ITEM 1. DESCRIPTION OF BUSINESS

As used in this Annual Report, unless otherwise stated or the context otherwise requires, references to the “Company”, “we”, “us”, “our” or similar references mean Charlie’s Holdings, Inc. (formerly True Drinks Holdings, Inc.), its subsidiaries and consolidated variable interest entity on a consolidated basis. References to “Charlie’s” and “CCD” refer to Charlie’s Chalk Dust, LLC, a California limited liability company and wholly-owned subsidiary of the Company, and “Don Polly” refers to Don Polly, LLC, a Nevada limited liability company that is owned by entities controlled by Brandon Stump and Ryan Stump, the Company’s former Chief Executive Officer and current Chief Operating Officer, respectively, and a consolidated variable interest for which the Company is the primary beneficiary.

On April 26, 2019, the Company (then known as True Drinks Holdings, Inc.), entered into a Securities Exchange Agreement with each of the members of Charlie’s on that date (the “Charlie’s Members”), pursuant to which the Company acquired all outstanding membership interests beneficially owned by the Charlie’s Members in exchange for certain units consisting of the Company’s securities (the “Share Exchange”). As a result, Charlie’s became a wholly owned subsidiary of the Company. Following the consummation of the Share Exchange, the primary business operations of the Company consisted of those of Charlie’s and, more recently, Don Polly.

The Share Exchange resulted in a change of control of the Company, with the Members and Direct Investors (as defined in the Securities Exchange Agreement) owning approximately 86.1% of the Company’s outstanding voting securities immediately after the Share Exchange, and the Company’s current stockholders beneficially owning approximately 13.9% of the issued and outstanding voting securities, which includes the Advisory Shares (See Note 11). Together, Brandon Stump and Ryan Stump, the founders of Charlie’s and the Company’s former Chief Executive Officer and current Chief Operating Officer, respectively, own approximately 38% of the Company’s issued and outstanding voting securities as a result of the Share Exchange.

Overview

Our objective is to become a leader in the rapidly growing, global e-cigarette and e-liquid segments of the broader nicotine-related products industry. Through Charlie’s, we formulate, market and distribute premium, nicotine-based vapor products. Charlie’s products are produced through contract manufacturers for sale through select distributors, specialty retailers and third-party online resellers throughout the United States, as well as over 80 countries worldwide. Charlie’s primary international markets include the United Kingdom, Italy, Spain, New Zealand, Australia, and Canada. In June 2019, we launched distribution, through Don Polly, of certain premium vapor, tincture and topical products containing hemp-derived cannabidiol (“CBD”) and we intend in the future to develop and launch additional products containing other synthetic compounds derived from hemp.

Operational Plan

Considering industry-specific hurdles, as well as the potential for future regulatory changes, management has targeted opportunities for growth and has adopted the following operational plan.

First, we plan to increase the sales of our hemp-derived products, including topicals, ingestibles and disposable vapor devices. We feel there is a significant upside in the hemp-derived products space, and we have begun to shift our focus in this business to the burgeoning market for products containing compounds synthetically derived from hemp, including Delta-8-Tetrahydrocannabinol ("Delta-8-THC") and other synthetic tetrahydrocannabinol ("Synthetic THC") compounds. These product categories have grown rapidly, as they offer consumers a range of benefits across varying potencies and product formats. We have also recently allocated additional financial resources to increase e-commerce sales of hemp-derived products.

Secondly, we continue to see a significant opportunity for sales growth in international markets for our e-liquid and other vapor products. Presently, approximately 15% of our vapor product sales come from the international market and we are well positioned to increase sales in countries where we already have a presence, and in additional overseas markets, as we have already built an international distribution platform. Specifically, the Company intends to launch proprietary new disposables, containing synthetically derived nicotine, that have been specially formulated for the European and Middle East markets. In partnership with our international distributors, Charlie’s will sell award winning products in markets where more than 20% of the population consumes nicotine in some format.

Most importantly, we feel that tobacco and synthetically derived nicotine vapor products will continue to provide a significant growth opportunity domestically. During the quarter ended March 31, 2021, we launched our synthetic nicotine (not derived from tobacco) Pacha Syn Disposable product line (formerly Pachamama Disposables), which will provide access to additional sales channels and broaden our customer base. These innovative product formats currently represent Charlie’s most important, fastest-growing product category. We are continuing with our plan to obtain marketing authorization for certain of our nicotine-based vapor products through the completion of a Premarket Tobacco Application ("PMTA"), which we submitted in September 2020. Obtaining a marketing order from the FDA would, we believe, help to remediate perceived health issues related to vaping, and further position the Company as a trusted, industry leader. We feel that a significant number of our competitors will not have the necessary resources and/or expertise to complete the extensive and costly PMTA process and that once authorized by the FDA, we will benefit significantly by emerging as one of a select group of companies able to continue operating in the flavored vapor products space.

Recent Developments

Resignation of Brandon Stump

On October 29, 2021, Brandon Stump resigned from his position as: (i) Chief Executive Officer and Chairman of the Board of Directors; and (ii) all positions held for each direct and indirect subsidiary of the Company (each, a "Subsidiary"), including as a member of the Board of Directors of the Company and each Subsidiary.

In connection with Mr. Stump's resignation, the Company and Mr. Stump entered into an agreement regarding Mr. Stump's resignation (the "Termination Agreement"), which Termination Agreement is dated October 29, 2021. Pursuant to the Termination Agreement, in consideration for Mr. Stump agreeing to terminate his employment agreement with the Company, as amended and restated on February 12, 2020 (the "Employment Agreement"), and agreeing to certain restrictions and covenants, the Company will: (i) continue to pay Mr. Stump his base salary (as defined in the Employment Agreement), through April 22, 2022; (ii) pay Mr. Stump certain bonus compensation owed to Mr. Stump in an amount equal to $300,000, payable in installments of $75,000 on each of November 1, 2021, December 1, 2021, January 1, 2022, and February 1, 2022; and (iii) continue to make available to Mr. Stump certain employee benefits offered by the Company until April 22, 2022.

Reverse Stock Split

Our Board of Directors approved a reverse stock split of our authorized, issued, and outstanding shares of common stock, par value $0.001 per share (the “Common Stock”), at a ratio of 1-for-100 (the “Reverse Split”). The Reverse Split was effective as of June 16, 2021 (the “Effective Date”). All share and per share amounts in this Report have been retroactively adjusted to account for the reverse stock split.

March 2021 Private Placement

On March 19, 2021, the Company entered into Securities Purchase Agreements by and between the Company and certain family trusts in which Mr. Brandon Stump, the Company's former Chief Executive Officer and significant shareholder of the Company, and Mr. Ryan Stump, the Company's current Chief Operating Officer, are trustees and beneficiaries (the "Purchase Agreements"), for the private placement of an aggregate of 3,517,000 shares of its Common Stock, at a purchase price per share of $0.853 (the "Private Placement"), which Private Placement was consummated on March 22, 2021. The Private Placement resulted in gross proceeds to the Company of approximately $3.0 million. The Private Placement was undertaken pursuant to Rule 506 promulgated under the Securities Act of 1933, as amended, and was consummated in a transaction approved by the Company's independent directors in accordance with Rule 16b-3(d)(1) of the Securities Exchange Act of 1934, as amended.

