268,981   $705,951 
Accrued expenses   2,114,935    3,355,003 
Due to related parties   285,198    10,853,536 
Purchase commitment liability   3,126,314    - 
Total Current Liabilities   5,795,428    14,914,490 
Other non-current liabilities   917,640    856,694 
Total Liabilities   6,713,068    15,771,184 
           
Commitments and contingencies (Note 8)          
           
Stockholders’ Equity / Member’s Equity:          
Preferred stock, $0.0001 par value, 1,000,000 shares authorized; none issued and outstanding as of June 30, 2021 and December 31, 2020   -    - 
Class A common stock - $0.0001 par value; authorized 100,000,000 shares; 11,635,897 and 0 shares issued and outstanding as of June 30, 2021 and December 31, 2020, respectively   1,164    - 
Class B common stock - $0.0001 par value; authorized 7,000,000 shares; 7,000,000 and 0 shares issued and outstanding as of June 30, 2021 and December 31, 2020, respectively   700    - 
Additional paid-in capital   75,117,703    - 
Member’s equity   -    3,791,674 
Accumulated deficit   (24,418,403)   (4,826,335)
Accumulated other comprehensive (loss) income   (98,795)   4,928 
Total Stockholders’ Equity / Member’s Deficit Attributable to Motorsport Games Inc.   50,602,369    (1,029,733)
Non-controlling interest   1,351,120    2,645,559 
Total Stockholders’ Equity / Member’s Equity   51,953,489    1,615,826 
Total Liabilities and Stockholders’ Equity / Member’s Equity  $58,666,557   $17,387,010 

 

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

 

1
 

 

MOTORSPORT GAMES INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

 

   2021   2020   2021   2020 
   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2021   2020   2021   2020 
Revenues  $2,238,927   $3,888,817   $4,713,059   $7,123,384 
Cost of revenues [1]   906,303    1,272,239    1,688,111    2,340,736 
Gross profit   1,332,624    2,616,578    3,024,948    4,782,648 
                     
Operating expenses:                    
Sales and marketing [2]   704,222    722,046    1,728,440    1,360,185 
Development [3]   1,818,178    1,202,343    3,068,540    2,138,147 
General and administrative [4]   4,717,180    582,408    19,481,218    1,275,160 
Depreciation and amortization   66,448    8,511    97,223    27,462 
Total operating expenses   7,306,028    2,515,308    24,375,421    4,800,954 
(Loss) income from operations   (5,973,404)   101,270    (21,350,473)   (18,306)
Interest expense [5]   (31,899)   (218,500)   (151,438)   (217,360)
Gain (loss) attributable to equity method investment   -    41,008    1,370,837    (29,234)
Other income, net   44,360    44,688    84,707    32,858 
Net loss   (5,960,943)   (31,534)   (20,046,367)   (232,042)
Less: Net (loss) income attributable to non-controlling interest   (180,849)   46,781    (454,299)   85,904 
Net loss attributable to Motorsport Games Inc.  $(5,780,094)  $(78,315)  $(19,592,068)  $(317,946)
                     
Net loss attributable to Class A common stock per share [6]:                    
Basic and diluted[6] $(0.50)       $(1.88)     
                     
Weighted-average shares of Class A common stock outstanding [6]:                    
Basic and diluted[6]  11,494,919         10,421,910      

 

[1]Includes related party costs of $0 and $15,545 for the three months ended June 30, 2021 and 2020, respectively, and $0 and $83,801 for the six months ended June 30, 2021 and 2020, respectively. See Note 7 – Related Party Transactions.

 

[2]Includes related party expenses of $0 and $3,012 for the three months ended June 30, 2021 and 2020, respectively, and $0 and $68,479 for the six months ended June 30, 2021 and 2020, respectively. See Note 7 – Related Party Transactions.

 

[3]Includes related party expenses of $10,882 and $45,707 for the three months ended June 30, 2021 and 2020, respectively, and $11,459 and $119,663 for the six months ended June 30, 2021 and 2020, respectively. See Note 7 – Related Party Transactions.

 

[4]Includes related party expenses of $134,284 and $254,981 for the three months ended June 30, 2021 and 2020, respectively, and $1,570,518 and $591,544 for the six months ended June 30, 2021 and 2020, respectively. See Note 7 – Related Party Transactions.

 

[5]Includes related party expenses of $0 and $208,758 for the three months ended June 30, 2021 and 2020, respectively, and $105,845 and $208,758 for the six months ended June 30, 2021 and 2020, respectively. See Note 7 – Related Party Transactions.

 

[6]Basic and diluted net loss per Class A common stock is presented only for the period after the Company’s organizational transactions. See Note 1-Business Organization, Nature of Operations, Risks and Uncertainties and Basis of Presentation for a description of the organizational transactions. See Note 2-Summary of Significant Accounting Policies for the calculation of net loss per share.

 

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

 

2
 

 

MOTORSPORT GAMES INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(Unaudited)

 

   2021   2020   2021   2020 
   Three Months Ended
June 30,
   For the Six Months Ended
June 30,
 
   2021   2020   2021   2020 
Net loss  $(5,960,943)  $(31,534)  $(20,046,367)  $(232,042)
Other comprehensive loss:                    
Foreign currency translation adjustments   (70,809)   -    (103,723)   - 
Comprehensive loss   (6,031,752)   (31,534)   (20,150,090)   (232,042)
Comprehensive loss attributable to non-controlling interests   (180,849)   46,781    (454,299)   85,904 
Comprehensive loss attributable to Motorsport Games Inc.  $(5,850,903)  $(78,315)  $(19,695,791)  $(317,946)

 

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

 

3
 

 

MOTORSPORT GAMES INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY / MEMBER’S EQUITY

(Unaudited)

 

   Shares   Amount   Shares   Amount   Equity   Capital   Deficit   Income (Loss)   Games Inc.   Interest   Equity 
   For the Six Months Ended June 30, 2021 
                                   Total
Stockholders’
Equity /
       Total 
                               Accumulated   Member’s Equity        Stockholders’ 
   Class A   Class B       Additional       Other   Attributable   Non-   Equity / 
   Common Stock   Common Stock   Member’s   Paid-In   Accumulated   Comprehensive   to Motorsport   controlling   Member’s 
   Shares   Amount   Shares   Amount   Equity   Capital   Deficit   Income (Loss)   Games Inc.   Interest   Equity 
Balance - January 1, 2021   -   $-    -   $-   $3,791,674   $-   $(4,826,335)  $4,928   $     (1,029,733)  $2,645,559   $1,615,826 
Conversion of membership interests into shares of common stock   7,000,000    700    7,000,000    700    (3,791,674)   3,790,274    -    -    -    -    - 
Issuance of common stock in initial public offering, net [1]   3,450,000    345    -    -    -    63,073,783    -    -    63,074,128    -    63,074,128 
Stock-based compensation   330,633    33    -    -    -    9,076,883    -    -    9,076,916    -    9,076,916 
Purchase of additional interest in Le Mans   -    -    -    -    -    -    -    -    -    1,584,892    1,584,892 
Comprehensive loss:                                                       
Other comprehensive loss   -    -    -    -    -    -    -    (32,914)   (32,914)   -    (32,914)
Net loss   -    -    -    -    -    -    (13,811,974)   -    (13,811,974)   (273,450)   (14,085,424)
Balance - March 31, 2021   10,780,633   $1,078    7,000,000   $700   $-   $75,940,940   $(18,638,309)  $(27,986)  $57,276,423   $3,957,001   $61,233,424 
Issuance of common stock to Gaming Nation and Playfast   855,264    86    -    -    -    -    -    -    86    -    86 
Purchase of 704Games minority interest   -    -    -    -    -    (939,511)   -    -    (939,511)   (2,659,786)   (3,599,297)
ACO Investment in Le Mans joint venture   -    -    -    -    -    -    -    -    -    234,754    234,754 
Stock-based compensation   -    -    -    -    -    116,274    -    -    116,274    -    116,274 
Comprehensive loss:                                                       
Other comprehensive loss   -    -    -    -    -    -    -    (70,809)   (70,809)   -    (70,809)
Net loss   -    -    -    -    -    -    (5,780,094)   -    (5,780,094)   (180,849)   (5,960,943)
Balance - June 30, 2021   11,635,897   $1,164    7,000,000   $700   $-   $75,117,703   $(24,418,403)  $(98,795)  $50,602,369   $1,351,120   $51,953,489 

 

[1]Gross proceeds of $69,000,000 less offering costs of $5,925,872.

 

   For the Six Months Ended June 30, 2020 
                                   Total
Stockholders’ Equity /
       Total 
                               Accumulated   Member’s
Equity
       Stockholders’ 
   Class A   Class B       Additional       Other   Attributable   Non-   Equity / 
   Common Stock   Common Stock   Member’s   Paid-In   Accumulated   Comprehensive   to Motorsport   controlling   Member’s 
   Shares   Amount   Shares   Amount   Equity   Capital   Deficit   Income (Loss)   Games Inc.   Interest   Equity 
Balance - January 1, 2020   -   $-    -   $-   $-   $-   $(3,064,354)  $               -   $     (3,064,354)  $6,676,314   $3,611,960 
Net loss   -    -    -    -    -    -    (239,631)   -    (239,631)   39,123    (200,508)
Balance - March 31, 2020   -   $-    -   $-   $-   $-   $(3,303,985)  $-   $(3,303,985)  $6,715,437   $3,411,452 
Net loss   -    -    -    -    -    -    (78,315)   -    (78,315)   46,781    (31,534)
Balance - June 30, 2020   -   $-    -   $-   $-   $-   $(3,382,300)  $-   $(3,382,300)  $6,762,218   $3,379,918 

 

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

 

4
 

 

MOTORSPORT GAMES INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

   2021   2020 
   For the Six Months Ended
June 30,
 
   2021   2020 
         
Cash Flows from Operating Activities:          
Net loss  $(20,046,367)  $(232,042)
Adjustments to reconcile net loss to net cash used in operating activities:          
Depreciation and amortization   659,309    303,331 
Sales return and price protection reserves   199,940    369,597 
Stock-based compensation   9,193,190    - 
(Gain) loss on equity method investee   (1,370,837)   29,234 
Changes in operating assets and liabilities:          
Accounts receivable   2,149,685    41,635 
Prepaid expenses and other current assets   (751,480)   (998,225)
Other assets   25,000    (85,022)
Accounts payable   (579,061)   421,350 
Other non-current liabilities   60,946    850,593 
Accrued expenses   (804,871)   1,597,511 
Net Cash (Used In) Provided By Operating Activities   (11,264,546)   2,297,962 
           
Cash Flows From Investing Activities:          
Purchase of additional interest in Le Mans, net of cash acquired   153,250    - 
Acquisition of KartKraft   (1,000,000)   - 
Acquisition of Studio397   (12,785,463)   - 
Purchase of intangible assets   (27,928)   (891,999)
Purchase of property and equipment   (348,033)   (11,155)
Net Cash Used In Investing Activities   (14,008,174)   (903,154)
           
Cash Flows From Financing Activities:          
Advances from related parties   1,868,312    427,376 
Repayments on advances from related parties   (12,663,168)   (466,322)
Issuance of common stock in initial public offering, net [1]   63,661,128    - 
Payments of deferred offering costs   -    (27,848)
Purchase of 704Games minority interest   (3,599,211)   - 
Contributed capital from non-controlling shareholders   234,754    - 
Net Cash Provided By (Used In) Financing Activities   49,501,815    (66,794)
           
Effect of foreign exchange rate changes on cash   83,577    - 
           
Net Increase In Cash   24,312,672    1,328,014 
           
Cash - Beginning of the period   3,990,532    1,960,279 
           
Cash - End of the period  $28,303,204   $3,288,293 
           

 

[1] Gross proceeds of $69,000,000 less issuance costs of $5,338,872. See supplemental disclosure below for $587,000 of issuance costs paid in 2020.

 

           
Supplemental Disclosures of Cash Flow Information:          
Cash paid during the period for:          
Interest  $804,674   $- 
           
Non-cash investing and financing activities:          
Shares issued to 704Games former minority shareholders  $86   $- 
Purchase commitment liability  $3,126,314   $- 
Accrued loss on equity method investee  $-   $(14,429)
Reduction of additional paid-in capital for initial public offering
 issuance costs that were previously paid
  $587,000   $- 
Reduction of additional paid-in capital
 for purchased 704Games minority shares
  $939,511   $- 
Purchase of additional interest in Le Mans  $1,584,892   $- 

 

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

 

5
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

NOTE 1 - BUSINESS ORGANIZATION, NATURE OF OPERATIONS, RISKS AND UNCERTAINTIES AND BASIS OF PRESENTATION

 

Organization and Operations

 

Motorsport Gaming US LLC (“Motorsport Gaming”) was established as a limited liability company on August 2, 2018 under the laws of the State of Florida. On January 8, 2021, Motorsport Gaming converted into a Delaware corporation pursuant to a statutory conversion and changed its name to Motorsport Games Inc. (“Motorsport Games”). Upon effecting the corporate conversion on January 8, 2021, Motorsport Games now holds all the property and assets of Motorsport Gaming, and all of the debts and obligations of Motorsport Gaming were assumed by Motorsport Games by operation of law upon such corporate conversion. See “Note 6 – Stockholders’ Equity – Corporate Conversion” for additional details.

 

Motorsport Games, through its subsidiaries, including 704Games (as defined below) (collectively, the “Company”), is a leading racing game developer, publisher and esports ecosystem provider of official motorsport racing series throughout the world, including NASCAR, INDYCAR, the iconic 24 Hours of Le Mans endurance race and the associated World Endurance Championship, the British Touring Car Championship (the “BTCC”) and others. The Company develops and publishes multi-platform racing video games including for game consoles, personal computers (PCs) and mobile platforms. In addition, the Company organizes and facilitates esports tournaments, competitions, and events for its licensed racing games, as well as on behalf of third-party racing game developers and publishers.

 

On April 16, 2021, the Company acquired the remaining equity interests in 704Games Company whereby 704Games Company merged with 704Games LLC, a newly-formed Delaware limited liability company and a wholly-owned subsidiary of the Company, with 704Games LLC being the surviving entity in such merger. As used herein, “704Games” refers to (i) 704Games Company prior to the merger and (ii) 704Games LLC from and after the merger. On April 20, 2021, the Company acquired 100% of the share capital of Studio397 B.V. (“Studio397”), a company that specializes in realistic, accurate and engaging simulation racing experiences through their rFactor Technology platform. See “Note 3 – Acquisitions” for additional details.

 

COVID-19 Pandemic

 

The global spread of the ongoing and prolonged COVID-19 pandemic and its variants has created significant business uncertainty for the Company and others, resulting in volatility and economic disruption. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—COVID-19 Pandemic Update” in Part I, Item 2 of this Report for information relating to the impact of the COVID-19 pandemic on our business and operations.

 

6
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Basis of Presentation

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, such statements include all adjustments (consisting only of normal recurring items) which are considered necessary for a fair presentation of the Company’s unaudited condensed consolidated financial statements as of June 30, 2021 and for the three and six months ended June 30, 2021 and 2020. The Company’s results of operations for the three and six months ended June 30, 2021 are not necessarily indicative of the operating results for the full year ending December 31, 2021 or any other period. These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and related disclosures as of December 31, 2020 and 2019 and for the years then ended which are included the Company’s Annual Report on Form 10-K filed with the SEC on March 24, 2021 (the “2020 Form 10-K”).

 

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

There have been no material changes to the significant accounting policies included in the audited consolidated financial statements included in the 2020 Form 10-K, except as disclosed in this note.

 

Goodwill and Intangible Assets

 

The Company has recorded goodwill in connection with its acquisition of 704Games, Le Mans Esports Series Limited (the “Le Mans Joint Venture”) and Studio397 and has recorded indefinite lived intangible assets in connection with its acquisition of the Le Mans Joint Venture and KartKraft. Under Accounting Standards Codification (“ASC”) 350, Intangibles—Goodwill and Other (“ASC 350”), goodwill and indefinite lived intangible assets are not amortized, but are reviewed annually for impairment, or more frequently, if impairment indicators arise which may indicate that the Company may not be able to recover the carrying amount of the net assets of the reporting unit. The Company has determined that its reporting units align with its operating segments. See “Note 10 – Segment Reporting.” In evaluating goodwill for impairment, the Company may assess qualitative factors to determine whether it is more likely than not (that is, a likelihood of more than 50%) that the fair value of a reporting unit is less than its carrying amount. If the Company bypasses the qualitative assessment, or if the Company concludes that it is more likely than not that the fair value of a reporting unit is less than its carrying value, then the Company performs a one-step quantitative impairment test by comparing the fair value of a reporting unit with its carrying amount and recognizes a loss on impairment if the carrying value exceeds the fair value. In assessing the fair value of a reporting unit, the Company utilizes the Income Approach-Discounted Cash Flow Method as well as the Market Approach-Guideline Public Company Method.

 

Intangible assets that have finite lives are amortized over their estimated useful lives and are subject to the provisions of ASC 350. The Company’s intangible assets consist of the following which were acquired in connection with the acquisition of 704Games, the Le Mans Joint Venture, KartKraft and Studio397:

 

Intangible Asset    Useful Life
License agreements    6.5-16 years
Software    6-10 years
Distribution contracts    1 year
Employment and non-compete agreements    3 years

 

7
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

See “Note 3 – Acquisitions” for additional details regarding the acquisition of goodwill and intangible assets.

 

Revenue Recognition

 

The Company recognizes revenue under ASC 606, “Revenue from Contracts with Customers” (“ASC 606”). The Company determines revenue recognition through the following steps:

 

  Identification of a contract with a customer;
  Identification of the performance obligations in the contract;
  Determination of the transaction price;
  Allocation of the transaction price to the performance obligations in the contract; and
  Recognition of revenue when or as the performance obligations are satisfied.

 

The Company currently derives revenue principally from sales of its games and related extra content that can be played by customers on a variety of platforms, which includes game consoles, PCs, mobile phones and tablets. The Company’s product and service offerings include, but are not limited to, the following:

 

1)Sales of Games - Full console, PC and mobile games contain a software license that is delivered digitally or via physical disc at the time of sale;

 

2)Sales of Extra Content – Includes (a) extra content that is downloaded by console and PC players that provides the ability to customize and/or enhance their gameplay and (b) virtual currencies that provide mobile players with the ability to purchase extra content that allows them to customize and/or enhance their gameplay; and

 

3)Esports Competition Events - Hosting of online esports competitions that generate sponsorship revenue.

 

Sales of Games. Sales of games are generally determined to have a singular distinct performance obligation, as the Company does not currently have an obligation to provide future update rights or online hosting. As a result, the Company recognizes revenue equal to the full transaction price at the point in time the customer obtains control of the software license and the Company satisfies its performance obligation.

 

Sales of Extra Content. Revenue received from sales of extra content are derived primarily from the sale of (a) digital in-game content that is downloaded by the Company’s console and PC customers that enhance their gameplay experience, typically by providing car upgrades or additional drivers and (b) virtual currencies that can be used by mobile customers to purchase content that allows them to customize and/or enhance their gameplay. Virtual currencies may not be used for any purpose other than for these in-game purchases. Revenue related to extra content is recognized at the point in time the Company satisfies its performance obligation, which is generally at the time the customer obtains control of the extra content, either by downloading the digital in-game content or by using the virtual currencies to purchase extra content. For console and PC customers, extra content is either purchased in a pack or on a standalone basis. Revenue associated with extra content from console and PC customers is deferred until the content has been delivered digitally to the customer. Revenue associated with virtual currencies is deferred until the virtual currency has been used by the customer to purchase extra content, which is the point in time the customer obtains control.

 

Esports. The Company recognizes sponsorship revenue associated with hosting online esports competition events over the period of time the Company satisfies its performance obligation under the contract, which is generally the concurrent time the event is held and the customer obtains control. If the Company enters into a contract with a customer to sponsor for a series of esports events, the Company allocates the transaction price between the series of events and recognizes revenue over the period of time each event is held and the Company satisfies its performance obligation.

 

The timing of the Company’s revenue recognition may differ from the timing of payment by its customers. A receivable is recorded when revenue is recognized prior to payment and the Company has an unconditional right to payment. Alternatively, when payment precedes the provision of the related services, the Company records deferred revenue until the performance obligations are satisfied.

 

8
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

During the three and six months ended June 30, 2021 and 2020, there was no revenue recognized from performance obligations satisfied (or partially satisfied) in previous periods.

 

Identifying Performance Obligations

 

Performance obligations promised in a contract are identified based on the goods and services that will be transferred to the customer that are both capable of being distinct (i.e., the customer can benefit from the goods or services either on its own or together with other resources that are readily available), and are distinct in the context of the contract (i.e., it is separately identifiable from other goods or services in the contract). To the extent a contract includes multiple promises, the Company must apply judgment to determine whether those promises are separate and distinct performance obligations. If these criteria are not met, the promises are accounted for as a combined performance obligation.

 

Determining the Transaction Price

 

The transaction price is determined based on the consideration that the Company will be entitled to receive in exchange for transferring its goods and services to the customer. Determining the transaction price often requires significant judgment based on an assessment of contractual terms and business practices. It further includes review of variable consideration such as discounts, sales returns, price protection, and rebates, which is estimated at the time of the transaction. See below for additional information regarding the Company’s sales returns and price protection reserves.

 

Allocating the Transaction Price

 

Allocating the transaction price requires that the Company determine an estimate of the relative stand-alone selling price for each distinct performance obligation.

 

Principal Versus Agent Considerations

 

The Company evaluates sales to end customers of its full games and related content via third-party storefronts, including digital storefronts such as Microsoft’s Xbox Store, Sony’s PlayStation Store, Apple’s App Store, and Google’s Play Store, to determine whether or not the Company is acting as the principal or agent in the sale to the end customer. Key indicators that the Company evaluates in determining gross versus net treatment include but are not limited to the following:

 

the underlying contract terms and conditions between the various parties to the transaction;
which party is primarily responsible for fulfilling the promise to provide the specified good or service to the end customer;
which party has inventory risk before the specified good or service has been transferred to the end customer; and
which party has discretion in establishing the price for the specified good or service.

 

Based on an evaluation of the above indicators, the Company determined that, apart from contracts with customers where revenue is generated via the Apple’s App Store or Google’s Play Store, the third party is considered the principal and, as a result, the Company reports revenue net of the fees retained by the storefront. For contracts with customers where revenue is generated via the Apple’s App Store or Google’s Play Store, the Company has determined that it is the principal and, as a result, reports revenue on a gross basis, with mobile platform fees included within cost of revenues.

 

Sales Allowance, Sales Returns and Price Protection Reserves

 

Sales returns and price protection are considered variable consideration under ASC 606. The Company reduces revenue for estimated future returns and price protection which may occur with distributors and retailers (“channel partners”). See “Note 2 – Summary of Significant Accounting Policies – Accounts Receivable” in the 2020 Form 10-K for additional details. Price protection represents the Company’s practice to provide channel partners with a credit allowance to lower their wholesale price on a particular game unit that they have not resold to customers. The amount of the price protection for permanent markdowns is the difference between the original wholesale price and the new reduced wholesale price. Credits are also given for short-term promotions that temporarily reduce the wholesale price. When evaluating the adequacy of sales returns and price protection reserves, the Company analyzes the following: historical credit allowances, current sell-through of channel partners’ inventory of the Company’s products, current trends in retail and the video game industry, changes in customer demand, acceptance of products, and other related factors. In addition, the Company monitors the volume of sales to its channel partners and their inventories, as substantial overstocking in the distribution channel could result in high returns or higher price protection in subsequent periods. The Company recognized sales allowances and price protection reserves for the three and six months ended June 30, 2021 in the amount of $81,600 and $199,940, respectively, and for the three and six months ended June 30, 2020 in the amount of $216,689 and $314,517, respectively, which were included as reductions of revenues.

 

9
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Stock-Based Compensation

 

The Company measures the cost of services received in exchange for an award of equity instruments based on the fair value of the award. The fair value of the award is measured on the grant date. The fair value amount is then recognized over the period during which services are required to be provided in exchange for the award, usually the vesting period. Upon the exercise of an award, the Company issues new shares of common stock out of its authorized shares.

 

Net Loss Per Common Share

 

Basic net loss per common share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Diluted net loss per common share is computed by dividing net loss by the weighted average number of common and dilutive common-equivalent shares outstanding during each period. Dilutive common-equivalent shares consist of shares of options, if not anti-dilutive.

 

The following shares were excluded from the calculation of weighted average dilutive common shares because their inclusion would have been anti-dilutive:

 

   For the Three and
Six Months Ended
 
   June 30, 
   2021   2020 
Stock options   574,073     n/a 
Shares excluded in computation of earnings per common share   574,073    - 

 

Recently Issued Accounting Standards

 

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842) (“ASU 2016-02”), which applies a right-of-use model that requires a lessee to record, for all leases with a lease term of more than 12 months, an asset representing its right to use the underlying asset and a liability to make lease payments. ASU 2016-02 requires a lessor to classify leases as either sales-type, direct financing or operating, similar to existing U.S. GAAP requirements. Classification depends on the same five criteria used by lessees under U.S. GAAP plus certain additional factors. The new leases standard addresses other considerations including identification of a lease, separating lease and non-lease components of a contract, sale and leaseback transactions, modifications, combining contracts, reassessment of the lease term, and remeasurement of lease payments. Early adoption is permitted. This update is effective for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. The Company is currently evaluating the impact of this standard on its condensed consolidated financial statements and disclosures.

 

In November 2019, the FASB issued ASU 2019-11, “Codification Improvements to Topic 326, Financial Instruments – Credit Losses” (“ASU 2019-11”). ASU 2019-11 is an accounting pronouncement that amends ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The amendments update guidance on reporting credit losses for financial assets. These amendments affect loans, debt securities, trade receivables, net investments in leases, off balance sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive cash. The amendments in ASU 2019-11 are effective for annual reporting periods beginning after December 15, 2022, including interim periods within those fiscal years. All entities may adopt the amendments through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (that is, a modified-retrospective approach). The Company is currently evaluating the impact of this standard on its condensed consolidated financial statements and disclosures.

 

10
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes” (“ASU 2019-12”). The amendments in ASU 2019-12 simplify the accounting for income taxes by removing certain exceptions to the general principles in Topic 740. The amendments also improve consistent application of and simplify U.S. GAAP for other areas of Topic 740 by clarifying and amending existing guidance. This update is effective for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. Early adoption of the amendments is permitted, including adoption in any interim period for periods for which financial statements have not yet been made available for issuance. An entity that elects to early adopt the amendments in an interim period should reflect any adjustments as of the beginning of the annual period that includes that interim period. Additionally, an entity that elects early adoption must adopt all the amendments in the same period. The Company is currently evaluating the impact of this standard on its condensed consolidated financial statements and disclosures.

 

In January 2020, the FASB issued Accounting Standards Update No. 2020-01—Investments—Equity Securities (Topic 321), Investments—Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815)—Clarifying the Interactions between Topic 321, Topic 323, and Topic 815 (a consensus of the Emerging Issues Task Force) (ASU 2020-01). The amendments in this ASU clarify certain interactions between the guidance to account for certain equity securities under Topic 321, the guidance to account for investments under the equity method of accounting in Topic 323, and the guidance in Topic 815, which could change how an entity accounts for an equity security under the measurement alternative or a forward contract or purchased option to purchase securities that, upon settlement of the forward contract or exercise of the purchased option, would be accounted for under the equity method of accounting or the fair value option in accordance with Topic 825, Financial Instruments. These amendments improve current U.S. GAAP by reducing diversity in practice and increasing comparability of the accounting for these interactions. ASU 2020-01 is effective for the Company on January 1, 2022. The Company is currently evaluating the impact of this standard on its condensed consolidated financial statements and disclosures.

 

Income Taxes

 

On January 8, 2021, Motorsport Gaming, a Florida limited liability company, converted into Motorsport Games, a Delaware corporation, pursuant to a statutory conversion.

 

The Company is subject to federal and state income taxes in the U.S. The Company files income tax returns in the jurisdictions in which nexus threshold requirements are met.

 

The Company recognizes deferred tax assets and liabilities for the expected future tax consequences of items that have been included or excluded in the financial statements or tax returns. Deferred tax assets and liabilities are determined on the basis of the difference between the tax basis of assets and liabilities and their respective financial reporting amounts (“temporary differences”) at enacted tax rates in effect for the years in which the temporary differences are expected to reverse. ASC 740 requires that a valuation allowance be established when it is “more likely than not” that all, or a portion of, deferred tax assets will not be realized. After the performance of such reviews as of June 30, 2021, management determined that uncertainty exists with respect to the future realization of its deferred tax assets and has, therefore, established a full valuation allowance as of such date.

 

The Company utilizes a recognition threshold and measurement process for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.

 

The Company’s policy is to classify assessments, if any, for tax-related interest as interest expense and penalties as general and administrative expenses in its condensed consolidated statements of operations.

 

11
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

NOTE 3 – ACQUISITIONS

 

Le Mans

 

In January 2021, the Company, entered into an Amendment (the “Le Mans Amendment”) to the Le Mans Esports Series Ltd Joint Venture Agreement with Automobile Club de l’Ouest, a company registered in France (“ACO”). Pursuant to the Le Mans Amendment, the Company increased its ownership share in the Le Mans Joint Venture, from 45% to 51%, with the Company now holding a majority ownership share and ACO holding a 49% minority ownership share in the Le Mans Joint Venture.

 

Pursuant to the Le Mans Amendment, the parties expanded the primary objective and purpose of the Le Mans Joint Venture to include the creation, development, and publishing of video games based on the FIA World Endurance Championship and the 24 Hours of Le Mans, in addition to operating, promoting, and running an electronic sports events business replicating races of the FIA World Endurance Championship and the 24 Hours of Le Mans on an electronic gaming platform.

 

Pursuant to the Le Mans Amendment, if the board of directors of the Le Mans Joint Venture determines that the Le Mans Joint Venture’s working capital requirements for the development of future games exceeds its resources, the Company will be obligated to contribute such additional funding to the Le Mans Joint Venture as a loan (which loan shall bear no interest). Any such loan is required to be repaid when additional funding is no longer required by the Le Mans Joint Venture, as determined by its board of directors, with such repayment to occur prior to the Le Mans Joint Venture’s distribution of any of its profits to the shareholders of the Le Mans Joint Venture.

 

Further, pursuant to the Le Mans Amendment, the Company has a right to priority distribution of profits to recoup the additional funding and royalty payments that serve as the consideration for the Le Mans Video Gaming License (as defined below).

 

In January 2021, simultaneously with the execution of the Le Mans Amendment, the Le Mans Joint Venture and ACO entered into a license agreement pursuant to which the Le Mans Joint Venture was granted an exclusive license to use certain licensed intellectual property described in such license agreement for motorsports and/or racing video gaming products related to, themed as, or containing the FIA World Endurance Championship and the 24 Hours of Le Mans (including the Le Mans Joint Venture’s esports web platform) (the “Le Mans Video Gaming License”).

 

The Le Mans Video Gaming License’s term is through January 25, 2031. The term will automatically renew for an additional 10-year term. In exchange for the Le Mans Video Gaming License, the Company agreed to fund up to €8,000,000 (approximately $9,000,000) as needed by the Le Mans Joint Venture for development of the video game products, to be contributed on an as-needed basis during the term of the Le Mans Video Gaming License. Additionally, the Company is obligated to pay ACO an annual royalty payment beginning from the time of the launch of the first video game product and continuing each anniversary thereof for the term of the license.

 

In January 2021, the Le Mans Joint Venture (a 51% controlled subsidiary of the Company) and ACO entered into another license agreement pursuant to which the Le Mans Joint Venture was granted an exclusive license to use certain licensed intellectual property described in such license agreement for motorsports and/or racing esports events related to, themed as, or containing the FIA World Endurance Championship and the 24 Hours of Le Mans (including the Le Mans Joint Venture’s esports web platform) (the “Le Mans Esports License”).

 

The Le Mans Esports License’s term is through January 25, 2031. The term of the Le Mans Esports License will automatically renew for an additional 10-year term. The Le Mans Esports License was granted to the Le Mans Joint Venture on a royalty-free basis in consideration of the investments already made into the Le Mans Joint Venture by the Company and ACO.

 

In January 2021, the Le Mans Joint Venture and ACO entered into another esports license agreement pursuant to which the Le Mans Joint Venture was granted an exclusive license to use certain licensed intellectual property described in such license agreement to run, promote, and exploit the 24 Hours of Le Mans Virtual event (the “24 Hours of Le Mans Virtual License”).

 

The 24 Hours of Le Mans Virtual License’s term is through January 25, 2031. The term will automatically renew for an additional 10-year term. The 24 Hours of Le Mans Virtual License was granted to the Le Mans Joint Venture on a royalty-free basis in consideration of the investments already made into the Le Mans Joint Venture by the Company and ACO.

 

12
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The following key assumptions were utilized by the Company: (i) revenue projections; (ii) risk-free rate, which was estimated based on the rate of treasury securities with the same term as the mid-period of the projection periods; and (iii) revenue volatility, which was estimated based on an analysis of historical asset volatilities for similar companies and adjusted for operating leverage to estimate revenue volatility.

 

The purchase price allocation for the Le Mans Joint Venture was completed subsequent to the acquisition date. The aggregate purchase price was allocated to the assets acquired and liabilities assumed as follows:

 

   Valuation Method  Discount Rate   GBP   USD 
Cash  -   -   £257,232   $350,626 
Other assets  -   -    858    1,169 
Le Mans Gaming license  Excess earning Method   30.00%   843,682    1,150,000 
Le Mans Esport license  Excess earning Method   30.00%   1,217,836    1,660,000 
Goodwill  Cost-to-recreate   30.00%   47,848    66,280 
Accounts payable  -        (5,147)   (7,016)
Non-controlling interest  Business Enterprise Income   30.00%   (1,157,531)   (1,573,624)
FX translation adjustment           -    (1,059)
Total Fair value of Member’s equity          £1,204,778   $1,646,376 
Fair value of the previously held interest          £1,062,999   $1,449,000 
Fair value of the consideration          £141,779   $197,376 

 

Results of operations of the Le Mans Joint Venture for the period from January 25, 2021 to June 30, 2021 included $109,390 in operating expenses. It is impracticable to disclose revenues and net income (loss) on an unaudited pro forma basis, as the Company does not have access to the required financial information of the Le Mans Joint Venture prior to the acquisition date.

 

The acquisition of the Le Mans Joint Venture has been recorded in accordance with ASC 805, Business Combinations. The transactions were taxable for income tax purposes and all assets and liabilities have been recorded at fair value for both book and income tax purposes. Therefore, deferred taxes have been recorded as required.

 

KartKraft

 

In March 2021, the Company acquired all assets comprising the KartKraft computer video game from Black Delta Holdings PTY, Black Delta Trading Pty Ltd and Black Delta IP Pty Ltd. (collectively, “Black Delta”). The purchase price for the assets was $1,000,000, of which $750,000 was paid at closing and $250,000 was transferred to an escrow account, which will be released on the 6-month anniversary of closing. Through this acquisition, the Company plans to enter the simulated kart-racing space. Motorsport Games has founded a new company, Motorsport Games Australia to support the Black Delta’s development team.

 

The purchase price allocation for the KartKraft acquisition was completed subsequent to the acquisition date. The aggregate purchase price was allocated to the assets acquired and liabilities assumed as follows:

 

Intangible Asset  Valuation Method  Discount Rate   USD 
KartKraft Trade Name  Relief-from-Royalty   27.50%  $108,000 
Technology  Replacement cost   25.00%   833,000 
Employment & Non-Compete  With & Without Method   25.00%   59,000 
Total Consideration          $1,000,000 

 

Results of operations of KartKraft for the period from March 18, 2021 to June 30, 2021 included $94,026 in operating expenses. It is impracticable to disclose revenues and net income (loss) on an unaudited pro forma basis, as the Company does not have access to the requisite financial information of KartKraft prior to the acquisition date.

 

13
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The KartKraft acquisition has been recorded in accordance with ASC 805, Business Combinations. The transactions were taxable for income tax purposes and all assets and liabilities have been recorded at fair value for both book and income tax purposes. Therefore, deferred taxes have been recorded as required.

 

Studio397

 

In April 2021, the Company closed the transactions contemplated by the share purchase agreement, dated April 1, 2021 (the “SPA”), with Luminis International BV (“Luminis”) and Technology In Business B.V. (“TIB”) pursuant to which the Company purchased from TIB 100% of the share capital (the “Studio397 Shares”) of Studio397. Studio397 is a racing simulation and technology company that provides the industry-leading racing simulation platform, rFactor2. Since early 2020, Studio397 has been providing its vehicle physics, tire modeling and artificial intelligence software to the Company’s video games.

 

The purchase price for the Studio397 Shares was $16,000,000, payable in the following two installments: $12,800,000 was paid at closing (the “Completion Payment”) and $3,200,000 on the first anniversary of closing (the “Deferred Payment”). The Deferred Payment was discounted to $3,111,781 using a 2.8% discount rate as of the acquisition date and a payment date of April 20, 2022. The balance of the deferred payment as of June 30, 2021 was $3,126,314.

 

To secure the Company’s payment of the Deferred Payment, the Company granted a right of pledge on 20% of the Shares (“Pledged Shares”) by means of execution of a deed of pledge at the closing of the transactions contemplated by the SPA. The voting rights attached to the Pledged Shares will be transferred to TIB if and to the extent that the Company fails to pay the Deferred Payment within 30 business days following receipt of TIB’s notice of such failure.

 

TIB agreed to fund Studio397 with sufficient funds from its proceeds of the Completion Payment at closing by way of share premium contribution so as to enable Studio397 to fully settle at closing the royalty payment amounts to be paid to Image Space Incorporated by Studio397 pursuant to the buy-out agreement, dated December 7, 2020, between Image Space Incorporated and Studio397.

 

The purchase price allocation for total invested capital of $15,911,781 was completed subsequent to the Studio397 acquisition date. The aggregate purchase price was allocated to the assets acquired and liabilities assumed as follows:

 

   Valuation Method  Discount Rate   Amount 
Debt-free net working capital  -   -   $(12,450)
Fixed assets  -   -    21,504 
rFactor 2 Trade Name   Relief-from-Royalty   9.80%   3,040,000 
Technology  Replacement Cost   9.80%   7,010,000 
Employment & Non-Compete Agreements  With & Without Method   9.80%   214,000 
Internally developed franchise  Excess earning Method   9.80%   678,000 
Goodwill  Cost-to-recreate   10.00%   4,895,069 
FX translation adjustment           65,658 
Total Consideration          $15,911,781 

 

Studio397’s results of operations for the period from April 20, 2021 to June 30, 2021 included $470,564 in revenues, $286,795 in cost of sales, $469,277 in operating expenses and $341 of other income. On an unaudited pro forma basis, if the acquisition had occurred on April 1, 2021, the Company’s consolidated revenues and net loss for three months ended June 30, 2021 would have been $2,335,293 and $6,096,648, respectively. On an unaudited pro forma basis, if the acquisition had occurred on January 1, 2021, the Company’s consolidated revenues and net loss for six months ended June 30, 2021 would have been $5,417,086 and $20,508,133, respectively.

 

14
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The components of debt free net working capital deficit are as follows:

 

Current assets:     
Projects to be invoiced  $192,658 
Trade debtors   26,121 
Paid in advance   47,168 
Total current assets  $265,947 
      
Less current liabilities:     
Trade creditors   140,049 
Advance invoices/payments   41,063 
Audit costs   7,148 
Holiday allowances   49,242 
Bonuses   42,035 
Taxes and social securities   (1,140)
Total current liabilities  $278,397 
      
Debt free net working capital deficit  $(12,450)

 

The Studio397 acquisition has been recorded in accordance with ASC 805, Business Combinations. The transaction was taxable for income tax purposes and all assets and liabilities have been recorded at fair value for both book and income tax purposes. Therefore, deferred taxes have been recorded as required.

 

704Games Company

 

In April 2021, the Company closed the transactions contemplated by each of (i) the share exchange agreement with PlayFast Games, LLC, a North Carolina limited liability (“PlayFast”), dated as of March 11, 2021, as amended by that certain amendment dated as of April 1, 2021 (as amended, the “PlayFast Exchange Agreement”) and (ii) the share exchange agreement with Ascend FS, Inc., a British Columbia corporation (“Ascend”), dated as of March 14, 2021, as amended by that certain amendment dated as of April 1, 2021 (as amended, the “Ascend Exchange Agreement”). As a result, the Company acquired all of the remaining equity interests in 704Games.

 

The transactions contemplated by the PlayFast Exchange Agreement and the Ascend Exchange Agreement were structured as a merger of 704Games Company with and into 704Games LLC, a newly-formed Delaware limited liability company and wholly-owned subsidiary of the Company, with 704Games LLC being the surviving entity in such merger. The merger consideration issued to (i) PlayFast with respect to the shares of common stock of 704Games Company it surrendered in such merger consisted of 366,542 newly-issued shares of the Company’s Class A common stock and $1,542,519 in cash and (ii) Ascend with respect to the shares of common stock of 704Games Company it surrendered in such merger consisted of 488,722 newly-issued shares of the Company’s Class A common stock and $2,056,692 in cash.

 

Pursuant to the PlayFast Exchange Agreement and the Ascend Exchange Agreement, the Company and the other defendants, without admitting any liability by any party, were released from all claims that Ascend or PlayFast could allege or assert against the Company as minority stockholders of 704Games. Pursuant to the Ascend Exchange Agreement, the derivative legal action previously commenced by Ascend was dismissed with prejudice on April 25, 2021.

 

The Company’s consolidated revenue and net loss for the three and six months ended June 30, 2021 would have been the same as reported on the Condensed Consolidated Statements of Operations if the acquisition had occurred on January 1, 2021 and April 1, 2021, respectively.

 

15
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

NOTE 4 - INTANGIBLE ASSETS

 

Licensing Agreement

 

On May 29, 2020, the Company secured a licensing agreement with the BARC (TOCA) Limited (“BARC”), the exclusive promoter of the BTCC. Pursuant to this agreement, the Company was granted an exclusive license to use certain licensed intellectual property for motorsports and/or racing video gaming products related to, themed as, or containing the BTCC, on consoles, PC and mobile applications, esports series and esports events (including the Company’s esports platform). In exchange for the license, this agreement requires the Company to pay BARC an initial fee in two installments, the first of which was due on June 5, 2020 and the second installment on the earlier of 60 days after the release of the products contemplated by the license or May 29, 2022. Following the initial fee, this agreement also requires the Company to pay royalties, including certain minimum annual guarantees, on an ongoing basis to BARC and to meet certain product distribution, marketing and related milestones, subject to termination penalties. In connection with this licensing agreement, the Company acquired the BTCC license with a cost of $891,999. The Company began recognizing amortization expense during the year ended December 31, 2020 over the six-and-a-half year useful life, as the license terminates on December 31, 2026. As of June 30, 2021, the Company had a remaining liability in connection with this licensing agreement of $832,505, which is included in other non-current liabilities on the condensed consolidated balance sheets.

 

In connection with the acquisition of the Le Mans Joint Venture, the Company acquired the following intangible assets (See Note 3 – Acquisitions for additional details):

 

Intangible Asset  Useful Life  Cost 
Gaming license  Indefinite  $1,150,000 
Esport license  Indefinite   1,660,000 
Total     $2,810,000 

 

In connection with the acquisition of KartKraft, the Company acquired the following intangible assets (See Note 3 – Acquisitions for additional details):

 

Intangible Asset  Useful Life  Cost 
KartKraft Trade Name  Indefinite  $108,000 
Software  6 Years   833,000 
Employment & Non-Compete  3 Years   59,000 
Total     $1,000,000 

 

In connection with the acquisition of Studio397, the Company acquired the following intangible assets (See Note 3 – Acquisitions for additional details):

 

Intangible Asset  Useful Life  Cost 
Technology  6 years  $7,010,000 
rFactor 2 Trade Name  Indefinite   3,040,000 
Internally developed franchise  10 years   678,000 
Employment & Non-Compete Agreements  3 years   214,000 
         
Total     $10,942,000 

 

16
 

 

Motorsport Games Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Intangible assets consist of the following:

 

   Licensing
Agreements
   Software   Distribution
Contracts
   Trade Name
(Indefinite)
   Non-Compete
Agreement
   Domain Name
(Indefinite)
   Accumulated
Amortization
   Total 
Balance as of January 1, 2021  $4,511,999   $2,340,000   $560,000   $-   $-   $-   $(1,843,547)  $5,568,452 
Intangible assets acquired through business combination   2,839,947    832,754    -    107,968    58,983    -    -    3,839,652 
Purchase of intangible assets   -    -    -    -    -    26,000    -    26,000 
Amortization expense   -    -    -    -    -    -    (110,297)   (110,297)
Balance as of March 31, 2021   7,351,946    3,172,754    560,000    107,968    58,983    -    (1,953,844)   9,323,807 
Intangible assets acquired through business combination   -    7,688,000    -    3,040,000    214,000    -    -    10,942,000 
Purchase of intangible assets   -    -    -    -    -    1,928    -    1,928 
Amortization expense   -    -    -    -    -    -    (471,114)   (471,114)
FX translation adjustments