VUZI 10-Q Quarter ended June 30, 2019

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the Quarterly Period Ended June 30, 2019

OR

Commission file number 001-35955

VUZIX CORPORATION

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (585) 359-5900

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

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 filing requirements for the past 90 days.    Yes x No ¨

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

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

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 x

As of August 9, 2019, there were 33,083,620 shares of the registrant’s common stock outstanding.

Vuzix Corporation

INDEX

Part 1: FINANCIAL INFORMATION

Item 1: Consolidated Financial Statements

VUZIX CORPORATION

CONSOLIDATED BALANCE SHEETS

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

VUZIX CORPORATION

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

(Unaudited)

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

VUZIX CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

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

VUZIX CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

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

VUZIX CORPORATION

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Basis of Presentation

The accompanying unaudited consolidated financial statements of Vuzix Corporation (“the Company") have been prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Regulation S-X of the Securities and Exchange Commission (the “SEC”). Accordingly, the unaudited consolidated financial statements do not include all information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included. Certain re-classifications have been made to prior periods to conform with current reporting. The results of the Company’s operations for the three and six months ended June 30, 2019 are not necessarily indicative of the results of the Company’s operations for the full fiscal year or any other period.

The accompanying interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto of the Company as of December 31, 2018, as reported in the Company’s Annual Report on Form 10-K filed with the SEC on March 15, 2019.

Going Concern

The accompanying unaudited consolidated financial statements have been prepared assuming that we will continue as a going concern. This basis of accounting contemplates the recovery of our assets and the satisfaction of liabilities in the normal course of business. These unaudited consolidated financial statements do not include any adjustments to the specific amounts and classifications of assets and liabilities, which might be necessary should we be unable to continue as a going concern. The Company incurred net losses for the six months ended June 30, 2019 of $11,415,695 and annual net losses of $21,875,713 in 2018 and $19,633,502 in 2017. As of June 30, 2019, the Company has an accumulated deficit of $129,682,136.

The Company’s cash requirements are primarily for funding operating losses, working capital, research and development, and capital expenditures. Our cash requirements related to funding operating losses depend on numerous factors, including new product development activities, our ability to commercialize our products, our products’ timely market acceptance, selling prices and gross margins, and other factors. Historically, the Company has met its cash needs by the sale of equity, borrowings under notes, and sales of convertible debt.

The Company’s management intends to take actions necessary to continue as a going concern, as discussed herein. The Company will need to grow its business significantly to become profitable and self-sustaining on a cash flow basis or it will be required to raise new equity and/or debt capital. Management’s plans concerning these matters and managing our liquidity include, among other things:

Historically, the Company has met its cash needs primarily by the sale of equity. On July 1, 2019, the Company entered into a securities purchase agreement with certain purchasers for the sale of an aggregate of 5,479,454 shares of the Company’s common stock and warrants to purchase an aggregate of up to 5,479,454 shares of common stock, in a registered direct offering at a combined purchase price of $3.65 per share for aggregate gross sale proceeds of $20,000,000. The purchase agreement closed on July 2, 2019. The Company received net proceeds after issuance costs and expenses of $18,800,000. The warrants associated with the stock sale will be exercisable for a period of two years commencing six months from issuance date at an exercise price of $4.10 per share.

Based upon our current amount of cash on hand, management’s historical ability to raise capital, and our ability to manage our cost structure and adjust operating plans if and as required, we have concluded that substantial doubt of our ability to continue as a going concern has been alleviated.

Customer Concentrations

For the six months ended June 30, 2019, Foxconn Technology Group, or Foxconn (f/k/a Toshiba Japan) represented 30% of the Company’s product revenues and 27% of the Company’s total revenues. For the six months ended June 30, 2018, Toshiba Japan represented 94% of the Company’s engineering revenues and 27% of the Company’s total revenues.

As of June 30, 2019, Foxconn represented 92% of accounts receivable. As of December 31, 2018, Toshiba Japan and SATS Ltd. represented 32% and 38%, respectively, of accounts receivable.