Red Beard Holdings, LLC Note Payable

On April 1, 2020, the Company, Charlie's and its VIE, Don Polly, issued a secured promissory note (the "Red Beard Note") to one of the Company's largest stockholders, Red Beard Holdings, LLC ("Red Beard") in the principal amount of $750,000 (the "Principal Amount"), requiring a guaranteed minimum interest amount of $75,000 (“Minimum Interest”). The Red Beard Note is secured by all assets of the Company pursuant to the terms of a Security Agreement entered into by and between the Company and Red Beard (the "Red Beard Note Financing"). The Red Beard Note was subsequently amended on August 27, 2020, September 30, 2020, October 29, 2020, December 1, 2020, and January 19, 2021, ultimately increasing Principal Amount to $1.4 million and Minimum Interest to $150,000.

On March 24, 2021, the Company and Red Beard entered into a Satisfaction and Release (the "Red Beard Release"), pursuant to which the Company made a payment to Red Beard in the amount of $1.55 million in exchange for an acknowledgment of satisfaction and full release of the Company by Red Beard from liability and obligations arising under the Red Beard Note.

Small Business Administration Loan Programs

On April 30, 2020, Charlie's, a wholly owned subsidiary of the Company, received approval to enter into a U.S. Small Business Administration ("SBA") Promissory Note (the " Charlie's PPP Loan") with TBK Bank, SSB (the "SBA Lender"), pursuant to the Paycheck Protection Program ("PPP") of the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act") as administered by the SBA (the "PPP Loan Agreement").

The Charlie's PPP Loan provides for working capital to CCD in the amount of $650,761. The Charlie's PPP Loan was set to mature on April 30, 2022 and accrued interest at a rate of 1.00% per annum. Payments of principal and interest were deferred for six months from the date of the Charlie's PPP Loan, or until November 30, 2020. Interest, however, continued to accrue during that time.

On April 14, 2020, Don Polly also obtained a loan pursuant to the PPP enacted under the CARES Act (the "Polly PPP Loan" and together with the Charlie's PPP Loan, the "PPP Loans") from Community Banks of Colorado, a division of NBH Bank (the "Polly Lender"). The Polly PPP Loan obtained by Don Polly provided for working capital to Don Polly in the amount of $215,600. The Polly PPP Loan was set to mature on April 14, 2022 and accrued interest at a rate of 1.00% per annum. Payments of principal and interest were deferred for six months from the date of the Polly PPP Loan, or until November 14, 2020. Interest continued to accrue during that time.

The aforementioned PPP Loans were made under the PPP enacted by Congress under the CARES Act. The CARES Act (including the guidance issued by SBA and U.S. Department of the Treasury) provides that all or a portion of the PPP Loans may be forgiven upon request from the respective borrower to the SBA Lender or the Polly Lender, as the case may be, subject to requirements in the PPP Loans and under the CARES Act.

On February 19, 2021, Don Polly received notice from the Polly Lender, that the Polly PPP Loan was fully repaid, and its promissory note was cancelled as a result of the loan forgiveness process set forth by the U.S. Small Business Administration. There is no further action required on the part of Don Polly to satisfy this liability.

On March 17, 2021, Don Polly obtained a second draw PPP loan (“Polly PPP Loan 2”) under the CARES Act from Polly Lender. The Polly PPP Loan 2 obtained by Don Polly provided general working capital in the amount of $184,200. The Polly PPP Loan 2 was set to mature on March 17, 2026 and accrued interest at a rate of 1.00% per annum. Payments of principal and interest were deferred, however interest continued to accrue.

On April 28, 2021, Charlie’s received notice from SBA Lender that the Charlie’s PPP Loan was fully repaid, and its promissory note was cancelled as a result of the loan forgiveness process set forth by the U.S. Small Business Administration. There is no further action required on the part of Charlie’s to satisfy this liability.

On November 9, 2021, Don Polly received notice from the Polly Lender, that the Polly PPP Loan 2 was fully repaid, and its promissory note was cancelled as a result of the loan forgiveness process set forth by the U.S. Small Business Administration. There is no further action required on the part of Don Polly to satisfy this liability.

On June 24, 2020, SBA authorized (under Section 7(b) of the Small Business Act, as amended) an Economic Injury Disaster Loan (“EID Loan”) to Don Polly in the amount of $150,000. Installment payments, including principal and interest of $731 monthly will begin twelve months from date of the EID Loan. The balance of principal and interest will be payable thirty years from the date of the EID Loan and interest will accrue at the rate of 3.75% per annum.

PMTA

During the quarter ended September 30, 2020, the FDA's Center for Tobacco Products informed us that our PMTA has received a valid submission tracking number, passed the FDA’s filing review phase, and recently entered the substantive review phase. To date, Charlie’s has invested over $4.4 million for our initial PMTA submission. We engaged a team of more than 200 professionals, including doctors, scientists, biostatisticians, data analysts, and numerous contract research organizations to create our comprehensive PMTA submission. During the quarter ended September 30, 2021, the FDA began issuing Marketing Denial Orders (“MDO”) for electronic nicotine delivery system (“ENDS”) products that lack evidence to demonstrate that permitting the marketing of such products would be appropriate for the protection of the public health. As of December 31, 2021, the Company had not received an MDO for any of its submissions. Management believes this is an indicator of our progress toward achieving full regulatory compliance and our objective of providing customers with a trusted product portfolio.

Impact of COVID-19

The outbreak of a novel strain of coronavirus ("COVID-19", or, “Coronavirus”) has had and continues to have a negative impact on the global economy and the markets in which we operate. Beginning in March 2020, the Company transitioned nearly all employees to a remote working environment for their safety and to protect the integrity of Company operations. We have updated certain sales, accounting and administrative processes, and corresponding information technology platforms, in an effort to help facilitate the hybrid work environment in which we now operate. During the year ended December 31, 2021, we engaged in periodic, informal testing of our business operations, and we do not believe that our financial position, work efficiency and overall operational integrity have been materially affected. However, we recognize that a certain degree of employee enthusiasm, teamwork, creativity, and support is normally generated by being present at a physical location, and we believe that prolonged remote working may have a negative impact over time on our business, and on employee productivity. Our Denver, CO office and Huntington Beach, CA warehouse locations have returned fully to “on premise” status, while our corporate headquarters in Costa Mesa, CA remains remote for some employees. We will continue to monitor the COVID-19 situation in all regions in which we operate and will maintain strict adherence to local health guidelines and mandates. We may need to take further actions that we determine are in the best interests of our employees or as required by federal, state, or local authorities.

Our Products

Charlie’s Product Line

Our business efforts consist primarily of formulating, marketing and distributing our portfolio of premium vapor products, which we collectively refer to as the “Charlie’s Product Line” or “Charlie’s Products”.  

Disposables

Disposable vapes, also referred to as (“Disposables”), are pre-filled and pre-charged vapor delivery systems. These single-use electronic vaporizers offer a draw-activated mouthpiece and are infused with e-liquid, making them ready to use immediately after purchase. Our Disposables are available in a variety of sizes (2ml, 4ml, and 8ml) and flavors, including some of our award-winning proprietary blends.

Charlie’s disposable products are produced under two brand names distinguished by their size and intended market, and offer users a variety of premium flavors containing synthetic nicotine (not derived from tobacco) in a compact, discrete format. All disposables are shipped in flavor specific consumer display units (“CDU”) which hold ten individually packaged disposables for quick and convenient retail sales.

E-Liquids

E-liquids used to produce vapor in vaping devices are sold separately for use in refillable tanks of open system vaporizers. Liquids are available in variable nicotine concentrations (0 mg, 3 mg and 6 mg per milliliter) to suit user preferences. Liquids are available in a variety of our proprietary-blended flavors. The liquid solution consists of flavoring and/or nicotine dissolved in one or several hygroscopic components, which turns the water in the solution into the smoke-like vapor when heated. The most commonly used hygroscopic components are propylene glycol (“PG”), vegetable glycerin (“VG”) or polyethylene glycol 400. VG imparts sweetness and produces vapor clouds, while PG produces more “throat hit”, which simulates the feeling of smoking. Our proprietary e-liquid brands are manufactured by ISO Class 7 certified manufacturers in the United States, which helps ensure their purity and quality.

Charlie’s e-liquid products are produced under five brand names distinguished by their flavor profiles, packaging art and ingredient transparency.

Nicotine Salt Products

Nicotine salt e-liquids (“NIC salts”) are formulated for use in lower wattage open, semi-open and closed system vaporizers and are available in higher nicotine concentrations (25mg and 50mg per milliliter) than traditional e-liquids. Nicotine salts consist of nicotine dissolved in an acid that results in a lower PH level than other e-liquids. This form of nicotine has a higher bioavailability resulting in faster blood stream absorption and more closely mimics the effects of combustible tobacco products. We broadly released Pachamama™ Salts, an extension of the Pachamama™ line, in late December 2018 to a select group of key accounts, which includes seven flavors packaged in 10ml, 30ml and 60ml bottles. We will continue to evaluate our product offering in this category as demand continues to evolve.

Don Polly

Don Polly is a company under common ownership with the Company, and was established in April 2019 for the specific purpose of developing, marketing and distributing proprietary and innovative hemp-derived, non-THC, wellness products. In June 2019, we introduced, through Don Polly, full-spectrum hemp extract and CBD isolate wellness products across a variety of formats and with different strengths. Our initial launch consisted of six vapor, eight tincture and two topical product variations. The newly released products were launched under the Pachamama™ brand by way of a licensing agreement between Don Polly and Charlie’s, entered on April 25, 2019 (the "Licensing Agreement"). In the near term, we expect to continue expanding the hemp-derived products line to include products based on other innovative cannabinoids, currently in development.

Don Polly is owned by two limited liabilities companies, of which one is wholly-owned by Brandon Stump, the Company’s former Chief Executive Officer, and the other is wholly-owned by Ryan Stump, the Company’s Chief Operating Officer. Pursuant to the Licensing Agreement, Charlie's granted Don Polly a limited right and license to use certain of Charlie’s trademarks, copyrights and original artwork, in connection with Don Polly’s branded hemp products, as well as a Services Agreement pursuant to which Charlie’s provides certain services to Don Polly related to the sales, marketing, brand development of Don Polly products.

As a result, the Company and Don Polly launched a line of premium vapor, tincture and topical products containing hemp-derived CBD in June 2019, which we refer to the “Don Polly Products” and “Don Polly Product Line”. Don Polly’s efforts have been focused on developing and producing high quality CBD products made from single-strain-sourced hemp extract and high purity CBD isolate crystals. Good manufacturing practices and stringent quality control parameters are of the utmost importance to the Don Polly Products, which contribute to the differentiation of the Don Polly Products in the hemp-derived product industry. The Don Polly Products contain both full and broad-spectrum CBD, as well as other innovative compounds derived from hemp.

Full Spectrum CBD Products

Our full spectrum hemp extract comes from whole plant extraction which retains the plant’s natural compounds. This extraction method ensures each product preserves the holistic benefits of the plant including minimal amounts of THC (0.3% or less), which allows for optimal absorption of the plant’s nutrients. While CBD alone is a beneficial cannabinoid, full spectrum products provide the body access to all the plant’s cannabinoids, allowing the end user to achieve a wide range of benefits. The full spectrum products are formulated with single-source and single strain hemp extracts. Don Polly believes this sourcing practice yields various compounds that work synergistically to heighten the effects of the products, making them superior to single-compound CBD isolates. In June 2019, we introduced the Pachamama™ tincture and topical full spectrum products. Currently, the tincture offering includes two flavors Black Pepper Turmeric and Kava Kava Valerian, which are available in 30ml bottle sizes and both 750mg and 1750mg strengths.

Broad Spectrum CBD Products

In addition to isolate and full spectrum CBD products, we believe broad spectrum hemp-derived CBD products can be developed to provide the same benefits of full spectrum CBD products. Through additional processing of hemp-derived extracts, we can eliminate the presence of THC. This category of THC-free, broad spectrum products will provide consumers with the same level of quality and the same nutrients we value in our full spectrum products, without the concern of consuming minimal amounts of THC. In Q4 of 2019, we released three very dynamic broad spectrum topicals; our Pain Cream 850mg, Icy Muscle Gel 500mg and Body Lotion 300mg. The Pain Cream, offered in a 100ml bottle, offers a combination of broad-spectrum CBD, menthol, MSM, arnica and capsaicin to provide quick, effective relief. The Icy Muscle Gel roll-on has a blend of ancient Chinese herbs along with cooling menthol and camphor to temporarily relieve nagging pains, and provide anti-inflammatory treatment to muscles and joints. Don Polly’s Body Lotion rounds out the initial broad spectrum topical portfolio offerings with 300mg of CBD and an ultra-nourishing blend of botanical oils for soft, radiant, and balanced skin. The Body Lotion is not currently offered. In March 2021 we launched Sleep Well Gummies, specifically formulated with a unique blend of cannabinol (“CBN”), CBD, melatonin, and Elderberry extract to support the immune system and to encourage better sleep. Sleep Well Gummies have grown to become the Company’s best-selling product in the broad-spectrum category.

Other Cannabinoids

Our Other Cannabinoid products are formulated using Delta-8 tetrahydrocannabinol (“Delta-8”), THC-O Acetate (“THC-O”), and Hexahydrocannabinol (“HHC”) that are sourced from industrial-grade hemp. Since our products contain only THC-O, Delta-8, or HHC made from 100% hemp extract, we are able to legally manufacture, distribute and sell to consumers in the United States. As a result of the Agriculture Improvement Act (the “Farm Bill”), ratified and signed into law in December 2018, cannabis containing less than 0.3% Delta 9-THC is legally classified as hemp and is thus legal under federal law. All Other Cannabinoid products are shipped in flavor specific CDUs which hold ten individually packaged disposables for quick and convenient retail sales.

Manufacturing and Distribution

Manufacturing

Charlie’s Product Line. We work closely with contract manufacturing partners in the United States, Ireland, Scotland and China to manufacture our products. Our e-liquid and NIC salts products are manufactured to meet our proprietary formula specifications in facilities that are ISO Class 7 certified, which helps ensure their purity and quality. In 2020, we added an additional supplier and sourced over 90% of our e-liquid finished goods from three manufacturers in the United States. During 2021, we launched our Pacha Syn line of synthetic nicotine disposable vapor products, which required expansion of our vendor network. We have developed a strong relationship with our vendor in China to design and produce products to our strict specifications. While we have developed long-standing relationships with our manufacturing sources and take great care to ensure that they share our commitment to quality, we do not have any long-term term contracts with these parties for the production of our product lines. We maintain redundancies in our supply chain and are aware of several alternative sources for our products.

Don Polly Product Line. Our hemp-derived, Don Polly Products are manufactured with contract manufacturers to meet our formula specifications. While we do not have any long-term contracts with these parties, we are strengthening our supplier partnerships as well as identifying additional supplier and contract manufacturing opportunities.

Distribution

Charlie’s Product Line. Once manufactured, Charlie’s Products are directly distributed throughout the United States and in more than 80 countries, primarily the United Kingdom, Italy, Spain, New Zealand, Australia, and Canada.   Our products are carried by more than 3,000 specialty retailers that are serviced through direct sales and through distributors and wholesalers both in the United States and internationally. Retailers of our products include specialty retailers throughout the United States and in 80 other countries. We have also increased distribution of our products in convenience stores, liquor stores and gas stations.  With respect to products that we sell through third-party distributors and wholesalers, we typically sell our products to these customers for their re-sale. In select markets we maintain exclusive arrangements with distributors and, when warranted, will memorialize these agreements contractually.

Don Polly Product Line. Don Polly Products are currently distributed to over 650 distributor and retail accounts in the United States and United Kingdom. Like the Charlie’s Product Line, we will sell Don Polly Products directly to retailers, as well as through the use of distributors, third-party wholesalers and independent brokers. We currently sell some Don Polly Products through an internally managed e-commerce platform.

Online Sales

Charlie’s Product Line and Don Polly Product Line. We do not currently sell our Charlie's Products on an e-commerce platform. However, we market Charlie's Products and sell branded merchandise through our website, www.charlieschalkdust.com and www.pacha.co. A portion of the Don Polly Product Line is offered for sale directly to consumers under our Pachamama brand through our in-house, e-commerce platforms on our websites www.enjoypachamama.com and www.donpolly.com.

Sales and Marketing

Charlie’s and Don Polly Product Lines. We have an experienced, ten-person sales team, based in the United States, that promotes our Charlie’s and Don Polly Products globally. Salespeople seek to form long-term “360” collaborative relationships with their clients, partnering with them on sell-through efforts, providing access to our marketing and creative teams and advising and educating them on the Charlie’s and Don Polly Product Lines as well as other industry-related issues. In 2021, we expanded our sales and marketing strategy to include use of “Brand Advocates” who are responsible for canvassing for potential new customers, while raising general awareness of both the Charlie’s and Don Polly product lines. Currently, we advertise our products primarily through customer engagement through social media channels, print media, directed internet marketing, industry tradeshows and collaborative events with retail partners. Participation at industry-specific tradeshows has traditionally played a large role in our marketing and distribution strategy. However, the global COVID-19 pandemic that began in 2020 caused an abrupt cessation of trade show activity and required us to temporarily adjust our marketing strategy. During the second half of 2021, tradeshow activity began to resume as COVID-19 cases subsided. In addition, we have allocated resources to collaborative events, and our marketing team is now focusing its efforts on fostering relationships with key distributors and retailers by launching customer-specific marketing campaigns, in-person visits to new customer accounts, and other forms of direct customer engagement. In 2021, approximately 16% of our sales were to customers outside of the United States. 

We intend to expand strategically our advertising activities in 2022 and to increase our public relations efforts to gain industry awareness as well as editorial coverage for our brands. Some of our competitors promote their brands through print media and through celebrity endorsements and have substantial resources to devote to such efforts. We believe that our and our competitors’ efforts have helped increase our sales, our product acceptance and general industry awareness. In addition, we have allocated resources and personnel to increase our sales in the markets outside of the United States.

Source and Availability of Raw Materials

Charlie’s Product Line. Our manufacturing partners source the ingredients for our proprietary vapor products from a variety of sources, in accordance with our formulations and quality specifications. We source our proprietary e-liquids from multiple ISO Class 7 certified manufacturers in the United States, which helps ensure their purity and quality. Our disposable vapor products are designed in collaboration with our Chinese manufacturer; however, the manufacturer is responsible for procurement of all raw materials necessary to complete our purchase orders. In an effort to maintain consistency across our supply chain, we purchase directly certain product packaging and are responsible for managing various third-party supplier relationships.

Don Polly Product Line. For our full and broad-spectrum CBD products, we currently source the individual components and CBD from several suppliers. Each is delivered to our primary manufacturer for storage prior to manufacturing. Our primary manufacturer for isolate CBD products handles all raw material sourcing internally. We source hardware components from China for certain of our other hemp-derived products, which are then combined with ingredients sourced domestically to create finished goods.

Although we own the formulas for the Charlie’s Products and the Don Polly Products, we obtain certain components, such as packaging, flavors and certain raw materials, from third party suppliers. None of the third-party suppliers are considered to be material to the business on a standalone basis and the components are readily available from other suppliers on the market. However, given the rapid growth of the vaping, e-cigarette and hemp-derived products industries, there may be fluctuations in the availability of certain of the materials we obtain from third-parties due to high demand from our competitors. If any given supplier or distributor is lost or unavailable in a specific region, and we are unable to contract with alternative suppliers or distributors to provide the requisite service(s) and product(s), we may be unable to fulfill customer orders and our business could be materially harmed.

Competition

The industries in which we operate are highly competitive.

Charlie’s Product Line. Our Charlie's Product Line competes in a highly-fragment and rapidly evolving industry. Some identifiable competitors of Charlie's include Naked100, Savage, Humble, Puff Bar, Flum and Hyde. Other brands such as Juul, Vuse, Group Mark Ten, Green Smoke, Blu, Vaporfi, Njoy, and Logic all participate in a different segment of the electronic cigarette market which appeals to current smokers and recently converted electronic cigarette users.

In the vapor products space, due to low barriers to entry, new brands and products emerge frequently despite the need to conform with FDA guidelines for certain products. Companies that produce electronic cigarettes and vaporizers, including Vaporfi, Atmos and Njoy, carry their own flavor lines for the refillable market. More recently, the emergence of disposable vapor products from companies such as Puff Bar have become popular in the market. Some brands focus on wide variety of choice and value, while other companies like Charlie’s Chalk Dust carve out their identity with branding, and more nuanced flavor combinations. The nature of our competitors is varied as the market is highly fragmented and the barriers to entry into the business are low.

Part of our business strategy focuses on the establishment of relationships with distributors and prominent branding focused on performance and quality. We are aware that e-cigarette competitors in the industry are also seeking to enter into such relationships to try and create brand loyalty. In many cases, competitors for such relationships may have greater management, human, and financial resources than we do for attracting distributor relationships. Furthermore, certain of our electronic cigarette competitors may have better control of their supply and distribution, are better established, larger and better financed than our Company.

We plan to compete primarily on the basis of product quality, brand recognition, brand loyalty, service, marketing, and advertising. We are subject to highly competitive conditions in all aspects of our business. The competitive environment and our competitive position can be significantly influenced by weak economic conditions, erosion of consumer confidence, competitors’ introduction of low-priced products or innovative products, cigarette excise taxes, higher absolute prices and larger gaps between price categories, and product regulation that diminishes a company’s ability to differentiate its products.

We also compete against “Big Tobacco” – U.S. cigarette manufacturers of both conventional tobacco cigarettes and electronic cigarettes like Altria Group, Inc., Lorillard, Inc. and Reynolds American, Inc. We compete with Big Tobacco companies that offer not only conventional tobacco cigarettes and electronic cigarettes but also smokeless tobacco products such as “snus” (a form of moist ground smokeless tobacco that is usually sold in sachet form that resembles small tea bags), chewing tobacco and snuff. Big tobacco has virtually limitless resources, global distribution networks in place and a customer base that is fiercely loyal to their brands. Furthermore, we believe that Big Tobacco will devote more attention and resources to developing and offering electronic cigarettes as the market for electronic cigarettes grows. Because of their well-established sales and distribution channels, marketing expertise and significant resources, Big Tobacco companies may be better positioned than small competitors like Charlie’s to capture a larger share of the electronic cigarette market.

Don Polly Product Line. The market for hemp-based products is growing rapidly and is highly competitive. The competition consists of publicly and privately-owned companies, which tend to be highly fragmented in terms of both geographic market coverage and products offered. With the Company’s leading brand status, innovation capabilities, existing sales and marketing platform, established distribution channels and high-quality manufacturing, Management believes the Company is well-positioned to capitalize on favorable long-term trends in the hemp-based, and CBD wellness products segment.

Intellectual Property

Patents and Trademarks

Charlie’s Product Line and Don Polly Product Line. We are the registered owner of the federal trademarks for CHARLIE’S CHALK DUST, PACHAMAMA, STUMPS, AUNT MERINGUE & Design, CAMPFIRE & Design, Mr. MERINGUE & Design, and THE CREATOR OF FLAVOR & Design. We also maintain registrations in several international markets and will work with our international distributors to manage intellectual property and trademark registrations when necessary. 

We plan to continue to expand our brand names and our proprietary trademarks and designs worldwide as our business grows.

Licensing Agreements

Charlie’s Product Line. The Company occasionally evaluates licensing opportunities to expand its footprint in the global nicotine-based products marketplace. Charlie's doesn’t currently license any of its intellectual property rights for use in nicotine-based products.

Don Polly Product Line. On April 25, 2019, the Company and Charlie’s entered into a License Agreement with Don Polly. Don Polly is classified as a variable interest entity for which the Company is the primary beneficiary, and is owned by entities controlled by Ryan Stump, the Company’s Chief Operating Officer, and Brandon Stump, the Company’s former Chief Executive Officer. Pursuant to the License Agreement, Charlie’s provides Don Polly with a limited right and license to use certain of Charlie’s intellectual property rights, including certain trademarks, copyrights and original artwork, in connection with certain of Don Polly’s branded CBD products. In exchange for such license, Don Polly (i) pays Charlie’s monthly royalties amounting to 75% of its net profits, (ii) uses its best efforts to market, promote and advertise its products, (iii) provides Charlie’s with most favored nations pricing in the event that Charlie’s wishes to sell products sold by Don Polly, (iv) provide Charlie’s with the exclusive right of first refusal to purchase Don Polly, including all of its assets and liabilities, for a purchase price of $111,618 on or before December 31, 2025, and (v) will not license any intellectual property from any other source other than Charlie’s in connection with its design, manufacture, advertisement, promotion distribution and sale of CBD infused products within the agreed upon territory. The License Agreement will continue in perpetuity unless terminated in accordance with its terms.

Concurrently with the execution of the License Agreement, Charlie’s and Don Polly also entered into a Services Agreement (the “Services Agreement”), pursuant to which Charlie’s provides certain services to Don Polly, including, without limitation, (i) the development and creation of Don Polly’s sales, marketing, brand development and customer service strategies and (ii) performing sales, branding, marketing and other business functions at the request of Don Polly. Charlie’s will perform such services in the capacity of a contractor, and all materials and work product created by Charlie’s in its capacity as such will be the property of Don Polly. As consideration for the Services provided by Charlie’s, Don Polly (i) pays Charlie’s 25% of its net profits on a quarterly basis, and (ii) reimburse Charlie’s for all out-of-pocket business expenses that are preapproved in writing by Don Polly. The Services Agreement will continue in perpetuity unless terminated in accordance with its terms.

Government Regulations

Charlie’s Product Line

Pursuant to a December 2010, decision, by the U.S. Court of Appeals for the District of Columbia Circuit, in Sottera, Inc. v. Food & Drug Administration, 627 F.3d 891 (D.C. Cir. 2010), the FDA is permitted to regulate electronic cigarettes as “tobacco products” under the Family Smoking Prevention and Tobacco Control Act of 2009 (the “Tobacco Control Act”).

Under this Court decision, the FDA is not permitted to regulate electronic cigarettes as “drugs” or “devices” or a “combination product” under the Federal Food, Drug and Cosmetic Act unless they are marketed for therapeutic purposes.

The Tobacco Control Act also requires establishment, within the FDA’s new Center for Tobacco Products, of a Tobacco Products Scientific Advisory Committee to provide advice, information and recommendations with respect to the safety, dependence or health issues related to tobacco products.

The FDA had previously indicated that it intended to regulate e-cigarettes under the Tobacco Control Act through the issuance of “Deeming Regulations” that would include e-liquid, e-cigarettes, and other vaping products (collectively, “Deemed Tobacco Products”) under the Tobacco Control Act and subject to the FDA’s jurisdiction.

On May 10, 2016, the FDA issued the “Deeming Regulations” which came into effect August 8, 2016. The Deeming Regulations amended the definition of “tobacco products” to include e-liquid, e-cigarettes and other vaping products. Deemed Tobacco Products include, but are not limited to, e-liquids, atomizers, batteries, cartomizers, clearomisers, tank systems, flavors, bottles that contain e-liquids, and programmable software. Beginning August 8, 2016, Deemed Tobacco Products became subject to all FDA regulations applicable to cigarettes, cigarette tobacco, and other tobacco products which require:

In addition, the Deeming Regulations require any Deemed Tobacco Product that was not commercially marketed as of the “grandfathering” date of February 15, 2007, to obtain premarket approval before it can be marketed in the United States. Premarket approval could take any of the following three pathways: (1) submission of a Premarket Tobacco Application (“PMTA”) and receipt of a marketing authorization order; (2) submission of a substantial equivalence report and receipt of a substantial equivalence order; or (3) submission of a request for an exemption from substantial equivalence requirements and receipt of a substantial equivalence exemption determination. The Company cannot predict if any of the products in the Charlie's Product Line, all of which would be considered “non-grandfathered”, will receive the required premarket approval from the FDA.

Since there were virtually no e-liquid, e-cigarettes or other vaping products on the market as of February 15, 2007, there is no way to utilize the less onerous substantial equivalence or substantial equivalence exemption pathways that traditional tobacco corporations can utilize. In order to obtain premarket approval, practically all e-liquid, e-cigarettes or other vaping products would have to follow the PMTA pathway which would cost hundreds of thousands of dollars per application. Furthermore, the Deeming Regulations effectively froze the US market on August 8, 2016 since any new e-liquid, e-cigarette or other vaping product would be required to obtain an FDA marketing authorization though one of the aforementioned pathways. Deemed Tobacco Products that were on the market prior to August 8, 2016 have been provided with a grace period where such products could continue to be marketed until the September 9, 2020 PMTA submission deadline. Upon submission of a PMTA, such products would be permitted to be sold pending the FDA’s review of the submitted PMTAs, following the September 9, 2020 deadline.

In a press release dated July 28, 2017, the FDA also stated that “the FDA plans to issue foundational rules to make the product review process more efficient, predictable, and transparent for manufacturers, while upholding the agency’s public health mission. Among other things, the FDA intends to issue regulations outlining what information the agency expects to be included in PMTAs, Modified Risk Tobacco Product (“MRTP”) applications and reports to demonstrate Substantial Equivalence (“SE”). The FDA also plans to finalize guidance on how it intends to review PMTAs for ENDS. The agency also will continue efforts to assist the industry in complying with federal tobacco regulations through online information, meetings, webinars and guidance documents.

As at the date of this Annual Report on Form 10-K, the Company continues to evaluate the potential returns associated with the preparation and submission of additional PMTAs on certain of its products. Such products would be afforded a similar grace period to be marketed while the FDA reviews any applications that were submitted.

State and local governments currently legislate and regulate tobacco products, including what is considered a tobacco product, how tobacco taxes are calculated and collected, to whom tobacco products can be sold and by whom, in addition to where tobacco products, specifically cigarettes may be smoked and where they may not. Certain municipalities have enacted local ordinances which preclude the use of e-liquid, e-cigarettes and other vaping products where traditional tobacco burning cigarettes cannot be used and certain states have proposed legislation that would categorize vaping products as tobacco products, equivalent to their tobacco burning counterparts. If these bills become laws, vaping products may lose their appeal as alternatives to traditional cigarettes, which may have the effect of reducing the demand for the products.

The Company may be required to discontinue, prohibit or suspend sales of its vapor products in states that require us to obtain a retail tobacco license. If the Company is unable to obtain certain licenses, approvals or permits and if the Company 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 the Company, then the Company may be required to cease sales and distribution of its vapor products to those states, which would have a material adverse effect on the Company’s business, results of operations, and financial condition.

As a result of FDA import alert 66-41 (which allows the detention of unapproved drugs promoted in the U.S.), U.S. Customs has from time to time temporarily and in some instances indefinitely detained certain products. If the FDA modifies the import alert from its current form which allows U.S. Customs discretion to release the products, to a mandatory and definitive hold, the Company may no longer be able to ensure a supply of raw materials or saleable product, which will have material adverse effect on the Company’s business, results of operations, and financial condition.

On December 27, 2020, President Trump signed the Further Consolidated Appropriations Act, 2021, into law. This law included an amendment to the Jenkins Act expanding the definition of “cigarette” to include “electronic nicotine delivery systems,” or ENDS, and requires that the United States Postal Service ("USPS") promulgate regulations clarifying the applicability of the prohibition on delivery sales of cigarettes to ENDS. This amendment to the definition of “cigarette” now requires Charlie’s to comply with the Prevent All Cigarette Tracking Act (“PACT Act”). Failure to comply with the PACT Act could result in significant financial or criminal penalties. To the extent we are unable to respond to, or comply with, these new requirements, there could be a material adverse effect on our business, results of operations and financial condition.

At present, the Federal Cigarette Labeling and Advertising Act (which governs how cigarettes can be advertised and marketed) does not apply to electronic cigarettes. The application of this federal law to electronic cigarettes would have a material adverse effect on our business, results of operations and financial condition.

The tobacco industry expects significant regulatory developments to take place over the next few years, driven principally by the World Health Organization’s Framework Convention on Tobacco Control (“FCTC”). The FCTC is the first international public health treaty on tobacco, and its objective is to establish a global agenda for tobacco regulation with the purpose of reducing initiation of tobacco use and encouraging cessation. Regulatory initiatives that have been proposed, introduced or enacted include:

If e-liquid, e-cigarettes or other vaping products are subject to one or more significant regulatory initiatives enacted under the FCTC, the Company’s business, results of operations, and financial condition could be materially and adversely affected.

On March 15, 2022, a new rider to the Federal Food, Drug and Cosmetic Act was passed granting the FDA authority over synthetic nicotine.  These regulations make synthetic nicotine products subject to the same FDA rules as tobacco-derived nicotine products.  As such, the Company must file a PMTA for its existing synthetic nicotine products marketed under the Pacha Syn brands by May 14, 2022, or be subject to FDA enforcement.  Currently, the Company plans to file a PMTA for its synthetic Pacha Syn products prior to the May 14, 2022 deadline.  If the PMTA is ultimately unsuccessful, or if the FDA issues a warning letter, or takes other action against the Company resulting in us not being able to distribute our Pacha Syn brand products in the United States, our revenues and, thereby our financial results and condition, could be materially adversely affected.

European Union

On April 3, 2014, the European Union issued the “New Tobacco Product Directive” and is intended to regulate “tobacco products”, including cigarettes, roll-your-own tobacco, cigars and smokeless tobacco, and “electronic cigarettes and herbal products for smoking”, including e-cigarettes, e-liquid, refill containers, liquid holding tanks and e-liquid bottles sold directly to consumers. The New Tobacco Product Directive became effective May 20, 2016.

The New Tobacco Product Directive introduces a number of new regulatory requirements for e-cigarettes, e-liquid and other vaping products, which includes the following: (i) restricts the amount of nicotine that e-cigarettes and e-liquid can contain; (ii) requires e-cigarettes, e-liquid and refill containers to be sold in child and tamper-proof packaging and nicotine liquids to contain only “ingredients of high purity”; (iii) provides that e-cigarettes, e-liquid and other vaping products must deliver nicotine doses at “consistent levels under normal conditions of use” and come with health warnings, instructions for their use, information on “addictiveness and toxicity”, an ingredients list, and information on nicotine content; (iv) significantly restricts the advertising and promotion of e-cigarettes, e-liquid and other vaping products; and (v) requires e-cigarette, e-liquid and other vaping product manufacturers and importers to notify EU Member States before placing new products on the market and to report annually such to Member States (including on their sales volumes, types of users and their “preferences”). Failure to make annual reports to Member State Competent Authorities or to properly notify prior to a substantive change to an existing product or introduction of a new product could result in the Company’s inability to market or sell its products and cause material adverse effect on the Company’s business, results of operations, and financial condition.

The New Tobacco Product Directive requires Member States to transpose into law New Tobacco Product Directive provisions by May 20, 2016. An “EU directive” requires Member States to achieve particular results. However, it does not dictate the means by which they do so. Its effect depends on how Member States transpose the New Tobacco Product Directive into their national laws. Member States may decide, for example, to introduce further rules affecting e-cigarettes, e-liquid and other vaping products (for example, age restrictions) provided that these are compatible with the principles of free movement of goods in the Treaty on the Functioning of the European Union. The Tobacco Product Directive also includes provisions that allow Member States to ban specific e-cigarettes, e-liquid and other vaping products or specific types of e-cigarettes, e-liquid and other vaping products in certain circumstances if there are grounds to believe that they could present a serious risk to human health. If at least three Member States impose a ban and it is found to be duly justified, the European Commission could implement a European Union wide ban. Similarly, the New Tobacco Product Directive provides that Member States may prohibit a certain category of tobacco, flavoring or related products on grounds relating to a specific situation in that Member State for public health purposes. Such measures must be notified to the European Commission to determine whether they are justified.

There are also other national laws in Member States regulating e-cigarettes, e-liquid and other vaping products. It is not clear what impact the new Tobacco Product Directive will have on these laws.

Canada

On September 27, 2017, Health Canada released a Notice to the Industry that portions of Bill S-5 related to the sale of vaping products that are marketed without health or therapeutic claims are to be enacted immediately upon Royal Assent. In effect, this both legitimizes the sale of vaping products within Canada and creates an initial regulatory framework. Health Canada has taken the stance that vaping products that are not marketed as therapeutic are to be considered consumer products and subject to the requirements of the Canada Consumer Product Safety Act (“CCPSA”). Under the CCPSA, there is a “general prohibition” on products that are classified as “very toxic” under the Consumer Chemicals and Containers Regulations, 2001 (“CCCR, 2001”). Health Canada has reviewed the toxicity of nicotine containing products and has determined that “vaping liquids containing equal to or more than 66 mg/ml (6.6%) nicotine meet the classification of "very toxic" under the CCCR, 2001 and will be prohibited from import, advertising or sale under Section 38 of the CCCR, 2001. None of the Company’s e-liquid products for sale fall under this classification of “very toxic” and are therefore able to be marketed for sale within Canada. Health Canada has also determined that products containing any nicotine that falls below the “very toxic” classification to be regulated as “toxic” under the CCCR, 2001. This classification requires the use of childproof packaging, specific labeling requirements and pictograms as outlined in the CCCR, 2001.

At present, the Company has made efforts to ensure that its e-liquid products that are being marketed in Canada are in full compliance with the recommendations of Health Canada and will expect no interruption to business upon Royal Ascent of Bill S-5.

Health Canada had also stated an intent to develop additional regulations under the authority of the CCPSA, however, at this time it is unclear what those additional regulations may be or how they will affect the Company’s business. If e-liquid, e-cigarettes or other vaping products are subject to one or more significant regulatory initiatives enacted under the Bill S-5 or otherwise, the Company’s business, results of operations and financial condition could be materially and adversely affected.

Currently in Canada, electronic smoking products (i.e., electronic products for the vaporization and administration of inhaled doses of nicotine including electronic cigarettes, cigars, cigarillos and pipes, as well as cartridges of nicotine solutions and related products) fall within the scope of the Food and Drugs Act. All of these products require market authorization prior to being imported, advertised or sold in Canada. Market authorization is granted by Health Canada following successful review of scientific evidence demonstrating safety, quality and efficacy with respect to the intended purpose of the health product. To date, no electronic smoking product has been authorized for sale by Health Canada.

In the absence of evidence establishing otherwise, an electronic smoking product delivering nicotine is regulated as a “new drug” under Division 8, Part C of the Food and Drug Regulations. In addition, the delivery system within an electronic smoking kit that contains nicotine must meet the requirements of the Medical Devices Regulations. Appropriate establishment licenses issued by Health Canada are also needed prior to importing, and manufacturing electronic cigarettes. Products that are found to pose a risk to health and/or are in violation of the Food and Drugs Act and related regulations may be subject to compliance and enforcement actions in accordance with the Health Products and Food Branch Inspectorate’s Compliance and Enforcement Policy (POL-0001). According to Health Canada regulations, it is not permissible to import, advertise or sell electronic smoking products without the appropriate authorizations, and persons that violate these regulations are subject to repercussions from Health Canada, including but not limited to, seizure of the products.

Since no scientific evidence demonstrating safety, quality and efficacy with respect to the intended purpose of e-cigarettes, e-liquid or other vaping products has been submitted to Health Canada to date, there is the possibility that in the future Health Canada may modify or retract the current prohibitions currently in place. However, there can be no assurance that the Company will be in total compliance, remain competitive, or financially able to meet future requirements and regulations imposed by Health Canada.

To date, Health Canada has not imposed any restrictions on e-cigarettes, e-liquid and other vaping products that do not contain nicotine. E-cigarettes, e-liquid and other vaping products that do not make any health claim and do not contain nicotine may legally be sold in Canada. Thus, vendors can openly sell nicotine-free e-cigarettes, e-liquid and other vaping products. However, there are vape shops operating throughout Canada selling e-cigarettes, e-liquid and other vaping products containing nicotine without any implications from Health Canada. e-cigarettes, e-liquid and other vaping products are subject to standard product regulations in Canada, including the Canada Consumer Product Safety Act and the Consumer Packaging and Labelling Act.

At present, neither the Tobacco Act (which regulates the manufacture, sale, labelling and promotion of tobacco products) nor the Tobacco Products Labelling Regulations (Cigarettes and Little Cigars) (which governs how cigarettes can be advertised and marketed) apply to e-cigarettes, e-liquid and other vaping products. The application of these federal laws to e-cigarettes, e-liquid and other vaping products would have a material adverse effect on the Company’s business, results of operations and financial condition.

Company’s efforts to mitigate risks associated with new and evolving regulation.

The Company is constantly seeking to stay in compliance with all existing and reasonably expected future regulations. The Company, through its internal compliance team, market consultants and technicians and testing labs hopes to stay in accordance with all standards whether set forth in the New Tobacco Products Directive or the Deeming Regulations. Making sure that all e-liquid products meet and exceed the standards set forth by each market’s regulatory body is of the highest concern for the Company. Staying in compliance with all marketing and packaging directives is imperative to maintaining access to the markets. Although these processes are costly and time consuming, it is imperative for the Company’s success that these steps are taken and constantly kept up to date. These regulations may limit our ability to enter certain markets outside the U.S. Similar to the costs of regulatory compliance in the U.S., foreign regulations require significant financial and operational resources to ensure compliance, and we cannot assure that we will always be in compliance despite our best efforts to do so. Failure to comply in a timely fashion to any particular directive or regulation could have material adverse effects on the results of business operations.

Don Polly Product Line

Don Polly’s CBD products are subject to various state and federal laws regarding the production and sales of hemp-based products. Section 12619 of the Agriculture Improvement Act of 2018 (“2018 Farm Bill”) removed “hemp”, as defined in the Agricultural Marketing Act of 1946 (the “1946 Agricultural Act”), from the classification of “marijuana,” which is generally prohibited as a Schedule I drug under the Controlled Substances Act of 1970 (“CSA”). Under the 1946 Agricultural Act (as amended by the 2018 Farm Bill), the term “hemp” means “the plant Cannabis sativa L. and any part of that plant, including the seeds thereof and all derivatives, extracts, cannabinoids, isomers, acids, salts, and salts of isomers, whether growing or not, with a delta-9 tetrahydrocannabinol concentration of not more than 0.3 percent on a dry weight basis”. As a result of the passage of the 2018 Farm Bill, and since the Company believes the Don Polly Products contain parts of the cannabis plant with a THC concentration of not more than 0.3 percent on a dry weight basis, the Company believes that the Don Polly Products are not governed by the CSA and, ergo, would not be subject to prosecution thereunder because the Company believes the Don Polly Products contain “hemp” within the meaning of the 1946 Agricultural Act (as amended by the 2018 Farm Bill) and do not contain any “marijuana” as prohibited under the CSA (as amended by the 2018 Farm Bill); provided, however, there is a lack of legal protection for hemp-based products that contain more than 0.3 percent THC and there is a risk that the Company would be subject to prosecution under the CSA in the event that its CBD products are found to contain more than 0.3 percent THC.

Furthermore, the 1946 Agricultural Act (as amended by the 2018 Farm Bill) provides additional regulations regarding the production of hemp-based products and there is the risk that the Don Polly Products may be found to be in violation of these regulations. Specifically, the 1946 Agricultural Act (as amended by the 2018 Farm Bill) contains provisions relating to the shared state-federal jurisdiction over hemp cultivation and production, whereby states and Indian tribes have been delegated the broad authority to regulate and limit the production and sale of hemp and hemp products within their borders. Under the 1946 Agricultural Act (as amended by the 2018 Farm Bill), a plan under which a State or Indian tribe monitors and regulates the production of hemp shall only be required to include “(i) a practice to maintain relevant information regarding land on which hemp is produced in the State or territory of the Indian tribe, including a legal description of the land, for a period of not less than three calendar years; (ii) a procedure for testing, using post-decarboxylation or other similarly reliable methods, delta-9 tetrahydrocannabinol concentration levels of hemp produced in the State or territory of the Indian tribe; (iii) a procedure for the effective disposal of—(I) plants, whether growing or not, that are produced in violation of this subtitle; and (II) products derived from those plants; (iv) a procedure to comply with enforcement procedures; (v) a procedure for conducting annual inspections of, at a minimum, a random sample of hemp producers to verify that hemp is not produced in violation of this subtitle; (vi) a procedure for submitting the information, as applicable, to the Secretary of Agriculture (the “Secretary”) not more than 30 days after the date on which the information is received; and (vii) a certification that the State or Indian tribe has the resources and personnel to carry out the practices and procedures described in clauses (i) through (vi)”. Further, a hemp producer in a State or the territory of an Indian tribe for which a State or Tribal plan is approved shall be determined to have negligently violated the State or Tribal plan, including by negligently— “(i) failing to provide a legal description of land on which the producer produces hemp; (ii) failing to obtain a license or other required authorization from the State department of agriculture or Tribal government, as applicable; or (iii) producing Cannabis sativa L. with a delta-9 THC concentration of more than 0.3 percent on a dry weight basis”. A hemp producer that negligently violates a State or Tribal plan 3 times in a 5-year period shall be ineligible to produce hemp for a period of 5 years beginning on the date of the third violation. If the State department of agriculture or Tribal government in a State or the territory of an Indian tribe for which a State or Tribal plan, as applicable, determines that a hemp producer in the State or territory has violated the State or Tribal plan with a culpable mental state greater than negligence— “(i) the State department of agriculture or Tribal government, as applicable, shall immediately report the hemp producer to —(I) the Attorney General; and (II) the chief law enforcement officer of the State or Indian tribe, as applicable”. In the case of a State or Indian tribe for which a State or Tribal plan is not approved, the production of hemp in that State or the territory of that Indian tribe shall be subject to a plan established by the Secretary to monitor and regulate that production. A plan established by the Secretary under shall include— “(A) a practice to maintain relevant information regarding land on which hemp is produced in the State or territory of the Indian tribe, including a legal description of the land, for a period of not less than 3 calendar years; (B) a procedure for testing, using post-decarboxylation or other similarly reliable methods, delta-9 tetrahydrocannabinol concentration levels of hemp produced in the State or territory of the Indian tribe; (C) a procedure for the effective disposal of—(i) plants, whether growing or not, that are produced in violation of this subtitle; and (ii) products derived from those plants; (D) a procedure to comply with the enforcement procedures; (E) a procedure for conducting annual inspections of, at a minimum, a random sample of hemp producers to verify that hemp is not produced in violation of this subtitle; and (F) such other practices or procedures as the Secretary considers to be appropriate. The Secretary shall also establish a procedure to issue licenses to hemp producers. In the case of a State or Indian tribe for which a State or Tribal plan is not approved under applicable law, it shall be unlawful to produce hemp in that State or the territory of that Indian tribe without a license issued by the Secretary. A violation of a plan established by the Secretary shall be subject to enforcement and the Secretary shall report the production of hemp without a license issued by the Secretary to the Attorney General. In the event that the Company’s hemp-derived products are found to be in violation of these regulations, the Company may become subject to enforcement action as provided for in the 1946 Agricultural Act (as amended by the 2018 Farm Bill) and may become subject to prosecution thereunder.

Research and Development

Our research and development activities consist of development and testing of new flavors, formulations, formats and delivery methods for our existing products, as well as development of new products for the Charlie’s Product Line and the Don Polly Product Line. Costs related to the completion and submission of PMTAs to the FDA also constitute research and development activities. For the year ended December 31, 2021, research and development costs primarily consisted of product development and testing fees.

For the years ended December 31, 2021 and 2020, Charlie’s recorded research and development expense of $24,000 and $3,378,000, respectively.

Employees

We had 40 full-time employees across Charlie’s Holdings Inc., Charlie’s Chalk Dust LLC and Don Polly LLC as of March 17, 2022. We believe that we maintain a good working relationship with our employees, and we have not experienced any labor disputes. None of our employees are represented by labor unions.

Cost of Compliance with Environmental Laws

We have not incurred any costs associated with compliance with environmental regulations, nor do we anticipate any future costs associated with environmental compliance; however, no assurances can be given that we will not incur such costs in the future.

Available Information

As a public company, we are required to file our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements on Schedule 14A and other information (including any amendments) with the SEC. You can also find the Company’s SEC filings at the SEC’s website at www.sec.gov.

Our Internet address is www.charliesholdings.com. Information contained on our website is not part of this Annual Report on Form 10-K. Our SEC filings (including any amendments) will be made available free of charge on www.charliesholdings.com, as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC.