10-K 1 form10k.htm 10-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549

FORM 10-K

(Mark One)

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

For the Fiscal Year Ended December 31, 2017

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

For the Transition Period From ____________ to ____________

Commission File No. 001-36696

STANDARD DIVERSIFIED OPPORTUNITIES INC.

(Exact name of Registrant as specified in its charter)

 
Delaware
 
56-1581761
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer identification no.)

 155 Mineola Boulevard
   
Mineola, NY
 
11501
(Address of principal executive offices)
 
(Zip Code)
 
Registrant’s telephone number, including area code: (516) 248-1100
 

 
(Former name or former address if changed since last report.)

 1521 Concord Pike, Suite 301
Wilmington, DE 19803

Securities registered pursuant to Section 12(b) of the Act:
 
Title of Each Class
 
Name of Each Exchange on Which Registered
Class A Common Stock, $0.01 par  value
 
None
 
Securities registered pursuant to Section 12(g) of the Act:

None
 

 
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes No

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.     Yes No
 
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 and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.

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. (Check one):
 
Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
Emerging growth company
(Do not check if a smaller reporting 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

The aggregate market value of the Class A common stock and Class B common stock held by non-affiliates of the Registrant was approximately $6.6 million and $5.6 million, respectively, calculated by using the number of shares of Class A and Class B common stock outstanding and the closing price of the Class A common stock on June 30, 2017 (the last business day of the Registrant’s most recently completed second fiscal quarter).  Shares of the Class B common stock are convertible into shares of the Class A common stock on a one-for-one basis at the option of the holder.

At March 1, 2018, there were 8,551,735 shares outstanding of the registrant’s Class A common stock, par value $0.01 per share and 8,040,215 shares outstanding of the registrant’s Class B common stock, par value $0.01 per share.

DOCUMENTS INCORPORATED BY REFERENCE

None
Table of Contents
 
PART I
   
 
ITEM 1.
3
 
ITEM 1A.
15
 
ITEM 1B.
44
 
ITEM 2.
45
 
ITEM 3.
45
 
ITEM 4.
45
     
PART II
   
 
ITEM 5.
46
 
ITEM 6.
47
 
ITEM 7.
48
 
ITEM 7A.
61
 
ITEM 8.
62
 
ITEM 9.
101
 
ITEM 9A.
101
 
ITEM 9B.
102
       
PART III
   
 
ITEM 10.
103
 
ITEM 11.
108
 
ITEM 12.
110
 
ITEM 13.
111
 
ITEM 14.
112
       
PART IV
   
 
ITEM 15.
112
 
ITEM 16.
116
 
Item 1.
Business

Standard Diversified Opportunities Inc. (f/k/a Special Diversified Opportunities Inc. and Strategic Diagnostics Inc.) (“SDOI”), a holding company until June 1, 2017, and its subsidiaries (collectively, “the Company”) was incorporated in the State of Delaware in 1990, and, until 2013, engaged in bio-services and industrial bio-detection (collectively, the “Life Sciences Business”). On July 12, 2013, SDOI sold substantially all of its rights, title and interest in substantially all of its non-cash assets related to the Life Sciences Business and became a “shell company,” as such term is defined in Rule 12b-2 promulgated under the Securities Exchange Act of 1934, as amended.

On June 1, 2017, SDOI consummated a Contribution and Exchange Transaction (“Contribution and Exchange”) to acquire a 52.1% controlling interest in Turning Point Brands, Inc. (“Turning Point”). The transaction was accounted for as a recapitalization or reverse acquisition. Turning Point was the accounting acquirer for financial reporting purposes. Accordingly, the historical financial statements of Turning Point through May 31, 2017 became our historical financial statements, including the comparative prior periods. These consolidated financial statements include the results of SDOI from June 1, 2017, the date the reverse acquisition was consummated. As of December 31, 2017, SDOI has a 51.2% ownership interest in Turning Point.

Prior to the consummation of the Contribution and Exchange, SDOI amended and restated its certificate of incorporation to provide for, among other things, the reclassification of every 25 shares of its common stock, par value $0.01 per share, into one share of a new class of common stock, par value $0.01 per share, designated as Class A Common Stock (the “Class A Common Stock”) and the authorization for issuance of an additional class of common stock, par value $0.01 per share, of SDOI designated as Class B Common Stock (the “Class B Common Stock”). Prior to the closing of the Contribution and Exchange, SDOI declared a dividend of one share of Class B Common Stock for each outstanding share of Class A Common Stock, payable to holders of record of Class A Common Stock on June 2, 2017. All references in the consolidated financial statements to the number of shares and per share amounts of common stock have been retroactively restated to reflect the reclassification of common stock, the shares issued in the Contribution and Exchange and the dividend of Class B Common Stock. Refer to Note 3 of our Notes to Consolidated Financial Statements, which are incorporated herein by reference, for further information. As a result of the consummation of the Contribution and Exchange, SDOI is no longer a shell company.

Our subsidiaries are engaged in the following lines of business:

·
Other tobacco products (Turning Point Brands, Inc. (“Turning Point”), a 51.2% owned subsidiary);
·
Outdoor advertising (Standard Outdoor LLC (“Standard Outdoor”), a wholly owned subsidiary), beginning in July 2017; and
·
Insurance (Pillar General Inc. (“Pillar General”), a wholly owned subsidiary), beginning in January 2018.

We expect to become a diversified holding company with interests in a variety of industries and market sectors. We will rely upon our existing cash balances and potential distributions from our subsidiaries to generate the funds necessary to meet our operating obligations and for future acquisitions. In addition, we may be required to raise additional capital through equity and/or debt financings in order to fund our future operations and/or acquisitions.

Turning Point

Turning Point is a leading independent provider of Other Tobacco Products (“OTP”) in the U.S. Turning Point sells a wide range of products across the OTP spectrum, including moist snuff tobacco (“MST”), loose leaf chewing tobacco, premium cigarette papers, make-your-own (“MYO”) cigar wraps, cigars, liquid vapor products and tobacco vaporizer products. Turning Point does not sell cigarettes. Turning Point estimates that the OTP industry generated approximately $11.0 billion in manufacturer revenue in 2017. In contrast to manufactured cigarettes, which have been experiencing declining sales for decades based on data published by the Alcohol and Tobacco Tax and Trade Bureau (“TTB”), the OTP industry is demonstrating increased consumer appeal with low to mid-single digit consumer unit growth as reported by Management Science Associates, Inc. (“MSAi”), a third-party analytics and informatics company.

Turning Point’s portfolio of brands includes some of the most widely recognized names in the OTP industry, such as Zig-Zag ®, Beech-Nut ®, Stoker’s ®, Trophy ®, and VaporBeast . Turning Point has an experienced management team that possesses long-standing industry relationships and a deep understanding of the OTP industry. Turning Point has identified additional opportunities to grow sales, including the launch of new products and expanding our distribution and sales force. Turning Point also believes there are meaningful opportunities to grow through acquisitions and joint ventures across all product categories. As of December 31, 2017, Turning Point products are available in over 170,000 U.S. retail locations which, with the addition of retail stores in Canada, brings Turning Point’s total North American retail presence to an estimated 200,000 points of distribution. Turning Point’s sales team targets widespread distribution to all traditional retail channels, including convenience stores, where over 60% of all OTP volume is currently sold according to MSAi.

Turning Point’s reportable segments are (1) smokeless products, which include chewing tobacco and MST, (2) smoking products, which principally include cigarette papers, MYO cigar wraps, and cigars, and (3) NewGen products, which include liquid vapor products, tobacco vaporizer products and non-nicotine/non-tobacco products. The results of SDOI and Standard Outdoor are included in Other. Information regarding net sales, operating income or loss, and assets attributable to each of our segments, is included within Note 19 of our Notes to Consolidated Financial Statements, which are incorporated herein by reference.
 
Smokeless Segment

Turning Point’s Smokeless segment includes both loose leaf chewing tobacco and moist snuff tobacco (“MST”). Turning Point’s Smokeless focus brand is Stoker’s in both chewing tobacco and MST. Stoker’s® chewing tobacco has grown considerably over the last several years and is presently the #1 discount brand and the second largest brand in the industry, with approximately 18% market share. Turning Point’s status in the chew market is further strengthened by Beech-Nut®, the #3 premium brand and #6 overall, as well as Trophy®, Durango®, and the five Wind River Brands Turning Point acquired in November 2016. Refer to Note 3 of Notes to Consolidated Financial Statements for further details regarding this acquisition. Collectively, Turning Point is the #2 marketer of chewing tobacco with approximately 28% market share. Turning Point’s chewing tobacco operations are facilitated through its long-standing relationship with Swedish Match, the manufacturer of its loose leaf chewing tobaccos.

In MST, Stoker’s remains among the fastest growing brands and holds a 6.7% share in the stores with distribution and a 2.9% share of the total U.S. MST market. Stoker’s pioneered the large 12 oz. tub packaging format and is manufactured using a proprietary process that Turning Point thinks results in a superior product. In late 2015, Turning Point extended the Stoker’s® MST franchise to include traditional 1.2 oz. cans to broaden retail availability. Turning Point’s proprietary manufacturing process is conducted at its Dresden, Tennessee, plant and packaged in both its Dresden, Tennessee, and Louisville, Kentucky facilities.

Smoking Segment

Turning Point’s Smoking segment principally includes cigarette papers and Make-Your-Own (“MYO”) cigar wraps. The iconic strength of the Zig-Zag® brand drives its leadership position in both the cigarette papers and MYO cigar wrap markets. In cigarette papers, Zig-Zag® is the #1 premium cigarette paper in the U.S. with approximately 30% market share.  Management estimates also indicate that Zig-Zag® is the #1 brand in the promising Canadian market.  Cigarette paper operations are aided by Turning Point’s sourcing relationships with Bolloré.

In MYO cigar wraps, the Zig-Zag® brand commands about three-quarters of the market and continues to innovate in novel ways, including Turning Point’s recent introduction of Zig-Zag® ‘Rillo sized wraps which are similar in size to cigarillos, the most popular and fastest growing type of machine-made cigars.  MYO cigar wraps operations are facilitated by Turning Point’s long-standing commercial relationship with the patent holder, Durfort.

NewGen Segment

Turning Point’s NewGen segment includes its recent acquisitions of Smoke Free Technologies, d/b/a VaporBeast (“VaporBeast”), and The Hand Media and its subsidiaries, d/b/a Vapor Shark (collectively, “Vapor Shark”), which have solidified Turning Point’s status as a major player within the segment, in addition to V2 branded products. Refer to Note 3 of our Notes to Consolidated Financial Statements for further details regarding these acquisitions. VaporBeast is a leading distributor of liquid vapor products servicing the non-traditional retail channel. Vapor Shark is a leading distributor and manufacturer of premium vaping e-liquids with nationwide distribution through non-traditional retail as well as Vapor Shark branded retail locations. Turning Point’s acquisition of VaporBeast, and subsequent acquisition of Vapor Shark, accelerated its entry into the non-traditional retail outlets for vaporizers, e-liquids, and accessories, which Turning Point estimates it sells greater than 50% of all liquid vapor volume. Turning Point believes its NewGen business will expand further as consumers continue to move from combustible cigarettes to vaping. Turning Point believes it is well-positioned to act as a consolidator in the NewGen space in anticipation of increased regulation and will continue to explore potential acquisitions.

Standard Outdoor

Standard Outdoor is an out-of-home advertising business. As of December 31, 2017, and for the period from July 3, 2017 through December 31, 2017, the business consisted of 5 billboard structures located in several counties near Austin, Texas. Revenues include outdoor advertising revenues, while operating expenses primarily include compensation costs, depreciation and rent expense. The results of Standard Outdoor are included in our consolidated operating results from July 3, 2017, the date of acquisition, and are immaterial to our consolidated financial statements in 2017. In January 2018 and February 2018, we also acquired a total of 169 additional billboard structures, as described further below under Recent Developments.

Pillar General

As described further below under Recent Developments, on January 2, 2018, Pillar General acquired all of the outstanding capital stock of Interboro Holdings, Inc. ("Interboro") for a cash purchase price of $2.5 million. Under the name Maidstone Insurance Company (“Maidstone”), Interboro offers personal automobile insurance, primarily in the state of New York. Because the transaction closed during 2018, no results of Pillar General are included in our financial statements for the year ended December 31, 2017.
 
Recent Developments

On February 20, 2018, SDOI acquired assets consisting of 86 billboard structures located in Georgia and Florida, as well as the ground leases and advertising contracts relating to such billboard structures for total consideration of approximately $6.9 million, subject to customary and valuation adjustments, of which $3.2 million was paid in cash, $3.5 million is payable under a promissory note and the remainder was paid in our Class A common shares.

On January 18, 2018, SDOI acquired assets consisting of 83 billboard structures located in Alabama, as well as the ground leases and advertising contracts relating to such billboard structures for total consideration of approximately $10.5 million, subject to customary and valuation adjustments, of which $4.0 million was paid in cash and the remaining $6.5 million is payable under a promissory note.

On January 12, 2018, SDOI issued 181,825 shares of its Class A common stock in a private placement for gross proceeds of $2.0 million.

On January 2, 2018, SDOI acquired all of the outstanding capital stock of Interboro for a cash purchase price of $2.5 million. Under the name Maidstone Insurance Company, Interboro offers personal automobile insurance, primarily in the State of New York.

On November 9, 2017, the Board of Directors of Turning Point approved the initiation of a cash dividend to its shareholders. The initial quarterly dividend of $0.04 per common share was paid on December 15, 2017 to shareholders of record at the close of business on November 27, 2017. Approximately $0.4 million was distributed to noncontrolling interest holders outside of SDOI as a result of this dividend.

Turning Point

Competitive Strengths

Turning Point believes its competitive strengths include the following:

Large, Leading Brands with Significant Scale

Turning Point has built a portfolio of leading brands with significant scale that are well recognized by consumers, retailers, and wholesalers. Turning Point’s Stoker’s® and Zig-Zag® brands are each well established and date back 78 and 118 years, respectively. Though the NewGen segment is relatively new within the OTP industry, Turning Point’s 2016 acquisition of VaporBeast added a leading seller of e-liquids, devices, and accessories. In 2017, Stoker’s®, Zig-Zag®, and VaporBeast® together generated approximately $261 million of gross sales, or 84% of its consolidated gross sales. Specifically:
 
·
Stoker’s® is the #2 loose leaf chewing tobacco brand and among the fastest growing MST brands in the industry. Turning Point manufactures Stoker’s® MST using only 100% American Leaf, utilizing a proprietary process to produce what it believes is a superior product.
·
Zig-Zag® is the #1 cigarette paper brand in terms of retail dollar sales in the U.S., as measured by Nielsen Convenience, with significant distribution in Canada. Zig-Zag® is also the #1 MYO cigar wrap brand in the U.S.
·
VaporBeast is a leading distributor of liquid vapor products to the non-traditional retail channel.  Revenue growth at VaporBeast has been delivered through a more effective selling process, which generated increased order sizes and the frequency of customer orders.
 
Turning Point believes the Stoker’s® brand is seen as an innovator in both the loose leaf chewing tobacco and moist snuff markets. Zig-Zag® is an iconic brand and has strong, enduring brand recognition among a wide audience of consumers.  VaporBeast is a powerful distribution engine that allows Turning Point to further penetrate the vaporizer and e-liquids markets via non-traditional retail outlets.

Successful Track Record of New Product Launches and Category Expansions

Turning Point has successfully launched new products and entered new product categories by leveraging the strength of its brands. Turning Point methodically targets markets which it believes has significant growth potential. Turning Point has been successful in entering new product categories by extending existing products and brands in addition to introducing new products:

·
Turning Point leveraged the proud legacy and value of the Stoker’s® brand to introduce a 12 oz. MST tub, a product whose size was not offered by any other market participant at the time of introduction. Stoker’s® MST has been among the fastest growing moist snuff brands in the industry in terms of pounds sold. While competitors have introduced larger format tub packaging, the early entry and differentiation of the Stoker’s® product have firmly established Turning Point as the market leader with over 50% of the Tub market. In third quarter 2015, Turning Point introduced Stoker’s® MST in 1.2 oz. cans to further expand retail penetration, particularly in convenience stores.
 
·
In 2009, Turning Point extended the Zig-Zag® tobacco brand into the MYO cigar wraps market and captured a 50% market share within the first two years. Turning Point is now the market share leader for MYO cigar wraps with a 76% share. Turning Point believes its success was driven by the Zig-Zag® tobacco branding, which it feels is widely understood by consumers to represent a favorable, customizable experience ideally suited to MYO products.
·
VaporBeast quickly established itself as a leading marketer and distributor of liquid vapor products to the non-traditional retail universe. With its national footprint, VaporBeast is leveraging its regional consumer preference insights to further accelerate sales advances.

Turning Point strategically targets product categories that it believes demonstrate significant growth potential and for which the value of its brands is likely to have a meaningful impact.  Turning Point believes that its track record and existing portfolio of brands provide growth advantages as it continues to evaluate opportunities to extend its product lines and expand into new categories.

Extensive Distribution Network and Data Driven Sales Organization

Turning Point has taken important steps to enhance its selling and distribution network and consumer marketing capabilities while keeping its capital expense requirements relatively low. Turning Point services its customer base with an experienced sales and marketing organization of approximately 145 professionals who possess in-depth knowledge of the tobacco industry. Turning Point extensively uses data supported by leading technology to enable its sales force to analyze changing trends and effectively identify evolving consumer preferences at the store level. Turning Point subscribes to a sales tracking system provided by MSAi that measures all OTP product shipments by all market participants, on a weekly basis, from approximately 900 wholesalers to over 250,000 retail stores in the U.S. This system enables Turning Point to understand share and volume trends across multiple categories at the individual store level, allowing them to allocate field sales force coverage to the highest opportunity stores, thereby enhancing the value of new store placements and sales activity.  Within its Stoker’s product categories, Turning Point has seen a positive correlation between the frequency of store calls by its sales force and its retail market share. As the initial sales effort is critical to the success of a product launch, Turning Point believes its experienced sales force, expansive distribution network, and leading market analytics put them in a strong position to swiftly execute new product launches in response to evolving consumer and market preferences.

Long-standing, Strong Relationships with an Established Set of Producers

As part of its asset-light operating model Turning Point built long-standing and extensive relationships with leading, high-quality producers. In 2017, Turning Point’s four most important producers were:

·
Swedish Match, which manufactures its loose leaf chewing tobacco;
·
Bolloré, which provides them with exclusive access to the Zig-Zag® cigarette paper and accessories brand for the U.S. and Canada;
·
Durfort, from which Turning Point sources its MYO cigar wraps; and
·
JJA Distributors (“JJA”), from which Turning Point sources its Zig-Zag branded cigars.
 
By outsourcing the production of products that represent approximately 87% of its gross sales to a select group of producers with whom it has strong relationships, it is able to maintain low overhead costs and minimal capital expenditures, which together drive Turning Point’s margins.

Experienced Management Team

With an average of 25 years of consumer products experience, including an average of 22 years in the tobacco industry, Turning Point’s senior management team has enabled them to grow and diversify its business while improving operational efficiency. Members of management have previous experience at other leading tobacco companies, including Altria Group, Inc. (formerly Philip Morris); Liggett & Myers Tobacco Company (now Liggett Group, a subsidiary of Vector Group ltd); Swedish Match; American Brands, Inc.; and U.S. Smokeless Tobacco Company (a subsidiary of Altria). Notably, Lawrence Wexler, Turning Point’s President and CEO, brings over 20 years of experience from Altria Group, Inc., where he held various leadership positions within the finance, marketing, planning, manufacturing, and sales departments. Given the professional experience of the senior management team Turning Point is able to analyze risks and opportunities from a variety of perspectives. Turning Point’s senior leadership has embraced a collaborative culture in which the combined experience, analytical rigor, and creativity are leveraged to assess opportunities and deliver products that satisfy consumers’ demands.
 
Growth Strategies

Turning Point is focused on building sustainable margin streams, expanding the availability of its products, developing new products through innovation, and enhancing overall operating efficiencies with the goal of improving margins and cash flow. Turning Point adopted the following strategies to drive growth in its business and build stockholder value:

Grow Share of Existing Product Lines, Domestically and Internationally

Turning Point intends to remain a consumer centric organization with an innovative view and understanding of the OTP market. Turning Point believes there are meaningful opportunities for growth within the OTP market. Turning Point expects to continue to identify unmet consumer needs and provide quality products that it believes will result in genuine consumer satisfaction and foster the growth of revenue. Turning Point maintains a robust product pipeline and plan to strategically introduce new products in attractive, growing OTP segments, both domestically and internationally. For example, in addition to its successful launch of Stoker’s® smaller 1.2 oz. MST cans, Turning Point believes there are opportunities for new products in the MST pouch, cigar, and MYO cigar wrap markets. Products currently in its pipeline include; Zig-Zag® Natural Leaf Wraps and Zig-Zag® Unbleached/Hemp Paper in the Smoking products segment; and Primal® Hemp Wraps/Cones, Premium e-liquids, and Vape-not-Burn (“VnB”) devices in the NewGen products segment. Turning Point believes it has successfully built strong, powerful brands possessing significant potential.

In 2017, less than 5% of its revenues were generated outside of the U.S. Having established a strong infrastructure and negotiated relationships across multiple segments and products, Turning Point is pursuing an international growth strategy to broaden sales and strengthen margins. Turning Point believes international sales represent a meaningful growth opportunity. Turning Point’s goals include expanding its presence in the worldwide OTP industry on a targeted basis. For example, Turning Point is selling its Stoker’s® MST products in South America, Zig-Zag® cigars in Canada, and Primal® herbal wraps and cones internationally. Turning Point intends to pursue a dual path of introducing its own products and brands as well as partnering with other industry leaders to improve market access and profitability in efforts to support its international expansion.

Expand into Adjacent Categories through Innovation and New Partnerships

Turning Point continually evaluates opportunities to expand into adjacent product categories by leveraging its current portfolio or through new partnerships. In 2009, Turning Point leveraged the Zig-Zag® tobacco brand and introduced Zig-Zag® MYO cigar wraps with favorable results. Turning Point now commands the #1 market share position for that segment. Turning Point is currently expanding its Zig-Zag® MYO cigar wraps through the expansion of the Zig-Zag® ‘Rillo size cigar wraps which are similar in size to machine-made cigarillos, the most popular and rapidly growing cigar type. Additionally, in 2015, Turning Point negotiated the worldwide, exclusive distribution rights to an herbal sheet material that does not contain tobacco or nicotine, affording them the opportunity to sell, on a global basis, an assortment of products that meet new and emerging consumer preferences. These products are sold under its Primal® brand name and are a component of its NewGen product segment. Turning Point intends to continue to identify new adjacent categories for which it is able to leverage its existing brands and partnerships.

Continue to Grow a Strong NewGen Platform

The OTP category is continually evolving as consumers actively seek out new products and product forms. Given this market demand, Turning Point has developed a NewGen product platform which it believes will serve new and evolving consumer demands across multiple product categories. Core products within its existing NewGen segment include:

·
Electronic cigarette (“e-cigarette”) and vapor products, including e-liquids,
·
Tobacco vaporizers, which heat rather than combust the smoking material (VnB), and
·
Herbal smoking products, which contain no tobacco or nicotine.

Among these categories, Turning Point believes the emerging liquid vapor segment may present the greatest growth opportunity as it allows each consumer to customize his or her experience by being able to choose both flavor and nicotine level. Although the liquid vapor segment is in its infancy, Turning Point believes that, when properly commercialized, it may be highly disruptive to the combustible cigarette industry and emerge as a more significant segment of the OTP market. Turning Point believes a majority of current liquid vapor revenues are earned outside of the traditional retail environment through online sales or in non-traditional retail outlets. Turning Point’s recent acquisitions of VaporBeast and Vapor Shark accelerate its expansion into the non-traditional retail outlets for liquid vapor products.
 
Outside of the tobacco space, Turning Point believes there are meaningful opportunities for herbal smoking products like wraps and cones. To capitalize on these opportunities, Turning Point has obtained the exclusive rights to a proprietary and patented herbal sheet process that enables them to meet consumer interest and achieve strong margins. These products are marketed and sold on a worldwide basis under its Primal brand as discussed above.
 
Turning Point believes the categories within its NewGen segment are poised to be the key industry growth drivers in the future, and Turning Point is well-positioned to capitalize on this growth. Turning Point intends to continue to pursue growth of its NewGen product platform by offering unique and innovative products to address evolving consumer demands.

Strategically Pursue Acquisitions

Turning Point believes there are meaningful acquisition opportunities in the fragmented OTP space. Turning Point regularly evaluates acquisition opportunities across the OTP landscape. In evaluating acquisition opportunities, its focus is on identifying acquisitions that strengthen its current distribution platform and product offerings or enable category expansion in areas with high potential growth.

Substantially all of its 2017 U.S. gross margin was derived from sales of products currently regulated by the U.S. Food and Drug Administration (“FDA”) Center for Tobacco Products. Turning Point has significant experience in complying with the FDA regulatory regime with a compliance infrastructure composed of legal and scientific professionals. Turning Point believes many smaller OTP manufacturers currently lack this infrastructure, which it believes is necessary to comply with the broad scope of FDA regulations. Turning Point believes its regulatory compliance infrastructure, combined with its skilled management and strong distribution platform, position them to act as a consolidator within the OTP industry.

Turning Point has a strong track record of enhancing it OTP business with strategic and accretive acquisitions. For example, Turning Point’s acquisition of the North American Zig-Zag® cigarette papers distribution rights in 1997 has made them the #1 premium cigarette paper brand in the U.S. in terms of retail dollar sales, as measured by Nielsen. Perhaps more importantly, Turning Point owns the Zig-Zag® tobacco trademark in the U.S. and has leveraged this asset effectively with approximately 52% of its total 2017 Zig-Zag branded gross sales under its own Zig-Zag® marks rather than those it licenses from Bolloré. In 2003, Turning Point acquired the Stoker’s® brand. Turning Point has since built the brand to a strong #2 position in the chewing tobacco industry while successfully leveraging the brand’s value through its MST expansion where it remains among the fastest growing MST brands in the industry. More recently, Turning Point has completed three acquisitions to acquire the five smokeless tobacco brands from Wind River in addition to VaporBeast and Vapor Shark.

Turning Point will continue to evaluate acquisition opportunities as they may arise while exercising care and diligence to ensure it only pursues opportunities believed to afford operational or distribution synergies and add value.
 
Maintain Lean, Low-Cost Operating Model

Turning Point has a lean, asset-light manufacturing and sourcing model which requires low capital expenditures and utilizes outsourced supplier relationships. Turning Point believes its asset-light model provides marketplace flexibility and allows them to achieve favorable margins. Turning Point’s market analytics allow them to efficiently and effectively address evolving consumer and market demands. Turning Point’s supplier relationships allow them to increase the breadth of its product offerings and quickly enter new OTP markets as management is able to focus on brand building and innovation. Turning Point intends to continue to optimize its asset-light operating model as it grows in order to maintain a low cost of operations and healthy margins. In 2017, approximately $268 million of its gross sales, or 87%, were from outsourced production operations. Turning Point’s capital expenditures have ranged between $0.7 million and $3.2 million per year over the previous 5 years. Turning Point does not intend to outsource its MST production as a result of its proprietary manufacturing processes which are substantively different than those of its competitors.

Raw Materials, Product Supply, and Inventory Management

Turning Point sources its products through a series of longstanding, highly-valued relationships which allows them to conduct their business on an asset-light, distribution-focused basis.

The components of inventories at December 31, 2017 and 2016, were as follows (in thousands):
 
 
 
2017
   
2016
 
Raw materials and work in process
 
$
2,545
   
$
2,596
 
Leaf tobacco
   
30,308
     
27,391
 
Finished goods - smokeless products
   
5,834
     
4,789
 
Finished goods - smoking products
   
14,110
     
18,384
 
Finished goods - electronic / vaporizer products
   
14,532
     
11,993
 
Other
   
1,290
     
1,232
 
 
   
68,619
     
66,385
 
LIFO reserve
   
(5,323
)
   
(4,200
)
 
 
$
63,296
   
$
62,185
 
 
Smokeless Products

Turning Point’s loose leaf chewing and moist snuff tobaccos are produced from air-cured and fire-cured leaf tobacco, respectively. Turning Point utilizes recognized suppliers that generally maintain 12- to 24-month supplies of its various types of tobacco at their facilities. Turning Point does not believe it is dependent on any single country or supplier source for tobacco. Turning Point generally maintains up to a two-month supply of finished, loose leaf chewing tobacco and moist snuff. This supply is maintained at their Louisville, Kentucky, facility and in two regional public warehouses to facilitate distribution.

Turning Point also utilizes a variety of suppliers for the sourcing of additives used in its smokeless products and for the supply of its packaging materials. Thus, Turning Point believes it is not dependent on a single supplier for these products. There are no current U.S. federal regulations that restrict tobacco flavor additives in smokeless products. The additives that Turning Point uses are food-grade, generally accepted ingredients.

All of Turning Point’s loose leaf chewing tobacco production is fulfilled through its agreement with Swedish Match. See the “Distribution and Supply Agreements” section for Turning Point’s discussion of the Swedish Match Manufacturing Agreement. All of Turning Point’s moist snuff products are manufactured at its facility in Dresden, Tennessee. Packaging occurs at the Dresden, Tennessee, location in addition to the facility in Louisville, Kentucky.

Smoking Products

Pursuant to its distribution agreements with Bolloré (discussed in more detail, below, under the heading “Distribution and Supply Agreements”), Turning Point is required to purchase from Bolloré all cigarette papers, cigarette tubes, and cigarette injecting machines that it sells, subject to Bolloré fulfilling its obligations under these distribution agreements. If Bolloré is unable or unwilling to perform its obligations or ceases its cigarette paper manufacturing operations, in each case, as set forth in the Distribution Agreements, Turning Point may seek third-party suppliers and continue the use of the Zig-Zag® trademark to market these products. To ensure it has a steady supply of premium cigarette paper products, as well as cigarette tubes and injectors, Bolloré is required to maintain, at its expense, a two-month supply of inventory in a bonded, public warehouse in the U.S.

Turning Point obtains its MYO cigar wraps from the patent holder under its agreement with Durfort in the Dominican Republic. Turning Point obtains its Zig-Zag branded cigar products under its agreement with JJA, which sources the cigars on its behalf from the Dominican Republic. Turning Point obtains its MYO cigar smoking tobaccos and pipe tobaccos from domestic sources. Turning Point generally purchases these tobaccos through multiple sources; thus, it believes it is not dependent on a single supplier. Turning Point packages these products at its Louisville, Kentucky, facility.

NewGen Products

Turning Point has sourcing relationships that are capable of providing liquid vapor products and tobacco vaporizer products for other companies’ brands and for producing its own branded product lines in the category, including its Zig-Zag® brand. Turning Point’s acquisitions of VaporBeast and Vapor Shark have (i) accelerated its entry into the non-traditional retail channel, where it believes the majority of liquid vapor products are sold; (ii) provided enhanced distribution of products; and (iii) established a best-in-class distribution platform combining VaporBeast’s non-traditional selling skills with a national, retail sales force.

Turning Point’s herbal smoking products are obtained from a supplier which owns the patented process for producing the sheet material. Turning Point has worldwide, exclusive rights to the material. The production and packaging of its herbal smoking products is subject to an agreement with Durfort. Durfort manufactures and packages the finished goods in the Dominican Republic, subject to Turning Point’s specifications, and coordinates with JJA delivery of the products to its designated distribution center in the U.S. Turning Point believes its early entry into the herbal smoking products market has provided them with a meaningful opportunity to capture market share and increase this share as the market grows.
 
Distribution and Supply Agreements
 
Bolloré Distribution and License Agreements

Turning Point is party to two long-term distribution and license agreements with Bolloré with respect to sales of cigarette papers, cigarette tubes, and cigarette injector machines—one with respect to distribution in the U.S. and one with respect to distribution in Canada (collectively, the “Distribution Agreements”). Under the Distribution Agreements, Bolloré granted Turning Point the exclusive right to purchase products bearing the Zig-Zag® brand name from Bolloré for resale in the U.S. and Canada. Turning Point has the sole right to determine pricing and other terms upon which it may resell any products purchased from Bolloré, including the right to determine the ultimate distributors of such products within these countries. Furthermore, on March 19, 2013, Turning Point entered into an additional License and Distribution Agreement with Bolloré (the “Bolloré License Agreement”), which permits them the exclusive use of the Zig-Zag® brand name in the U.S. for e-cigarettes and any related accessories, including vaporizers and e-liquids. The Bolloré License Agreement terminates upon termination of the Distribution Agreements.
 
Each of the Distribution Agreements were entered into on November 30, 1992, by a predecessor in interest for an initial twenty-year term. The Distribution Agreements automatically renewed in November 2012 for a second twenty-year term and will automatically renew for successive twenty-year terms unless terminated in accordance with the provisions of such agreement. The Distribution Agreements provide that, in order to assure each of the parties receives commercially reasonable profits in light of inflationary trends and currency fluctuation factors, 120 days prior to December 31, 2004, and each fifth-year anniversary from such date thereafter, the parties are required to enter into good faith negotiations to agree on an index and currency adjustment formula to replace the index and formula currently in effect. If the parties are unable to agree, the dispute is to be submitted to binding arbitration. Pursuant to the Distribution Agreements, if at any time the price received by Bolloré fails to cover its costs, Bolloré may give Turning Point notice of this deficiency, and the parties must promptly negotiate in good faith to adjust prices. If the parties cannot agree on new prices, Turning Point may purchase products from an alternative supplier reasonably acceptable to Bolloré until the next price adjustment period (subject to certain price-matching rights available to Bolloré and other terms and conditions). As of March 1, 2018, Turning Point is operating under a temporary pricing structure and formula. The parties are considering a modified pricing formula and a potential new index and duration; however, there is no guarantee that Turning Point will be able to reach a new pricing agreement with Bolloré at all or on terms satisfactory to Turning Point. Further, Bolloré sources its needs for our orders from an affiliate of one of Turning Point’s competitors. See “Risk Factors—Turning Point depends on a small number of key third-party suppliers and producers for its products” for further details.

Pursuant to the Distribution Agreements, export duties, insurance, and shipping costs are the responsibility of Bolloré. Import duties and taxes in the U.S. and Canada are its responsibility. Under the Distribution Agreements, Turning Point must purchase cigarette papers, cigarette tubes, and cigarette injector machines from Bolloré, subject to Bolloré fulfilling its obligations under these agreements. Bolloré is required to provide them with the quantities of the products that Turning Point orders consistent with specific order-to-delivery timelines detailed in the agreement. The Distribution Agreements provide them with certain safeguards to ensure that it will be able to secure a steady supply of product, including (i) granting Turning Point the right to seek third-party suppliers with continued use of the Zig-Zag® trademark if Bolloré is unable to perform its obligations or ceases its cigarette paper manufacturing operation, in each case as set forth in the Distribution Agreements, and (ii) maintaining a two-month supply of safety stock inventory of the premium papers, tubes, and injector machines in the U.S. at Bolloré’s expense.

Under the Distribution Agreements, Turning Point has agreed that for a period of five years after the termination of the agreements Turning Point will not engage, directly or indirectly, in the manufacturing, selling, distributing, marketing, or otherwise promoting, in the U.S. and Canada, of cigarette paper or cigarette paper booklets of a competitor without Bolloré’s consent, except for certain de minimis acquisitions of debt or equity securities of such a competitor and certain activities with respect to an alternative supplier used by Turning Point as permitted under the Distribution Agreements.

Each of the Distribution Agreements permits Bolloré to terminate such agreement (i) if certain minimum purchases (which, in the case of both Distribution Agreements, have been significantly exceeded in recent years) of cigarette paper booklets have not been made by them for resale in the jurisdiction covered by such agreement within a calendar year, (ii) if Turning Point assigns such agreement without the consent of Bolloré, (iii) upon a change of control without the consent of Bolloré, (iv) upon certain acquisitions of its equity securities by one of its competitors or certain investments by its significant stockholders in one of its competitors, (v) upon certain material breaches, including its agreement not to promote, directly or indirectly, cigarette paper or cigarette paper booklets of a competitor, or (vi) upon its bankruptcy, insolvency, liquidation, or other similar event. Additionally, the Canada Distribution Agreement is terminable by either Turning Point or Bolloré upon the termination of the U.S. Distribution Agreement.

Swedish Match Manufacturing Agreement

On September 4, 2008, Turning Point entered into a manufacturing and distribution agreement with Swedish Match whereby Swedish Match became the exclusive manufacturer of its loose leaf chewing tobacco. Under the agreement, production of Turning Point’s loose leaf chewing tobacco products was completely transitioned to Swedish Match’s plant located in Owensboro, Kentucky, on September 18, 2009. Turning Point sources all of the tobacco Swedish Match uses to manufacture its products along with certain proprietary flavorings and retain all marketing, design, formula, and trademark rights over its loose leaf products. Turning Point also has the right to approve all product modifications and is solely responsible for decisions related to package design and branding of the loose leaf tobacco produced for Turning Point. Responsibilities related to process control, manufacturing activities, and inventory management with respect to its loose leaf products are allocated between Turning Point and Swedish Match as specified in the agreement. Turning Point also has rights to monitor production and quality control processes on an ongoing basis.
 
The agreement had an initial ten-year term and will automatically be renewed for five successive ten-year terms unless either party provides at least 180 days’ notice prior to a renewal term of its intent to terminate the agreement, or unless otherwise terminated by mutual agreement of the parties in accordance with the provisions of the agreement. If a notice of non-renewal is delivered, the contract will expire two years after the date on which the agreement would have otherwise been renewed. The terms allow the agreement to be assumed by a buyer, terminated for uncured material breach, or terminated by Turning Point subject to a buyout. Turning Point also holds a right of first refusal to acquire the manufacturing plant as well as Swedish Match’s chewing tobacco unit.
 
JJA Distributors Service Agreement

On April 1, 2013 Turning Point entered into an agreement with JJA to source Turning Point’s Zig-Zag branded cigars and cigarillos and other products from the Dominican Republic. Under the agreement, JJA and its Dominican Republic partner purchase and inventory all of the necessary raw materials, including packaging bearing Turning Point’s intellectual property, manufacture to its specifications, and deliver to its designated U.S. distribution center. Turning Point retains all marketing, design, and trademark rights over its cigar products.

Production and Quality Control

Turning Point primarily outsources its manufacturing and production processes and focus on packaging, marketing, and distribution. Turning Point currently manufactures approximately 13% of its products as measured by gross sales. Turning Point’s in-house manufacturing operations are limited to (i) the processing and packaging of its pipe tobacco products, which is completed at its manufacturing facility in Louisville, Kentucky, (ii) the manufacturing of its moist snuff products, which occurs at its facility in Dresden, Tennessee, (iii) the packaging of its moist snuff products at Turning Point’s facilities in Dresden, Tennessee, and Louisville, Kentucky, and, with the acquisition of Vapor Shark, (iv) the manufacturing of e-liquids at our Miami, Florida, facility. Turning Point’s MST products are processed in-house, rather than outsourced, as a result of Turning Point’s proprietary manufacturing processes which are substantively different than those of its competitors.

Turning Point uses proprietary production processes and techniques, including strict quality controls. Turning Point’s quality control group routinely tests the quality of the tobacco, flavorings, application of flavorings, premium cigarette papers, tubes and injectors, cigars, MYO cigar wraps, liquid vapor products, tobacco vaporizer products, and packaging materials. Turning Point utilizes sophisticated quality controls to test and closely monitor the quality of its products. The high quality of its tobacco products is largely the result of using high-grade tobacco leaf and food-grade flavorings and, on an ongoing basis, analyzing the tobacco cut, flavorings, and moisture content together with strict specifications for sourced products.

Given the importance of contract manufacturing to Turning Point’s business, its quality control group ensures that established, written procedures and standards are adhered to by each of its contract manufacturers. Responsibilities related to process control, manufacturing activities, quality control, and inventory management with respect to its loose leaf are allocated between Turning Point and Swedish Match under the manufacturing agreement.

Sales and Marketing

Turning Point has grown the size and capacity of its sales force and intends to continue strengthening the organization to advance its ability to deepen and broaden the retail availability of its products and brands.

As of December 31, 2017, Turning Point had a nationwide sales and marketing organization of approximately 145 professionals.  Turning Point’s sales and marketing group focuses on priority markets and sales channels and seeks to operate with a high level of efficiency. In 2017, Turning Point’s sales and marketing efforts enabled its products to reach an estimated 200,000 retail doors in North America and over 800 direct wholesale customers with an additional 100 secondary, indirect wholesalers in the U.S.

Turning Point’s sales efforts are focused on wholesale distributors and retail merchants in the independent and chain convenience store, tobacco outlet, food store, mass merchandising, drug store, and non-traditional retail channels. Turning Point has expanded, and intend to continue to expand, the sales of its products into previously underdeveloped geographic markets and retail channels. In 2017, Turning Point derived more than 95% of its net sales from sales in the U.S., with the remainder primarily from sales in Canada.
 
Turning Point subscribes to a sales tracking system from MSAi that records all traditional OTP product shipments (Turning Point as well as those of its competitors) from approximately 900 wholesalers to over 250,000 retail stores in the U.S. This system enables them to understand individual product share and volume trends across multiple categories down to the individual retail store level, allowing them to allocate field sales force coverage to the highest opportunity stores. Additionally, the ability to select from a range of parameters and to achieve this level of granularity means Turning Point can analyze marketplace trends in a timely manner and swiftly evolve its business planning to meet market opportunities.
 
Turning Point employs marketing activities to grow awareness, trial, and sales including selective trade advertising to expand wholesale availability, point-of-sale advertising and merchandising and permanent and temporary displays to improve consumer visibility, and social media. Turning Point complies with all regulations relating to the marketing of tobacco products, such as directing marketing efforts to adult consumers, and are committed to full legal compliance in the sales and marketing of its products. To date, Turning Point has neither relied upon, nor conducted, any substantial advertising in the consumer media for its products.
 
In the years ended December 31, 2017 and 2016, Turning Point did not have any customer that accounted for 10% or more of its gross sales. Turning Point’s customers use an open purchase order system to buy its products and are not obligated to do so pursuant to ongoing contractual obligations. Turning Point performs periodic credit evaluations of its customers and generally does not require collateral on trade receivables. Historically, Turning Point has not experienced material credit losses. Sales to customers within its NewGen segment are generally prepaid.

Competition

Many of Turning Point’s competitors are better capitalized than they are and have greater resources, financial and otherwise. Turning Point believes its ability to effectively compete and strong market positions in its principal product lines are due to the high recognition of its brand names, the perceived quality of each of its products, and the efforts of its sales, marketing, and distribution teams. Turning Point competes against “big tobacco,” including Altria Group, Inc. (formerly Philip Morris); British American Tobacco p.l.c. (formerly Reynolds); Swedish Match; Swisher International; and manufacturers including U.K. based Imperial Brands, PLC, across its segments. “Big tobacco” has substantial resources and a customer base that has historically demonstrated loyalty to their brands.

Competition in the OTP market is based upon not only brand quality and positioning but also on price, packaging, promotion, and retail availability and visibility. Given the decreasing prevalence of cigarette consumption, the “big tobacco” companies continue to demonstrate an increased interest and participation in a number of OTP markets.

Smokeless Products

Turning Point’s three principal competitors in the loose leaf chewing tobacco market are Swedish Match, the American Snuff Company, LLC (a unit of British American Tobacco p.l.c.), and Swisher International Group, Inc. Turning Point believes moist snuff products are used interchangeably with loose leaf products by many consumers. In the moist snuff category, Turning Point faces the same competitors with the addition of U.S. Smokeless Tobacco Company (a division of Altria Group, Inc.).

Smoking Products

Turning Point’s two major competitors for premium cigarette paper sales are Republic Tobacco, L.P., and Commonwealth Brands, Inc., a wholly-owned subsidiary of Imperial Brands, PLC. Turning Point’s two major competitors for MYO cigar wraps are New Image Global, Inc., and Blunt Wrap USA. In cigars, it competes in the non-tipped cigarillo market with Swisher International, Inc., Swedish Match, and Good Times USA.

NewGen Products

In the NewGen products segment, its competitors are varied as the market is relatively new and highly fragmented. Turning Point’s direct competitors sell products that are substantially similar to its products through the same channels in which Turning Point sells its liquid vapor products and tobacco vaporizer products. Turning Point competes with these direct competitors for sales through wholesalers and retailers including, but not limited to, vapor stores, national chain stores, tobacco shops, and convenience stores. Through its acquisitions of VaporBeast and Vapor Shark, Turning Point now also competes directly with other non-traditional distributors and retailers.

Patents, Trademarks, and Trade Secrets

Turning Point has numerous registered trademarks relating to its products, including: Beech-Nut®, Trophy®, Havana Blossom®, Durango®, Stoker’s®, Tequila Sunrise®, Fred’s Choice®, Old Hillside®, Our Pride®, Red Cap®, Tennessee Chew®, Big Mountain®, Springfield Standard®, Snake River®, VaporBeast®, and Vapor Shark®. The registered trademarks, which are significant to its business, expire periodically and are renewable for additional 10-year terms upon expiration. Flavor and blend formula trade secrets relating to its tobacco products, which are key assets of its businesses, are maintained under strict secrecy. The Zig-Zag® trade name and trademark for premium cigarette papers and related products are owned by Bolloré and have been exclusively licensed to Turning Point in the U.S. and Canada. The Zig-Zag® trade name and trademark for e-cigarette and vaporizers are also owned by Bolloré and have been exclusively licensed to Turning Point in the U.S. Turning Point own the Zig-Zag® trademark with respect to its use in connection with products made with tobacco including, without limitation, cigarettes, cigars, and MYO cigar wraps in the U.S.
 
Research and Development and Quality Assurance

Turning Point has a research and development and quality assurance function that tests raw materials and finished products in order to maintain a high level of product quality and consistency. Research and development largely bases its new product development efforts on its high-tech data systems. Turning Point spent approximately $1.9 million, $1.8 million, and $1.4 million dollars on research and development and quality control efforts for the years ended December 31, 2017, 2016, and 2015, respectively.

Standard Outdoor

Business Strategy

As of March 1, 2018, following the 2018 acquisitions described above under Recent Developments, Standard Outdoor owns and operates a total of 174 billboard structures in Georgia and Florida (86 billboard structures), Alabama (83 billboard structures) and Texas (5 billboard structures).  All of Standard Outdoor’s billboard structures are on properties that it leases under leases with terms ranging from 10 to 99 years, often with renewal or extension options. Standard Outdoor’s lease obligations vary under these arrangements. Under some leases, Standard Outdoor has no obligations other than to maintain the billboard structures and, in other instances, Standard Outdoor has certain obligations to maintain the real estate on which the billboard structures are located.

Standard Outdoor owns and operates traditional billboard structures, where the customer’s advertising copy is printed with computer-generated graphics on a single sheet of vinyl and wrapped around the billboard structure, as well as digital displays.  Many of Standard Outdoor’s billboard structures are located on major highways and target vehicular traffic. Standard Outdoor’s contracts with advertisers are typically short-term (e.g., one month to one year).

Standard Outdoor’s billboard structures may have multiple faces. Standard Outdoor believes the out-of-home advertising business offers attractive industry fundamentals and growth opportunities on which Standard Outdoor hopes to capitalize as it increases is presence in various regions in the United States.

Standard Outdoor typically owns the physical structures on which its clients’ advertising copy is displayed. Standard Outdoor acquires new structures from third parties and erect them on sites that it leases or for which it has acquired permanent easements.  In addition to the site leases described above, Standard Outdoor generally must obtain from state or local government a permit to build and operate each billboard structure.

Competition

The outdoor billboard industry is highly competitive. There is a concentration in the ownership of billboards in the geographic markets in which Standard Outdoor competes and significantly larger companies such as Clear Channel Outdoor Communications, OUTFRONT Media Inc. and Lamar Advertising Company, dominate the out-of-home advertising business.  In addition, Standard Outdoor competes with other outdoor advertising solutions, including street furniture (for example, bus shelters and benches), transit and other alternative advertising signs.

Pillar General

Business Strategy

As of January 2, 2018, following the acquisition of Interboro as described above under Recent Developments, Pillar General has entered the insurance business.  Maidstone, a wholly owned subsidiary of Interboro, offers personal automobile insurance, primarily in the State of New York, with approximately 11,500 policies in-force. In addition, Maidstone is entertaining the possibility of beginning to write homeowner’s insurance coverage in New York.

Maidstone sources, writes and services automobile insurance policies using a network of independently licensed and appointed agents and brokers, and currently does not market its products directly to consumers. Maidstone’s broker network currently consists of approximately 750-plus brokers in New York with demonstrated competency in writing automobile insurance in locations that are consistent with Maidstone’s risk appetite and underwriting capabilities, and Maidstone will continue to assess appointing additional agents and brokers in territories where Maidstone does not have a strong presence, enabling Maidstone to further grow and diversify its policyholder base.
 
Maidstone has an in-house claims department of seasoned claims professionals that works with outside attorneys. Maidstone’s management handles decisions on claim settlements and payment. Should Maidstone enter the homeowner’s sector, it expects to use outside adjusters with expertise in adjusting larger property claims to adjust homeowner’s claims, and to engage a nationally recognized adjusting firm to assist with potential catastrophic events.

Maidstone runs a balanced investment strategy, the main tenets of which are, in order of priority, capital conservation, current income and long-term growth of capital and income.
 
Competition

Our insurance business operates in an environment that is highly competitive and very fragmented. We compete with other insurance providers, including but not limited to substantially larger competitors such as GEICO, State Farm, Progressive, Liberty Mutual and Travelers, as well as numerous specialist, regional and local firms in almost every area of our business. Further, new competitors may regularly enter the market. Any additional industries or markets that we may enter through future acquisitions will also likely be occupied by established competitors.

Employees

Including our operating subsidiaries as described below, we employed approximately 356 persons at March 1, 2018. Turning Point employed 289 persons. Maidstone Insurance Company employed 58 persons.  Standard Outdoor employed 6 persons. None of our employees are represented by unions. We believe we have a positive relationship with our employees.

Corporate Information

We (f/k/a Special Diversified Opportunities Inc. and Strategic Diagnostics Inc.) were incorporated in the State of Delaware in 1990. Our principal executive offices are located at 155 Mineola Boulevard, Mineola, NY 11501, and our telephone number is (516) 248-1100. Our website address is www.standarddiversified.com.

Available Information

Our website address is www.standarddiversified.com. We make available, free of charge, through the website our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after these reports are electronically filed with or furnished to the SEC. The public may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street N.E., Room 1580, Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains a website that contains reports, proxy, and information statements, and other information regarding issuers that file electronically with the SEC at www.sec.gov. The information posted on or accessible through these websites is not incorporated into this filing.
 
Item 1A.
Risk Factors

Set forth below are risks and uncertainties relating to our business and the ownership of our securities. These risks and uncertainties may lead to outcomes that could adversely affect our results of operations and financial condition. You should carefully consider each of these risks and uncertainties and all of the information in this Annual Report on Form 10-K and its exhibits, including our consolidated financial statements and notes thereto for the year ended December 31, 2017, which are included in a separate section at the end of this report beginning on page 62.

SDOI

We may not be successful in identifying any additional suitable acquisition or investment opportunities.

The successful implementation of our business strategy depends on our ability to identify and consummate suitable acquisitions or other investment opportunities. However, to date we have only been able to identify a limited number of such opportunities. There is no assurance that we will be successful in identifying or consummating any additional suitable acquisitions and certain acquisition opportunities may be limited or prohibited by applicable regulatory regimes. Even if we do complete other acquisitions or business combinations, there is no assurance that they will be successful in enhancing our business or our financial condition. In addition, other acquisitions could divert a substantial amount of our management time and may be difficult for us to integrate, which could adversely affect management’s ability to identify and consummate other investment opportunities. The failure to identify or successfully integrate future acquisitions and investment opportunities could have a material adverse effect on our results of operations and financial condition.

Because we face significant competition for acquisition and investment opportunities, including from numerous companies with a business plan similar to ours, it may be difficult for us to fully execute our business strategy. We expect to encounter intense competition for acquisition and investment opportunities from both strategic investors and other entities having a business objective similar to ours, such as private investors (which may be individuals or investment partnerships), blank check companies, and other entities, domestic and international, competing for the type of businesses that we may intend to acquire. Many of these competitors possess greater technical, human and other resources, or more local industry knowledge, or greater access to capital, than we do and our financial resources will be relatively limited when contrasted with those of many of these competitors. These factors may place us at a competitive disadvantage in successfully completing future acquisitions and investments.

In addition, while we believe that there are numerous target businesses that we could potentially acquire or invest in, our ability to compete with respect to the acquisition of certain target businesses that are sizable will be limited by our available financial resources. This inherent competitive limitation gives others an advantage in pursuing acquisition and investment opportunities.

Future acquisitions or investments could involve unknown risks that could harm our business and adversely affect our financial condition.

We expect to become a diversified holding company with interests in a variety of industries and market sectors. Future acquisitions that we consummate will involve unknown risks, some of which will be particular to the industry in which the acquisition target operates. We may be unable to adequately address the financial, legal and operational risks raised by such acquisitions, especially if we are unfamiliar with the industry in which we invest. The realization of any unknown risks could prevent or limit us from realizing the projected benefits of the acquisitions, which could adversely affect our financial condition and liquidity. In addition, our financial condition and results of operations, will be subject to the specific risks applicable to any company in which we invest.

There can be no assurance that our due diligence investigations will identify every matter that could have a material adverse effect on SDOI.

We intend to conduct extensive business, financial and legal due diligence in connection with the evaluation of future acquisition and investment opportunities. However, there can be no assurance that our due diligence investigations will identify every matter that could have a material adverse effect on the acquisition or investment target. Accordingly, there may be matters involving the business and operations of investment targets that we do not identify during our due diligence. To the extent we consummate any acquisition or investment and any of these issues arise, the business and operations of the investment target could be adversely affected, which in turn could adversely affect our results of operations, financial condition and liquidity.

Resources could be consumed in researching acquisition or investment targets that are not consummated, which could materially adversely affect subsequent attempts to locate and acquire or invest in another business.

It is anticipated that the investigation of each specific acquisition or investment target and the negotiation, drafting and execution of relevant agreements, disclosure documents and other instruments will require substantial management time and attention and substantial costs for accountants, attorneys and other advisors. If a decision is made not to consummate a specific business combination, the costs incurred up to that point for the proposed transaction likely would not be recoverable. Furthermore, even if an agreement is reached relating to a specific acquisition or investment target, we may fail to consummate the investment or acquisition for any number of reasons, including those beyond our control. Any such event will result in a loss to us of the related costs incurred, which could adversely affect our financial position and our ability to consummate other acquisitions and investments.
 
We may issue notes or other debt securities or otherwise incur substantial debt, which may adversely affect our leverage and financial condition.

We may choose to incur substantial debt to complete a business combination or acquisition or otherwise. The incurrence of debt could result in:

·
default and foreclosure on our assets if our operating revenues after a business combination or acquisition are insufficient to repay our debt obligations;
·
acceleration of our obligations to repay the indebtedness even if we make all principal and interest payments when due if we breach certain covenants that require the maintenance of certain financial ratios or reserves without a waiver or renegotiation of that covenant;
·
our immediate payment of all principal and accrued interest, if any, if the debt security is payable on demand;
·
our inability to obtain necessary additional financing if the debt security contains covenants restricting our ability to obtain such financing while the debt security is outstanding;
·
our inability to pay dividends on our Class A Common Stock;
·
using a substantial portion of our cash flow to pay principal and interest on our debt, which will reduce the funds available for dividends on our Class A Common Stock if declared, expenses, capital expenditures, acquisitions and other general corporate purposes;
·
limitations on our flexibility in planning for and reacting to changes in our business and in the industry in which we operate;
·
increased vulnerability to adverse changes in general economic, industry and competitive conditions and adverse changes in government regulation; and
·
limitations on our ability to borrow additional amounts for expenses, capital expenditures, acquisitions, debt service requirements, execution of our strategy and other purposes and other disadvantages compared to our competitors who have less debt.

We may require additional capital in the future, and you may incur dilution to your stock holdings in connection with such financings.

If we require additional capital, we may attempt to raise it through a variety of strategies, including the issuance and sale of additional shares of our Class A Common Stock or preferred stock. Issuances of additional shares of our Class A Common stock or preferred stock in the future, whether in connection with a rights offering, follow-on offering, private placement or otherwise, would dilute existing stockholders and may adversely affect the market price of our Class A Common Stock.

In the event we issue subscription rights to purchase shares of our Class A Common Stock, stockholders who do not fully exercise their rights should expect that they will, at the completion of the offer, own a smaller proportional interest in us than would otherwise be the case if they fully exercised their rights. We cannot state precisely the amount of any such dilution in share ownership because we do not know at this time what proportion of the shares will be purchased as a result of the offer. Such dilution could be substantial.

We may issue additional common shares or preferred shares to complete our business combinations or as consideration of an acquisition of an operating business or other acquisition or under an employee incentive plan after consummation of a business combination or acquisition, which would dilute the interests of our stockholders and could present other risks.

The Sixth Amended and Restated Certificate of Incorporation of SDOI authorizes the issuance of up to 330,000,000 shares of Common Stock, 300,000,000 of which are designated as Class A Common Stock and 30,000,000 of which are designated as Class B Common Stock, and 500,000,000 shares of blank check preferred stock. We currently have more than 310,000,000 authorized but unissued shares of our Common Stock available for issuance. We may issue a substantial number of additional shares of common or preferred stock to complete a business combination or acquisition or under an employee incentive plan after consummation of a business combination or acquisition. The issuance of additional shares of common or preferred stock:

·
may significantly dilute the equity interest of our stockholders;
·
may subordinate the rights of holders of our Class A Common Stock if preferred stock is issued with rights senior to those afforded our Class A Common Stock;
 
·
could cause a change in control of SDOI if a substantial number of shares of our Class A Common Stock is issued, which may affect, among other things, our ability to use our net operating loss carry forwards, if any; and
·
may adversely affect prevailing market prices for our Class A Common Stock.
 
We may be unable to obtain additional financing to consummate future investments or acquisitions or to fund the operations and growth of an investment or acquisition, which could compel us to restructure the transaction or abandon a particular investment or acquisition.

We may need to obtain additional financing in order to consummate future acquisitions and investment opportunities. We cannot assure you that any additional financing will be available to us on acceptable terms, if at all. This risk is exacerbated by the volatility the global credit markets experiences from time to time. To the extent that additional financing proves to be unavailable when needed to consummate a particular investment or acquisition, we may be compelled to either restructure the transaction or abandon the investment or acquisition. In addition, if we consummate an acquisition or investment, the company we acquire or invest in may require additional financing to fund continuing operations and/or growth. The failure by such company to secure additional financing if required could have a material adverse effect on the results of operations of such business, which in turn could have a material adverse effect on our results of operations or financial condition.

Our investments in any future joint investment could be adversely affected by our lack of sole decision-making authority, our reliance on a partner’s financial condition and disputes between us and our partners.

We may in the future co-invest with third parties through partnerships or joint investment in an investment or acquisition target or other entities. In such circumstances, we may not be in a position to exercise significant decision-making authority regarding a target business, partnership or other entity if we do not own a substantial majority of the equity interests of the target. These investments may involve risks not present were a third party not involved, including the possibility that partners might become insolvent or fail to fund their share of required capital contributions. In addition, partners may have economic or other business interests or goals that are inconsistent with our business interests or goals, and may be in a position to take actions contrary to our policies or objectives. Such partners may also seek similar acquisition targets as us and we may be in competition with them for such business combination targets. Disputes between us and partners may result in litigation or arbitration that would increase our costs and expenses and divert a substantial amount of our management’s time and effort away from our business. Consequently, actions by, or disputes with, partners might result in subjecting assets owned by the partnership to additional risk. We may also, in certain circumstances, be liable for the actions of our third-party partners. For example, in the future we may agree to guarantee indebtedness incurred by a partnership or other entity. Such a guarantee may be on a joint and several basis with our partner in which case we may be liable in the event such party defaults on its guaranty obligation.

There may be tax consequences associated with our acquisition, investment, holding and disposition of target companies and assets.

We may incur significant taxes in connection with effecting acquisitions or investments, holding, receiving payments from, and operating target companies and assets and disposing of target companies or their assets.

We may make other significant investments in publicly traded companies. Changes in the market prices of the securities we own, particularly during times of volatility in security prices, can have a material impact on the value of SDOI’s portfolio and equity.

We may make other significant investments in publicly traded companies. We will either consolidate our investments and subsidiaries or report such investments under the equity method of accounting. Changes in the market prices of the publicly traded securities of these entities could have a material impact on an investor’s perception of the aggregate value of our company portfolio and on the value of the assets that we can pledge to creditors for debt financing, which in turn could adversely affect our ability to incur additional debt or finance future acquisitions.

We may lack operational control over certain companies in which we invest.

We may make certain strategic investments in various businesses without acquiring all or a majority ownership stake in those businesses. To the extent that such investments represent a minority or passive stake in any business, we may have little to no participation, input or control over the management, policies, and operations of such business. Further, we may lack sufficient ownership of voting securities to impact, without the vote of additional equity holders, any matters submitted to stockholders or members of such business for a vote.

There is inherent risk in making minority equity investments in companies over which we have little to no control. Without control of the management and decision-making of these businesses, we cannot control their direction, strategy, policies and business plans, and we may be powerless to improve any declines in their performance, operating results and financial condition. If any company in which we are a minority investor suffers adverse effects, it may not be able to continue as a going business concern, and we may lose our entire investment.
 
Our ability to dispose of equity interests we acquire may be limited by restrictive stockholder agreements and by the federal securities laws.

When we acquire less than 100% of the equity interests of a company, our investment may be illiquid and we may be subject to restrictive terms of agreements with other equity holders. Our holdings of shares may not be registered under the Securities Act and may be restricted securities under the Securities Act, and our ability to sell such securities could be limited to sales pursuant to: (i) an effective registration statement under the Securities Act covering the resale of those securities, (ii) Rule 144 under the Securities Act, which, among other things, requires a specified holding period and limits the manner and volume of sales, or (iii) another applicable exemption under the Securities Act. The inability to efficiently sell restricted securities when desired or necessary may have a material adverse effect on our financial condition and liquidity, which could adversely affect our ability to service our debt.

Any potential acquisition or investment in a foreign company or a company with significant foreign operations, may subject us to additional risks.

If we acquire or invest in a foreign business or a company with significant foreign operations, we will be subject to risks inherent in business operations outside of the United States. These risks include, for example, currency fluctuations, complex foreign regulatory regimes, punitive tariffs, unstable local tax policies, trade embargoes, risks related to shipment of raw materials and finished goods across national borders, restrictions on the movement of funds across national borders and cultural and language differences. If realized, some of these risks may have a material adverse effect on our business, results of operations and liquidity, and can have an adverse effect on our ability to service the notes we expect to issue and any additional debt we incur.

Standard General L.P. and its affiliates hold a majority of our outstanding Class A Common Stock and Class B Common Stock and have interests which may conflict with interests of our other stockholders.

Standard General L.P. and its affiliates, or the SG Parties, hold a significant majority of our total voting power. Therefore, the SG Parties have a controlling influence over our business and affairs and have the power to determine all matters submitted to a vote of our stockholders, including the election of directors, the removal of directors, and approval of significant corporate transactions such as amendments to our amended and restated certificate of incorporation, mergers and the sale of all or substantially all of our assets. The SG Parties could cause corporate actions to be taken even if the interests of these actions conflict with or are not aligned with the interests of our other stockholders. Section 122(17) of the DGCL provides that a corporation may renounce, in its certificate of incorporation or by action of its board of directors, any interest or expectancy of the corporation in, or in being offered an opportunity to participate in, specified business opportunities or specified classes or categories of business opportunities that are being presented to the corporation or one or more of its officers, directors, or stockholders. In accordance with and to the fullest extent permitted by Section 122(17) of the DGCL, the Company has (i) renounced any interest or expectancy in, or in being offered the opportunity to participate in, any potential transaction or matter which may be a corporate opportunity, including any right, interest, or expectancy regarding any such particular investments or activities which may be a corporate opportunity undertaken by the SG Parties, as the controlling stockholders of the Company, each of their affiliates and each of the respective officers, directors, agents, members, partners and employees of the foregoing; any person or entity (other than the Company and any person or entity that is controlled by the Company) for which any of the foregoing serves as a director, officer, partner, member, manager, representative, agent, adviser, fiduciary or employee and members of the board of directors of the Company who are designated by or affiliated with any of the foregoing (each of the foregoing an Identified Person), (ii) determined that no Identified Person shall be obligated to communicate, offer, or present any potential transaction, matter, or opportunity to the Company even if such potential transaction, matter, or opportunity is of a character that, if presented to the Company, could be taken by the Company and (iii) waived any claim that an Identified Person is liable to the Company or its stockholders for any breach of fiduciary duty by solely by reason of the fact that such Identified Person pursues or acquires any such corporate opportunity for itself, directs such corporate opportunity to another person, or does not communicate information regarding such corporate opportunity to the Company.

Future acquisitions and dispositions may not require a stockholder vote and may be material to us.

Any future acquisitions could be material in size and scope, and our stockholders and potential investors may have virtually no substantive information about any new business upon which to base a decision whether to invest in our Class A Common Stock. In any event, depending upon the size and structure of any acquisitions, stockholders may not have the opportunity to vote on the transaction, and may not have access to any information about any new business until the transaction is completed and we file a report with the Securities and Exchange Commission, or the SEC, disclosing the nature of such transaction and/or business. As a result, our stockholders may be dependent on the broad discretion and judgment of our board of directors in connection with the application of our capital and the selection of acquisition or investment targets.  Even if a stockholder vote is required for any of our future acquisitions, under our Sixth Amended and Restated Certificate of Incorporation and our amended and restated bylaws, the SG Parties, as long as they continue to own a majority of our outstanding Class A Common Stock, may approve such transaction by written consent without our other stockholders having an opportunity to vote on such transaction.
 
Our officers, directors, stockholders and their respective affiliates may have a pecuniary interest in certain transactions in which we are involved, and may also compete with us.

We have not adopted a policy that expressly prohibits our directors, officers, stockholders or affiliates from having a direct or indirect pecuniary interest in any investment to be acquired or disposed of by us or in any transaction to which we are a party or have an interest. Nor do we have a policy that expressly prohibits any such persons from engaging for their own account in business activities of the types conducted by us. Accordingly, such parties may have an interest in certain transactions such as strategic partnerships or joint ventures in which we are involved, and may also compete with us.

In the course of their other business activities, our officers and directors may become aware of investment and acquisition opportunities that may be appropriate for presentation to SDOI as well as the other entities with which they are affiliated. Our officers and directors may have conflicts of interest in determining to which entity a particular business opportunity should be presented.

Our officers and directors may become aware of business opportunities which may be appropriate for presentation to us as well as the other entities with which they are or may be affiliated. Due to our officers’ and directors’ existing affiliations with other entities, they may have fiduciary obligations to present potential business opportunities to those entities in addition to presenting them to us which could cause additional conflicts of interest. To the extent that our officers and directors identify business combination opportunities that may be suitable for entities to which they have pre-existing fiduciary obligations, or are presented with such opportunities in their capacities as fiduciaries to such entities, they may be required to honor their pre-existing fiduciary obligations to such entities. Accordingly, they may not present business combination opportunities to us that otherwise may be attractive to such entities unless the other entities have declined to accept such opportunities. As noted above, Section 122(17) of the DGCL provides that a corporation may renounce, in its certificate of incorporation or by action of its board of directors, any interest or expectancy of the corporation in, or in being offered an opportunity to participate in, specified business opportunities or specified classes or categories of business opportunities that are being presented to the corporation or one or more of its officers, directors, or stockholders. In accordance with and to the fullest extent permitted by Section 122(17) of the DGCL, pursuant to a resolution adopted by our board of directors, the Company has (i) renounced any interest or expectancy in, or in being offered the opportunity to participate in, any potential transaction or matter which may be a corporate opportunity, including any right, interest, or expectancy regarding any such particular investments or activities which may be a corporate opportunity undertaken by the SG Parties, as the controlling stockholders of the Company, each of their affiliates and each of the respective officers, directors, agents, members, partners and employees of the foregoing; any person or entity (other than the Company and any person or entity that is controlled by the Company) for which any of the foregoing serves as a director, officer, partner, member, manager, representative, agent, adviser, fiduciary or employee and members of the board of directors of the Company who are designated by or affiliated with any of the foregoing (each of the foregoing an Identified Person), (ii) determined that no Identified Person shall be obligated to communicate, offer, or present any potential transaction, matter, or opportunity to the Company even if such potential transaction, matter, or opportunity is of a character that, if presented to the Company, could be taken by the Company and (iii) waived any claim that an Identified Person is liable to the Company or its stockholders for any breach of fiduciary duty by solely by reason of the fact that such Identified Person pursues or acquires any such corporate opportunity for itself, directs such corporate opportunity to another person, or does not communicate information regarding such corporate opportunity to the Company.

We will need to increase the size of our organization, and may experience difficulties in managing growth.

We currently have limited operating assets at this time and have only a small number of employees as of the date of this filing. If we proceed with other acquisitions or investments, we expect to require additional personnel and enhanced information technology systems. Future growth will impose significant added responsibilities on members of our management, including the need to identify, recruit, maintain and integrate additional employees and implement enhanced informational technology systems. Our future financial performance and our ability to compete effectively will depend, in part, on our ability to manage any future growth effectively. Future growth will also increase our costs and expenses and limit our liquidity.

From time to time we may be subject to litigation for which we may be unable to accurately assess our level of exposure and which, if adversely determined, may have a material adverse effect on our consolidated financial condition or results of operations.
 
We may become party to legal proceedings that are considered to be either ordinary or routine litigation incidental to our or their current or prior businesses or not material to our consolidated financial position or liquidity. There can be no assurance that we will prevail in any litigation in which we may become involved, or that our insurance coverage will be adequate to cover any potential losses. To the extent that we sustain losses from any pending litigation which are not reserved or otherwise provided for or insured against, our business, results of operations, cash flows and/or financial condition could be adversely affected.
 
As a holding company our only material assets are our equity interests in our operating subsidiaries, and our principal source of revenue and cash flow is distributions from our subsidiaries.

As a holding company our only material assets are our equity interests in our operating subsidiaries, and our principal source of revenue and cash flow is distributions from our subsidiaries. Thus our ability to service our debt, finance acquisitions and pay dividends to our stockholders in the future will be dependent on the ability of our subsidiaries to generate sufficient net income and cash flows to make upstream cash distributions to us. Our subsidiaries will be separate legal entities, and although they may be wholly-owned or controlled by us, they will have no obligation to make any funds available to us, whether in the form of loans, dividends or otherwise. The ability of our subsidiaries to distribute cash to us will also be subject to, among other things, restrictions that are contained in our subsidiaries’ financing agreements, availability of sufficient funds in such subsidiaries and applicable state laws. Claims of creditors of our subsidiaries generally will have priority as to the assets of such subsidiaries over our claims and claims of our creditors and stockholders. To the extent the ability of our subsidiaries to distribute dividends or other payments to us could be limited in any way, this could materially limit our ability to grow, make investments or acquisitions that could be beneficial to our businesses, or otherwise fund and conduct our business.

The Company is and may become a significant stockholder in various independent public and/or private companies, each of which with its own board of directors owing fiduciary duties to all stockholders, not just SDOI as a large stockholder.

Although SDOI is and may become a large stockholder of various independent companies, each such company’s board of directors will continue to have fiduciary duties to all of its stockholders. The respective board of directors may make decisions and approve actions that are in the best interests of all shareholders, even if such actions or decisions are not desirable to SDOI.

If we discover material weaknesses or significant deficiencies in our internal controls over financial reporting, or those of any entity that we acquire, it may adversely affect our ability to provide timely and reliable financial information and satisfy our reporting obligations under federal securities laws, which also could affect the trading price of our Class A Common Stock.

Effective internal and disclosure controls are necessary for us to provide reliable financial reports and effectively prevent fraud and to operate successfully as a public company. If we cannot provide reliable financial reports or prevent fraud, our reputation and operating results would be harmed. A “significant deficiency” is a deficiency, or combination of deficiencies, in internal control over financial reporting that is less severe than a material weakness, yet important enough to merit attention of those responsible for oversight of our financial reporting.

To the extent that any material weakness or significant deficiency exists in our, or our consolidated subsidiaries’, internal control over financial reporting, such material weakness or significant deficiency may adversely affect our ability to provide timely and reliable financial information necessary for the conduct of our business and satisfaction of our reporting obligations under federal securities laws. Ineffective internal and disclosure controls could cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A Common Stock.

We are required to include in our periodic reports filed with the SEC, or to incorporate by reference therein, the financial statements of entities that we acquire. If any such entity does not timely provide such financial statements, it may adversely affect our ability to provide timely and reliable financial information and satisfy our reporting obligations under federal securities laws, which also could affect the trading price of our Class A Common Stock.

We are required to file periodic reports with the SEC that contain our financial information and financial information of entities that we acquire or in which we hold a substantial interest. Should any such entity fail to provide us with such financial information in a timely manner, or at all, it could cause us to be delinquent in meeting our own filing requirements, and cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A Common Stock.

We may be required to incur significant costs, and our activities may be restricted, to avoid investment company status. We may suffer adverse consequences if we are deemed an investment company under the Investment Company Act.

We do not hold ourselves out as an investment company. The Investment Company Act contains substantive legal requirements that regulate the manner in which investment companies are permitted to conduct their business activities. We believe that we are not an investment company under the Investment Company Act. We could incur significant legal expenses if the SEC or a court questioned whether we are an investment company. If the SEC or a court were to disagree with us, we could be required to register as an investment company, which would negatively affect our ability to acquire an operating company; subject us to disclosure and accounting guidance geared toward investment, rather than operating, companies; significantly limit our ability to borrow money, issue options, issue multiple classes of stock and debt, and engage in transactions with affiliates; and require us to undertake significant costs and expenses to meet other disclosure, reporting and regulatory requirements.
 
In addition, if at any time it were established that we are or had been operating as an investment company in violation of the Investment Company Act, there would be a risk, among other material adverse consequences, that we would be subject to monetary penalties or injunctive relief, or both, that we could be unable to enforce contracts with third parties or that third parties could seek to obtain rescission of transactions undertaken during the period in which it was established that we were an unregistered investment company. If, subsequently, we were not permitted or were unable to register as an investment company as described above, it is likely that we would be forced to cease or significantly restructure operations.

In order not to be regulated as an investment company under the Investment Company Act, unless we can qualify for an exemption, we must ensure that we are engaged primarily in a business other than investing, reinvesting, owning, holding or trading in securities (as defined in the Investment Company Act) and that we do not own or acquire “investment securities” having a value exceeding 40% of the value of our total assets (exclusive of United States government securities and cash items) on an unconsolidated basis. Rule 3a-1 of the Investment Company Act provides an exemption from registration as an investment company if a company meets both an asset and an income test and is not otherwise primarily engaged in an investment company business by, among other things, holding itself out to the public as such or by taking controlling interests in companies with a view to realizing profits through subsequent sales of these interests. A company satisfies the asset test of Rule 3a-1 if it has no more than 45% of the value of its total assets (adjusted to exclude United States Government securities and cash) in the form of securities other than interests in United States Government securities, majority-owned subsidiaries and companies which it primarily and actively controls. A company satisfies the income test of Rule 3a-1 if it has derived no more than 45% of its net income for its last four fiscal quarters combined from securities other than interests in United States Government securities, majority owned subsidiaries and primarily controlled companies.

We may be subject to an additional tax as a personal holding company on future undistributed personal holding company income if we generate passive income in excess of operating expenses.

Section 541 of the Code subjects a corporation which is a “personal holding company”, or a PHC, as defined in the Code, to a 20% tax on “undistributed personal holding company income” in addition to the corporation’s normal income tax. Generally, undistributed personal holding company income is based on taxable income, subject to certain adjustments, most notably a deduction for federal income taxes and a modification of the usual net operating loss deduction. Personal holding company income, or PHC Income, is comprised primarily of passive investment income plus, under certain circumstances, personal service income. A corporation generally is considered to be a PHC if (i) at least 60% of its adjusted ordinary gross income for the taxable year is PHC Income and (ii) more than 50% in value of its outstanding stock is owned, directly or indirectly, by five or fewer individuals (including, for this purpose, certain organizations and trusts) at any time during the last half of the corporation’s taxable year.

So long as the SG Parties hold more than 50% in value of our outstanding Common Stock at any time during any tax year, it is possible that at least 60% of our adjusted ordinary gross income could consist of PHC Income as discussed above. Thus, there can be no assurance that we will not be subject to this tax in the future, which, in turn, may materially adversely impact our financial position, results of operations, cash flows and liquidity. In addition, if we are subject to this tax during future periods, statutory tax rate increases could significantly increase tax expense and adversely affect operating results and cash flows.

Our Sixth Amended and Restated Certificate of Incorporation contains provisions which may discourage the takeover of SDOI, may make removal of our management more difficult and may depress our stock price.

Our Sixth Amended and Restated Certificate of Incorporation contains provisions that may have an anti-takeover effect and inhibit a change in our management. Such provisions could also have the effect of discouraging others from making tender offers for our Class A Common Stock. As a result, these provisions could prevent our stockholders from receiving a premium for their shares of Class A Common Stock above the prevailing market prices. These provisions include:

·
the authority of our board of directors to issue, without stockholder approval, approximately 290,000,000 shares of our Class A Common Stock and 20,000,000 shares of our Class B Common Stock;
·
the authority of our board of directors to issue, without stockholder approval, up to 500,000,000 shares of our preferred stock with such terms as our board of directors may determine;
·
special meetings of our stockholders may be called only by the board of directors pursuant to a resolution approved by the affirmative vote of a majority of the directors then in office, the chairman of the board of directors, the president of SDOI, or the holders of shares of capital stock of SDOI representing a majority of the total votes eligible to be cast by holders of shares of capital stock of SDOI;
 
·
advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted on by stockholders at stockholder meetings; and
·
the absence of cumulative voting rights.

These provisions could also limit the price that investors might be willing to pay in the future for shares of our Class A Common Stock, possibly depressing the market price of our Class A Common Stock. In addition, these provisions may frustrate or prevent any attempts by our stockholders to replace members of our board of directors. Because our board of directors is responsible for appointing the members of our management team, these provisions could in turn affect any attempt by our stockholders to replace members of our management team.

Limitations on liability and Indemnification.

As permitted by the DGCL, we have included in our Sixth Amended and Restated Certificate of Incorporation a provision to eliminate the personal liability of our directors for monetary damages for breach or alleged breach of their fiduciary duties as directors, subject to certain exceptions. Our bylaws also provide that we are required to indemnify our directors under certain circumstances, including those circumstances in which indemnification would otherwise be discretionary, and we will be required to advance expenses to our directors as incurred in connection with proceedings against them for which they may be indemnified. In addition, we, by action of our board of directors, may provide indemnification and advance expenses to our officers, employees and agents (other than directors), to directors, officers, employees or agents of a subsidiary of SDOI, and to each person serving as a director, officer, partner, member, employee or agent of another corporation, partnership, limited liability company, joint venture, trust or other enterprise, at our request, with the same scope and effect as the indemnification of our directors provided in our bylaws.

As a former shell company, there are limitations on the ability of our shareholders to resell our restricted securities.

Rule 144 under the Securities Act provides a safe harbor under which holders of restricted securities and affiliates of an issuer may resell their securities into the public market. However, Rule 144 is unavailable for securities of a shell company and former shell companies until, among other things, twelve months have elapsed since the former “shell company” has filed certain information with the SEC.  We ceased being a “shell company” in June 2017 and to file the requisite information with the Commission on June 8, 2017. However, no assurance can be provided as to the date, if any, that our securities will again become eligible for resale under Rule 144. The unavailability of the Rule 144 resale exemption for our securities may adversely affect our ability to raise additional financing on a private placement basis, and may adversely affect the ability of parties purchasing in our private placements and our affiliates to resell their securities into the public market, all of which could have a material adverse effect on us and our shareholders.

We will have to satisfy certain requirements before our Class A Common Stock can be listed on a national securities exchange such as NASDAQ or the NYSE.

Trading of our Class A Common Stock is currently conducted in the over-the-counter market on the OTCQB. Subject to certain exceptions, national securities exchanges, including NASDAQ and the NYSE (including the NYSE American), prohibit a company that has completed a reverse merger with a public shell from applying to list on such an exchange (often referred to as “uplisting”) until the combined entity had traded in the U.S. over-the-counter market, on another national securities exchange, or on a regulated foreign exchange, for at least one year following the filing of all required information about the reverse merger transaction, including audited financial statements. In addition, the rules require that the former shell company has filed all of its required reports for the one-year period, including at least one annual report. Furthermore, in order to uplist, the former shell company must maintain a threshold closing stock price for a substantial period of time. The exchanges may also impose more stringent requirements upon a former shell company seeking to uplist if they so choose. As such, we cannot guarantee that we will in the future be able to cause the listing of our securities on any national securities exchange.

Our stock has generally had a low trading volume and price fluctuations in our Class A Common Stock could result from general market and economic conditions and a variety of other factors, including factors that affect the volatility of the Class A Common Stock of any of our publicly held subsidiaries.

During the period from June 1, 2017 through March 1, 2018, the price of our Class A Common Stock fluctuated between $9.50 and $18.00 per share, with an average daily trading volume for the period of approximately 1,527 shares. The trading price of our Class A Common Stock may be highly volatile and could be subject to fluctuations in response to a number of factors beyond our control, including:

·
actual or anticipated fluctuations in our results of operations and, after we complete acquisitions or investments, the performance of our subsidiaries and their competitors;
·
reaction of the market to our announcement of any future acquisitions or investments;
 
·
the public’s reaction to our press releases, our other public announcements and our filings with the SEC;
·
changes in general economic conditions; and
·
actions of our historical equity investors, including sales of Class A Common Stock by our principal stockholders, our directors and our executive officers.

In addition, the trading price of our Class A Common Stock could be subject to fluctuations in response to a number of factors that affect the volatility of the Class A Common Stock of any of our subsidiaries, such as Turning Point, that are publicly traded.

Future sales of substantial amounts of our Class A Common Stock may adversely affect our market price.

Shares of our Class A Common Stock held by the SG Parties are “restricted securities” under the Securities Act, as that term is defined in the Securities Act. Restricted securities may not be sold in the public market unless the sale is registered under the Securities Act or an exemption from registration is available. However, the SG Parties have registration rights under a registration rights agreement to facilitate the resale of their shares of our Class A Common Stock. Under this registration rights agreement, the SG Parties will have the right, subject to certain conditions, to require us to register the sale of these shares under the federal securities laws. By exercising their registration rights, and selling all or a large number of their shares, the SG Parties could cause the prevailing market price of our Class A Common Stock to decline. In addition, the shares of our Class A Common Stock owned by the ST Parties, may in the future be saleable in the public market under Rule 144 of the Securities Act after the applicable holding period and manner and volume of sales requirements have been met, subject to the restrictions and limitations of that Rule.

Future sales of substantial amounts of our Class A Common Stock into the public market, or perceptions in the market that such sales could occur, may adversely affect the prevailing market price of our Class A Common Stock and impair our ability to raise capital through the sale of additional equity securities.

Because we do not intend to pay any cash dividends on our Class A Common Stock in the near term, capital appreciation, if any, of our Class A Common Stock will be your sole source of potential gain for the foreseeable future. We currently intend to retain all available funds and any future earnings for use as consideration for an acquisition of an operating business or other acquisition or in the operation and expansion of our future businesses. In addition, the terms of any future financing agreements may preclude us from paying any dividends. As a result, capital appreciation, if any, of our Class A Common Stock will be your sole source of potential gain for the foreseeable future.

We will continue to incur increased costs as a result of operating as a public company in the United States.

As a public company in the United States, we have incurred and will continue to incur significant legal, accounting, insurance and other expenses, including costs associated with U.S. public company reporting requirements. We will also incur costs associated with listing requirements, the Sarbanes-Oxley Act and related rules implemented by the SEC. The expenses incurred by U.S. public companies generally for reporting and corporate governance purposes have been increasing. We expect these rules and regulations would increase our legal and financial compliance costs and to make some activities more time-consuming and costly, although we are currently unable to estimate these costs with any degree of certainty. In estimating these costs, we took into account expenses related to insurance, legal, accounting, and compliance activities, as well as other expenses not currently incurred. These laws and regulations could also make it more difficult or costly for us to obtain certain types of insurance, including director and officer liability insurance, and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. These laws and regulations could also make it more difficult for us to attract and retain qualified persons to serve on our board of directors, our board committees or as our executive officers. Furthermore, if we are unable to satisfy our obligations as a public company, we could be subject to delisting of our Class A Common Stock (should it be listed in the future), fines, sanctions and other regulatory action and potentially civil litigation.

If equity research analysts do not publish research or reports about our business or if they issue unfavorable commentary or downgrade our Class A common stock, the market price of our Class A common stock could decline.

The trading market for our Class A Common Stock likely will be influenced by the research and reports that equity and debt research analysts publish about the industry, us and our business. The market price of our Class A Common Stock could decline if one or more securities analysts downgrade our shares or if those analysts issue a sell recommendation or other unfavorable commentary or cease publishing reports about us or our business. If one or more of the analysts who elect to cover us downgrade our shares, the market price of our Class A Common Stock would likely decline.
 
Our board of directors is not composed of a majority of independent directors, which poses a significant risk for us from a corporate governance perspective.
 
Our board of directors currently consists of five members. Our Executive Chairman and our President and CEO serve as two of our directors.  A third director is a principal of Standard General, our majority stockholder. The remaining two directors on the board are independent. Our majority stockholder, the SG Parties, also exercises control over all matters requiring stockholder approval, including the nomination of directors and the approval of significant corporate transactions. Stockholders should bear in mind our current lack of corporate governance measures in formulating their investment decisions.

Failures or interruptions in or breaches to our or our subsidiaries’ computer systems could materially and adversely affect our or our subsidiaries’ operations.

We and our subsidiaries are dependent upon information technologies, computer systems and networks, including those maintained by us and our subsidiaries and those maintained and provided to us and our subsidiaries by third parties (for example, “software-as-a-service” and cloud solutions), to conduct operations and are reliant on technology to help increase efficiency in our and their businesses. We and our subsidiaries are dependent upon operational and financial computer systems to process the data necessary to conduct almost all aspects of our and their businesses. Any failure of our or our subsidiaries’ computer systems, or those of our or their customers, vendors or others with whom we and they do business, could materially disrupt business operations. Computer, telecommunications and other business facilities and systems could become unavailable or impaired from a variety of causes, including storms and other natural disasters, terrorist attacks, fires, utility outages, theft, design defects, human error or complications encountered as existing systems are replaced or upgraded. In addition, it has been reported that unknown entities or groups have mounted so-called “cyber attacks” on businesses and other organizations solely to disable or disrupt computer systems, disrupt operations and, in some cases, steal data. Breaches of our and our subsidiaries’ computer security infrastructure can result from actions by our employees, vendors, third party administrators or by unknown third parties, and may disrupt our or their operations, cause damage to our or their assets and surrounding areas and impact our or their data framework or cause a failure to protect personal information of customers or employees.

The foregoing risks relating to disruption of service, interruption of operations and data loss could impact our and our subsidiaries’ ability to timely perform critical business functions, resulting in disruption or deterioration in our and our subsidiaries’ operations and business and expose us and our subsidiaries to monetary and reputational damages. In addition, potential exposures include substantially increased compliance costs and required computer system upgrades and security related investments. The breach of confidential information also could give rise to legal liability and regulatory action under data protection and privacy laws and regulations.

Risks Relating to Standard Outdoor’s Business

The following section relates to the business of Standard Outdoor LLC and its subsidiaries, the Company’s wholly-owned direct and indirect subsidiaries operating in the outdoor billboard industry.

The out-of-home Advertising industry is highly competitive.

The outdoor billboard industry is highly competitive. There is a concentration in the ownership of billboards in the geographic markets in which we compete and significantly larger companies such as Clear Channel Outdoor Communications, OUTFRONT Media Inc. and Lamar Advertising Company, dominate the out-of-home advertising business.

Our outdoor billboard business is subject to various regulations.

Our billboard businesses are regulated by governmental authorities in the jurisdictions in which we operate. These regulations could limit our growth by putting constraints on the number, location and timing of billboards we wish to erect. New regulations and changes to existing regulations may also curtail our ability to expand our billboard business and adversely affect us by reducing our revenues or increasing our operating expenses. For example, settlements between major tobacco companies and all U.S. states and certain U.S. territories include a ban on the outdoor advertising of tobacco products. Alcohol products and other products may be future targets of advertising bans, and legislation, litigation or out-of-court settlements may result in the implementation of additional advertising restrictions that impact our business. Any significant reduction in alcohol-related advertising or the advertising of other products due to content-related restrictions could negatively impact our revenues generated from such businesses and cause an increase in the existing inventory of available outdoor billboard space throughout the industry.

Our operating results are subject to seasonal variations and other factors.

Our business experiences seasonality due to, among other things, seasonal advertising patterns and seasonal influences on advertising markets. Typically, our revenues and profits are highest in the fourth quarter, during the holiday shopping season, and lowest in the first quarter, as advertisers cut back on spending following the holiday shopping season. The effects of such seasonality make it difficult to estimate future operating results based on the previous results of any specific quarter, which may make it difficult to plan capital expenditures and expansion, could affect operating results and could have an adverse effect on our business, financial condition and results of operations.
 
If our contingency plans relating to hurricanes and other natural disasters fail, the resulting losses could hurt our business.

The Company has determined that it is uneconomical to insure against losses resulting from hurricanes and other natural disasters. Although the Company has developed contingency plans designed to mitigate the threat posed by hurricanes and other forms of inclement weather to its real estate portfolio (e.g., removing advertising faces at the onset of a storm, when possible, which better permits the structures to withstand high winds during the storm), these plans could fail and significant losses could result.

Our business is sensitive to a decline in advertising expenditures, general economic conditions and other external events beyond our control.

We derive our revenues from providing advertising space to customers on out-of-home advertising structures. A decline in the economic prospects of advertisers, the economy in general or the economy of any individual geographic market or industry, particularly a market or industry in which we conduct substantial business could alter current or prospective advertisers’ spending priorities. Disasters, acts of terrorism, political uncertainty, extraordinary weather events, hostilities and power outages could interrupt our ability to display advertising on our advertising structures and lead to a reduction in economic certainty and advertising expenditures. Any reduction in advertising expenditures could harm our business, financial condition or results of operations. Additionally, our financial performance could be adversely affected by, among other things:

·
unfavorable fluctuations in operating costs, which we may be unwilling or unable to pass through to our customers;
·
our inability to successfully adopt or our being late in adopting technological changes and innovations that offer more attractive advertising alternatives than what we offer, which could result in a loss of advertising customers or lower advertising rates, which could have a material adverse effect on our operating results and financial performance;
·
unfavorable shifts in population and other demographics, which may cause us to lose advertising customers as people migrate to markets where we have a smaller presence or which may cause advertisers to be willing to pay less in advertising fees if the general population shifts into a less desirable age or geographical demographic from an advertising perspective;
·
adverse political effects and acts or threats of terrorism or military conflicts; and
·
unfavorable changes in labor conditions, which may impair our ability to operate or require us to spend more to retain and attract key employees.

Risks Relating to Interboro’s Line of Business

For purposes of this section, the insurance business relates to the business of Maidstone Insurance Company, the trade name of Interboro Holdings, Inc., an indirect wholly-owned subsidiary of the Company.

The insurance industry is highly competitive and very fragmented.

Our insurance business operates in an environment that is highly competitive and very fragmented. We compete with other insurance providers, including but not limited to GEICO, State Farm, Progressive, Liberty Mutual and Travelers, as well as numerous specialist, regional and local firms in almost every area of our business. Further, new competitors may regularly enter the market. Any additional industries or markets that we may enter through future acquisitions will also likely be occupied by established competitors. Many of our competitors have substantially greater financial, marketing, product development and human resources than we. Accordingly, even if there is a large market for our products and services in the industries in which we compete, there can be no assurance that our products and services will be purchased by consumers at a rate sufficient for us to achieve our growth objectives.

Our management recognizes that we will, therefore, be forced to compete primarily on the basis of price, location, performance, service, and other factors. Our management believes that our ability to achieve sustained profitability will depend primarily on our ability to consummate acquisitions of assets and businesses in competitive markets, skillfully allocate capital, and establish competitive advantages in each of our businesses. This approach requires that our management perform at a high level and is fraught with risks, many of which are beyond our control or ability to foresee.

The insurance industry is subject to significant regulations.

Governmental regulations could adversely affect our business, financial condition, results of operations and prospects. Our insurance business is subject to maintaining compliance within the highly regulated insurance industry as we continue our pursuit of opportunities in that market, including the maintenance of certain levels of operating capital and reserves. Generally, the extensive regulations are designed to benefit or protect policyholders, rather than our investors, or to reduce systemic financial risk. Failure to comply with these regulations could lead to disciplinary action, the imposition of penalties and the revocation of our authorization to operate in the insurance industry. Changes to the regulatory environment in the insurance industry may cause us to adjust our views or practices regarding regulatory risk management, and necessitate changes to our operations that may limit our growth or have an adverse impact on our business.
 
In addition, certain of the other new markets and industries that we may choose to enter may be regulated by a variety of federal, state and local agencies. We may not be successful in obtaining authority to issue insurance in all states.

We are subject to extensive insurance regulation, which may adversely affect our ability to achieve our business objectives. In addition, if we fail to comply with these regulations, we may be subject to penalties, including fines and suspensions, which may adversely affect our financial condition and results of operations.

Most insurance regulations are designed to protect the interests of insurance policyholders, as opposed to the interests of investors or stockholders. These regulations generally are administered by a department of insurance in each state and relate to, among other things, authorizations to write excess and surplus lines of business, capital and surplus requirements, investment and underwriting limitations, affiliate transactions, dividend limitations, changes in control, solvency and a variety of other financial and non-financial aspects of our business. Significant changes in these laws and regulations could further limit our discretion or make it more expensive to conduct our business. State insurance regulators also conduct periodic examinations of the affairs of insurance companies and require the filing of annual and other reports relating to financial condition, holding company issues and other matters. These regulatory requirements may impose timing and expense constraints that could adversely affect our ability to achieve some or all of our business objectives.

In addition, state insurance regulators have broad discretion to deny or revoke licenses for various reasons, including the violation of regulations. In some instances, where there is uncertainty as to applicability, we follow practices based on our interpretations of regulations or practices that we believe generally to be followed by the industry. These practices may turn out to be different from the interpretations of regulatory authorities. If we do not have the requisite licenses and approvals or do not comply with applicable regulatory requirements, state insurance regulators could preclude or temporarily suspend us from carrying on some or all of our activities or could otherwise penalize us. This could adversely affect our ability to operate our business. Further, changes in the level of regulation of the insurance industry or changes in laws or regulations themselves or interpretations by regulatory authorities could interfere with our operations and require us to bear additional costs of compliance, which could adversely affect our ability to operate our business.

The National Association of Insurance Commissioners, or NAIC, has adopted a system to test the adequacy of capital of insurance companies, known as “risk-based capital.” The Risk-Based Capital Formula establishes the minimum amount of capital necessary for a company to support its overall business operations. It identifies property and casualty insurers that may be inadequately capitalized by looking at three major areas: 1) Asset Risk; 2) Underwriting Risk; and 3) Other Risk. Insurers falling below a calculated threshold may be subject to varying degrees of regulatory action, including supervision, rehabilitation or liquidation. Failure to maintain our risk-based capital at the required levels could adversely affect the ability of our insurance subsidiary to maintain regulatory authority to conduct our business.

We may be unable to obtain reinsurance coverage at reasonable prices or on terms that adequately protect us.
 
We use reinsurance to help manage our exposure to insurance risks. Reinsurance is a practice whereby one insurer, called the reinsurer, agrees to indemnify another insurer, called the ceding insurer, for all or part of the potential liability arising from one or more insurance policies issued by the ceding insurer. The availability and cost of reinsurance are subject to prevailing market conditions, both in terms of price and available capacity, which can affect our business volume and profitability. In addition, reinsurance programs are generally subject to renewal on an annual basis. We may not be able to obtain reinsurance on acceptable terms or from entities with satisfactory creditworthiness. If we are unable to obtain new reinsurance facilities or to renew expiring facilities, our net exposures would increase. In such event, if we are unwilling to bear an increase in our net exposure, we would have to reduce the level of our underwriting commitments, which would reduce our revenues.
 
Many reinsurance companies have begun to exclude certain coverages from, or alter terms in, the reinsurance contracts. For example, many reinsurance policies now exclude coverage of terrorism. As a result, we, like other direct insurance companies, write insurance policies which to some extent do not have the benefit of reinsurance protection. These gaps in reinsurance protection expose us to greater risk and greater potential losses.

We may face difficulties in expanding our insurance business.

As we seek to expand our insurance business operations, our limited size may create near-term constraints on our ability to quickly obtain approvals to operate in all states while simultaneously managing our day-to-day operations. We believe expanding our operations may create additional burdens on our personnel as we manage potentially significantly larger operations. As a result, we anticipate we will need to hire additional personnel to assist the current management team in our expanded insurance operations, and we may not be successful in identifying and hiring qualified personnel on a timely basis, if at all.
 
Our employees may take excessive risks, which could negatively affect our financial condition and business.

As a business which anticipates it will derive a significant portion of its business from the sale of insurance products, we are in the business of binding certain risks. The employees who conduct our business, including executive officers and other members of management, underwriters, product managers and other employees, do so in part by making decisions and choices that involve exposing us to risk. These include decisions such as setting underwriting guidelines and standards, product design and pricing, determining which business opportunities to pursue, setting of claims reserves and making claims payments, selection of reinsurers and structure of reinsurance treaties, and other decisions. We endeavor, in the design and implementation of our compensation programs and practices, to avoid giving our employees incentives to take excessive risks. Employees may, however, take such risks regardless of the structure of our compensation programs and practices. Similarly, although we employ controls and procedures designed to monitor employees’ business decisions and prevent them from taking excessive risks, these controls and procedures may not be effective. If our employees take excessive risks, the impact of those risks could have a material adverse effect on our financial condition and business operations.

If actual insurance claims exceed our claims and claim adjustment expense reserves, or if changes in the estimated level of claims and claim adjustment expense reserves are necessary, our financial results could be materially and adversely affected.

As we grow our insurance operations, we will be establishing claims and claims adjustment expense reserves. These reserves will not represent an exact calculation of liability, but instead will represent management estimates of what the ultimate settlement and administration of claims will cost, generally utilizing actuarial expertise and projection techniques, at a given accounting date.

The process of estimating claims and claim adjustment expense reserves involves a high degree of judgment and is subject to a number of variables. These variables can be affected by both internal and external events, such as: changes in claims handling procedures; adverse changes in loss cost trends, including inflationary pressures; economic conditions including general inflation; legal trends and legislative changes; and varying judgments and viewpoints of the individuals involved in the estimation process, among others. The impact of many of these items on ultimate costs for claims and claim adjustment expenses will be difficult to estimate. We also expect that claims and claim adjustment expense reserve estimation difficulties will also differ significantly by product line due to differences in claim complexity, the volume of claims, the potential severity of individual claims, the determination of occurrence date for a claim and reporting lags (the time between the occurrence of the policyholder event and when it is actually reported to the insurer).

The estimation of claims and claim adjustment expense reserves may also be more difficult during times of adverse or uncertain economic conditions due to unexpected changes in behavior of claimants and policyholders, including an increase in fraudulent reporting of exposures and/or losses, reduced maintenance of insured properties, increased frequency of small claims or delays in the reporting of claims.

We will attempt to consider all significant facts and circumstances known at the time claims and claim adjustment expense reserves are established or reviewed. Due to the recent acquisition of our insurance subsidiary and the inherent uncertainty underlying claims and claim adjustment expense reserve estimates, the final resolution of the estimated liability for claims and claim adjustment expenses will likely be higher or lower than the related claims and claim adjustment expense reserves at the reporting date. Therefore, actual paid losses in the future may yield a materially different amount than will be currently reserved.

Because of the uncertainties set forth above, additional liabilities resulting from an accumulation of insured events may exceed the current related reserves. In addition, our estimate of claims and claim adjustment expenses may change. These additional liabilities or increases in estimates, or a range of either, cannot now be reasonably estimated and could materially and adversely affect our results of operations and/or our financial position.

Our efforts to develop new insurance products or expand in targeted markets may not be successful and may create enhanced risks.

A number of our planned business initiatives in the insurance markets we intend to serve will involve developing new products or expanding existing products in targeted markets. This includes the following efforts, from time to time, to protect or grow market share:

·
We may develop products that insure risks we have not previously insured, contain new coverage or coverage terms or contain different commission terms.
·
We may refine our underwriting processes.
·
We may seek to expand distribution channels.
·
We may focus on geographic markets within or outside of the United States where we have had relatively little or no market share.
 
We may not be successful in introducing new products or expanding in targeted markets and, even if we are successful, these efforts may create enhanced risks. Among other risks:

·
Demand for new products or in new markets may not meet our expectations.
·
To the extent we are able to market new products or expand in new markets, our risk exposures may change, and the data and models we use to manage such exposures may not be as sophisticated or effective as those we use in existing markets or with existing products. This, in turn, could lead to losses in excess of our expectations.
·
Models underlying underwriting and pricing decisions may not be effective.
·
Efforts to develop new products or markets have the potential to create or increase distribution channel conflict.
·
To develop new products or markets, we may need to make substantial capital and operating expenditures, which may also negatively impact results in the near term.
·
We may not get adequate support from the reinsurers.

If our efforts to develop new products or expand in targeted markets are not successful, our results of operations could be materially and adversely affected.
 
Risks Relating to Turning Point’s Line of Business

Sales of tobacco products are generally expected to continue to decline.

As a result of restrictions on advertising and promotions, increases in regulation and excise taxes, health concerns, a decline in the social acceptability of tobacco and tobacco-related products, increased pressure from anti-tobacco groups, and other factors, the overall U.S. market for tobacco products has generally been declining in terms of volume of sales and is expected to continue to decline. The general climate of declining sales of tobacco products is principally driven by the long-standing declines in cigarettes. OTP, on the other hand, as measured by MSAi, have been generating modest volume gains. For instance, while loose leaf chewing tobacco products have declined for over a decade, MST, a much larger Smokeless segment, has been growing in the low single digits over the same period. Additionally, cigarillo cigars and MYO cigar wraps have each demonstrated MSAi volume gains in recent years. Turning Point’s tobacco products comprised approximately 68% of its total 2017 net sales and, while some of Turning Point’s sales volume declines have been offset by higher prices or by increased sales in other product categories, there can be no assurance that these price increases or increased sales can be sustained, especially in an environment of increased regulation and taxation and changes in consumer spending habits.

Turning Point depends on a small number of key third-party suppliers and producers for its products.

Turning Point’s operations are largely dependent on a small number of key suppliers and producers to supply or manufacture Turning Point’s products pursuant to long-term contracts. In 2017, Turning Point’s four most important suppliers and producers were: (i) Swedish Match, which produces all of its loose leaf chewing tobacco in the U.S., (ii) Bolloré, which provides Turning Point with exclusive access to the Zig-Zag® cigarette paper and related accessories in the U.S. and Canada, (iii) Durfort, from which Turning Point sources its MYO cigar wraps, and (iv) JJA, from which Turning Point sources its Zig-Zag branded cigars and cigarillos.

All of Turning Point’s loose leaf tobacco products are manufactured for Turning Point by Swedish Match pursuant to a ten-year renewable agreement, which Turning Point entered into in 2008. The agreement will automatically be renewed for five successive ten-year terms unless either party provides at least 180 days’ notice prior to a renewal term of its intent to terminate the agreement or unless otherwise terminated in accordance with the provisions of the agreement. If a notice of non-renewal is delivered, the contract will expire two years after the date on which the agreement would have otherwise been renewed. Under this agreement, Turning Point retains the rights to all marketing, distribution and trademarks over the loose leaf brands that Turning Point owns or licenses. Turning Point shares responsibilities with Swedish Match related to process control, manufacturing activities, quality control, and inventory management with respect to its loose leaf products. Turning Point relies on the performance by Swedish Match of its obligations under the agreement for the production of its loose leaf tobacco products. Any significant disruption in Swedish Match’s manufacturing capabilities or Turning Point’s relationship with Swedish Match, a deterioration in Swedish Match’s financial condition, or an industry-wide change in business practices with respect to loose leaf tobacco products could have a material adverse effect on Turning Point’s business, results of operations, and financial condition.

All of Turning Point’s Zig-Zag® premium cigarette papers, cigarette tubes, and injectors are sourced from Bolloré, pursuant to a renewable 20-year exclusive agreement. This agreement was most recently renewed in 2012. In addition, under the terms of the agreement with Bolloré, Turning Point renegotiates pricing terms every five years. As of March 1, 2018, Turning Point is operating under a temporary price structure and formula. The parties are considering a modified pricing formula and a potential new index and duration. There is no guarantee that Turning Point will be able to reach a new pricing agreement with Bolloré at all or on terms satisfactory to Turning Point. Further, Bolloré sources its needs for Turning Point’s orders from an affiliate of one of its competitors.

Turning Point sources its MYO cigar wraps through, the patent holder, Durfort pursuant to an agreement entered into in October 2008. The agreement extends until expiration of the patents or cancellation of the agreement by either party.  Turning Point relies on Durfort to produce and package its MYO cigar wraps to Turning Point’s specifications. Any significant disruption in Turning Point’s relationship with Durfort, a deterioration in Durfort’s financial condition, an industry-wide change in business practices relating to MYO cigar wraps, or its ability to source the MYO cigar wraps from them could have a material adverse effect on Turning Point’s business, results of operations, and financial condition.

Turning Point sources its Zig-Zag branded cigars and cigarillos through JJA and its Dominican Republic partner pursuant to an agreement Turning Point entered into in April 2013. Turning Point relies on JJA to purchase and maintain an inventory of all the necessary raw materials, including packaging bearing its intellectual property, manufacture to Turning Point’s specifications, and deliver the products to Turning Point’s designated U.S. distribution center. Turning Point cannot guarantee that JJA will continue to source sufficient quantities of Turning Point’s Zig-Zag branded cigars or cigarillos in order for Turning Point to meet its customer demands. Any significant disruption in Turning Point’s relationship with JJA, a failure to supply Turning Point with inventory in sufficient amounts, a deterioration in JJA’s financial condition, or an industry-wide change in business practices with respect to Zig-Zag branded cigars could have a material adverse effect on Turning Point’s business, results of operations, and financial condition.
 
Pursuant to agreements with certain suppliers, Turning Point has agreed to store tobacco inventory purchased on Turning Point’s behalf and generally maintain a 12- to 24-month supply of its various tobacco products at their facilities. Turning Point cannot guarantee its supply of these products will be adequate to meet the demands of Turning Point’s customers. Further, a major fire, violent weather conditions, or other disasters that affect Turning Point or any of Turning Point’s key suppliers or producers, including Bolloré, Swedish Match, Durfort, or JJA, as well as those of its other suppliers and vendors, could have a material adverse effect on its operations. Although Turning Point has insurance coverage for some of these events, a prolonged interruption in its operations, as well as those of Turning Point’s producers, suppliers, or vendors, could have a material adverse effect on Turning Point’s business, results of operations, and financial condition. In addition, Turning Point does not know whether it will be able to renew any or all of its agreements on a timely basis, on terms satisfactory to Turning Point, or at all.

Any disruptions in Turning Point’s relationships with Bolloré, Swedish Match, Durfort, or JJA, a failure to renew any of its agreements, an inability or unwillingness by any supplier to produce sufficient quantities of Turning Point’s products in a timely manner or finding a new supplier would have a significant impact on Turning Point’s ability to continue distributing the same volume and quality of products and maintain its market share, even during a temporary disruption, which could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Turning Point may be unable to identify or contract with new suppliers or producers in the event of a disruption to its supply.

In order to continue selling Turning Point’s products in the event of a disruption to its supply, Turning Point would have to identify new suppliers or producers that would be required to satisfy significant regulatory requirements. Only a limited number of suppliers or producers may have the ability to produce its products at the volumes Turning Point needs, and it could be costly or time-consuming to locate and approve such alternative sources. Moreover, it may be difficult or costly to find suppliers to produce small volumes of its new products in the event Turning Point is looking only to supplement current supply as suppliers may impose minimum order requirements. In addition, Turning Point may be unable to negotiate pricing or other terms with its existing or new suppliers as favorable as those Turning Point currently enjoys. Even if Turning Point was able to successfully identify new suppliers and contract with them on favorable terms, these new suppliers would also be subject to stringent regulatory approval procedures that could result in prolonged disruptions to Turning Point’s sourcing and distribution processes.

Furthermore, there is no guarantee that a new third-party supplier could accurately replicate the production process and taste profile of its existing products. Turning Point cannot guarantee that a failure to adequately replace its existing suppliers would not have a material adverse effect on Turning Point’s business, results of operations, and financial condition.

Turning Point licenses to use certain brands and trademarks may be terminated or not renewed.

Turning Point is reliant upon brand recognition in the OTP markets in which Turning Point competes as the OTP industry is characterized by a high degree of brand loyalty and a reluctance to switch to new or unrecognizable brands on the part of consumers. Some of the brands and trademarks under which Turning Point’s products are sold are licensed to Turning Point for a fixed period of time in respect of specified markets, such as its distribution and license agreement with Bolloré for use of the Zig-Zag® name and associated trademarks in connection with certain of Turning Point’s cigarette papers and related products.

Turning Point has two licensing agreements with Bolloré, the first of which governs licensing and the use of the Zig-Zag® name with respect to cigarette papers, cigarette tubes, and cigarette injector machines, and the second of which governs licensing and the use of the Zig-Zag® name with respect to e-cigarettes, vaporizers, and e-liquids. In 2017, Turning Point generated $122.7 million in gross sales of Zig-Zag® products, of which $58.4 million was generated from products sold through Turning Point’s license agreement with Bolloré. In the event the licensing agreements with Bolloré are not renewed, the terms of the agreements bind Turning Point under a five-year non-compete clause, under which Turning Point cannot engage in direct or indirect manufacturing, selling, distributing, marketing, or otherwise promoting of cigarette papers of a competitor without Bolloré’s consent, except in limited instances. Turning Point does not know whether it will renew these agreements on a timely basis, on terms satisfactory to Turning Point, or at all. As a result of these restrictions, if Turning Point’s agreements with Bolloré are terminated, Turning Point may not be able to access the markets with recognizable brands that would be positioned to compete in these segments.

In the event that the licenses to use the brands and trademarks in Turning Point’s portfolio are terminated or are not renewed after the end of the term, there is no guarantee Turning Point will be able to find a suitable replacement, or if a replacement is found, that it will be on favorable terms. Any loss in Turning Point’s brand-name appeal to its existing customers as a result of the lapse or termination of Turning Point’s licenses could have a material adverse effect on its business, results of operations, and financial condition.
 
Turning Point may not be successful in maintaining the consumer brand recognition and loyalty of its products.

Turning Point competes in a market that relies on innovation and the ability to react to evolving consumer preferences. The tobacco industry in general, and the OTP industry in particular, are subject to changing consumer trends, demands, and preferences. Therefore, products once favored may over time become disfavored by consumers or no longer perceived as the best option. Consumers in the OTP market have demonstrated a high degree of brand loyalty, but producers must continue to adapt their products in order to maintain their status among these customers as the market evolves. The Zig-Zag® brand has strong brand recognition among smokers, and Turning Point continued success depends in part on its ability to continue to differentiate the brand names that Turning Point owns or licenses and maintains similarly high levels of recognition with target consumers. Trends within the OTP industry change often. Turning Point’s failure to anticipate, identify, or react to changes in these trends could, among other things, lead to reduced demand for its products. Factors that may affect consumer perception of its products include health trends and attention to health concerns associated with tobacco, price-sensitivity in the presence of competitors’ products or substitute products, and trends in favor of new NewGen products that are currently being researched and produced by participants in Turning Point’s industry. For example, in recent years, Turning Point has witnessed a shift in consumer purchases from chewing tobacco to moist snuff due to its increased affordability. Along with Turning Point’s biggest competitors in the chewing tobacco market, which also produce moist snuff, Turning Point has been able to shift priorities and adapt to this change. A failure to react to similar trends in the future could enable its competitors to grow or establish their brands’ market shares in these categories before Turning Point has a chance to respond.

Consumer perceptions of the overall health of tobacco-based products is likely to continue to shift, and Turning Point’s success depends, in part, on its ability to anticipate these shifting tastes and the rapidity with which the markets in which Turning Point competes will evolve in response to these changes on a timely and affordable basis. If Turning Point is unable to respond effectively and efficiently to changing consumer preferences, the demand for its products may decline, which could have a material adverse effect on Turning Point’s business, results of operations, and financial condition.

Regulations may be enacted in the future, particularly in light of increasing restrictions on the form and content of marketing of tobacco products, that would make it more difficult to appeal to Turning Point’s consumers or to leverage existing recognition of the brands that Turning Point owns or licenses. Furthermore, even if Turning Point is able to continue to distinguish its products, there can be no assurance that the sales, marketing, and distribution efforts of its competitors will not be successful in persuading consumers of Turning Point’s products to switch to their products. Many of Turning Point’s competitors have greater access to resources than Turning Point does, which better positions them to conduct market research in relation to branding strategies or costly marketing campaigns. Any loss of consumer brand loyalty to its products or reduction of its ability to effectively brand Turning Point’s products in a recognizable way will have a material effect on Turning Point’s ability to continue to sell its products and maintain Turning Point’s market share, which could have a material adverse effect on Turning Point’s business, results of operations, and financial condition.

Turning Point is subject to substantial and increasing regulation.

The tobacco industry has been under public scrutiny for over 50 years. Industry critics include special interest groups, the U.S. Surgeon General, and many legislators and regulators at the state and federal levels. A wide variety of federal, state, and local laws limit the advertising, sale, and use of tobacco, and these laws have proliferated in recent years. Together with changing public attitudes towards tobacco consumption, the constant expansion of regulations has been a major cause of the overall decline in the consumption of tobacco products since the early 1970s. These regulations relate to, among other things, the importation of tobacco products and shipping throughout the U.S. market, increases in the minimum age to purchase tobacco products, imposition of taxes, sampling and advertising bans or restrictions, flavor bans or restrictions, ingredient and constituent disclosure requirements, and media campaigns and restrictions on where smokers can smoke. Additional restrictions may be legislatively imposed or agreed to in the future. These limitations may make it difficult for Turning Point to maintain the value of any brand.

Moreover, the current trend is toward increasing regulation of the tobacco industry, which is likely to differ between the various U.S. states and Canadian provinces in which Turning Point currently conduct the majority of its business. Extensive and inconsistent regulation by multiple states and at different governmental levels could prove to be particularly disruptive to Turning Point’s business as Turning Point may be unable to accommodate such regulations in a cost-effective manner that allows Turning Point to continue to compete in an economically viable way. Regulations are often introduced without the tobacco industry’s input and have been a significant reason behind reduced industry sales volumes and increased illicit trade.

In 1986, federal legislation was enacted regulating smokeless tobacco products (including dry and moist snuff and chewing tobacco) by, among other things, requiring health warnings on smokeless tobacco packages and prohibiting the advertising of smokeless tobacco products on media subject to the jurisdiction of the Federal Communications Commission (“FCC”). Since 1986, other proposals have been made at the federal, state, and local levels for additional regulation of tobacco products. It is likely that additional proposals will be made in the coming years. For example, the Prevent All Cigarette Trafficking Act prohibits the use of the U.S. Postal Service to mail most tobacco products and amends the Jenkins Act, which established cigarette sales reporting requirements for state excise tax collection, to require individuals and businesses that make interstate sales of cigarettes or smokeless tobacco comply with state tax laws. See “—There is uncertainty related to the federal regulation of NewGen products, cigars and pipe tobacco products” for further details. Additional federal or state regulation relating to the manufacture, sale, distribution, advertising, labeling, mandatory ingredients disclosure and nicotine yield information disclosure of tobacco products could reduce sales, increase costs, and have a material adverse effect on Turning Point’s business, results of operations, and financial condition.
 
On June 22, 2009, the Family Smoking Prevention and Tobacco Control Act (the “Tobacco Control Act”) authorized the FDA for regulatory authority over tobacco products.  The Act also amended the Federal Cigarette Labeling and Advertising Act, which governs how cigarettes can be advertised and marketed, as well as the Comprehensive Smokeless Tobacco Health Education Act (“CSTHEA”), which governs how smokeless tobacco can be advertised and marketed. In addition to the FDA and FCC, Turning Point is subject to regulation by numerous other federal agencies, including the Federal Trade Commission (“FTC”), the Department of Justice (“DOJ”), the Alcohol and Tobacco Tax and Trade Bureau (“TTB”), the U.S. Environmental Protection Agency (“EPA”), the U.S. Department of Agriculture (“USDA”), the Consumer Product Safety Commission (“CPSC”), the U.S. Customs and Border Protection (“CBP”) and the U.S. Center for Disease Control and Prevention’s (“CDC”) Office on Smoking and Health. There have also been adverse legislative and political decisions and other unfavorable developments concerning cigarette smoking and the tobacco industry, which have received widespread public attention. There can be no assurance as to the ultimate content, timing or effect of any regulation of tobacco products by governmental bodies, nor can there be any assurance that potential corresponding declines in demand resulting from negative media attention would not have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Turning Point products are regulated by the FDA, which has broad regulatory powers.

Substantially all of Turning Point’s 2017 U.S. gross sales are derived from the sale of products that are currently regulated by the FDA. The Tobacco Control Act grants the FDA broad regulatory authority over the design, manufacture, sale, marketing and packaging of tobacco products. Among the regulatory powers conferred to the FDA under the Tobacco Control Act is the authority to impose tobacco product standards that are appropriate for the protection of the public health, require manufacturers to obtain FDA review and authorization for the marketing of certain new or modified tobacco products and impose various additional restrictions. Such restrictions may include requiring reduction or elimination of the use of particular constituents or components, requiring product testing, or addressing other aspects of tobacco product construction, constituents, properties or labeling.

Specifically, the Tobacco Control Act (i) increases the number of health warnings required on cigarette and smokeless tobacco products, increases the size of warnings on packaging and in advertising, requires the FDA to develop graphic warnings for cigarette packages, and grants the FDA authority to require new warnings, (ii) imposes restrictions on the sale and distribution of tobacco products, including significant restrictions on tobacco product advertising and promotion as well as the use of brand and trade names, (iii) bans the use of “light,” “mild,” “low” or similar descriptors on tobacco products, (iv) bans the use of “characterizing flavors” in cigarettes other than tobacco or menthol, (v) requires manufacturers to report ingredients and harmful constituents and requires the FDA to disclose certain constituent information to the public, (vi) authorizes the FDA to require the reduction of nicotine and the potential reduction or elimination of other constituents or additives, including menthol, (vii) establishes potentially expensive and time-consuming pre-market and “substantial equivalence” review pathways for tobacco products that are considered new, (viii) gives FDA broad authority to deny product applications thereby preventing the sale or distribution of the product subject to the application (and requiring such product to be removed from the market, if applicable), and (ix) requires tobacco product manufacturers (and certain other entities) to register with the FDA.

The FDA charges user fees based on the USDA unit calculations pro-rated to the annualized FDA congressionally allocated budget. These fees only apply to certain products currently regulated by the FDA, which include Turning Point’s smokeless and smoking products (other than cigarette paper products), but Turning Point may in the future be required to pay such fees on more of its products, and Turning Point cannot accurately predict which additional products may be subject to such fees or the magnitude of such fees, which could become significant.

Although the FDA is prohibited from issuing regulations banning all cigarettes or all smokeless tobacco products, or requiring the reduction of nicotine yields of a tobacco product to zero, it is likely that its regulations in accordance with the Tobacco Control Act could result in a decrease in cigarette and smokeless tobacco sales in the U.S. Turning Point believes that such regulation could adversely affect its ability to compete against Turning Point’s larger competitors, who may be able to more quickly and cost-effectively comply with these new rules and regulations. Turning Point’s ability to gain efficient market clearance for new tobacco products, or even to keep existing products on the market, could also be affected by FDA rules and regulations. Some of Turning Point’s currently marketed products that are subject to FDA regulation will require marketing authorizations from the FDA for Turning Point to continue marketing them (e.g., pre-market or substantial equivalence marketing authorizations, as applicable to the product), which Turning Point cannot guarantee it will be able to obtain. In addition, failure to comply with new or existing tobacco laws under which the FDA imposes regulatory requirements could result in significant financial penalties and government investigations of Turning Point. To the extent Turning Point is unable to respond to, or comply with, new FDA regulations it could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Many of Turning Point’s products contain nicotine, which is considered to be a highly addictive substance.

Many of Turning Point’s products contain nicotine, a chemical that is considered to be highly addictive. The Tobacco Control Act empowers the FDA to regulate the amount of nicotine found in tobacco products, but not to require the reduction of nicotine yields of a tobacco product to zero. Any FDA regulation, whether of nicotine levels or other product attributes, may require Turning Point to reformulate, recall and/or discontinue certain of the products Turning Point may sell from time to time, which may have a material adverse effect on its ability to market its products and have a material adverse effect on Turning Point’s business, results of operations and financial condition.
 
There is uncertainty related to the federal regulation of NewGen products, cigars and pipe tobacco products.  Increased regulatory compliance burdens could have a material adverse impact on Turning Point’s NewGen business development efforts.

Since their introduction, there has been significant uncertainty regarding whether, how and when tobacco regulations would apply to NewGen products, such as electronic cigarettes or other vaporizer products. Based on a decision in December 2010 by the U.S. Court of Appeals for the D.C. Circuit (the “Sottera decision”), the FDA is permitted to regulate electronic cigarettes containing tobacco-derived nicotine as “tobacco products” under the Tobacco Control Act.

Effective August 8, 2016, FDA’s regulatory authority under the Tobacco Control Act was extended to all remaining tobacco products, including: (i) certain NewGen products (such as electronic cigarettes, vaporizers and e-liquids) and their components or parts (such as tanks, coils and batteries); (ii) cigars and their components or parts (such as cigar tobacco); (iii) pipe tobacco; (iv) hookah products; or (v) any other tobacco product “newly deemed” by FDA.  These deeming regulations apply to all products made or derived from tobacco intended for human consumption, but excluding accessories of tobacco products (such as lighters).

The deeming regulations require Turning Point to (i) register with the FDA and report product and ingredient listings; (ii) market newly deemed products only after FDA review and approval; (iii) only make direct and implied claims of reduced risk if the FDA approves after finding that scientific evidence supports the claim and that marketing the product will benefit public health as a whole; (iv) refrain from distributing free samples; (v) implement minimum age and identification restrictions to prevent sales to individuals under age 18; (vi) develop an approved warning plan and include prescribed health warnings on packaging and advertisements; and (vii) refrain from selling the products in vending machines, unless the machine is located in a facility that never admits youth. Newly-deemed tobacco products are also subject to the other requirements of the Tobacco Control Act, such as that they not be adulterated or misbranded. The FDA could in the future promulgate good manufacturing practice regulations for these and Turning Point’s other products, which could have a material adverse impact on its ability and the cost to manufacture its products.

Marketing authorizations will be necessary in order for Turning Point to continue its distribution of NewGen and cigar and pipe tobacco products. Compliance dates vary depending upon type of application submitted, but all newly-deemed products will require an application no later than August 8, 2021, for “combustible” products (e.g. cigar and pipe) and August 8, 2022, for “non-combustible” products (e.g. vapor products) with the exception of Turning Point’s “grandfathered” products (products in commerce as of February 15, 2007) which are already authorized, unless FDA grants extensions to these compliance periods.  Turning Point intends to timely file for the appropriate authorizations to allow Turning Point to sell its products in the U.S. Turning Point has no assurances that the outcome of such processes will result in its products receiving marketing authorizations from the FDA. Turning Point also has certain previously-regulated tobacco products which remain subject to “provisional” substantial equivalence filings made on March 22, 2011.  If the FDA establishes regulatory processes that Turning Point is unable or unwilling to comply with, Turning Point’s business, results of operations, financial condition and prospects could be adversely affected.

The anticipated costs of complying with future FDA regulations will be dependent on the rules issued by the FDA, the timing and clarity of any new rules or guidance documents accompanying these rules, the reliability and simplicity (or complexity) of the electronic systems utilized by FDA for information and reports to be submitted, and the details required by FDA for such information and reports with respect to each regulated product (which have yet to be issued by FDA). Failure to comply with existing or new FDA regulatory requirements could result in significant financial penalties and could have a material adverse effect on Turning Point’s business, results of operations, financial condition and ability to market and sell its products.  Compliance and related costs could be substantial and could significantly increase the costs of operating in Turning Point’s NewGen and cigar and pipe tobacco product markets.

In addition, failure to comply with the Tobacco Control Act and with FDA regulatory requirements could result in litigation, criminal convictions or significant financial penalties and could impair Turning Point’s ability to market and sell its electronic and vaporizer products. At present, Turning Point is not able to predict whether Tobacco Control Act will impact its products to a greater degree than competitors in the industry, thus affecting Turning Point’s competitive position.

Furthermore, neither the Prevent All Cigarette Trafficking Act nor the Federal Cigarette Labeling and Advertising Act currently apply to NewGen products. There may, in the future, also be increased regulation of additives in smokeless products and internet sales of NewGen products. The application of either or both of these federal laws, and of any new laws or regulations which may be adopted in the future, to NewGen products or such additives could result in additional expenses and require Turning Point to change its advertising and labeling, and methods of marketing and distribution of its products, any of which could have a material adverse effect on Turning Point’s business, results of operations and financial condition.
 
Significant increases in state and local regulation of Turning Point’s NewGen products have been proposed or enacted and are likely to continue to be proposed or enacted in numerous jurisdictions.

There has been increasing activity on the state and local levels with respect to scrutiny of NewGen products. State and local governmental bodies across the U.S. have indicated NewGen products may become subject to new laws and regulations at the state and local levels. For example, in January 2015, the California Department of Health declared electronic cigarettes a health threat that should be strictly regulated like tobacco products. Further, some states and cities, have enacted regulations that require obtaining a tobacco retail license in order to sell electronic cigarettes and vaporizer products. Many states and some cities have passed laws restricting the sale of electronic cigarettes and vaporizer products to minors. If one or more states from which Turning Point generates or anticipates generating significant sales of NewGen products bring actions to prevent Turning Point from selling its NewGen products unless Turning Point obtains certain licenses, approvals or permits, and if Turning Point is not able to obtain the necessary licenses, approvals or permits for financial reasons or otherwise and/or any such license, approval or permit is determined to be overly burdensome to Turning Point, then Turning Point may be required to cease sales and distribution of its products to those states, which could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Certain states and cities have already restricted the use of electronic cigarettes and vaporizer products in smoke-free venues. Additional city, state or federal regulators, municipalities, local governments and private industry may enact rules and regulations restricting the use of electronic cigarettes and vaporizer products in those same places where cigarettes cannot be smoked. Because of these restrictions, Turning Point’s customers may reduce or otherwise cease using its NewGen products, which could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Increases in tobacco-related taxes have been proposed or enacted and are likely to continue to be proposed or enacted in numerous jurisdictions.

Tobacco products, premium cigarette papers and tubes have long been subject to substantial federal, state and local excise taxes. Such taxes have frequently been increased or proposed to be increased, in some cases significantly, to fund various legislative initiatives or further disincentives’ smoking. Since 1986, smokeless products have been subject to federal excise tax. Smokeless products are taxed by weight (in pounds or fractional parts thereof) manufactured or imported.

Since the State Children’s Health Insurance Program (“S-CHIP”) reauthorization in early 2009, which utilizes, among other things, taxes on tobacco products to fund health insurance coverage for children, the federal excise tax increases adopted have been substantial and have materially reduced sales in the “roll your own” (“RYO”) /MYO cigarette smoking products market, and also caused volume declines in other markets. Although the RYO/MYO cigarette smoking tobacco and related products market had been one of the fastest growing markets in the tobacco industry in the five years prior to 2009, the reauthorization of S-CHIP increased the federal excise tax on RYO tobacco from $1.10 to $24.78 per pound, and materially reduced the MYO cigarette smoking tobacco market in the U.S. There have not been any increases announced since 2009, but Turning Point cannot guarantee that it will not be subject to further increases, nor whether any such increases will affect prices in a way that further deters consumers from purchasing Turning Point’s products and/or affects its net revenues in a way that renders Turning Point unable to compete effectively.

In addition to federal excise taxes, every state and certain city and county governments have imposed substantial excise taxes on sales of tobacco products, and many have raised or proposed to raise excise taxes in recent years. Approximately one-half of the states tax MST on weight-based versus unit-based. Additional states may consider adopting such revised tax structures as well. Tax increases, depending on their parameters, may result in consumers switching between tobacco products or depress overall tobacco consumption, which is likely to result in declines in overall sales volumes.

Any future enactment of increases in federal or state excise taxes on Turning Point’s tobacco products or rulings that certain of its products should be categorized differently for excise tax purposes could adversely affect demand for its products and may result in consumers switching between tobacco products or a depression in overall tobacco consumption, which would have a material adverse effect on Turning Point’s business, results of operations and financial condition.

If Turning Point’s NewGen products become subject to increased taxes it could adversely affect its business.

Presently the sale of NewGen products is generally not subject to federal, state and local excise taxes like the sale of conventional cigarettes or other tobacco products, all of which generally have high tax rates and have faced significant increases in the amount of taxes collected on their sales. In recent years, however, state and local governments have taken actions to move towards imposing excise taxes on NewGen products. As of December 31, 2017, California, the District of Columbia, Kansas, Louisiana, Minnesota, North Carolina, Pennsylvania, West Virginia and certain localities impose excise taxes on electronic cigarettes and/or liquid vapor. Other jurisdictions are contemplating similar legislation and other restrictions on electronic cigarettes. Should federal, state and local governments and or other taxing authorities begin or continue to impose excise taxes similar to those levied against conventional cigarettes and tobacco products on NewGen products, it may have a material adverse effect on the demand for these products, as consumers may be unwilling to pay the increased costs, which in turn could have a material adverse effect on Turning Point’s business, results of operations and financial condition.
 
Turning Point may be subject to increasing international control and regulation.

The World Health Organization’s Framework Convention on Tobacco Control (“FCTC”) is the first international public health treaty that establishes a global agenda to reduce initiation of tobacco use and regulate tobacco in an effort to encourage tobacco cessation. Over 170 governments worldwide have ratified the FCTC. The FCTC has led to increased efforts to reduce the supply and demand of tobacco products and to encourage governments to further regulate the tobacco industry. The tobacco industry expects significant regulatory developments to take place over the next few years, driven principally by the FCTC. Regulatory initiatives that have been proposed, introduced or enacted include:

·
the levying of substantial and increasing tax and duty charges;
·
restrictions or bans on advertising, marketing and sponsorship;
·
the display of larger health warnings, graphic health warnings and other labeling requirements;
·
restrictions on packaging design, including the use of colors and generic packaging;
·
restrictions or bans on the display of tobacco product packaging at the point of sale, and restrictions or bans on cigarette vending machines;
·
requirements regarding testing, disclosure and performance standards for tar, nicotine, carbon monoxide and other smoke  constituents levels;
·
requirements regarding testing, disclosure and use of tobacco product ingredients;
·
increased restrictions on smoking in public and work places and, in some instances, in private places and outdoors;
·
elimination of duty free allowances for travelers; and
·
encouraging litigation against tobacco companies.

If the U.S. becomes a signatory to the FCTC and/or national laws are enacted in the U.S. that reflect the major elements of the FCTC, Turning Point’s business, results of operations and financial condition could be materially and adversely affected. If NewGen products become subject to one or more of the significant regulatory initiatives proposed under the FCTC, Turning Point’s NewGen products segment may also be materially adversely affected.

As part of Turning Point’s strategy, Turning Point has begun strategic international expansions, such as introducing its moist snuff tobacco products in South America and cigar products in Canada. This and other future expansions may subject Turning Point to additional or increasing international regulation, either by the countries that are the object of the strategic expansion or through international regulatory regimes, such as the FCTC, to which those countries may be signatories.

Liquid vapor products containing nicotine have not been approved for sale in Canada. Some Canadian provinces have restricted sales and marketing of electronic cigarettes, and other provinces are in the process of passing similar legislation. Furthermore, some Canadian provinces have limited the use of electronic cigarettes and vaporizer products in public places. As a result, Turning Point is unable to market these products in the relevant parts of Canada. These measures, and any future measures taken to limit the marketing, sale and use of NewGen products may have a material adverse effect on Turning Point’s business, results of operations and financial condition.

To the extent Turning Point’s existing or future products become subject to international regulatory regimes that Turning Point is unable to comply with or fail to comply with, they may have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Turning Point’s distribution efforts rely in part on Turning Point’s ability to leverage relationships with large retailers and national chains.

Turning Point’s distribution efforts rely in part on Turning Point’s ability to leverage relationships with large retailers and national chains to sell and promote its products, which is dependent upon the strength of the brand names that Turning Point owns or licenses and its sales force effectiveness. In order to maintain these relationships, Turning Point must continue to supply products that will bring steady business to these retailers and national chains. Turning Point may not be able to sustain these relationships or establish other relationships with such entities, which could have a material adverse effect on its ability to execute its branding strategies, Turning Point’s ability to access the end-user markets with its products or Turning Point’s ability to maintain its relationships with the producers of its products. For example, if Turning Point is unable to meet benchmarking provisions in contracts or if Turning Point is unable to maintain and leverage its retail relationships on a scale sufficient to make Turning Point an attractive distributor, it would have a material adverse effect on its ability to source products, and on Turning Point business, results of operations and financial condition.
 
In addition, there are factors beyond Turning Point’s control that may prevent Turning Point from leveraging existing relationships, such as industry consolidation. If Turning Point is unable to develop and sustain relationships with large retailers and national chains, or is unable to leverage those relationships due to factors such as a decline in the role of brick-and-mortar retailers in the North American economy, its capacity to maintain and grow brand and product recognition and increase sales volume will be significantly undermined. In such an event, Turning Point may ultimately be forced to pursue and rely on local and more fragmented sales channels, which will have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Turning Point has a substantial amount of indebtedness that could affect Turning Point’s financial condition.

As of March 1, 2018, Turning Point had $199.1 million outstanding under its credit facility with the ability to borrow an additional $46.5 million under its revolving credit facility. If Turning Point cannot generate sufficient cash flow from operations to service its debt, Turning Point may need to further refinance its debt, dispose of assets or issue equity to obtain necessary funds. Turning Point does not know whether Turning Point will be able to do any of this on a timely basis or on terms satisfactory to Turning Point or at all.

Turning Point substantial amount of indebtedness could limit its ability to:

·
obtain necessary additional financing for working capital, capital expenditures or other purposes in the future;
·
plan for, or react to, changes in Turning Point’s business and the industries in which Turning Point operates;
·
make future acquisitions or pursue other business opportunities;
·
react in an extended economic downturn; and
·
pay dividends to the extent Turning Point determines to do so in the future.

The terms of the agreement governing Turning Point’s indebtedness may restrict Turning Point’s current and future operations, which would adversely affect its ability to respond to changes in Turning Point’s business and to manage its operations.

Turning Point’s 2017 Credit Facility contained, Turning Point’s 2018 Credit Facility contains (refer to Note 22 of Notes to Consolidated Financial Statements for details regarding Turning Point’s 2018 Credit Facility), and any future indebtedness of Turning Point would likely contain, a number of restrictive covenants that impose significant operating and financial restrictions on Turning Point, including restrictions on its ability to, among other things:

·
incur additional debt;
·
pay dividends and make other restricted payments;
·
create liens;
·
make investments and acquisitions;
·
engage in sales of assets and subsidiary stock;
·
enter into sale-leaseback transactions;
·
enter into transactions with affiliates;
·
transfer all or substantially all of Turning Point assets or enter into merger or consolidation transactions; and
·
enter into certain hedging agreements.

Turning Point’s 2017 Credit Facility required, and the 2018 Credit Facility requires, Turning Point to maintain certain financial ratios. As of December 31, 2017, Turning Point was in compliance with the financial and restrictive covenants of the 2017 Credit Facility. However, a failure by Turning Point to comply with the covenants or financial ratios in Turning Point’s debt instruments could result in an event of default under the applicable facility, which could adversely affect its ability to respond to changes in its business and manage its operations. In the event of any default under Turning Point’s 2018 Credit Facility, the lenders under its debt instruments could elect to declare all amounts outstanding under such instruments to be due and payable and require Turning Point to apply all of its available cash to repay these amounts. If the indebtedness under Turning Point’s 2018 Credit Facility were to be accelerated, which would cause an event of default and a cross-acceleration of Turning Point’s obligations under its other debt instruments, there can be no assurance that its assets would be sufficient to repay this indebtedness in full, which could have a material adverse effect on Turning Point’s business, results of operations, and financial condition.

Turning Point face intense competition and may fail to compete effectively.

Turning Point is subject to significant competition across its segments, and compete against companies in all segments that have access to significant resources in terms of technology, relationships with suppliers and distributors and access to cash flow and financial markets.
 
The OTP industry is characterized by brand recognition and loyalty, with product quality, price, marketing and packaging constituting the primary methods of competition. Substantial marketing support, merchandising display, competitive pricing and other financial incentives generally are required to introduce a new brand or to improve or maintain a brand’s market position. Turning Point principal competitors are “big tobacco,” Altria Group, Inc. (formerly Phillip Morris) and British American Tobacco p.l.c. (formerly Reynolds) as well as Swedish Match, Swisher International and manufacturers of electronic cigarettes, including U.K.-based Imperial Brands PLC. These competitors are significantly larger than Turning Point and aggressively seek to limit the distribution or sale of other companies’ products, both at the wholesale and retail levels. For example, certain competitors have entered into agreements limiting retail-merchandising displays of other companies’ products or imposing minimum prices for OTP products, thereby limiting their competitors’ ability to offer discounted products. In addition, the tobacco industry is experiencing a trend toward industry consolidation, most recently evidenced by the July 2017 acquisition of Reynolds American, Inc., by British American Tobacco p.l.c. and the June 2015 acquisition of Lorillard, Inc., by Reynolds American, Inc. Industry consolidation could result in a more competitive environment if Turning Point’s competitors are able to increase their combined resources, enhance their access to national distribution networks, or become acquired by established companies with greater resources than Turning Point. Any inability to compete due to its smaller scale as the industry continues to consolidate and be dominated by “big tobacco” could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

The competitive environment and Turning Point’s competitive position is also significantly influenced by economic conditions, the state of consumer confidence, competitors’ introduction of low-priced products or innovative products, higher taxes, higher absolute prices and larger gaps between price categories and product regulation that diminishes the consumer’s ability to differentiate tobacco products. Due to the impact of these factors, as well as higher state and local excise taxes and the market share of deep discount brands, the tobacco industry has become increasingly price competitive. As Turning Point seeks to adapt to the price competitive environment, its competitors that are better capitalized may be able to sustain price discounts for long periods of time by spreading the loss across their expansive portfolios, with which Turning Point is not positioned to compete.

“Big tobacco” has also established its presence in the NewGen products market. There can be no assurance that Turning Point’s products will be able to compete successfully against these companies or any of its other competitors, some of which have far greater resources, capital, experience, market penetration, sales and distribution channels than Turning Point. In addition, there are currently no U.S. restrictions on advertising electronic cigarettes and vaporizer products and competitors, including “big tobacco,” may have more resources than Turning Point for advertising expenses, which could have a material adverse effect on its ability to build and maintain market share, and thus have a material adverse effect on Turning Point’s business, results of operations and financial condition.

The market for NewGen products is subject to a great deal of uncertainty and is still evolving.

Vaporizer products and electronic cigarettes, having recently been introduced to market, are at an early stage of development, and represent core components of a market that is evolving rapidly and is characterized by a number of market participants. Rapid growth in the use of, and interest in, vaporizer products and electronic cigarettes is recent, and may not continue on a lasting basis. The demand and market acceptance for these products is subject to a high level of uncertainty. Therefore, Turning Point is subject to all of the business risks associated with a new enterprise in an evolving market. Continued evolution, uncertainty and the resulting increased risk of failure of Turning Point’s new and existing product offerings in this market could have a material adverse effect on its ability to build and maintain market share and on Turning Point’s business, results of operations and financial condition. Further, there can be no assurance that Turning Point will be able to continue to effectively compete in the NewGen products marketplace.

Turning Point is subject to significant product liability litigation.

The tobacco industry has experienced and continues to experience significant product liability litigation. Most tobacco liability lawsuits have been brought against manufacturers and sellers of cigarettes by individual plaintiffs, often participating on a class-action basis, for injuries allegedly caused by cigarette smoking or by exposure to cigarette smoke. However, several lawsuits have also been brought against Turning Point and other manufacturers and sellers of smokeless products for injuries to health allegedly caused by use of smokeless products. There are several such suits pending against Turning Point with limited activity. In addition to the risks to Turning Point’s business, results of operations and financial condition resulting from adverse results in any such action, ongoing litigation may divert management’s attention and resources, which could have an impact on its business and operations. Turning Point cannot predict with certainty the outcome of these claims and there can be no assurance that Turning Point will not sustain losses in connection with such lawsuits and that such losses will not have a material adverse effect on Turning Point’s business, results of operations and financial condition.

In addition to current and potential future claims related to Turning Point’s smoking and smokeless products, Turning Point is subject to several lawsuits alleging personal injuries resulting from malfunctioning vaporizer devices and may be subject to claims in the future relating to its other NewGen products. Turning Point is still evaluating these claims and the potential defenses to them. As a result of their relative novelty, electronic cigarette and vaporizer product manufacturers and sellers have only recently become subject to litigation. Turning Point may see increasing litigation over NewGen products or the regulation of its products, as the regulatory regimes surrounding these products develop. For a description of current material litigation to which Turning Point or Turning Point subsidiaries are a party, see “Item 3. Legal Proceedings.”
 
As a result, Turning Point may face substantial costs due to increased product liability litigation relating to new regulations or other potential defects associated with NewGen products it ships, which could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

The scientific community has not yet studied extensively the long-term health effects of electronic cigarette, vaporizer or e-liquids products use.

Electronic cigarettes, vaporizers and related products were recently developed and therefore the scientific community has not had a sufficient period of time to study the long-term health effects of their use. Currently, there is no way of knowing whether these products are safe for their intended use. If the scientific community were to determine conclusively that use of any or all of these products poses long-term health risks, market demand for these products and their use could materially decline. Such a determination could also lead to litigation and significant regulation. Loss of demand for Turning Point’s product, product liability claims and increased regulation stemming from unfavorable scientific studies on these products could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Turning Point is required to maintain cash amounts within an escrow account in order to be compliant with a settlement agreement between Turning Point and certain U.S. states and territories.

In November 1998, the major U.S. cigarette manufacturers entered into the Master Settlement Agreement (“MSA”) and the Smokeless Tobacco Master Settlement Agreement (“STMSA”) with 46 U.S. states and certain U.S. territories and possessions. Pursuant to the MSA and subsequent states’ statutes, a “cigarette manufacturer” (which is defined to also include a manufacturer of RYO/MYO cigarette tobacco) has the option of either becoming a signatory to the MSA, or, as Turning Point has elected, operating as a non-participating manufacturer (“NPM”) by funding and maintaining an escrow account, with sub-accounts on behalf of each settling state. These NPM escrow accounts are governed by states’ escrow and complementary statutes that are generally monitored by the Office of the State Attorney General. The statutes require NPM companies to deposit, on an annual basis, into qualified banks’ escrow funds based on the number of cigarettes or cigarette equivalents, which is measured by pounds of RYO/MYO tobacco sold. NPM companies are, within specified limits, entitled to direct the investment of the escrowed funds and withdraw any interest or appreciation, but cannot withdraw the principal for twenty-five years from the year of each annual deposit, except to withdraw funds deposited pursuant to an individual state’s escrow statute to pay a final judgment to that state’s plaintiffs in the event of such a final judgment. The investment vehicles available to Turning Point are specified in the state escrow agreements and are limited to low-risk government securities.

Various states have enacted or proposed complementary legislation intended to curb the activity of certain manufacturers and importers of cigarettes or MYO tobacco that are selling into MSA states without signing the MSA or who have failed to properly establish and fund a qualifying escrow account. Turning Point believes it has been fully compliant with all applicable laws, regulations, and statutes, although compliance-related issues may, from time to time, be disruptive to Turning Point’s business, any of which could have a material adverse effect on Turning Point’s business, results of operations, and financial condition.

Pursuant to the NPM escrow account statutes, in order to be compliant with the NPM escrow requirements, Turning Point is required to deposit such funds for each calendar year into a qualifying escrow account by April 15 of the following year with each year’s deposit being released from escrow after 25 years. Turning Point has deposited less than $0.1 million relating to 2017 sales and anticipate deposits of less than $0.1 million relating to 2017 sales during April 2018 due to the discontinuance of Turning Point’s MYO tobacco line in the third quarter of 2017. As of December 31, 2017, Turning Point had made deposits of approximately $32.1 million.

Although no such legislation has been proposed or enacted, future changes to the MSA, such as legislation that extends the MSA to products to which it does not currently apply or legislation that limits the ability of companies to receive unused escrow funds after 25 years, may have a material adverse effect on Turning Point’s business, results of operations and financial condition. Despite the amounts maintained and funded to the escrow account, compliance with the funding requirements for the escrow account does not necessarily prevent future federal and/or state regulations with respect to the OTP industry from having a material adverse effect on Turning Point’s business, results of operations and financial condition.

Competition from illicit sources may have an adverse effect on Turning Point’s overall sales volume, restricting the ability to increase selling prices and damaging brand equity.

Illicit trade and tobacco trafficking in the form of counterfeit products, smuggled genuine products and locally manufactured products on which applicable taxes are evaded, represent a significant and growing threat to the legitimate tobacco industry. Factors such as increasing tax regimes, regulatory restrictions, and compliance requirements are encouraging more consumers to switch to illegal, cheaper tobacco products and providing greater rewards for smugglers. Illicit trade can have an adverse effect on Turning Point’s overall sales volume, restrict the ability to increase selling prices, damage brand equity and may lead to commoditization of its products.
 
Although Turning Point combats counterfeiting of its products by engaging in certain tactics, such as requiring all sales force personnel to randomly collect its products from retailers in order to be tested by Turning Point’s quality control team, maintaining a quality control group that is responsible for identifying counterfeit products and using a private investigation firm to help perform surveillance of retailers Turning Point suspects are selling counterfeit products, no assurance can be given that Turning Point will be able to detect or stop sales of all counterfeit products. In addition, Turning Point has in the past and will continue to bring suits against retailers and distributors that sell certain counterfeit products. While Turning Point has been successful in securing financial recoveries from and helping to obtain criminal convictions of counterfeiters in the past, no assurance can be given that Turning Point will be successful in any such suits or that such suits will be successful in stopping other retailers or distributors from selling counterfeit products. Even if Turning Point is successful, such suits could consume a significant amount of management’s time and could also result in significant expenses to the company. Any failure to track and prevent counterfeiting of its products could have a material adverse on its ability to maintain or effectively compete for the products Turning Point distributes under Turning Point’s brand names, which would have a material adverse effect on its business, results of operations and financial condition.

Reliance on information technology means a significant disruption could affect Turning Point’s communications and operations.

Turning Point increasingly relies on information technology systems for its internal communications, controls, reporting and relations with customers and suppliers and information technology is becoming a significantly important tool for its sales staff. Turning Point’s marketing and distribution strategy is dependent upon its ability to closely monitor consumer and market trends on a highly specified level, for which Turning Point is reliant on its highly sophisticated data tracking systems, which are susceptible to disruption or failure. In addition, Turning Point’s reliance on information technology exposes Turning Point to cyber-security risks, which could have a material adverse effect on its ability to compete. Security and privacy breaches may expose Turning Point to liability and cause Turning Point to lose customers, or may disrupt its relationships and ongoing transactions with other entities with whom Turning Point contracts throughout its supply chain. The failure of Turning Point’s information systems to function as intended, or the penetration by outside parties intent on disrupting business processes, could result in significant costs, loss of revenue, assets or personal or other sensitive data and reputational harm.

Security and privacy breaches may expose Turning Point to liability and cause Turning Point to lose customers.

Federal and state laws require Turning Point to safeguard its wholesalers’ and retailers’ financial information, including credit information. Although Turning Point has established security procedures to protect against identity theft and the theft of its customers’ and distributors’ financial information, Turning Point’s security and testing measures may not prevent security breaches and breaches of privacy may occur and could harm Turning Point’s business. Typically, Turning Point relies on encryption and authentication technology licensed from third parties to enhance transmission security of confidential information in relation to financial and other sensitive information that Turning Point has on file. Advances in computer capabilities, new discoveries in the field of cryptography, inadequate facility security or other developments may result in a compromise or breach of the technology used by Turning Point to protect customer data. Any compromise of Turning Point’s security could harm its reputation or financial condition and, therefore, Turning Point’s business. In addition, a party who is able to circumvent Turning Point’s security measures or exploit inadequacies in its security measures, could, among other effects, misappropriate proprietary information, cause interruptions in Turning Point’s operations or expose customers and other entities with which Turning Point interacts to computer viruses or other disruptions. Actual or perceived vulnerabilities may lead to claims against Turning Point. To the extent the measures Turning Point has taken prove to be insufficient or inadequate, Turning Point may become subject to litigation or administrative sanctions, which could result in significant fines, penalties or damages and harm to its reputation.

Contamination of, or damage to, Turning Point’s products could adversely impact sales volume, market share and profitability.

Turning Point’s market position may be affected through the contamination of its tobacco supply or products during the manufacturing process or at different points in the entire supply chain. Turning Point keeps significant amounts of inventory of its products in warehouses and it is possible that this inventory could become contaminated prior to arrival at Turning Point’s premises or during the storage period. If contamination of Turning Point’s inventory or packaged products occurs, whether as a result of a failure in quality control by Turning Point or by one of Turning Point’s suppliers, Turning Point may incur significant costs in replacing the inventory and recalling products. Turning Point may be unable to meet customer demand and may lose customers who purchase alternative brands or products. In addition, consumers may lose confidence in the affected product.

Under the terms of Turning Point’s contracts, it imposes requirements on its suppliers to maintain quality and comply with product specifications and requirements, and on its third-party co-manufacturer to comply with all federal, state and local laws. These third-party suppliers, however, may not continue to produce products that are consistent with Turning Point’s standards or that are in compliance with applicable laws, and Turning Point cannot guarantee that it will be able to identify instances in which its third-party suppliers fail to comply with its standards or applicable laws. A loss of sales volume from a contamination event may occur, and such a loss may affect Turning Point’s ability to supply its current customers and to recapture their business in the event they are forced to switch products or brands, even if on a temporary basis. Turning Point may also be subject to legal action as a result of a contamination, which could result in negative publicity and affect Turning Point’s sales. During this time, Turning Point’s competitors may benefit from an increased market share that could be difficult and costly to regain. Such a contamination event could have a material adverse effect on Turning Point’s business, results of operations and financial condition.
 
Turning Point intellectual property may be infringed.

Turning Point currently relies on trademark and other intellectual property rights to establish and protect the brand names and logos Turning Point owns or licenses. Third parties have in the past infringed, and may in the future infringe, on these trademarks and its other intellectual property rights. Turning Point’s ability to maintain and further build brand recognition is dependent on the continued and exclusive use of these trademarks, service marks and other proprietary intellectual property, including the names and logos Turning Point owns or licenses. Despite Turning Point’s attempts to ensure these intellectual property rights are protected, third parties may take actions that could materially and adversely affect its rights or the value of this intellectual property. Any litigation concerning Turning Point’s intellectual property rights, whether successful or unsuccessful, could result in substantial costs to Turning Point and diversions of its resources. Expenses related to protecting Turning Point’s intellectual property rights, the loss or compromise of any of these rights or the loss of revenues as a result of infringement could have a material adverse effect on Turning Point’s business, results of operations and financial condition, and may prevent the brands Turning Point owns or licenses from growing or maintaining market share.

Third parties may claim that Turning Point infringe their intellectual property and trademark rights.

Competitors in the tobacco products and NewGen markets may claim that Turning Point infringe their proprietary rights. Such claims, whether or not meritorious, may result in the expenditure of significant financial and managerial resources, injunctions against Turning Point or the payment of damages. Further, Turning Point’s vapor distribution businesses distribute third party product brands with those suppliers’ branding and imagery. If that branding or imagery is alleged by other parties to infringe or otherwise violate intellectual property rights, Turning Point could be drawn into such litigation.

Turning Point may fail to manage Turning Point’s growth.

Turning Point has expanded over its history and intends to grow in the future. For example, Turning Point acquired the VaporBeast® brand in 2016 which has accelerated Turning Point’s entry into non-traditional retail channels. In addition, Turning Point acquired the Stoker’s® brand in 2003, and has continued to develop it through the introduction of new products, such as moist snuff. Turning Point has also focused on growing its relationships with its key suppliers through expansion into new product lines, such as the addition of cigarillos, which are sourced by JJA and MYO cigar wraps, which are sourced from Durfort. However, any future growth will place additional demands on Turning Point’s resources, and Turning Point cannot be sure it will be able to manage its growth effectively. If Turning Point is unable to manage its growth while maintaining the quality of its products and profit margins, or if new systems that Turning Point implement to assist in managing its growth do not produce the expected benefits, Turning Point’s business, financial position, results of operations and cash flows could be adversely affected. Turning Point may not be able to support, financially or otherwise, future growth, or hire, train, motivate and manage the required personnel. Turning Point’s failure to manage growth effectively could also limit its ability to achieve its goals as they relate to streamlined sales, marketing and distribution operations and the ability to achieve certain financial metrics.

Turning Point may fail to successfully integrate Turning Point’s acquisitions or otherwise be unable to benefit from pursuing acquisitions.

Turning Point believes there are meaningful opportunities to grow through acquisitions and joint ventures across all OTP product categories and Turning Point expect to continue a strategy of selectively identifying and acquiring businesses with complementary products. Turning Point may be unable to identify, negotiate, and complete suitable acquisition opportunities on reasonable terms.  There can be no assurance that any business acquired by Turning Point will be successfully integrated with its operations or prove to be profitable to Turning Point.  Turning Point may incur future liabilities related to acquisitions. Should any of the following problems, or others, occur as a result of Turning Point’s acquisition strategy, the impact could be material:

·
difficulties integrating personnel from acquired entities and other corporate cultures into Turning Point’s business;
·
difficulties integrating information systems;
·
the potential loss of key employees of acquired companies;
·
the assumption of liabilities and exposure to undisclosed or unknown liabilities of acquired companies; or
·
the diversion of management attention from existing operations

Turning Point is subject to fluctuations in Turning Point’s results that make it difficult to track trends and develop strategies in the short-term.

In response to competitor actions and pricing pressures, Turning Point has engaged in significant use of promotional and sales incentives. Turning Point regularly review the results of its promotional spending activities and adjust its promotional spending programs in an effort to maintain Turning Point’s competitive position. Accordingly, unit sales volume and sales promotion costs in any period are not necessarily indicative of sales and costs that may be realized in subsequent periods. Additionally, promotional activity significantly increases net sales in the month in which it is initiated and net sales are adversely impacted in the month after a promotion. Accordingly, based upon the timing of Turning Point’s marketing and promotional initiatives, Turning Point has and may continue to experience significant variability in its results, which could affect its ability to formulate strategies that allow Turning Point to maintain its market presence across volatile periods. If Turning Point fluctuations obscure its ability to track important trends in its key markets, it may have a material adverse effect on Turning Point’s business, results of operations and financial condition.
 
Turning Point is subject to the risks of exchange rate fluctuations.

Currency movements and suppliers’ price increases relating to premium cigarette papers and cigarette tubes are the primary factors affecting Turning Point’s cost of sales. These products are purchased from Bolloré and Turning Point makes payments in euros. Thus, Turning Point bears certain foreign exchange rate risk for certain of its inventory purchases. In addition, as part of Turning Point’s strategy, Turning Point has begun strategic international expansions. As a result, Turning Point may be more sensitive to the risks of exchange rate fluctuations. To manage this risk, Turning Point sometimes utilize short-term forward currency contracts to purchase euros for its inventory purchases. Turning Point has a foreign exchange currency policy which governs Turning Point’s hedging of risk. While Turning Point engages in hedging transactions from time to time, no assurance can be made that Turning Point will be successful in eliminating currency exchange risks or that changes in currency rates will not have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Adverse U.S. and global economic conditions could negatively impact Turning Point’s business, prospects, results of operations, financial condition or cash flows.

Turning Point’s business and operations are sensitive to global economic conditions. These conditions include interest rates, energy costs, inflation, recession, fluctuations in debt and equity capital markets and the general condition of the U.S. and world economy. A material decline in the economic conditions affecting consumers, which cause a reduction in disposable income for the average consumer, may change consumption patterns, and may result in a reduction in spending on OTP or a switch to cheaper products or products obtained through illicit channels. Electronic cigarettes, vaporizer and e-liquid products are relatively new to market and may be regarded by users as a novelty item and expendable. As such, demand for Turning Point’s NewGen products may be particularly sensitive to economic conditions such as inflation, recession, high energy costs, unemployment, changes in interest rates and money supply, changes in the political environment and other factors beyond its control, any combination of which could result in a material adverse effect on Turning Point’s business, results of operations and financial condition.

Turning Point’s supply to its wholesalers and retailers is dependent on the demands of their customers who are sensitive to increased sales taxes and economic conditions affecting their disposable income.

Consumer purchases of tobacco products are historically affected by economic conditions, such as changes in employment, salary and wage levels, the availability of consumer credit, inflation, interest rates, fuel prices, sales taxes, and the level of consumer confidence in prevailing and future economic conditions. Discretionary consumer purchases, such as of OTP, may decline during recessionary periods or at other times when disposable income is lower and taxes may be higher.

In addition, states such as New York, Hawaii, Rhode Island, Georgia and North Carolina have begun collecting taxes on internet sales where companies have used independent contractors in those states to solicit sales from residents of those states. These taxes apply to Turning Point’s online sales of NewGen products into those states, and may result in reduced demand from the independent wholesalers who may not be able to absorb the increased taxes or successfully pass them onto the end-user without experiencing reduced demand. The requirement to collect, track and remit taxes based on independent affiliate sales may require Turning Point to increase its prices, which may affect demand for its products or conversely reduce Turning Point’s net profit margin, which could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

Turning Point failure to comply with certain environmental, health and safety regulations could adversely affect Turning Point’s business.

The storage, distribution and transportation of some of the products that Turning Point sells are subject to a variety of federal and state environmental regulations. In addition, Turning Point’s manufacturing facilities are similarly subject to federal, state and local environmental laws. Turning Point is also subject to operational, health and safety laws and regulations. Turning Point failure to comply with these laws and regulations could cause a disruption in its business, an inability to maintain Turning Point’s manufacturing resources, and additional and potentially significant remedial costs and damages, fines, sanctions or other legal consequences that could have a material adverse effect on Turning Point’s business, results of operations and financial condition.

The departure of key management personnel and the failure to attract and retain talent could adversely affect Turning Point’s operations.

Turning Point success depends upon the continued contributions of Turning Point’s senior management. Its ability to implement its strategy of attracting and retaining the best talent may be impaired by the decreasing social acceptance of OTP usage. The OTP industry competes for talent with the consumer products industry and other companies that enjoy greater societal acceptance. As a result, Turning Point may be unable to attract and retain the best talent, which could have a material adverse effect on Turning Point’s business, results of operations and financial condition.
 
Imposition of significant tariffs on imports into the U.S., could have a material and adverse effect on Turning Point business.

Turning Point is required to purchase all of its cigarette papers, cigarette tubes and cigarette injector machines from Bolloré in France, and Turning Point sources its Zig-Zag branded cigars and cigarillos and other products from the Dominican Republic. President Trump and his administration have imposed significant tariffs on certain goods imported from outside the U.S.  If the U.S. were to impose additional tariffs on goods Turning Point imports, it is likely to make it more costly for Turning Point to import goods from other countries.  As a result, Turning Point’s business, financial condition and results of operations could be materially adversely affected.

The reduced disclosure requirements applicable to emerging growth companies may make Turning Point’s common stock less attractive to investors, potentially decreasing Turning Point’s stock price.

Turning Point is an “emerging growth company” as defined under the federal securities laws.  For as long as Turning Point continue to be an emerging growth company, Turning Point may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not Emerging Growth Companies. Investors may find Turning Point’s common stock less attractive because Turning Point may rely on these exemptions, which include but are not limited to, not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act (“Section 404”), reduced disclosure obligations regarding executive compensation in Turning Point’s periodic reports and proxy statements, and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and shareholder approval of any golden parachute payments not previously approved. In addition, Section 107 of the JOBS Act (“Section 107”) provides that an Emerging Growth Company can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. Turning Point has elected to opt out of the extended transition period for complying with the revised accounting standards.

If investors find Turning Point’s common stock less attractive as a result of exemptions and reduced disclosure requirements, there may be a less active trading market for Turning Point’s common stock and Turning Point’s stock price may be more volatile or decrease.

Turning Point may lose Turning Point’s status as an emerging growth company before the five-year maximum time period a company may retain such status.

Turning Point has elected to rely on certain exemptions and reduced disclosure requirements applicable to emerging growth companies and expect to continue to do so. However, Turning Point may choose to “opt out” of such reduced disclosure requirements and provide disclosure required for companies that do not qualify as emerging growth companies. In addition, Turning Point chose to opt out of the provision of the JOBS Act that permits Turning Point to take advantage of an extended transition period to comply with new or revised accounting standards applicable to public companies. Section 107 provides that Turning Point’s decision to opt out of the extended transition period for complying with new or revised accounting standards would be irrevocable.

Furthermore, although Turning Point is able to remain an emerging growth company for up to five years, Turning Point may lose such status at an earlier time if (i) Turning Point’s annual gross revenues exceed $1 billion, (ii) Turning Point becomes a “large accelerated filer” as defined in Rule 12b-2 under the Exchange Act, which would occur if the market value of Turning Point’s common stock that is held by non-affiliates exceeds $700 million as of the last business day of Turning Point’s most recently completed second fiscal quarter, or (iii) Turning Point issued more than $1 billion in non-convertible debt during the preceding three-year period.

When Turning Point loses its emerging growth company status, whether due to an election, the end of the five-year period, or one of the circumstances listed in the preceding paragraph, the emerging growth company exemptions will cease to apply and Turning Point expect it will incur additional expenses and devote increased management effort toward ensuring compliance with the non-emerging growth company requirements. Turning Point cannot predict or estimate the amount of additional costs Turning Point may incur as a result of the change in its status or the timing of such costs, though such costs may be substantial.

Turning Point’s principal stockholders are able to exert significant influence over matters submitted to Turning Point’s stockholders and may take certain actions to prevent takeovers.

Standard Diversified Opportunities Inc. (“SDOI”), which is controlled by funds managed by Standard General L.P. (together with the funds it manages, “Standard General”), is a significant stockholder. SDOI owns approximately 51% of Turning Point stock and Standard General directly owns approximately 2.4% of Turning Point common stock. The existence of these and other significant stockholders may have the effect of deterring hostile takeovers, delaying or preventing changes in control or changes in management, or limiting the ability of Turning Point’s other stockholders to approve transactions that they may deem to be in the best interests of Turning Point company. In addition, Turning Point’s significant stockholders will be able to exert significant influence over the decision, if any, to authorize additional capital stock, which, if issued, could have a significant dilutive effect on holders of common stock.
 
Turning Point’s certificate of incorporation provides that the doctrine of “corporate opportunity” will not apply against SDOI and Standard General in a manner that would prohibit them from investing in competing businesses or doing business with Turning Point’s customers. To the extent they invest in such other businesses, SDOI and Standard General may have differing interests than Turning Point other stockholders. In addition, SDOI and Standard General are permitted to engage in business activities or invest in or acquire businesses which may compete with or do business with any competitors of Turning Point.

Furthermore, Standard General is in the business of managing investment funds and therefore may pursue acquisition opportunities that may be complementary to Turning Point’s business and, as a result, such acquisition opportunities may not be available to Turning Point.

Turning Point’s certificate of incorporation and bylaws, as well as Delaware law and certain regulations, could discourage or prohibit acquisition bids or merger proposals, which may adversely affect the market price of Turning Point’s common stock.

Turning Point’s certificate of incorporation authorizes Turning Point’s board of directors to issue preferred stock without stockholder approval. If Turning Point’s board of directors elects to issue preferred stock, it could be more difficult for a third party to acquire Turning Point. In addition, some provisions of Turning Point’s certificate of incorporation, bylaws and applicable law could make it more difficult for a third party to acquire control of Turning Point, even if the change of control would be beneficial to Turning Point’s stockholders, including:

·
limitations on the removal of directors;
·
limitations on the ability of Turning Point’s stockholders to call special meetings;
·
limitations on stockholder action by written consent;
·
establishing advance notice provisions for stockholder proposals and nominations for elections to the board of directors to be acted upon at meetings of stockholders; and
·
limitations on the ability of Turning Point’s stockholders to fill vacant directorships or amend the number of directors constituting Turning Point’s board of directors.

Turning Point’s certificate of incorporation limits the ownership of Turning Point’s common stock by individuals and entities that are Restricted Investors. These restrictions may affect the liquidity of Turning Point’s common stock and may result in Restricted Investors being required to sell or redeem their shares at a loss or relinquish their voting, dividend and distribution rights.

For so long as Turning Point or one of Turning Point’s subsidiaries is party to any of the Bolloré distribution agreements, Turning Point’s certificate of incorporation will limit the ownership of Turning Point’s common stock by any “Restricted Investor” to 14.9% of Turning Point outstanding common stock and shares convertible or exchangeable therefor (including Turning Point’s non-voting common stock) (the “Permitted Percentage”). A “Restricted Investor” is defined as: (i) any entity that directly or indirectly manufactures, sells, markets, distributes or otherwise promotes cigarette paper booklets, filter tubes, injector machines or filter tips in the United States, the District of Columbia, the territories, possessions and military bases of the United States and the Dominion of Canada (a “Bolloré Competitor”), (ii) any entity that owns more than a 20% equity interest in any Bolloré Competitor, or (iii) any person who serves as a director or officer of, or any entity that has the right to appoint an officer or director of, any Bolloré Competitor or of any Entity that owns more than a 20% equity interest in any Bolloré Competitor (each, a “Restricted Investor”). Turning Point’s certificate of incorporation further provides that any issuance or transfer of shares to a Restricted Investor in excess of the Permitted Percentage will be ineffective as against Turning Point and that neither Turning Point nor its transfer agent will register the issuance or transfer of shares or be required to recognize the transferee or owner as a holder of Turning Point’s common stock for any purpose except to exercise Turning Point remedies described below. Any shares in excess of the Permitted Percentage in the hands of a Restricted Investor will not have any voting or dividend rights and are subject to redemption by Turning Point in its discretion. The liquidity or market value of the shares of Turning Point’s common stock may be adversely impacted by such transfer restrictions.

As a result of the above provisions, a proposed transferee of Turning Point’s common stock that is a Restricted Investor may not receive any return on its investment in shares it purchases or owns, as the case may be, and it may sustain a loss. Turning Point is entitled to redeem all or any portion of such shares acquired by a Restricted Investor in excess of the Permitted Percentage (“Excess Shares”) at a redemption price based on a fair market value formula that is set forth in Turning Point’s certificate of incorporation, which may be paid in any form, including cash or promissory notes, at its discretion. Excess Shares not yet redeemed will not be accorded any voting, dividend or distribution rights while they constitute Excess Shares. As a result of these provisions, a stockholder who is a Restricted Investor may be required to sell its shares of Turning Point’s common stock at an undesirable time or price and may not receive any return on its investment in such shares. However, Turning Point may not be able to redeem Excess Shares for cash because its operations may not have generated sufficient excess cash flow to fund the redemption and Turning Point may incur additional indebtedness to fund all or a portion of such redemption, in which case its financial condition may be materially weakened.
 
Turning Point’s certificate of incorporation permits Turning Point to require that owners of any shares of Turning Point’s common stock provide certification of their status as a Restricted Investor. In the event that a person does not submit such documentation, Turning Point’s certificate of incorporation provides Turning Point with certain remedies, including the suspension of the payment of dividends and distributions with respect to shares held by such person and deposit of any such dividends and distributions into an escrow account. As a result of non-compliance with these provisions, an owner of the shares of Turning Point’s common stock may lose significant rights associated with those shares.

Although Turning Point’s certificate of incorporation contains the above provisions intended to assure compliance with the restrictions on ownership of Turning Point’s common stock by Restricted Investors, Turning Point may not be successful in monitoring or enforcing the provisions. A failure to enforce or otherwise maintain compliance could lead Bolloré to exercise its termination rights under the agreements, which would have a material and adverse effect on the its financial position and its results of operations.

In addition to the risks described above, the foregoing restrictions could delay, defer or prevent a transaction or change in control that might involve a premium price for Turning Point’s common stock or that might otherwise be in the best interest of Turning Point’s stockholders.

Future sales of Turning Point’s common stock in the public market could reduce Turning Point’s stock price, and any additional capital raised by Turning Point through the sale of equity or convertible securities may dilute Turning Point’s stockholders.

Turning Point may sell additional shares of common stock in subsequent public offerings. Turning Point may also issue additional shares of common stock or convertible securities.

Turning Point cannot predict the size of future issuances of its common stock or securities convertible into common stock or the effect, if any, that future issuances and sales of shares of its common stock will have on the market price of its common stock. Sales of substantial amounts of Turning Point’s common stock (including shares issued in connection with an acquisition), or the perception that such sales could occur, may adversely affect prevailing market prices of Turning Point’s common stock.

Turning Point may issue preferred stock whose terms could adversely affect the voting power or value of Turning Point’s common stock.

Turning Point’s certificate of incorporation authorizes Turning Point to issue, without the approval of Turning Point’s stockholders, one or more classes or series of preferred stock having such designations, preferences, limitations and relative rights, including preferences over Turning Point’s common stock respecting dividends and distributions, as Turning Point’s board of directors may determine. The terms of one or more classes or series of preferred stock could adversely impact the voting power or value of Turning Point’s common stock. For example, Turning Point might grant holders of preferred stock the right to elect some number of Turning Point’s directors in all events or on the happening of specified events or the right to veto specified transactions. Similarly, the repurchase or redemption rights or liquidation preferences Turning Point might assign to holders of preferred stock could affect the residual value of the common stock.

Turning Point status as a "controlled company" could make Turning Point’s common stock less attractive to some investors or otherwise harm Turning Point’s stock price.

Because Turning Point qualifies as a "controlled company" under the corporate governance rules for NYSE-listed companies, Turning Point is not required to have, and could elect in the future not to have, a majority of Turning Point’s board of directors be independent, a compensation committee, or an independent nominating function. Accordingly, should the interests of Turning Point’s controlling stockholder differ from those of other stockholders, the other stockholders may not have the same protections afforded to stockholders of companies subject to all of the corporate governance rules for NYSE-listed companies. Turning Point’s status as a controlled company could make Turning Point’s common stock less attractive to some investors or otherwise harm Turning Point stock price.

Item 1B.
Unresolved Staff Comments
 
None.
 
Item 2.
Properties
 
The Company is headquartered in Mineola, New York, beginning in January 2018. Previously the Company was headquartered in Wilmington, Delaware. As of December 31, 2017, Turning Point operated manufacturing, distribution, retail, office, and warehouse space in the U.S. with a total floor area of approximately 360,000 square feet, all of which is leased with the exception of its Dresden, Tennessee, manufacturing facility which was purchased in 2016. To provide a cost-efficient supply of products to Turning Point’s customers, Turning Point maintains centralized management of internal manufacturing and nationwide distribution facilities. Turning Point’s three manufacturing and distribution facilities are located in Louisville, Kentucky, Dresden, Tennessee, and Miami, Florida. As of the date of this report, the Company believes that its facilities are adequate for its present purposes.
 
The following table describes Turning Point’s principal properties as of December 31, 2017:
 
Location
 
Principal Use
 
Square Feet
 
Owned or
Leased
Darien, CT
 
Administrative office
 
1,950
 
Leased
             
Louisville, KY
 
Corporate offices, manufacturing, R&D, warehousing, and distribution
 
248,800
 
Leased
             
Carlsbad, CA
 
Administrative office
 
10,491
 
Leased
             
Dresden, TN
 
Manufacturing and administration
 
76,600
 
Owned
             
Miami, FL
 
Corporate office, manufacturing, and warehousing
 
8,510
 
Leased
             
Miami, FL
 
Corporate office
 
2,512
 
Leased
             
Various cities in southern Florida
 
Seven retail stores
 
10,906
 
Leased
 
Item 3.
Legal Proceedings
 
We are a party from time to time to various proceedings in the ordinary course of business. For a description of the Master Settlement Agreement, to which we are a party, see “Financial Statements and Supplementary Data - Note 2 Summary of Significant Accounting Policies: Risk and Uncertainties.” Other than the proceedings mentioned below, there is no material litigation, arbitration or governmental proceeding currently pending against us or any of our officers or directors in their capacity as such, and we and our officers and directors have not been subject to any such proceeding.
 
Other major tobacco companies are defendants in a number of product liability claims. In a number of these cases, the amounts of punitive and compensatory damages sought are significant, and could have a material adverse effect on our business and results of operations. We are a defendant in certain cases which have been dormant for many years. Plaintiffs’ counsel are in the process of voluntarily dismissing those claims.
 
We are subject to several lawsuits alleging personal injuries resulting from malfunctioning vaporizer devices and may be subject to claims in the future relating to our other NewGen products. We are still evaluating these claims and the potential defenses to them.  For example, we did not design or manufacture the products at issue; rather, we were merely the distributor.  Nonetheless, there can be no assurance that we will prevail in these cases, and they could have a material adverse effect on our business and results of operations.  As a result of their relative novelty, electronic cigarette and vaporizer product manufacturers and sellers have only recently become subject to litigation.
 
Item 4.
Mine Safety Disclosures
 
Not applicable.
 
PART II
 
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
 
Subsequent to the completion of the Contribution and Exchange Transaction and the reverse 25-to-1 stock split on June 1, 2017, trading in the Company’s Class A common stock is conducted in the over-the-counter market on the OTCQB under the symbol "SDOIA."
 
   
Class A Common Stock
Price Range
 
   
High
   
Low
 
             
Fourth quarter 2017
   
10.85
     
9.50
 
Third quarter 2017
   
12.00
     
10.20
 
June 1, 2017 - June 30, 2017
   
18.00
     
10.06
 

Prior to the completion of the Contribution and Exchange Transaction on June 1, 2017, trading in the Company’s common stock was conducted in the over-the-counter market on the OTCQB under the symbol "SDOI”. Set forth below are the quarterly high and low bid prices for the shares of common stock of the Company as reported by the OTC Bulletin Board without retail mark-up, mark-down or commission, which may not necessarily represent actual transactions:
 
   
Common Stock
Price Range
 
   
High
   
Low
 
             
April 1, 2017 - May 31, 2017
   
0.87
     
0.76
 
First quarter 2017
   
0.98
     
0.77
 
Fourth quarter 2016
   
1.18
     
0.87
 
Third quarter 2016
   
1.00
     
0.89
 
Second quarter 2016
   
1.00
     
0.88
 
First quarter 2016
   
1.18
     
0.83
 
 
As of March 12, 2018, there were 48 registered holders of record of our Class A common stock, based on information provided by our transfer agent. The actual number of stockholders is greater than this number of registered record holders, and includes stockholders who are beneficial owners, but whose shares are held in “street name” by brokers and other nominees.

Securities Authorized for Issuance under Equity Compensation Plans

The table below presents certain information as of December 31, 2017 concerning securities issuable in connection with equity compensation plans that have been approved by the Company’s stockholders and that have not been approved by the Company’s stockholders.  The 1,000,000 shares available for issuance under equity compensation plan approved by the Company’s stockholders are all available for issuance under the Company’s 2017 Omnibus Equity Compensation Plan, which became effective as of August 17, 2017.

Plan Category
 
Number of securities to
be issued upon exercise
of outstanding options,
warrants, and rights
(a)
   
Weighted-average
exercise price of
outstanding options,
warrants, and rights
(b)
   
Number of securities
remaining available for
issuance under equity
compensation plans
(excluding securities
reflected in column (a))
(c)
 
Equity compensation plan approved by stockholders
   
-
     
-
     
1,000,000
 
Equity compensation not approved by stockholders
   
-
     
-
     
-
 
Total
   
-
     
-
     
1,000,000
 
 
Recent Sales of Unregistered Securities

None.
 
Item 6.
Selected Financial Data

   
Year Ended December 31,
 
   
2017
   
2016
   
2015
   
2014
   
2013
 
Consolidated Statement of Operations Data:
                             
Net sales
 
$
285,801
   
$
206,228
   
$
197,256
   
$
200,329
   
$
193,304
 
Cost of sales
   
160,936
     
105,872
     
100,960
     
107,165
     
103,043
 
Gross profit
   
124,865
     
100,356
     
96,296
     
93,164
     
90,261
 
Selling, general and administrative expenses
   
77,944
     
56,771
     
51,785
     
45,108
     
46,849
 
Operating income
   
46,921
     
43,585
     
44,511
     
48,056
     
43,412
 
Interest expense and financing costs
   
16,889
     
26,621
     
34,284
     
34,311
     
44,094
 
Interest income
   
(64
)
   
-
     
-
     
-
     
-
 
Investment income
   
(438
)
   
(768
)
   
-
     
-
     
-
 
Loss on extinguishment of debt
   
6,116
     
2,824
     
-
     
42,780
     
441
 
Income (loss) before income taxes
   
24,418
     
14,908
     
10,227
     
(29,035
)
   
(1,123
)
Income tax expense (benefit)
   
7,280
     
(12,005
)
   
1,078
     
370
     
486
 
Net income (loss)
   
17,138
     
26,913
     
9,149
     
(29,405
)
   
(1,609
)
Amounts attributable to noncontrolling interests
   
(6,761
)
   
-
     
-
     
-
     
-
 
Net income (loss) attributable to Standard Diversified Opportunities Inc.
 
$
10,377
   
$
26,913
   
$
9,149
   
$
(29,405
)
 
$
(1,609
)
                                         
     
2017
     
2016
     
2015
     
2014
     
2013
 
Basic income (loss) attributable to SDOI per common share:
                                       
Net income (loss) attributable to SDOI
 
$
0.49
   
$
1.10
   
$
0.85
   
$
(2.73
)
 
$
(0.15
)
Diluted income (loss) attributable to SDOI per common share:
                                       
Net income (loss) attributable to SDOI
 
$
0.48
   
$
1.05
   
$
0.79
   
$
(2.73
)
 
$
(0.15
)
Weighted average common shares outstanding:
                                       
Basic
   
21,223,884
     
24,549,060
     
10,728,740
     
10,766,444
     
10,864,244
 
Diluted
   
21,289,466
     
25,700,615
     
11,590,477
     
10,766,444
     
10,864,244
 
                                         
Other Financial Information:
                                       
Net cash provided by operating activities
 
$
24,946
   
$
9,128
   
$
24,430
   
$
6,025
   
$
3,026
 
Net cash provided by (used in) investing activities
   
18,031
     
(26,832
)
   
(2,030
)
   
(1,314
)
   
(723
)
Net cash (used in) provided by financing activities
   
(27,623
)
   
15,734
     
(26,032
)
   
(31,623
)
   
10,641
 
Capital expenditures
   
(2,021
)
   
(3,207
)
   
(1,602
)
   
(1,314
)
   
(729
)
Depreciation and amortization
   
2,344
     
1,285
     
1,059
     
933
     
932
 
                                         
Balance Sheet Data:
                                       
Cash
 
$
18,219
   
$
2,865
   
$
4,835
   
$
8,467
   
$
35,379
 
Working capital
   
56,065
     
37,289
     
42,815
     
42,738
     
68,499
 
Total assets
   
298,714
     
285,020
     
242,463
     
242,568
     
287,049
 
Total debt
   
194,040
     
218,225
     
292,440
     
304,916
     
294,007
 
Total liabilities
   
230,273
     
250,962
     
324,075
     
334,140
     
350,484
 
Total equity (deficit)
   
68,441
     
34,058
     
(81,612
)
   
(91,572
)
   
(63,434
)
 
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion of the historical financial condition and results of operations in conjunction with our historical consolidated financial statements and accompanying notes, which are included elsewhere in this Annual Report on Form 10-K. In addition, this discussion includes forward-looking statements subject to risks and uncertainties which may result in actual results differing from statements we make. See “Cautionary Note Regarding Forward-Looking Statements.” Factors that could cause actual results to differ include those risks and uncertainties discussed in “Risk Factors”.

The following discussion relates to the audited financial statements of the Company included elsewhere in this Annual Report on Form 10-K. In this discussion, unless the context requires otherwise, references to “our Company” “we,” “our,” or “us” refer to Standard Diversified Opportunities Inc. and our consolidated subsidiaries. References to “SDOI” refer to Standard Diversified Opportunities Inc. without any of its subsidiaries. Dollars are in thousands, except where designated and in per share data.  Many of the amounts and percentages in this discussion have been rounded for convenience of presentation.

Overview

We are a holding company. During the year ended December 31, 2017 and prior, our subsidiaries are engaged in the following lines of business:

·
Other tobacco products (Turning Point Brands, Inc. (“Turning Point”), a 51.2% owned subsidiary); and
·
Outdoor advertising (Standard Outdoor LLC (“Standard Outdoor”), a wholly owned subsidiary), beginning in July 2017.

We expect to become a diversified holding company with interests in a variety of industries and market sectors. We will rely upon our existing cash balances and potential distributions from our subsidiaries to generate the funds necessary to meet our operating obligations and for future acquisitions. In addition, we may be required to raise additional capital through equity and/or debt financings in order to fund our future operations and/or acquisitions.

Recent Developments

Term Loan Borrowing and Credit Facility Refinancing

On February 2, 2018, SDOI entered into a term loan agreement with Crystal Financial LLC (“Crystal Term Loan”). The Crystal Term Loan provides for an initial term loan of $10.0 million and a commitment to provide additional term loans of up to $15.0 million. The proceeds will be used to finance a portion of the acquisition of certain billboards, fund certain fees and expenses, and provide working capital for SDOI.

On March 7, 2018, Turning Point entered into a $250 million credit facility consisting of $200 million in first and second lien term loans and $50 million in a revolving credit facility (collectively, the “2018 Credit Facility”). Turning Point used a portion of the proceeds from the 2018 Credit Facility to repay, in full, the 2017 Credit Facility.

Other Developments

On February 20, 2018, SDOI acquired assets consisting of 86 billboard structures located in Georgia and Florida, as well as the ground leases and advertising contracts relating to such billboard structures for total consideration of approximately $6.9 million, subject to customary and valuation adjustments, of which $3.2 million was paid in cash, $3.5 million is payable under a promissory note and the remainder was paid in our Class A common shares.

On January 18, 2018, SDOI acquired assets consisting of 83 billboard structures located in Alabama, as well as the ground leases and advertising contracts relating to such billboard structures for total consideration of approximately $10.5 million, subject to customary and valuation adjustments, of which $4.0 million was paid in cash and the remaining $6.5 million is payable under a promissory note.

On January 12, 2018, SDOI issued 181,825 shares of its Class A common stock in a private placement for gross proceeds of $2.0 million.

On January 2, 2018, SDOI acquired all of the outstanding capital stock of Interboro Holdings, Inc. ("Interboro") for a cash purchase price of $2.5 million. Under the name Maidstone Insurance Company (“Maidstone”), Interboro offers personal automobile insurance, primarily in the State of New York.
 
On November 9, 2017, the Board of Directors of Turning Point approved the initiation of a cash dividend to its shareholders. The initial quarterly dividend of $0.04 per common share was paid on December 15, 2017 to shareholders of record at the close of business on November 27, 2017. Approximately $0.4 million was distributed to noncontrolling interest holders outside of SDOI as a result of this dividend.

On July 28, 2017, the U.S. Food and Drug Administration (“FDA”) announced a new direction in regulating tobacco products, including the newly “deemed” markets such as cigars and vapor products.  FDA stated it intends to begin several new rulemaking processes, some of which will outline foundational rules governing the premarket application process for the deemed products, including Substantial Equivalence Applications and Premarket Tobacco Applications. Compliance and related costs could be significant and could increase the costs of operating in our NewGen Segment. The original filing deadlines for the applications of these newly “deemed” products on the market as of August 8, 2016, have been postponed until August 8, 2021, for “combustible” products (e.g., cigar and pipe) and August 8, 2022, for “non-combustible” products (e.g., vapor products).  No other application filing deadlines were altered. FDA also acknowledged a “continuum of risk” among tobacco products (i.e., that certain tobacco products pose a greater risk to individual and public health than others), that it intends to seek public comment on the role that flavors play in attracting youth and the role that flavors may play in helping some smokers switch to potentially less harmful forms of nicotine delivery, and that it will increase its focus on the regulation of cigarette products.

On July 3, 2017, SDOI acquired assets consisting of five billboards located in several counties near Austin, Texas for total consideration of approximately $0.3 million.

On June 30, 2017, Turning Point filed a Form S-3 Registration Statement with the Securities and Exchange Commission providing for the potential to offer up to $200 million in the aggregate of Turning Point common stock, preferred stock, depository shares, warrants, and units, as well as a secondary offering and sale of up to approximately 12.8 million shares of TPB common stock by selling shareholders.  Turning Point currently has no plans to utilize the offering; however, Turning Point believes it provides future flexibility as Turning Point continues to drive its strategic organic growth and acquisition initiatives.

In March 2017, Turning Point entered into a strategic partnership with Hand Media, Inc., dba Vapor Shark (“Vapor Shark”), a leading distributor and manufacturer of premium vaping e-liquids and hardware with nationwide distribution through independent retail vape shops as well as Vapor Shark retail locations. Through the strategic partnership, Turning Point was issued a warrant to purchase all outstanding stock of Vapor Shark in exchange for a commitment to deposit up to $2.5 million. In April 2017, Turning Point entered into a management agreement with Vapor Shark whereby Turning Point gained control of the Vapor Shark operations. On June 30, 2017, Turning Point exercised the warrant and obtained ownership of 100% of the outstanding shares of Vapor Shark. Turning Point’s exercise of the warrant triggered an option giving Vapor Shark’s former sole shareholder the right to purchase Vapor Shark’s company-owned stores for $1. The former sole shareholder has notified Turning Point of his intent to exercise this option no earlier than January 1, 2018.
 
Overview of Turning Point
 
Turning Point is a leading independent provider of Other Tobacco Products (“OTP”) in the U.S. Turning Point sells a wide range of products across the OTP spectrum including moist snuff tobacco (“MST”), loose leaf chewing tobacco, premium cigarette papers, make-your-own (“MYO”) cigar wraps and cigar smoking tobacco, cigars, liquid vapor products, and tobacco vaporizer products; but, Turning Point does not sell cigarettes. Turning Point estimates the OTP industry generated approximately $11 billion in manufacturer revenue in 2017. In contrast to manufactured cigarettes, which have been experiencing declining volumes for decades based on data published by the Alcohol and Tobacco Tax and Trade Bureau (“TTB”), the OTP industry is demonstrating increased consumer appeal with low to mid-single digit consumer unit growth as reported by Management Science Associates, Inc. (“MSAi”), a third-party analytics and informatics company. Under the leadership of a senior management team with an average of 22 years of experience in the tobacco industry, Turning Point has grown and diversified its business through new product launches, category expansions, and acquisitions while concurrently improving operational efficiency.

Products

Turning Point operates in three segments: (i) Smokeless products, (ii) Smoking products and (iii) NewGen products. In its Smokeless products segment Turning Point manufactures and market moist snuff and contract for and market loose leaf chewing tobacco products. In its Smoking products segment, Turning Point (i) market and distribute cigarette papers and related products, (ii) market and distribute MYO cigar wraps, MYO loose cigar smoking tobacco, and cigars, and (iii) package, market, and distribute traditional pipe tobaccos. In its NewGen products segment, Turning Point (i) markets and distributes liquid vapor products, tobacco vaporizer products, and certain other products without tobacco and/or nicotine; (ii) distributes a wide assortment of vaping related products to non-traditional retail via VaporBeast and Vapor Shark; and (iii) distributes a wide assortment of vaping related products to individual consumers via Vapor Shark branded retail outlets.
 
Turning Point’s portfolio of brands includes some of the most widely recognized names in the OTP industry, such as Stoker’s®, Zig-Zag®, and VaporBeast®. The following table sets forth the market share and category rank of Turning Point’s core products and demonstrates their industry positions:
 
Product
TPB Segment
 
Market Share (1)
 
Category Rank (1)
Chewing Tobacco
 Smokeless Products
 
17.9%
 
 #1 discount, #2 overall
Moist Snuff
 Smokeless Products
 
2.9%
 
 #4 discount, #7 overall
Cigarette Papers
 Smoking Products
 
32.9%
 
 #1 premium
MYO Cigar Wraps
 Smoking Products
 
76.0%
 
 #1 overall
(1)
Market share and category rank data for all products are derived from MSAi data as of 12/31/17.
 
Operations

As of December 31, 2017, Turning Point’s products are available in approximately 170,000 U.S. retail locations which, with the addition of retail stores in Canada, brings its total North American retail presence to an estimated 200,000 points of distribution. Turning Point subscribes to a sales tracking system from MSAi that records all OTP product shipments (Turning Point’s as well as those of Turning Point’s competitors) from approximately 900 wholesalers to over 250,000 retail stores in the U.S. This system enables Turning Point to understand individual product share and volume trends across multiple categories down to the individual retail store level, allowing Turning Point to allocate field sales force coverage to the highest opportunity stores. Turning Point’s sales and marketing group of approximately 145 professionals utilizes the MSAi system to efficiently target markets and sales channels with the highest sales potential.

Turning Point’s core tobacco business (Smokeless and Smoking segments) primarily generates revenues from the sale of its products to wholesale distributors who, in turn, resell the products to retail operations. Turning Point’s acquisition of VaporBeast in November 2016 expanded its revenue streams as they began selling directly to non-traditional retail outlets and to ultimate consumers via non-traditional retail outlets as well. Turning Point’s acquisition of Vapor Shark further expanded its selling network by allowing them to directly reach ultimate consumers through Vapor Shark branded retail outlets. Turning Point’s net sales, which include federal excise taxes, consist of gross sales net of cash discounts, returns, and selling and marketing allowances.

Turning Point relies on long-standing relationships with high-quality, established manufacturers to provide the majority of its produced products. Approximately 87% of Turning Point production, as measured by gross sales, is outsourced to suppliers. The remaining 13% represents Turning Point’s moist snuff tobacco operations located in Dresden, TN, and the packaging of its pipe tobacco in Louisville, KY. Turning Point’s principal operating expenses include the cost of raw materials used to manufacture the limited number of our products which it produces in-house; the cost of finished products, which are generally purchased goods; federal excise taxes; legal expenses; and compensation expenses, including benefits and costs of salaried personnel. Turning Point’s other principal expenses include interest expense and other expenses.
 
Turning Point considers the following factors to be the key factors affecting its results of operations:

Its ability to further penetrate markets with its existing products;
Its ability to introduce new products and product lines that complement its core business;
Decreasing interest in tobacco products among consumers;
Price sensitivity in its end-markets;
Marketing and promotional initiatives, which cause variability in its results;
General economic conditions, including consumer access to disposable income;
Cost and increasing regulation of promotional and advertising activities;
Cost of complying with regulation;
Counterfeit and other illegal products in its end-markets;
Currency fluctuations;
Its ability to identify attractive acquisition opportunities in OTP; and
Its ability to integrate acquisitions.
 
Standard Outdoor

Standard Outdoor is an out-of-home advertising business. As of December 31, 2017, and for the period from July 3, 2017 through December 31, 2017, the business consisted of 5 billboard structures located in several counties near Austin, Texas. Revenues include outdoor advertising revenues, while operating expenses primarily include compensation costs, depreciation and rent expense. The results of Standard Outdoor are included in our consolidated operating results from July 3, 2017, the date of acquisition, and are immaterial to our consolidated financial statements in 2017.

Critical Accounting Policies and Uses of Estimates

The Company’s accounting policies are described in Note 2 of the Notes to the Consolidated Financial Statements, which are incorporated herein by reference. The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States.  When more than one accounting principle, or the method of its application, is generally accepted, we select the principle or method that is appropriate in the specific circumstances. Application of these accounting principles requires us to make estimates about the future resolution of existing uncertainties. Actual results could differ from these estimates. We evaluate our estimates, including those related to revenue recognition, collectability of accounts receivable, inventory valuation and obsolescence, goodwill, intangibles, pension and postretirement obligations, income taxes, litigation, and contingencies on an ongoing basis. We base these estimates on our historical experience and other assumptions we believe are appropriate under the circumstances. In preparing these consolidated financial statements, we have made our best estimates and judgments of the amounts and disclosures included in the consolidated financial statements.

Revenue Recognition

We recognize revenues, net of sales incentives and sales returns, including shipping and handling charges billed to customers, upon delivery to the customer at which time there is a transfer of title and risk of loss to the customer in accordance with ASC 605-10-S99. We classify customer rebates as sales deductions in accordance with the requirements of ASC 605-50-25.

Derivative Instruments

We use foreign currency forward contracts to hedge a portion of our exposure to changes in foreign currency exchange rates from time to time. We account for our forward contracts under the provisions of ASC 815, Derivatives and Hedging. Under our policy, as amended, we may hedge up to 100% of its anticipated purchases of inventory in the denominated invoice currency over a forward period not to exceed twelve months. We may also, from time to time, hedge up to ninety percent of its non-inventory purchases in the denominated invoice currency. Forward contracts that qualify as hedges are adjusted to their fair value through other comprehensive income as determined by market prices on the measurement date except any hedge ineffectiveness which is recognized currently in income. Gains and losses on these contracts are transferred from other comprehensive income into net income as the related inventories are received. Changes in fair value of any contracts that do not qualify for hedge accounting or are not designated as hedges are recognized in income currently.

Goodwill and Other Intangible Assets

We follow the provisions of ASC 350, Intangibles – Goodwill and Other. In accordance with ASC 350-20-35, goodwill and indefinite-lived intangible assets are reviewed for impairment annually on December 31, or more frequently if certain indicators are present. If the carrying value of the goodwill or indefinite-life intangible asset exceeds its fair value, which is determined using discounted cash flows, the goodwill or intangible asset is considered impaired. The carrying value of the goodwill or indefinite-life intangible asset would then be reduced to fair value. For goodwill, the determination of a reporting unit’s fair value involves, among other things, our  market capitalization and application of the income approach, which includes developing forecasts of future cash flows and determining an appropriate discount rate. Currently our only goodwill is recorded at our subsidiary, Turning Point.

Based on Turning Point’s annual goodwill impairment testing, the estimated fair values of each of Turning Point’s reporting units were substantially in excess of the respective carrying values.

Fair Value

GAAP establishes a framework for measuring fair value. That framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1) and the lowest priority to unobservable inputs (level 3). The three levels of the fair value hierarchy under GAAP are described below:
 
·
Level 1 – Inputs to the valuation methodology are unadjusted quoted prices for identical assets or liabilities in active markets at the measurement date.
·
Level 2 – Inputs to the valuation methodology include: quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in inactive markets; inputs other than quoted prices that are observable for the asset or liability; and inputs that are derived principally from or corroborated by observable market data by correlation or other means.
·
Level 3 – Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date.

Retirement Plans

We follow the provisions of ASC 715, Compensation – Retirement Benefits in accounting for our retirement plans, which requires an employer to (i) recognize in its statement of financial position the funded status of a benefit plan, measured as the difference between the fair value of plan assets and benefit obligations; (ii) recognize, net of tax, the gains or losses and prior service costs or credits that arise during the period but are not recognized as components of net periodic benefit cost; and (iii) measure defined benefit plan assets and obligations as of the date of the employer’s statement of financial position.

Income Taxes

We account for income taxes under ASC 740. We record the effects of income taxes under the liability method in which deferred income tax assets and liabilities are recognized based on the difference between the financial and tax basis of assets and liabilities using the enacted tax rates in effect for the years in which the differences are expected to reverse. We assess our ability to realize future benefits of deferred tax assets by determining if they meet the “more likely than not” criteria in ASC 740, Income Taxes. If we determine that future benefits do not meet the “more likely than not” criteria, a valuation allowance is recorded.

Noncontrolling Interests

These consolidated financial statements reflect the application of Accounting Standards Codification Topic 810, Consolidations (“ASC 810”) which establishes accounting and reporting standards that require: (i) the ownership interest in subsidiaries held by parties other than the parent to be clearly identified and presented in the consolidated balance sheet within shareholder’s equity, but separate from the parent’s equity; (ii) the amount of consolidated net income attributable to the parent and the noncontrolling interest to be clearly identified and presented on the face of the consolidated statements of income; and (iii) changes in a parent’s ownership interest while the parent retains its controlling financial interest in its subsidiary to be accounted for consistently.

We acquired a 52.1% interest in Turning Point on June 1, 2017 through a reverse acquisition as described in Note 1 and Note 3 of our Notes to Consolidated Financial Statements, which are incorporated herein by reference, for further information. Amounts pertaining to the noncontrolling ownership interest held by third parties in the financial position and operating results of us are reported as noncontrolling interests in the accompanying consolidated financial statements. As of December 31, 2017, we have an ownership interest of 51.2% in Turning Point.

Prior to the acquisition of Vapor Shark by Turning Point on June 30, 2017, it was consolidated by Turning Point as a VIE from April 1, 2017 to June 30, 2017, with its results during this period reflected as noncontrolling interest.

Stock-Based Compensation

We account for stock-based compensation using the fair value method, which requires that compensation costs related to employee share based payment transactions are measured in the financial statements at the fair value on the date of grant and are recognized over the vesting period of the award.

Accounts Receivable

Accounts receivable are recognized at their net realizable value. All accounts receivable are trade-related and are recorded at the invoiced amount and do not bear interest. We maintain allowances for doubtful accounts receivable for estimated uncollectible invoices resulting from the customer’s inability to pay, which may result in write-offs. We recorded an allowance for doubtful accounts of less than $0.1 million at December 31, 2017 and 2016, respectively.

Inventories

Inventories are stated at the lower of cost or market. Cost was determined using the LIFO method for approximately 51% of the inventories. Leaf tobacco is presented in current assets in accordance with standard industry practice, notwithstanding the fact that such tobaccos are carried longer than one year for the purpose of curing. We recorded an inventory valuation allowance of $0.5 million and $0.6 million at December 31, 2017 and 2016, respectively.
 
Consolidated Results of Operations
 
The table and discussion set forth below relate to our consolidated results of operations:
 
   
Year Ended December 31,
 
   
2017
   
2016
   
% Change
   
2015
   
% Change
 
Consolidated Results of Operations Data:
                             
Net sales
                             
Smokeless products
 
$
84,560
   
$
77,913
   
8.5
%
 
$
74,293
   
4.9
%
Smoking products
   
109,956
     
111,005
   
-0.9
%
   
105,898
   
4.8
%
NewGen products
   
91,261
     
17,310
   
427.2
%
   
17,065
   
1.4
%
Other
   
24
     
-
   
NM
     
-
   
NM
 
Total net sales
   
285,801
     
206,228
   
38.6
%
   
197,256
   
4.5
%
Cost of sales
   
160,936
     
105,872
   
52.0
%
   
100,960
   
4.9
%
Gross profit
                                   
Smokeless products
   
42,602
     
38,634
   
10.3
%
   
38,521
   
0.3
%
Smoking products
   
57,146
     
57,595
   
-0.8
%
   
52,842
   
9.0
%
NewGen products
   
25,121
     
4,127
   
508.7
%
   
4,933
   
-16.3
%
Other
   
(4
)
   
-
   
-100.0
%
   
-
   
NM
 
Total gross profit
   
124,865
     
100,356
   
24.4
%
   
96,296
   
4.2
%
Selling, general and administrative expenses
   
77,944
     
56,771
   
37.3
%
   
51,785
   
9.6
%
Operating income
   
46,921
     
43,585
   
7.7
%
   
44,511
   
-2.1
%
Interest expense
   
16,889
     
26,621
   
-36.6
%
   
34,284
   
-22.4
%
Interest income
   
(64
)
   
-
   
0.0
%
   
-
   
NM
 
Investment income
   
(438
)
   
(768
)
 
-43.0
%
   
-
   
NM
 
Loss on extinguishment of debt
   
6,116
     
2,824
   
116.6
%
   
-
   
NM
 
Income before income taxes
   
24,418
     
14,908
   
63.8
%
   
10,227
   
45.8
%
Income tax expense (benefit)
   
7,280
     
(12,005
)
 
-160.6
%
   
1,078
   
-1213.6
%
Consolidated net income
   
17,138
     
26,913
   
-36.3
%
   
9,149
   
194.2
%
Amounts attributable to noncontrolling interests
   
(6,761
)
   
-
   
NM
     
-
   
NM
 
Net income attributable to SDOI
 
$
10,377
   
$
26,913
   
-61.4
%
 
$
9,149
   
194.2
%
 
Comparison of Year Ended December 31, 2017, to Year Ended December 31, 2016

Net Sales. For the year ended December 31, 2017, overall net sales increased to $285.8 million from $206.2 million for the year ended December 31, 2016, an increase of $79.6 million or 38.6%. For the year ended December 31, 2017, volumes increased 34.2% and price/mix increased 4.4%.  This increase was substantially due to an increase in NewGen products sales as a result of the acquisitions of VaporBeast and Vapor Shark.

For the year ended December 31, 2017, net sales in the Smokeless products segment increased to $84.6 million from $77.9 million for the year ended December 31, 2016, an increase of $6.6 million or 8.5%. For the year, volume increased 3.4% and price/mix increased 5.1%. Net sales growth was primarily driven by Stoker’s® MST.

For the year ended December 31, 2017, net sales in the Smoking products segment decreased to $110.0 million from $111.0 million for the year ended December 31, 2016, a decrease of $1.0 million or 0.9%. For the year ended December 31, 2017, Smoking products volumes decreased 3.7%, while price/mix increased 2.8%. The decline in net sales is primarily due to reduced investment in the cigar product line to allow for those resources to be used for other product lines with higher margins.

For the year ended December 31, 2017, net sales in the NewGen products segment increased to $91.3 million from $17.3 million for the year ended December 31, 2016, an increase of $74.0 million or 427.2%. For the year ended December 31, 2017, NewGen products volumes increased 415.8%, while price/mix increased 11.4%.  Net sales growth was primarily driven by the acquisitions of VaporBeast and Vapor Shark.

Gross Profit. For the year ended December 31, 2017, overall gross profit increased to $124.9 million from $100.4 million for the year ended December 31, 2016, an increase of $24.5 million or 24.4%, primarily due to acquisition of VaporBeast. Gross margin weakened to 43.7% for the year ended December 31, 2017, from 48.7% for the year ended December 31, 2016, as a result of the mix impact of VaporBeast’s inherently lower distribution margins.
 
For the year ended December 31, 2017, gross profit in the Smokeless products segment increased to $42.6 million from $38.6 million for the year ended December 31, 2016, an increase of $4.0 million or 10.3%.  Gross profit as a percentage of net sales increased to 50.4% of net sales for the year ended December 31, 2017, from 49.6% of net sales for the year ended December 31, 2016. The increase in gross margin is due to us being able to take price increases and the further expansion of Stoker’s® MST sales, leveraging our Smokeless fixed costs across a higher sales volume.

For the year ended December 31, 2017, gross profit in the Smoking products segment decreased to $57.1 million from $57.6 million for the year ended December 31, 2016, a decrease of $0.4 million or 0.8%.  Gross profit as a percentage of net sales increased to 52.0% of net sales for the year ended December 31, 2017, from 51.9% of net sales for the year ended December 31, 2016.

For the year ended December 31, 2017, gross profit in the NewGen products segment increased to $25.1 million from $4.1 million for the year ended December 31, 2016, an increase of $21.0 million or 508.7%. Gross profit as a percentage of net sales increased to 27.5% of net sales for the year ended December 31, 2017, from 23.8% of net sales for the year ended December 31, 2016, primarily as a result of the change in product mix in the segment and our continued focus on margin expansion in the NewGen segment.

Selling, General and Administrative Expenses. For the year ended December 31, 2017, selling, general and administrative expenses increased to $77.9 million from $56.8 million for the year ended December 31, 2016, an increase of $21.2 million or 37.3%, due primarily to acquisitions of VaporBeast and Vapor Shark, increased legal cost for anti-counterfeiting initiatives related to our Zig-Zag® cigarette papers, and the one-time charge of $0.9 million relating to purchase of the option for the Vapor Shark branded retail stores. Selling, general and administrative expenses also include $2.6 million of SDOI expenses, from its June 1, 2017 acquisition date. These expenses are primarily legal, accounting and other professional fees.

Interest Expense. For the year ended December 31, 2017, interest expense decreased to $16.9 million from $26.6 million for the year ended December 31, 2016, primarily as a result of lower interest rates from Turning Point’s 2017 debt refinancing.

Income Tax Expense (Benefit).  The Company’s income tax expense of $7.3 million, or 29.8% of income before income taxes, for the year ended December 31, 2017, is lower than the expected annual effective tax rate as a result of discrete tax benefits of $4.2 million from the exercise of Turning Point stock options during the year. SDOI contributed no income tax expense or benefit to the consolidated results for the year ended December 31, 2017 because it had a net loss and a full valuation allowance. The Company’s income tax expense for the year ended December 31, 2016, does not bear the normal relationship to income before income taxes primarily due to releasing the valuation allowance on our deferred taxes as we determined that it is more-likely than not that we will realize our deferred tax assets which consist primarily of a federal net operating loss (“NOL”) carryforward.

Interest Income. Investment income for the year ended December 31, 2017 includes $0.1 million from SDOI’s cash and cash equivalents.

Investment Income. For the year ended December 31, 2017 and 2016, investment income relating to investments of the MSA escrow deposits was $0.4 million and $0.8 million, respectively.

Loss on Extinguishment of Debt.  For the year ended December 31, 2017, loss on extinguishment of debt was $6.1 million as the result of Turning Point refinancing its credit facility in the first quarter of 2017. For the year ended December 31, 2016, loss on extinguishment of debt was $2.8 million as the result of Turning Point retiring certain debt with proceeds from its IPO.

Consolidated Net Income. Due to the factors described above, net income for the year ended December 31, 2017 and 2016, was $17.1 million and $26.9 million, respectively.

Amounts Attributable to Non-Controlling Interests. Amounts attributable to noncontrolling interests of $6.8 million for the year ended December 31, 2017 is related to the shareholders of Turning Point who are not SDOI and Vapor Shark, which was accounted for as a VIE by Turning Point during the second quarter of 2017.

Net Income Attributable to SDOI.  Due to the factors described above, net income for the year ended December 31, 2017 and 2016, was $10.4 million and $26.9 million, respectively.
 
Comparison of Year Ended December 31, 2016, to Year Ended December 31, 2015
 
Net Sales. For the year ended December 31, 2016, overall net sales increased to $206.2 million from $197.3 million in the year ended December 31, 2015, an increase of $9.0 million, or 4.5% as a result of increases in all of Turning Point’s segments.
 
For the year ended December 31, 2016, net sales in the Smokeless products segment increased to $77.9 million from $74.3 million in the year ended December 31, 2015, an increase of $3.6 million, or 4.9%. Net sales growth was principally driven by MST. Given the disparity between chew and MST case prices (average chew case price is 2.5 times that of MST), for the year ended December 31, 2016, volume increased 0.2% and price/mix increased 4.6%. Volume was adversely impacted by the October 1 Pennsylvania state excise tax increase.
 
For the year ended December 31, 2016, net sales in the Smoking products segment increased to $111.0 million from $105.9 million in the year ended December 31, 2015, an increase of $5.1 million, or 4.8%. Net sales growth was driven by continued growth in our MYO cigar wraps and the roll-out of Zig-Zag cigarillo size wraps, which was somewhat offset by cigar declines. For the year ended December 31, 2016, volume increased 1.6% and price/mix increased 3.2%.
 
For the year ended December 31, 2016, net sales in the NewGen products segment increased to $17.3 million from $17.1 million in the year ended December 31, 2015, an increase of $0.2 million or 1.4% due to the inclusion of one month of VaporBeast net sales partially offset by declines in existing NewGen products. For the year ended December 31, 2016, volume increased 4.9% and price/mix decreased 3.5%.
 
Gross Profit. For the year ended December 31, 2016, overall gross profit increased to $100.4 million from $96.3 million for the year ended December 31, 2015, an increase of $4.1 million, or 4.2%, principally due to an increase in gross profit in the Smoking products segment, partially offset by a decrease in gross profit in the NewGen products segment.
 
For the year ended December 31, 2016, gross profit in the Smokeless products segment increased to $38.6 million from $38.5 million for the year ended December 31, 2015, an increase of $0.1 million, or 0.3%. Gross margin for this segment as a percentage of net sales decreased to 49.6% of net sales for the year ended December 31, 2016, from 51.9% in the year ended December 31, 2015, as MST, which is lower margin compared to chew, became a bigger portion of the segment sales. Gross profit was negatively impacted by non-cash inventory adjustments as a result of LIFO.
 
For the year ended December 31, 2016, gross profit in the Smoking products segment increased to $57.6 million from $52.8 million for the year ended December 31, 2015, an increase of $4.8 million, or 9.0%. Gross margin for this segment as a percentage of net sales increased to 51.9% of net sales for the year ended December 31, 2016, from 49.9% for the year ended December 31, 2015 as selling prices increased at a faster rate than the cost of the goods.
 
For the year ended December 31, 2016, gross profit in the NewGen products segment decreased to $4.1 million from $4.9 million for the year ended December 31, 2015, a decrease of $0.8 million, or 16.3%. Gross margin for this segment as a percentage of net sales decreased to 23.8% of net sales for the year ended December 31, 2016, from 28.9% for the year ended December 31, 2015, as increased product returns in 2016 led to higher costs.
 
Selling, General and Administrative Expenses. For the year ended December 31, 2016, selling, general, and administrative expenses increased to $56.8 million from $51.8 million for the year ended December 31, 2015, an increase of $5.0 million, or 9.6%, due to increases in sales and marketing infrastructure, primarily due to increased headcount, Turning Point's IPO related compensation, transaction costs relating to Turning Point's acquisitions, increased legal and litigation expenses and the inclusion of one month of VaporBeast.
 
Interest Expense and Financing Costs. For the year ended December 31, 2016, interest expense and amortization of deferred financing costs decreased to $26.6 million from $34.3 million for the year ended December 31, 2015, a decrease of $7.7 million, or 22.4%, due to the pay-down of debt as a result of Turning Point's IPO.
 
Investment Income. In 2016, Turning Point began to invest the MSA escrow deposits. For the year ended December 31, 2016, investment income was $0.8 million relating to these investments.
 
Loss on Extinguishment of Debt. For the year ended December 31, 2016, loss on extinguishment of debt was $2.8 million as the result of retiring certain debt with proceeds from Turning Point's IPO.
 
Income Tax Expense (Benefit). For the year ended December 31, 2016, income tax benefit was $12.0 million primarily due to releasing the valuation allowance as Turning Point determined that it is more-likely than not that Turning Point will realize our deferred tax assets which consist primarily of a net operating loss (“NOL”) carryforward. For the year ended December 31, 2015, income tax expense was $1.1 million primarily for state income taxes as federal income taxes were offset by our NOL carryforward.
 
Net Income. For the year ended December 31, 2016, net income increased to $26.9 million from $9.1 million in the year ended December 31, 2015, an increase of $17.8 million for the reasons set forth above.
 
Liquidity and Capital Reserves
 
SDOI and Standard Outdoor

SDOI and Standard Outdoor had cash and cash equivalents totaling $15.6 million at December 31, 2017. From June 1, 2017, the date of the reverse acquisition, we had cash outflows from operating activities of $4.7 million primarily relating to our net loss and payments of our operating expenses. We had cash outflows from investing activities of $0.3 million relating to our acquisition of five billboards near Austin, Texas.
 
Common Stock Repurchase Program

On June 29, 2017, our Board of Directors authorized a program to repurchase over a period of twelve months shares of our Class A Common Stock or Class B Common Stock, par value $0.01 per share, constituting, in the aggregate, up to 5% of the outstanding shares of Common Stock. The program was effective immediately. Shares of the Common Stock may be repurchased in the open market or through negotiated transactions. The program may be terminated or suspended at any time at the discretion of the Company.

The time of purchases and the exact number of shares to be purchased, if any, will depend on market conditions. The repurchase program does not include specific price targets or timetables. We intend to finance the purchases using available working capital. No repurchases of common stock were made during the periods covered by this report.
 
Subsequent Event - Term Loan
 
On February 2, 2018, SDOI entered into a term loan agreement with Crystal Financial LLC (“Crystal Term Loan”). The Crystal Term Loan provides for an initial term loan of $10.0 million and a commitment to provide additional term loans of up to $15.0 million. Subject to the satisfaction of certain conditions, we may request an additional increase in the commitment of up to $25.0 million. The proceeds will be used to finance a portion of the acquisition of certain billboards, fund certain fees and expenses, and provide working capital for the Borrowers. Any incremental term loans will be used to finance permitted acquisitions. The Crystal Term Loan bears interest at a rate equal to the three-month “Libor Rate” as published in The Wall Street Journal plus 7.25%. Interest under the Crystal Term Loan Agreement is payable monthly and is also subject to a commitment fee of $350,000 and agency fee of $50,000, payable upon execution of the Term Loan Agreement and annually thereafter.
 
Turning Point Brands

Turning Point’s principal uses for cash are working capital, debt service, capital expenditures, and acquisitions. Turning Point believes its cash flows from operations and borrowing availability under the 2018 Revolving Credit Facility (as defined herein) are adequate to satisfy its operating cash requirements for the foreseeable future.

Turning Point’s working capital, which is defined as current assets less current liabilities, increased $4.0 million to $41.3 million at December 31, 2017, compared with $37.3 million at December 31, 2016. The increase in working capital is due to increases in accounts receivable, inventory, and accrued liabilities as a result of increased sales offset by decreases in accounts payable and Turning Point’s revolving credit facility balance as the 2016 revolving credit facility balance was abnormally high due to the acquisition of VaporBeast in November 2016.

   
December 31,
2017
   
December 31,
2016
 
Current Assets
 
$
79,493
   
$
78,856
 
Current Liabilities
   
38,230
     
41,567
 
                 
Working Capital
 
$
41,263
   
$
37,289
 

During the year ended December 31, 2017, Turning Point invested $2.0 million in capital expenditures. Turning Point had unrestricted cash on hand of $2.6 million and $2.9 million as of December 31, 2017 and 2016, respectively. Turning Point had restricted assets of $30.8 million and $30.4 million as of December 31, 2017 and 2016, respectively. Restricted assets consist of escrow deposits under the MSA. On the 25th anniversary of each annual deposit, Turning Point is entitled to receive reimbursement of the principal amount of escrow remaining for that year. See “Master Settlement Agreement” below for details.
 
Cash Flows from Operating Activities
 
For the year ended December 31, 2017, net cash provided by operating activities increased to $29.7 million from $9.1 million for the year ended December 31, 2016, an increase of $20.6 million or 225.3%, principally due to an increase in pre-tax income of $12.0 million as Turning Point currently does not pay federal income taxes and interest paid on the PIK Toggle Notes in 2016, which did not recur.

For the year ended December 31, 2016, net cash provided by operating activities decreased to $9.1 million from $24.4 million for the year ended December 31, 2015, a decrease of $15.3 million, or 62.6%, principally due to increases in inventory and accounts payable.
 
On February 2, 2018, SDOI entered into a term loan agreement with Crystal Financial LLC (“Crystal Term Loan”). The Crystal Term Loan provides for an initial term loan of $10.0 million and a commitment to provide additional term loans of up to $15.0 million. Subject to the satisfaction of certain conditions, we may request an additional increase in the commitment of up to $25.0 million. The proceeds will be used to finance a portion of the acquisition of certain billboards, fund certain fees and expenses, and provide working capital for the Borrowers. Any incremental term loans will be used to finance permitted acquisitions. The Crystal Term Loan bears interest at a rate equal to the three-month “Libor Rate” as published in The Wall Street Journal plus 7.25%. Interest under the Crystal Term Loan Agreement is payable monthly and is also subject to a commitment fee of $350,000 and agency fee of $50,000, payable upon execution of the Term Loan Agreement and annually thereafter.
 
Cash Flows from Investing Activities

For the year ended December 31, 2017, net cash used in investing activities decreased to $1.9 million from $26.8 million for the year ended December 31, 2016, a decrease of $24.9 million or 92.8%, principally due to the 2016 acquisitions of VaporBeast, certain brands from Wind River, and the land and building in Dresden, Tennessee.

For the year ended December 31, 2016, net cash used in investing activities increased to $26.8 million from $2.0 million for the year ended December 31, 2015, an increase of $24.8 million or 1240.0%, principally due to the 2016 acquisitions of VaporBeast, certain brands from Wind River, and the land and building in Dresden, Tennessee.

Cash Flows from Financing Activities

For the year ended December 31, 2017, net cash used by financing activities was $28.0 million compared with net cash provided by financing activities of $15.7 million for the year ended December 31, 2016, a decrease of $43.8 million or 278.1%, principally due to proceeds from the issuance of stock from Turning Point’s IPO in May 2016 and refinancing costs associated with the 2017 Credit Facility in 2017.

For the year ended December 31, 2016, net cash provided by financing activities was $15.7 million compared with net cash used of $26.0 million for the year ended December 31, 2015, an increase of $41.8 million, principally due to proceeds from the issuance of stock, partially offset by payments on a prior credit facility, PIK Toggle Notes, and redemption of warrants issued by Intrepid.

Long-Term Debt

On February 17, 2017, Turning Point entered into a new $250 million secured credit facility comprised of (i) a First Lien Credit Facility with Fifth Third Bank, as administrative agent, and other lenders (the “2017 First Lien Credit Facility”) and (ii) a Second Lien Credit Facility with Prospect Capital Corporation, as administrative agent, and other lenders (the “2017 Second Lien Credit Facility,” and together with the 2017 First Lien Credit Facility, the “2017 Credit Facility”). Turning Point used the proceeds of the 2017 Credit Facility to repay, in full, its prior credit facility and to pay related fees and expenses.

The 2017 Credit Facility contains customary events of default including payment defaults, breaches of representations and warranties, covenant defaults, cross-defaults to certain other material indebtedness in excess of specified amounts, certain events of bankruptcy and insolvency, certain ERISA events, judgments in excess of specified amounts, and change in control defaults. The 2017 Credit Facility also contains certain negative covenants customary for facilities of these types including covenants that, subject to exceptions described in the 2017 Credit Facility, restrict our ability: (i) to pledge assets, (ii) to incur additional indebtedness, (iii) to pay dividends, (iv) to make distributions, (v) to sell assets, and (vi) to make investments.

As of December 31, 2017, Turning Point was in compliance with the financial and restrictive covenants of the 2017 Credit Facility. The following table provides outstanding balances under Turning Point’s debt instruments.

   
December 31,
2017
   
December 31,
2016
 
2017 Revolving Credit Facility
 
$
8,000
   
$
-
 
2017 First Lien First Out Term Loan
   
105,875
     
-
 
2017 First Lien Second Out Term Loan
   
34,738
     
-
 
2017 Second Lien Term Loan
   
55,000
     
-
 
Note payable - VaporBeast
   
2,000
     
2,000
 
Revolving Credit Facility
   
-
     
15,034
 
First Lien Term Loan
   
-
     
146,451
 
Second Lien Term Loan
   
-
     
59,128
 
     
205,613
     
222,613
 
Less deferred financing charges
   
(3,573
)
   
(4,388
)
Less revolving credit facility
   
(8,000
)
   
(15,034
)
Less current maturities of long-term debt
   
(7,850
)
   
(1,650
)
Notes payable and long-term debt
 
$
186,190
   
$
201,541
 
 
2017 First Lien Credit Facility
 
The 2017 First Lien Credit Facility consists of: (i) a $50 million revolving credit facility (the “2017 Revolving Credit Facility”), (ii) a $110 million first out term loan facility (the “2017 First Out Term Loan”), and (iii) a $35 million second out term loan facility (the “2017 Second Out Term Loan”), which will be repaid in full only after repayment in full of the 2017 First Out Term Loan. The 2017 First Lien Credit Facility also includes an accordion feature allowing us to borrow up to an additional $40 million upon the satisfaction of certain conditions, including obtaining commitments from one or more lenders. Borrowings under the 2017 Revolving Credit Facility can be used for general corporate purposes, including acquisitions.

The 2017 First Out Term Loan and the 2017 Revolving Credit Facility have a maturity date of February 17, 2022, and the 2017 Second Out Term Loan has a maturity date of May 17, 2022. The 2017 First Out Term Loan and the 2017 Revolving Credit Facility bear interest at LIBOR plus a spread of 2.5% to 3.5% based on our senior leverage ratio. The 2017 First Out Term Loan has quarterly required payments of $1.4 million beginning June 30, 2017, increasing to $2.1 million on June 30, 2019, and increasing to $2.8 million on June 30, 2021. The 2017 Second Out Term Loan bears interest at LIBOR plus 6% (subject to a floor of 1.00%). The 2017 Second Out Term Loan has quarterly required payments of $0.1 million beginning June 30, 2017.  The 2017 First Lien Credit Facility contains certain financial covenants including maximum senior leverage ratio of 3.75x with step-downs to 3.00x, a maximum total leverage ratio of 4.75x with step-downs to 4.00x, and a minimum fixed charge coverage ratio of 1.20x.  The weighted average interest rate at December 31, 2017, on the 2017 Revolving Credit Facility was 5.05%. The weighted average interest rate at December 31, 2017, on the 2017 First Out Term Loan was 4.61%.  The weighted average interest rate at December 31, 2017, on the 2017 Second Out Term Loan was 7.61%.
 
2017 Second Lien Credit Facility

The 2017 Second Lien Credit Facility consists of a $55 million second lien term loan (the “2017 Second Lien Term Loan”) having a maturity date of August 17, 2022. The 2017 Second Lien Term Loan bears interest at a fixed rate of 11%. The 2017 Second Lien Credit Facility contains certain financial covenants including a maximum senior leverage ratio of 4.25x with step-downs to 3.50x, a maximum total leverage ratio of 5.25x with step-downs to 4.50x, and a minimum fixed charge coverage ratio of 1.10x.

Note Payable – VaporBeast

On November 30, 2016, Turning Point issued a note payable to VaporBeast’s former shareholders (“VaporBeast Note”). The VaporBeast Note is $2.0 million principal with 6% interest compounded monthly and matures on May 30, 2018. The VaporBeast Note may be prepaid at any time without penalty and is subject to a late-payment penalty of 5% and a default rate of 13% per annum. The VaporBeast Note is subject to customary defaults including defaults for nonpayment, nonperformance, any material breach under the purchase agreement, and bankruptcy or insolvency.

First Lien Term Loan

All of NATC’s subsidiaries, as well as Turning Point Brands, Inc., were guarantors under the First Lien Term Loan.  TPLLC and its sole subsidiary at the date of the agreement, Intrepid, were not guarantors of the First Lien Term Loan. The First Lien Term Loan was secured by a first-priority lien on substantially all of the assets of the borrowers and the guarantors thereunder, including a pledge of the capital stock of NATC or any guarantor, other than certain excluded assets (the “Collateral”).  The loans designated as LIBOR loans bore interest at the LIBOR then in effect (but not less than 1.25%) plus 6.50%, and the loans designated as base rate loans bore interest at (i) the highest of (A) the Prime Rate, (B) the Federal Funds Rate plus 0.50%, (C) LIBOR for an interest period of one month plus 1.00%, and (D) 2.25% per year plus (ii) 5.50%. The First Lien Term Loan was paid in full with proceeds from the 2017 Credit Facility.

Second Lien Term Loan

The Second Lien Term Loan was secured by a second priority security interest in the Collateral and was guaranteed by the same entities as the First Lien Term Loan. Under the Second Lien Term Loan, the loans designated as LIBOR loans bore interest at LIBOR then in effect (but not less than 1.25%) plus 10.25%.  The loans designated as base rate loans bore interest at (i) the highest of (A) the Prime Rate, (B) the Federal Funds Rate plus 0.50%, (C) LIBOR for an interest period of one month plus 1.00%, and (D) 2.25% per year plus (ii) 9.25%.  The Second Lien Term Loan was paid in full with proceeds from the 2017 Credit Facility.

Revolving Credit Facility

The Revolving Credit Facility provided for aggregate commitments of up to $40 million subject to a borrowing base, which was calculated as the sum of (i) 85% of eligible accounts receivable, plus (ii) the lesser of (A) the product of 70% and the value of eligible inventory or (B) the product of 85%, the net recovery percentage identified in the most recent inventory appraisal, and the value of eligible inventory, plus (iii) the lesser of (A) the product of 75% and the value of eligible inventory or (B) the product of 85%, the net recovery percentage identified in the most recent inventory appraisal, and the value of the eligible finished goods inventory, minus (iv) the aggregate amount of reserves established by the administrative agent. The outstanding balance on the Revolving Credit Facility was paid in full with proceeds from the 2017 Credit Facility.
 
PIK Toggle Notes

On January 13, 2014, Turning Point issued PIK Toggle Notes (“PIK Toggle Notes”) to Standard General Master Fund, L.P. (“Standard General”), with a principal amount of $45 million and warrants to purchase 42,424 of our common stock at $.01 per share, as adjusted for stock splits and other events specified in the agreement. After adjustment for the stock split effected in connection with the IPO of 10.43174381 to 1, the warrants provided for the purchase of 442,558 of our common stock. Due to the issuance of the warrants the PIK Toggle Notes had an original issue discount of $1.7 million and were initially valued at $43.3 million. The PIK Toggle Notes were scheduled to mature, and the warrants to expire, on January 13, 2021.

The PIK Toggle Notes accrued interest based on LIBOR then in effect (but not less than 1.25%) plus 13.75%. Interest was payable on the last day of each quarter and upon maturity. Turning Point had the flexibility to pay interest in kind through an increase in the principal amount at the same interest rate as the PIK Toggle Notes. Turning Point chose to increase the PIK Toggle Notes for all interest for the first three months of 2016.

In connection with Turning Point’s IPO, in May 2016, Turning Point redeemed and retired all of the outstanding PIK Toggle Notes in exchange for a combination of cash and shares of its voting common stock. As a result of this transaction, Turning Point incurred a loss on extinguishment of debt of $2.8 million during the second quarter of 2016. The warrants were exercised during 2016.

7% Senior Notes

In January 2014, Turning Point issued 7% Senior Notes to various stockholders with a principal amount of $11 million and warrants to purchase 11,000,000 units of membership interests in Intrepid, which represented 40% of the Intrepid Common Units outstanding on a fully diluted basis, at a purchase price of $1.00 per unit. Due to the issuance of the Intrepid warrants, the 7% Senior Notes had an original issue discount of $2.8 million and were initially valued at $8.2 million. The 7% Senior Notes were scheduled to mature, and the warrants to expire, on December 31, 2023.

The 7% Senior Notes accrued interest at a fixed rate of 7% per annum. The 7% Senior Notes were general unsecured obligations and ranked equally with our other unsecured and unsubordinated debt from time to time outstanding. Redemptions of the 7% Senior Notes could be made by Turning Point at any time without penalty or premium.

In connection with Turning Point’s IPO, in May 2016, Turning Point redeemed and retired all of the outstanding 7% Senior Notes and warrants in exchange for shares of its voting common stock.

Subsequent Event – Refinancing
 
On March 7, 2018, Turning Point entered into an agreement with Fifth Third Bank, as administrative agent, and other lenders (the “2018 First Lien Credit Facility”) and an agreement with Prospect Capital Corporation, as administrative agent, and other lenders (the “2018 Second Lien Credit Facility,” and together with the 2018 First Lien Credit Facility, the “2018 Credit Facility”), to amend and extend the 2017 Credit Facility. Turning Point is still evaluating the impact of the transaction; however, it expects a loss on extinguishment of debt of approximately $2.4 million in the first quarter of 2018.

The $250 million 2018 Credit Facility consists of the 2018 First Lien Credit Facility, with a $50 million Revolving Credit Facility and a $160 million First Lien Term Loan and the 2018 Second Lien Credit Facility with a $40 million Second Lien Term Loan. The maturity of the First Lien Term Loan was extended to March 7, 2023, and the maturity of the Second Lien Term Loan was extended to March 7, 2024. The 2018 First Lien Credit Facility retains the accordion feature allowing the Company to borrow up to an additional $40 million upon the satisfaction of certain conditions, including obtaining commitments from one or more lenders. Borrowings under the Revolving Credit Facility may be used for general corporate purposes, including acquisitions.
 
The 2018 Credit Facility repaid the 2017 Second Out Term Loan, which had an interest rate of LIBOR plus 6% (subject to a floor of 1.00%) and required quarterly required payments of $0.1 million. The amendment also repaid $15 million of the 2017 Second Lien Term Loan.

The 2018 First Lien Credit Facility bear interest at LIBOR plus a spread of 2.75% to 3.50% based on Turning Point’s senior leverage ratio. The First Lien Term Loan has quarterly required payments of $1.9 million beginning June 30, 2018, increasing to $2.9 million on June 30, 2020, and increasing to $3.9 million on June 30, 2022. The 2018 First Lien Credit Facility contains certain financial covenants including maximum senior leverage ratio of 3.50x with step-downs to 3.00x, a maximum total leverage ratio of 4.50x with step-downs to 4.00x, and a minimum fixed charge coverage ratio of 1.20x.

The 2018 Second Lien Credit Facility bears interest at a rate of LIBOR plus 7.00%. The Second Lien Credit Facility contains certain financial covenants including a maximum senior leverage ratio of 4.00x with step-downs to 3.50x, a maximum total leverage ratio of 5.00x with step-downs to 4.50x, and a minimum fixed charge coverage ratio of 1.10x.
 
Distribution Agreements

For a description of our material distribution agreements, see “Business—Distribution and Supply Agreements.”
 
Master Settlement Agreement

On November 23, 1998, the major U.S. cigarette manufacturers, Philip Morris USA, Inc., Brown & Williamson Tobacco Corporation, Lorillard Tobacco Company and R.J. Reynolds Tobacco Company, entered into the MSA with attorneys general representing states that agreed to settle certain recovery actions (the “Settling States”). In order to be in compliance with the MSA and subsequent states’ statutes, Turning Point was required to fund an escrow account with each of the Settling States based on the number of cigarettes or cigarette equivalents (which is measured by pounds of MYO cigarette smoking tobacco) sold in such state. Funding of the escrow deposit by Turning Point in 2017 was less than $0.1 million in respect of sales of smoking products in 2017. Turning Point estimates the total deposits relating to 2017 sales will be less than $0.1 million. Under current MSA legislation, Turning Point will not be required to make escrow deposits after making deposits for 2017 sales as its last remaining product line subject to MSA legislation, MYO cigarette smoking tobacco, was discontinued in the third quarter of 2017. Each year’s deposit will be released from escrow after 25 years. Turning Point is scheduled to begin receiving payments as our escrow deposits are released from escrow beginning in 2024.

The following table summarizes Turning Point’s escrow deposit balances (in thousands) by sales year as of:

   
Deposits
 
Sales
Year
 
December 31,
2017
   
December 31,
2016
 
1999
 
$
211
   
$
211
 
2000
   
1,017
     
1,017
 
2001
   
1,673
     
1,673
 
2002
   
2,271
     
2,271
 
2003
   
4,249
     
4,249
 
2004
   
3,715
     
3,715
 
2005
   
4,552
     
4,552
 
2006
   
3,847
     
3,847
 
2007
   
4,167
     
4,167
 
2008
   
3,364
     
3,364
 
2009
   
1,626
     
1,626
 
2010
   
406
     
406
 
2011
   
193
     
193
 
2012
   
199
     
199
 
2013
   
173
     
173
 
2014
   
143
     
142
 
2015
   
101
     
100
 
2016
   
80
     
37
 
2017
   
70
     
-
 
Total
 
$
32,057
   
$
31,942
 
 
Off-balance Sheet Arrangements

During 2017, we executed no forward contracts. During 2016, we executed various forward contracts for the purchase of €5.6 million with maturity dates from January 26, 2017, to July 17, 2017. At December 31, 2017 and 2016, we had forward contracts for the purchase of €0 and €4.9 million, respectively.
 
Contractual Obligations

The following table summarizes the Company’s contractual obligations at December 31, 2017 (in thousands):
 
   
Payments due by period
 
   
Total
   
Less than
1year
   
1-3 years
   
4-5 years
   
More than
5 years
 
Long-term debt obligations, including interest
 
$
266,052
   
$
29,803
   
$
42,444
   
$
193,805
   
$
-
 
Operating lease obligations
   
3,462
     
1,713
     
1,749
             
-
 
Purchase obligations
   
37,705
     
37,705
                     
-
 
Net assets acquired
 
$
307,219
   
$
69,221
   
$
44,193
   
$
193,805
   
$
-
 
 
The total lease expense included in the consolidated statements of income for the years ended December 31, 2017, 2016, and 2015, was $2.6 million, $1.8 million, and $1.8 million, respectively.
 
Inflation

We believe any effect of inflation at current levels will be minimal. Historically, Turning Point has been able to increase prices at a rate equal to, or greater than, the rate of inflation and believes they will continue to be able to do so for the foreseeable future. In addition, Turning Point has been able to maintain a relatively stable, variable cost structure for its products due, in part, to its successful procurement activities regarding its tobacco products and, in part, to its existing contractual agreement for the purchase of its premium cigarette papers.
 
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk

Foreign Currency Sensitivity

Turning Point’s inventory purchases from Bolloré are denominated in euros. Accordingly, Turning Point has exposure to potentially adverse movements in the euro exchange rate. In addition, Bolloré provides a contractual hedge against catastrophic currency fluctuation in Turning Point’s agreement. Turning Point does not use derivative financial instruments for speculative trading purposes, nor does Turning Point hedge its foreign currency exposure in a manner that offsets the effects of changes in foreign exchange rates.

Turning Point regularly reviews its foreign currency risk and its hedging programs and may as part of that review determine at any time to change its hedging policy. During 2017, Turning Point executed no forward contracts, and at December 31, 2017, Turning Point had no forward contracts for purchase. A 10% change in the euro to U.S. dollars exchange rate would change pre-tax income by approximately $0.8 million per year.
 
Credit Risk

At December 31, 2017 and 2016, the Company had bank deposits, including Turning Point’s MSA escrows, in excess of federally insured limits of approximately $20.4 million and $5.2 million, respectively. Turning Point has chosen to invest a portion of the MSA escrows in U.S. Government securities including Treasury Notes and Treasury Bonds.

Turning Point sells its products to distributors, retail establishments, and individual consumers (via online sales from the newly acquired VaporBeast and Vapor Shark) throughout the U.S. and also has sales of Zig-Zag® premium cigarette papers in Canada. In 2017 and 2016, Turning Point had no customers that accounted for more than 10% of its gross sales. Turning Point performs periodic credit evaluations of its customers and generally does not require collateral on trade receivables. Historically, Turning Point has not experienced significant losses due to customer credit issues.
 
Interest Rate Sensitivity
 
Turning Point has exposure to interest rate volatility principally relating to interest rate changes applicable to loans under its 2017 Revolving Credit Facility and borrowings under the 2017 First Lien Term Loans. As of December 31, 2017, all of Turning Point’s debt with the exception of the 2017 Second Lien Term Loan and VaporBeast Note Payable bears interest at variable rates. Turning Point believes that the effect, if any, of reasonably possible near-term changes in interest rates on its consolidated financial position, results of operations or cash flows would not be significant. A 1% change in the interest rate would change pre-tax income by approximately $1.7 million per year.  SDOI will have exposure to interest rate volatility beginning in the first quarter of 2018 as a result of the Crystal Term Loan.
 
Item 8.
Financial Statements and Supplementary Data
 
The following consolidated financial statements and supplemental quarterly financial data of the Company and its subsidiaries are included as part of this Form 10-K:
 
 
Page
Report of Independent Registered Public Accounting Firm
63
Consolidated Balance Sheets as of December 31, 2017 and 2016
64
Consolidated Statements of Operations for each of the years in the three-year period ended December 31, 2017
65
Consolidated Statements of Stockholders’ Equity for each of the years in the three-year period ended December 31, 2017
67
Consolidated Statements of Cash Flows for each of the years in the three-year period ended December 31, 2017
68
Notes to Consolidated Financial Statements
70
 
Report of Independent Registered Public Accounting Firm

To the Stockholders and the Board of Directors of Standard Diversified Opportunities Inc.:

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Standard Diversified Opportunities Inc. and subsidiaries (the Company) as of December 31, 2017 and 2016, the related consolidated statements of income, comprehensive income, changes in stockholders' equity (deficit) and cash flows for each of the three years in the period ended December 31, 2017, and the related notes to the consolidated financial statements and Schedule I (collectively, the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2017 and 2016, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2017, in conformity with accounting principles generally accepted in the United States of America.

Basis for Opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion.

Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

/s/ RSM US LLP

We have served as the Company's auditor since 2006.

Greensboro, North Carolina
March 12, 2018
 
Standard Diversified Opportunities Inc. and Subsidiaries
Consolidated Balance Sheets
(dollars in thousands except share data)
 
ASSETS
 
December 31,
2017
   
December 31,
2016
 
Current assets:
           
Cash and cash equivalents
 
$
18,219
   
$
2,865
 
Accounts receivable, net of allowances of $17 in 2017 and $35 in 2016
   
3,249
     
2,181
 
Inventories
   
63,296
     
62,185
 
Other current assets
   
10,851
     
11,625
 
Total current assets
   
95,615
     
78,856
 
Property, plant and equipment, net
   
9,172
     
7,590
 
Deferred income taxes
   
450
     
6,288
 
Deferred financing costs, net
   
630
     
139
 
Goodwill
   
134,620
     
134,390
 
Other intangible assets, net
   
26,436
     
27,138
 
Master Settlement Agreement - escrow deposits
   
30,826
     
30,410
 
Pension asset
   
396
     
-
 
Other assets
   
569
     
209
 
Total assets
 
$
298,714
   
$
285,020
 
                 
LIABILITIES AND EQUITY
               
Current liabilities:
               
Accounts payable
 
$
3,686
   
$
9,153
 
Accrued liabilities
   
19,549
     
15,336
 
Accrued interest expense
   
465
     
394
 
Current portion of long-term debt
   
7,850
     
1,650
 
Revolving credit facility
   
8,000
     
15,034
 
Total current liabilities
   
39,550
     
41,567
 
Notes payable and long-term debt
   
186,190
     
201,541
 
Postretirement benefits
   
3,962
     
4,407
 
Pension benefits
   
-
     
423
 
Other long-term liabilities
   
571
     
3,024
 
Total liabilities
   
230,273
     
250,962
 
                 
Commitments and contingencies
               
                 
Equity:
               
Preferred stock, $0.01 par value; authorized shares 500,000,000; -0- issued and outstanding shares
   
-
     
-
 
Class A common stock, $0.01 par value; authorized shares, 300,000,000; 8,347,123 issued and outstanding and 857,714 issued shares at December 31, 2017 and December 31, 2016, respectively
   
83
     
9
 
Class B common stock, $0.01 par value; authorized shares, 30,000,000; 8,040,275 and 841,448 issued and outstanding shares at December 31, 2017 and December 31, 2016, respectively; convertible into Class A shares on a one-for-one basis
   
81
     
9
 
Additional paid-in capital
   
70,813
     
105,616
 
Class A Treasury stock, 16,266 common shares at cost at December 31, 2016.
   
-
     
(555
)
Accumulated other comprehensive loss
   
(1,558
)
   
(4,049
)
Accumulated deficit
   
(26,982
)
   
(66,972
)
Total stockholders' equity
   
42,437
     
34,058
 
Noncontrolling interests
   
26,004
     
-
 
Total equity
   
68,441
     
34,058
 
Total liabilities and equity
 
$
298,714
   
$
285,020
 

The accompanying notes are an integral part of the consolidated financial statements.
 
Standard Diversified Opportunities Inc. and Subsidiaries
Consolidated Statements of Income
(dollars in thousands except share data)
 
   
Year Ended December 31,
 
   
2017
   
2016
   
2015
 
                   
Net sales
 
$
285,801
   
$
206,228
   
$
197,256
 
Cost of sales
   
160,936
     
105,872
     
100,960
 
Gross profit
   
124,865
     
100,356
     
96,296
 
Selling, general and administrative expenses
   
77,944
     
56,771
     
51,785
 
Operating income
   
46,921
     
43,585
     
44,511
 
Interest expense
   
16,889
     
26,621
     
34,284
 
Interest income
   
(64
)
   
-
     
-
 
Gain on investment
   
(438
)
   
(768
)
   
-
 
Loss on extinguishment of debt
   
6,116
     
2,824
     
-
 
Income before income taxes
   
24,418
     
14,908
     
10,227
 
Income tax expense (benefit)
   
7,280
     
(12,005
)
   
1,078
 
Net income
   
17,138
     
26,913
     
9,149
 
Amounts attributable to noncontrolling interests
   
(6,761
)
   
-
     
-
 
Net income attributable to Standard Diversified Opportunities Inc.
 
$
10,377
   
$
26,913
   
$
9,149
 
                         
Net income attributable to SDOI per Class A and Class B Common Share – Basic
 
$
0.49
   
$
1.10
   
$
0.85
 
Net income attributable to SDOI per Class A and Class B Common Share – Diluted
 
$
0.48
   
$
1.05
   
$
0.79
 
Weighted Average Class A and Class B Common Shares Outstanding – Basic
   
21,223,884
     
24,549,060
     
10,728,740
 
Weighted Average Class A and Class B Common Shares Outstanding – Diluted
   
21,289,466
     
25,700,615
     
11,590,477
 
 
The accompanying notes are an integral part of the consolidated financial statements.
 
Standard Diversified Opportunities Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income
(dollars in thousands)
 
   
Year Ended December 31,
 
   
2017
   
2016
   
2015
 
                   
Net income
 
$
17,138
   
$
26,913
     
9,149
 
                         
Other comprehensive income (loss), net of tax:
                       
Pension and postretirement
                       
Amortization of unrealized (gains) losses recorded in cost of sales
   
(29
)
   
-
     
23
 
Amortization of unrealized losses recorded in selling, general and administrative expenses
   
442
     
469
     
502
 
Actuarial gain (loss)
   
1,019
     
(56
)
   
51
 
Tax effect
   
(543
)
   
-
     
-
 
Unrealized gain (loss) on investments, net of tax of $114, $582 and $0
   
187
     
(950
)
   
-
 
Other comprehensive income (loss)
   
1,076
     
(537
)
   
576
 
Amounts attributable to noncontrolling interests
   
(6,761
)
   
-
     
-
 
Comprehensive income attributable to Standard Diversified Opportunities Inc.
 
$
11,453
   
$
26,376
     
9,725
 
 
The accompanying notes are an integral part of the consolidated financial statements.
 
Standard Diversified Opportunities Inc. and Subsidiaries
Consolidated Statement of Equity
(dollars in thousands, except share data)
 
   
Standard Diversified Opportunities Inc. Shareholders
               
                                                     
   
Class A Common
Shares
   
Class B Common
Shares
     
Class A Treasury
Shares
   
Additional
Paid-In Capital
   
Accumulated
Other
Comprehensive
Loss
   
Accumulated
Deficit
   
Noncontrolli
ng Interests
    
 
 
Total
 
                                       
   
Shares
   
Amount
   
Shares
   
Amount
 
 
 
Shares