Recent Accounting Pronouncements

In June 2016, the Financial Accounting Standards Board (the “FASB”) issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326). ASU 2016-13 provides for a new impairment model which requires measurement and recognition of expected credit losses for most financial assets and certain other instruments, including but not limited to accounts receivable. ASU 2016-13 will become effective for the Company on January 1, 2020 and early adoption is permitted. The Company does not anticipate the adoption of this standard will have a material impact on our consolidated financial statements.

Note 2 – Revenue Recognition and Contracts with Customers

Disaggregated Revenue

The Company’s total revenue was comprised of four major product lines: Smart Glasses and iWear Video Headphone Sales, OEM Product Sales, Waveguide and Display Engine Sales, and Engineering Services. The following table summarizes the revenue recognized by major product line:

Significant Judgments

Under Topic 606, there are judgments used that could potentially impact both the timing of our satisfaction of performance obligations and our determination of transaction prices used in determining revenue recognized by major product line. Judgments made include considerations in determining our transaction prices for our standard product sales that include an end-user 30-day right to return if not satisfied with product and include payment terms that are between Net 30 and 60 days. For our Engineering Services, performance obligations are recognized over time using the input method and the estimated costs to complete each project are considered significant judgments.

Performance Obligations

Revenues from our performance obligations satisfied at a point in time are typically for standard goods (Smart Glasses, iWear Video Headphone and, Waveguides and Display Engines) and our OEM Products, which are recognized when the customer obtains control and ownership, which is generally upon shipment. The Company also records revenue for performance obligations relating to our Engineering Services over time by using the input method measuring progress toward satisfying the performance obligations. Satisfaction of our performance obligations related to our Engineering Services is measured by the Company’s cost incurred as a percentage of total expected costs to project completion as the inputs of actual costs incurred by the Company are directly correlated with progress of completing the contract. As such, the Company believes that our methodologies for recognizing revenue over time for our Engineering Services correlate directly with the transfer of control of the underlying assets to our customers.

Our standard product sales include a twelve (12) month assurance-type product warranty, except in certain European countries where it can be twenty-four (24) months for some consumer-focused products. In the case of our OEM product and waveguide sales, some include a standard product warranty of up to eighteen (18) months. In 2018, we began offering extended warranties to customers, which extend the standard product warranty on product sales for an additional twelve (12) month period. All revenue related to extended product warranty sales is deferred and recognized over the extended warranty period. Our engineering services contracts vary from contract to contract but typically include payment terms of Net 30 days from date of billing, subject to an agreed upon customer acceptance period.

The following table presents a summary of the Company’s net sales by revenue recognition method as a percentage of total net sales for the six months ended June 30, 2019:

Remaining Performance Obligations

As of June 30, 2019, the Company had $315,000 of performance obligations under our current waveguide development agreements with a global aerospace firm, which represents the total transaction price of these development agreements of $666,000, less revenue recognized under percentage of completion in the second quarter. The Company expects to recognize the remaining revenue relating to these existing performance obligations of $315,000 in the third and fourth quarter of 2019. Revenues earned less amounts paid at June 30, 2019 in the amount of $281,783 are reflected as Accrued Project Revenue in the accompanying balance sheet.

As of June 30, 2019, the Company had $148,000 of remaining performance obligations related to its extended warranties. The Company expects to recognize this deferred revenue on a twelve (12) month straight-line basis beginning on October 1, 2019.

Note 3 – Loss Per Share

Basic loss per share is computed by dividing the loss attributable to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution from the assumed exercise of stock options and warrants, and the conversion of convertible preferred shares. During periods of net loss, all common stock equivalents are excluded from the diluted EPS calculation because they are anti-dilutive. Since the Company reported a net loss for the three and six months ended June 30, 2019 and 2018, the calculation for basic and diluted earnings per share is considered to be the same, as the impact of potential common shares is anti-dilutive. As of June 30, 2019 and 2018, there were 7,390,669 and 8,772,813 common stock share equivalents, respectively, potentially issuable under conversion of preferred shares, options, and warrants that could dilute basic earnings per share in the future.

Note 4 – Inventories, Net

Inventories are stated at the lower of cost and net realizable value and consisted of the following:

Note 5 – Intangible Asset, Net

On October 4, 2018, the Company entered into amendment No. 1 to the original agreements (the “TDG Amendment”) with TDG Acquisition Company, LLC (“TDG”), aka Six15 Technologies, LLC. The TDG Amendment amends certain provisions of prior agreements between Vuzix and TDG, including an asset purchase agreement dated June 15, 2012, and an authorized reseller agreement dated June 15, 2012.

Pursuant to the TDG Amendment, the Company will be permitted to engage in sales of heads-up display components or subsystems (and any services to support such sale) for incorporation into finished goods or systems for sale to military organizations, subject to certain conditions. The Company will also be permitted to sell its products to defense and security organizations that include business customers and governmental entity customers that primarily provide security and defense services, including police, fire fighters, EMTs, other first responders, and homeland and border security. The Company will owe TDG commissions with respect to all such sales until June 2022.

This reacquired right covers the entire remaining term of the original non-compete agreement with TDG, which expires June 15, 2022. The capitalized cost of this reacquired right is being amortized over 44 months, which began in October 2018. Total amortization expense for this intangible asset for the three and six months ended June 30, 2019 was $102,000 and $204,000, respectively. Future monthly amortization expense for the next 35 months is $34,000 per month.

Note 6 – Accrued Expenses

Accrued expenses consisted of the following:

As of December 31, 2018, there was $750,000 in Other Accrued Expenses related to the TDG Amendment (see Note 5).

The Company has warranty obligations in connection with the sale of certain of its products. The warranty period for its products is generally twelve (12) months except in certain European countries where it can be twenty-four (24) months for some consumer-focused products. The costs incurred to provide for these warranty obligations are estimated and recorded as an accrued liability at the time of sale. The Company estimates its future warranty costs based on product-based historical performance rates and related costs to repair.

The changes in the Company’s accrued warranty obligations for the six months ended June 30, 2019 and the balance as of December 31, 2018 were as follows:

Note 7 – Income Taxes

The Company’s effective income tax rate is a combination of federal, state and foreign tax rates and differs from the U.S. statutory rate due to taxes on foreign income, permanent differences including tax-exempt interest, and the resolution of tax uncertainties, offset by a valuation allowance against U.S. deferred income tax assets.

Note 8 – Capital Stock

Preferred stock

The Board of Directors is authorized to establish and designate different series of preferred stock and to fix and determine their voting powers and other special rights and qualifications. A total of 5,000,000 shares of preferred stock with a par value of $0.001 are authorized as of June 30, 2019 and December 31, 2018, 49,626 of which are designated as Series A Preferred Stock. There were 49,626 shares of Series A Preferred Stock issued and outstanding on June 30, 2019 and December 31, 2018.

On January 2, 2015 the Company closed a sale of Series A Preferred Stock to Intel Corporation (the “Series A Purchaser”), pursuant to which we issued and sold an aggregate of 49,626 shares of the Company’s Series A Preferred Stock, at a purchase price of $500 per share, for an aggregate purchase price of $24,813,000. Each share of Series A Preferred Stock is convertible, at the option of the Series A holder, into 100 shares of the Company’s common stock (determined by dividing the Series A Original Issue Price of $500 by the Series A Conversion Price, which is equal to $5.00).

Each share of Series A Preferred Stock is entitled to receive dividends at a rate of 6% per year, compounded quarterly and payable in cash or in kind, at the Company’s sole discretion. As of June 30, 2019, total accumulated and unpaid preferred dividends were $7,612,904. As of December 31, 2018, total accumulated and unpaid preferred dividends were $6,669,232. There were no declared preferred dividends owed as of June 30, 2019 or December 31, 2018.

The Series A Purchaser has the right, but not the obligation, to participate in any proposed issuance by the Company of its securities, subject to certain exceptions and in such amount as is sufficient to maintain the Series A Purchaser’s ownership percentage in the Company, calculated immediately prior to such applicable financing, at a purchase price equal to the per share price of the Company’s securities in such applicable financing.

Common Stock

The Company’s authorized common stock consists of 100,000,000 shares, par value of $.001. As of June 30, 2019 and December 31, 2018 there were 27,604,166 and 27,591,670 shares of common stock issued and outstanding, respectively.

Historically, the Company has met its cash needs primarily by the sale of equity. On July 1, 2019, the Company entered into a securities purchase agreement with certain purchasers for the sale of an aggregate of 5,479,454 shares of the Company’s common stock and warrants to purchase an aggregate of up to 5,479,454 shares of common stock, in a registered direct offering at a combined purchase price of $3.65 per share for aggregate gross sale proceeds of $20,000,000. The purchase agreement closed on July 2, 2019. The Company received net proceeds after issuance costs and expenses of $18,800,000. The warrants associated with the stock sale will be exercisable for a period of two years commencing six months from issuance date at an exercise price of $4.10 per share.

Note 9 – Stock Warrants

A summary of the various changes in warrants during the six months ended June 30, 2019 is as follows:

The outstanding warrants as of June 30, 2019 expire on June 18, 2021. The remaining term of the warrants is 2 years and the exercise price is $7.00 per share.

Note 10 – Stock-Based Compensation Plans

A summary of stock option activity for the six months ended June 30, 2019 is as follows:

The weighted average remaining contractual term for all options as of June 30, 2019 and December 31, 2018 was 6.5 years and 7.2 years, respectively.

As of June 30, 2019, there were 980,475 options that were fully-vested and exercisable at a weighted average exercise price of $4.73 per share. The weighted average remaining contractual term on the vested options is 5.6 years.

As of June 30, 2019, there were 414,532 unvested options exercisable at a weighted average exercise price of $5.87 per share. The weighted average remaining contractual term on the unvested options is 8.6 years.

The weighted average fair value of option grants was calculated using the Black-Scholes-Merton option pricing method. At June 30, 2019, the Company had approximately $2,100,000 of unrecognized stock compensation expense, which will be recognized over a weighted average period of approximately 2.6 years.

For the three months ended June 30, 2019 and 2018, the Company recorded total stock-based compensation expense, including stock awards, of approximately $382,000 and $408,000, respectively. For the six months ended June 30, 2019 and 2018, the Company recorded total stock-based compensation expense, including stock awards, of approximately $872,000 and $933,000, respectively.

Note 11 – Litigation

We are not currently involved in any actual or pending material legal proceeding or litigation and we are not aware of any such proceedings contemplated by or against us or our property except as follows:

We filed a defamation lawsuit against Ricardo Antonio Pearson (a\k\a Richard Pearson) in the Supreme Court of the State of New York, County of New York on April 5, 2018. The Company’s complaint against Mr. Pearson alleges he published false and defamatory articles about the Company. Vuzix is seeking damages in excess of $80 million, including punitive damages, and money damages. The lawsuit was moved from New York State Supreme Court, New York County, to the United States District Court, Southern District of New York, and the parties are awaiting a court ruling on the motion to dismiss that the defendant filed on May 3, 2019.

On or about October 27, 2018, Bob Glenn filed a shareholder derivative suit in the Supreme Court of the State of New York, County of Monroe against certain of the Company’s current and former directors and executive officers. The Company was named as a nominal defendant only. The complaint alleges breaches of fiduciary duty, unjust enrichment, and waste of corporate assets. The complaint alleges that the Company and certain of its officers and directors made materially false and/or misleading statements and failed to disclose material adverse events about the Company’s business, operations and prospects in press releases and public filings. The complaint seeks a declaration that the defendants have breached and/or aided and abetted the breach of their fiduciary duties to the Company, determining and awarding damages, and directing the Company to reform and improve its corporate governance. Similar derivative suits were filed by Michael Washington and John Mayer on or about October 26, 2018 and October 29, 2018. The Company believes the allegations are false and intends to vigorously defend itself. The Company plans to file a motion to dismiss the complaints.

Note 12 – Right-of-Use Assets and Liabilities

The Company has signed several lease agreements, with the largest being for its office and manufacturing facility in the Rochester, New York area under an operating lease that commenced October 3, 2015 and expires on October 3, 2020. This lease has an original five-year term with an option by the Company to renew for two additional three-year terms at pre-agreed to lease rates. This renewal term is excluded from our right-to-use asset and liability as of June 30, 2019 as the renewal option for our current leased facility is not reasonably certain. Operating lease cost under the operating leases totaled $149,777 and $118,900 for the three months ended June 30, 2019 and 2018, respectively. Operating lease cost under the operating leases totaled $290,077 and $231,796 for the six months ended June 30, 2019 and 2018, respectively.

Certain leases provide for increases in future minimum annual rental payments as defined in the lease agreements. The leases generally also include real estate taxes and common area maintenance charges in the annual rental payments. Short-term leases are leases having a term of twelve months or less. The Company recognizes short-term leases on a straight-line basis and does not record a related lease asset or liability for such leases.

As none of our leases provide an implicit interest rate, we use our incremental borrowing rate to determine our discount rate at lease inception based upon the information available at commencement in determining the present value of lease payments. As of June 30, 2019, the weighted average discount rate was 5% and the weighted average remaining lease term was 1.3 years.

Future lease payments under operating leases as of June 30, 2019 were as follows:

Note 13 – Subsequent Events

Historically, the Company has met its cash needs primarily by the sale of equity. On July 1, 2019, the Company entered into a securities purchase agreement with certain purchasers for the sale of an aggregate of 5,479,454 shares of the Company’s common stock, and warrants to purchase an aggregate of up to 5,479,454 shares of common stock, in a registered direct offering at a combined purchase price of $3.65 per share for aggregate gross sale proceeds of $20,000,000. The purchase agreement closed on July 2, 2019. The Company received net proceeds after issuance costs and expenses of $18,800,000. The warrants associated with the stock sale will be exercisable for a period of two years commencing six months from issuance date at an exercise price of $4.10 per share.

You should read the following discussion and analysis of financial condition and results of operations in conjunction with the financial statements and related notes appearing elsewhere in this quarterly report and in our annual report on Form 10-K for the year ended December 31, 2018.

As used in this report, unless otherwise indicated, the terms “Company,” “Vuzix”, “management,” “we,” “our,” and “us” refer to Vuzix Corporation.

Critical Accounting Policies and Significant Developments and Estimates

The discussion and analysis of our financial condition and results of operations is based on our unaudited consolidated financial statements and related notes appearing elsewhere in this quarterly report. The preparation of these statements in conformity with generally accepted accounting principles requires the appropriate application of certain accounting policies, many of which require us to make estimates and assumptions about future events and their impact on amounts reported in our consolidated financial statements, including the statement of operations, balance sheet, cash flow and related notes. We continually evaluate the estimates we use in the preparation of our financial statements, including those related to revenue recognition, bad debts, inventories, warranty reserves, product warranty, carrying value of long-lived assets, fair value measurement of financial instruments and embedded derivatives, valuation of stock compensation awards, and income taxes. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about carrying values of assets and liabilities that are not apparent from other sources. Since future events and their impact cannot be determined with certainty, the actual results will inevitably differ from our estimates. Such differences could be material to the consolidated financial statements.

We believe that our application of accounting policies, and the estimates inherently required therein, are reasonable. We periodically re-evaluate these accounting policies and estimates and make adjustments when facts and circumstances dictate a change. Historically, we have found our application of accounting policies to be appropriate, and actual results have not differed materially from those determined using necessary estimates.

Management believes certain factors and trends are important in understanding our financial performance. The critical accounting policies, judgments and estimates that we believe have the most significant effect on our consolidated financial statements are:

Our accounting policies are more fully described in the notes to our consolidated financial statements included in this quarterly report and in our annual report on Form 10-K for the year ended December 31, 2018. There have been no significant changes in our accounting policies other than the adoption of ASC 842, see Note 12 for further discussion, for the six months ended June 30, 2019.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have, or are reasonably likely to have, an effect on our financial condition, financial statements, revenues or expenses.

Business Matters

We are engaged in the design, manufacture, marketing and sale of wearable computing devices and augmented reality wearable display devices also referred to as head mounted displays (or HMDs, but also known as HUDs or near-eye displays), in the form of Smart Glasses and Augmented Reality (AR) glasses. Our wearable display devices are worn like eyeglasses or attach to a head-worn mount. These devices typically include cameras, sensors, and a computer that enable the user to view, record and interact with video and digital content, such as computer data, the Internet, social media or entertainment applications. Our wearable display products integrate micro-display technology with our advanced optics to produce compact high-resolution display engines, less than half an inch diagonally, which when viewed through our smart glasses products create virtual images that appear comparable in size to that of a computer monitor or a large-screen television.

With respect to our Smart Glasses and AR products, we are focused on the enterprise, industrial, commercial, first responder, and medical markets. All of the mobile display and mobile electronics markets in which we compete have been and continue to be subject to rapid technological change almost yearly over the last decade including the rapid adoption of tablets, larger screen sizes and display resolutions along with declining prices on mobile phones and other computing devices, and as a result we must continue to improve our products’ performance and lower our costs. We believe our intellectual property portfolio gives us a leadership position in the design and manufacturing of micro-display projection engines, waveguides, mechanical packaging, ergonomics, and optical systems.

Recent Accounting Pronouncements

See Note 1 to the consolidated financial statements.

Results of Operations

Comparison of Three Months Ended June 30, 2019 and 2018

The following table compares the Company’s consolidated statements of operations data for the three months ended June 30, 2019 and 2018:

Sales. There was an overall decrease in total sales for the three months ended June 30, 2019 over the same period in 2018 of $461,722 or 17%. The following table reflects the major components of our sales:

Sales of Smart Glasses decreased to $812,305, or a 55% decline, as compared to the comparable 2018 period. The decrease was driven by reduced sales of our enterprise Smart Glasses product caused by (i) the large delivery of approximately $859,000 to AMA XpertEye Inc. in June 2018 as compared to the 2019 period when we had no such larger single customer shipment; (ii) price reductions in late May of our existing M300 and M300XL products after the M400 was officially announced; and (iii) customer order deferrals of follow-on orders while they await the production and delivery of the new and more powerful M400 Smart Glasses for Enterprise in September 2019. Offsetting these decreases were sales of the new Blade Smart Glasses which was not being sold and delivered in the second quarter of 2018 and which represented approximately 46% of Smart Glasses revenues for the second quarter of 2019. Sales of OEM products rose by 46%, the result of the fulfillment of follow-on purchase order under our existing 3-year supply agreement with our OEM partner. There were no sales of Video Eyewear in the 2019 period as the product was discontinued in September 2018. Sales of Waveguides and Display Engines for the three months ended June 30, 2019 were $47,499 versus $88,212 in the prior year’s comparable period.

Sales of engineering services for the three months ended June 30, 2019 was $350,946 as compared to nil in the same 2018 period. There were two waveguide development projects which commenced in the second quarter of 2019 totaling $666,000 and are expected to be completed in the third and fourth quarter of 2019.

Cost of Sales and Gross Profit. Cost of product revenues and engineering services are comprised of materials, components, labor, warranty costs, freight costs, manufacturing overhead, software royalties, and the non-cash amortization of software development costs related to the production of our products and rendering of engineering services. The following table reflects the components of our cost of goods sold for products:

For the three months ended June 30, 2019, we reported an overall gross loss from product sales of $106,435 as compared to a gross profit of $670,173 in the prior year’s period. On a product cost of sales basis only, product direct costs were 76% of sales in the 2019 period as compared to 48% in the prior year’s period, the increase resulting from lower margins on our OEM Smart Glasses as compared to our Vuzix branded M series Smart Glasses products, and the price decrease implemented in May. Manufacturing overhead costs for the 2019 period, as a percentage of total product sales, increased to 20% for the 2019 period from 13% in the 2018 period, as we have increased our production floor and warehouse space which we occupied in November 2018, including related personnel, in anticipation of increased Blade manufacturing and the expected commencement in Q3-2019 of M400 production at our main West Henrietta facility.

Costs for engineering services for the three months ended June 30, 2019 were $92,472 as compared to nil in the same 2018 period. The majority of the 2019 period amounts represented the reclassification of our internal R&D wage costs associated with these two waveguide development projects. There was a gross profit of $258,474 from engineering services for the 2019 period versus nil in the same 2018 period.

Research and Development. Our research and development expenses consist primarily of compensation costs for personnel, related stock compensation expenses, third party services, purchase of research supplies and materials, and consulting fees related to research and development. Software development expenses to determine technical feasibility before final development and ongoing maintenance are not capitalized and are included in research and development costs.

Comparing our research and development costs for the three months ended June 30, 2019 versus the same 2018 period, there was a decrease in salary, benefits and stock compensation expenses of $32,165, primarily the result of reclassifying R&D wages to engineering services cost of sales as compared to the same period in 2018; a decrease in R&D travel expense of $57,600; a decrease of $56,626 in hiring placement fees for new staff; and a decrease of $476,595 in consulting fees for software contractors relating to our Blade product that were engaged in the 2018 period when the product was still in active development.

Selling and Marketing. Selling and marketing costs consist of trade show costs, advertising, sales samples, travel costs, sales staff compensation costs including stock compensation expense, consulting fees, public relations agency fees, website costs and sales commissions paid to full-time staff and outside consultants.

These costs decreased overall as compared to the same period in 2018 primarily due to the following factors: a $249,072 decrease in salary, commissions, benefits and stock compensation expenses; a $394,250 decrease in advertising, marketing and trade show costs; and a $70,662 decrease in travel costs.

General and Administrative. General and administrative costs include professional fees, investor relations (IR) costs including shares and warrants issued for IR services, salaries and related stock compensation, travel costs, office and rental costs.

General and administrative costs decreased by 22% or $516,561 for the three months ended June 30, 2019 versus the 2018 period primarily because of: a decrease in salary, commissions, benefits and stock compensation expenses of $603,019 related to staff reductions; and a decrease in travel expenses of $29,527; partially offset by an increase in legal costs of $61,648 and $29,603 in computer and computer software related costs.

Depreciation and Amortization. Depreciation and amortization expense for the three months ended June 30, 2019 was $607,965 as compared to $294,988 in the same period in 2018, an increase of $312,977. The increase in depreciation and amortization expense is due to new investments in depreciable assets and our intangible asset related to the non-compete TDG Amendment post the comparative period in 2018.

Other Income (Expense) .   Total other income was $13,460 for the three months ended June 30, 2019 as compared to an expense of $94,198 in the same period in 2018. The overall decrease of $107,198 in other expenses was primarily the result of a decreased loss of $63,820 in derivative valuation for the three months ended June 30, 2019 as compared to the same period in 2018 and nil in asset disposal losses versus $56,836 in the comparable 2018 period.

Comparison of Six Months Ended June 30, 2019 and 2018

The following table compares the Company’s consolidated statements of operations data for the six months ended June 30, 2019 and 2018:

Sales. There was an overall decrease in total sales for the six months ended June 30, 2019 over the same period in 2018 of $632,246 or 15%. The following table reflects the major components of our sales: