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

FORM 10-Q
(Mark One)
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2023

OR

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

For transition period from __________ to __________


Commission file number 001-39331
System1, Inc.
(Exact name of registrant as specified in its charter)

Delaware
92-3978051
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
4235 Redwood Avenue
Marina Del Rey, CA
90066
(Address of Principal Executive Offices)
(Zip Code)

(310) 924-6037
(Registrant’s telephone number including area code)

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

Title of each classTrading Symbol(s)Name of each exchange on which registered
Class A common stock, par value $0.0001 per shareSSTThe New York Stock Exchange
Redeemable warrants, each whole warrant exercisable for one Class A common stock at an exercise price of $11.50 per shareSST.WSThe New York Stock Exchange



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

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

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

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

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

As of November 2, 2023, there were 94,411,940 shares of Class A common stock, $0.0001 par value per share, outstanding and 21,512,757 shares issued and outstanding of Class C common stock, $0.0001 par value per share.




Table of Contents
Page

i


PART I—FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements (Unaudited)
System1, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets (Unaudited)
(In thousands, except for par values)

Successor
September 30, 2023December 31, 2022
ASSETS
Current assets:
Cash and cash equivalents$4,853 $8,905 
Restricted cash, current3,370 5,717 
Accounts receivable, net of allowance for credit losses59,393 80,428 
Prepaid expenses and other current assets10,045 11,166 
Current assets held for sale from discontinued operations12,866 20,292 
Total current assets90,527 126,508 
Restricted cash, non-current4,409 5,395 
Property and equipment, net3,238 3,162 
Internal-use software development costs, net11,334 6,948 
Intangible assets, net315,666 371,661 
Goodwill82,407 82,407 
Operating lease right-of-use assets5,154 6,484 
Other non-current assets577 2,812 
Assets held for sale from discontinued operations414,232 555,069 
Total assets$927,544 $1,160,446 
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable$10,604 $6,707 
Accrued expenses and other current liabilities65,851 84,990 
Operating lease liabilities, current2,284 2,149 
Debt, net15,205 15,021 
Related-party liabilities27,175  
Current liabilities held for sale from discontinued operations116,572 101,418 
Total current liabilities237,691 210,285 
Long-term debt, net388,068 399,504 
Warrant liability925 7,798 
Deferred tax liability15,009 28,059 
Operating lease liabilities, non-current4,143 5,875 
Other liabilities2,686 1,661 
Liabilities held for sale from discontinued operations38,544 34,476 
Total liabilities687,066 687,658 
Commitments and contingencies (Note 8)
STOCKHOLDERS’ EQUITY
Class A common stock - $0.0001 par value; 500,000 shares authorized, 94,258 and 91,674 Class A shares issued and outstanding as of September 30, 2023 and December 31, 2022, respectively
9 9 
Class C common stock - $0.0001 par value; 25,000 shares authorized, 21,513 and 21,747 Class C shares issued and outstanding as of September 30, 2023 and December 31, 2022, respectively
2 2 
Additional paid-in capital849,398 829,687 
Accumulated deficit(646,242)(445,301)
Accumulated other comprehensive loss(435)(417)
Total stockholders’ equity attributable to System1, Inc.202,732 383,980 
Non-controlling interest37,746 88,808 
Total stockholders’ equity240,478 472,788 
Total liabilities and stockholders’ equity$927,544 $1,160,446 
See notes to unaudited condensed consolidated financial statements.
1    

System1, Inc. and Subsidiaries
Condensed Consolidated Statements of Operations (Unaudited)
(In thousands, except for per share and per unit data)

SuccessorPredecessor
Three Months Ended September 30, 2023Three Months Ended September 30, 2022Nine Months Ended September 30, 2023Period from January 27, 2022 through September 30, 2022Period from January 1, 2022 through January 26, 2022
Revenue$87,818 $156,895 $305,851 $472,158 $52,712 
Operating expenses:
Cost of revenue (excluding depreciation and amortization)50,585 111,217 190,195 $341,693 41,507 
Salaries and benefits26,689 30,270 82,484 106,340 31,181 
Selling, general, and administrative11,808 11,572 42,004 36,962 15,665 
Depreciation and amortization19,584 18,923 58,666 50,369 1,000 
Impairment of goodwill 340,109  340,109  
Total operating expenses108,666 512,091 373,349 875,473 89,353 
Operating loss(20,848)(355,196)(67,498)(403,315)(36,641)
Other (income) expense:
Interest expense, net13,053 9,733 36,789 21,987 1,049 
Loss on restructure of related-party debt619  619   
Change in fair value of warrant liabilities(7,482)4,489 (6,873)14,111  
Total other expense6,190 14,222 30,535 36,098 1,049 
Loss before income tax(27,038)(369,418)(98,033)(439,413)(37,690)
Income tax benefit(920)(69,796)(10,626)(84,341)(629)
Net loss from continuing operations(26,118)(299,622)(87,407)(355,072)(37,061)
Net loss from discontinued operations, net of tax(137,209)(14,077)(163,222)(35,849) 
Net loss(163,327)(313,699)(250,629)(390,921)(37,061)
Less: Net loss from continuing operations attributable to noncontrolling interest(6,328)(69,269)(19,543)(80,336) 
Less: Net loss from discontinued operations attributable to noncontrolling interest(25,566)(2,733)(30,472)(7,082) 
Net loss attributable to System1, Inc.$(131,433)$(241,697)$(200,614)$(303,503)$(37,061)
Amounts attributable to System1, Inc.:
Net loss from continuing operations$(19,790)$(230,353)$(67,864)$(274,736)$(37,061)
Net loss from discontinued operations(111,643)(11,344)(132,750)(28,767) 
Net loss attributable to System1, Inc.$(131,433)$(241,697)$(200,614)$(303,503)$(37,061)
Basic and diluted net loss per share:
Continuing operations$(0.21)$(2.53)$(0.73)$(3.11)n/a
Discontinued operations(1.19)(0.13)(1.42)(0.32)n/a
Basic and diluted net loss per share$(1.40)$(2.66)$(2.15)$(3.43)n/a
Shares used in net loss per share calculations:
Weighted average shares outstanding - basic and diluted93,941 91,002 93,281 88,397 n/a
Basic and diluted net loss per unitn/an/an/an/a$(1.81)
Weighted average units outstanding - basic and dilutedn/an/an/an/a20,488 

See notes to unaudited condensed consolidated financial statements.
2    

System1, Inc. and Subsidiaries
Condensed Consolidated Statements of Comprehensive Loss (Unaudited)
(In thousands)

SuccessorPredecessor
Three Months Ended
September 30, 2023
Three Months Ended September 30, 2022Nine Months Ended September 30, 2023Period from January 27, 2022 through September 30, 2022Period from January 1, 2022 through January 26, 2022
Net loss$(163,327)$(313,699)$(250,629)$(390,921)$(37,061)
Other comprehensive income (loss):
Foreign currency translation income (loss)(188)297 (109)(124)87 
Comprehensive loss$(163,515)$(313,402)$(250,738)$(391,045)$(36,974)
Comprehensive loss attributable to non-controlling interest$(31,932)$(72,001)$(50,019)$(87,356)$ 
Comprehensive loss attributable to System1, Inc.$(131,583)$(241,401)$(200,719)$(303,689)$(36,974)

See notes to unaudited condensed consolidated financial statements.
3    

System1, Inc. and Subsidiaries
Condensed Consolidated Statements of Changes in Stockholders' Equity (Unaudited)
(In thousands)
Class A Common Stock
Class C Common Stock
Shares
Amount
Shares
Amount
Additional Paid-In-Capital
Accumulated Deficit
Accumulated Other Comprehensive Income (Loss)
Non-Controlling Interest
Total Stockholders’
Equity
Successor:
For the period from January 1, 2023 to September 30, 2023
BALANCE—December 31, 2022$91,674 9 $21,747 2 $829,687 $(445,301)$(417)$88,808 $472,788 
Net loss— — — — — (33,952)— (9,174)(43,126)
Cumulative-effect of adoption of ASU 2016-13— — — — — (326)— — (326)
Issuance of restricted stock, net of forfeitures and shares withheld for taxes832 — — — (1,730)— — — (1,730)
Issuance of common stock in connection with settlement of incentive plan407 — — — 1,658 — — — 1,658 
Conversion of Class C shares to Class A shares234 — (234)— 956 — — (956) 
Increase in tax receivable agreement liability — — — — (441)— — — (441)
Other comprehensive loss— — — — — — (62)(46)(108)
Stock-based compensation— — — — 6,963 — — — 6,963 
BALANCE—March 31, 2023$93,147 9 $21,513 2 $837,093 $(479,579)$(479)$78,632 $435,678 
Net loss— — — — — (35,230)— (8,947)(44,177)
Issuance of restricted stock, net of forfeitures and shares withheld for taxes455 — — — (314)— — — (314)
Other comprehensive income (loss)— — — — — — 209 (22)187 
Stock-based compensation— — — — 5,571 — — — 5,571 
BALANCE—June 30, 2023$93,602 9 $21,513 2 $842,350 $(514,809)$(270)$69,663 $396,945 
Net loss— — — — — (131,433)— (31,894)(163,327)
Issuance of restricted stock, net of forfeitures and shares withheld for taxes656 — — — (54)— — — (54)
Other comprehensive loss— — — — — — (165)(23)(188)
Stock-based compensation— — — — 7,102 — — — 7,102 
BALANCE—September 30, 2023$94,258 9 $21,513 2 $849,398 $(646,242)$(435)$37,746 $240,478 


See notes to unaudited condensed consolidated financial statements.
Class A Common StockClass C Common StockClass D Common Stock
SharesAmountSharesAmountSharesAmountAdditional Paid-In-CapitalAccumulated DeficitAccumulated Other Comprehensive Income (Loss)Non-Controlling InterestTotal Stockholders’
Equity
Successor:
4    

System1, Inc. and Subsidiaries
Condensed Consolidated Statements of Changes in Stockholders' Equity (Unaudited)
(In thousands)
For the period from January 27, 2022 to September 30, 2022
BALANCE—January 26, 202251,750 $5  $  $ $574,003 $(107,797)$ $ $466,211 
Effect of the Merger29,017 3 22,077 2 1,450  148,359   198,691 347,055 
BALANCE—January 27, 202280,767 $8 22,077 $2 1,450 $ $722,362 $(107,797)$ $198,691 $813,266 
Net loss— — — — — — — (36,069)— (7,309)(43,378)
Issuance of common stock in connection with the Merger, net of offering costs, underwriting discounts and commissions930 — — — — — 661 — — — 661 
Issuance of common stock in connection with the acquisition of business2,000 — — — — — 25,500 — — — 25,500 
Issuance of market-based restricted stock units upon vesting— — — — 1,450 — — — — — — 
Conversion of Class D shares to Class A shares2,900 1 — — (2,900)— — — — — 1 
Net deferred tax liability resulting from changes in outside basis difference on investment in S1 Holdco, LLC— — — — — — (2,596)— — — (2,596)
Other comprehensive income / (loss)— — — — — — — — 103 (184)(81)
Stock-based compensation— — — — — — 31,398 — — — 31,398 
Distribution to members— — — — — — — — — (247)(247)
BALANCE—March 31, 202286,597 $9 22,077 $2  $ $777,325 $(143,866)$103 $190,951 $824,524 
Net loss— — — — — — — (25,737)— (8,107)(33,844)
Exercise of warrants3,969 — — — — — 27,989 — — — 27,989 
Issuance of restricted stock, net of forfeitures and shares withheld for taxes21 — — — — — — — — — — 
Other comprehensive loss— — — — — — — — (524)(14)(538)
Stock-based compensation— — — — — — 6,995 — — — 6,995 
Distribution to members— — — — — — — — — (1,254)(1,254)
BALANCE—June 30, 202290,587 $9 22,077 $2  $ $812,309 $(169,603)$(421)$181,576 $823,872 
Net loss— — — — — — — (241,697)— (72,002)(313,699)
Issuance of restricted stock, net of forfeitures and shares withheld for taxes573 — — — — — (2,035)— — — (2,035)
Conversion of Class C shares to Class A shares330 — (330)— — — 2,714 — — (2,714) 
Establishment of liabilities under tax receivable agreement and related changes to deferred tax assets associated with increases in tax basis— — — — — — (41)— — — (41)
Other comprehensive income— — — — — — — — 297 114 411 
Stock-based compensation— — — — — — 8,955 — — — 8,955 
Distribution to members— — — — — — — — — (10)(10)
BALANCE—September 30, 2022$91,490 $9 21,747 $2  $ $821,902 $(411,300)$(124)$106,964 $517,453 
See notes to unaudited condensed consolidated financial statements.
5    

System1, Inc. and Subsidiaries
Condensed Consolidated Statements of Changes in Members' Deficit (Unaudited)
(In thousands)

Members’ DeficitAccumulated Other Comprehensive Income (Loss)Total Members’ Deficit
Predecessor:
For the period January 1, 2022 to January 26, 2022
BALANCE—January 1, 2022$(28,829)$428 $(28,401)
Net loss(37,061)— (37,061)
Accumulated other comprehensive income— 87 87 
Stock-based compensation expense23,705 — 23,705 
BALANCE—January 26, 2022$(42,185)$515 $(41,670)

See notes to unaudited condensed consolidated financial statements.
6    

System1, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows (Unaudited)
(In thousands)

SuccessorPredecessor
Nine Months Ended September 30, 2023Period from January 27, 2022 through September 30, 2022Period from January 1, 2022 through January 26, 2022
Cash flows from Operating Activities:
Net loss$(250,629)$(390,921)$(37,061)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization85,364 86,236 1,000 
Stock-based compensation43,909 88,847 23,705 
Impairment of goodwill115,483 340,109  
Impairment of assets held for sale3,276   
Noncash lease expense1,327 1,102 115 
Change in fair value of warrants(6,873)14,111  
Deferred tax benefits(18,397)(101,100)(816)
Amortization of debt issuance costs4,663 3,540  
Other1,750 661 (9)
Loss on restructure of related-party debt619   
Changes in operating assets and liabilities:
Accounts receivable17,786 6,670 11,118 
Prepaids and other assets647 (275)1,069 
Accounts payable5,223 1,981 (67,600)
Accrued expenses and other liabilities1,708 (17,369)57,488 
Deferred revenue12,746 7,133 311 
Long-term earnout liabilities(20,000)(10,000) 
Other long-term liabilities(4,510)(31,467)77 
Net cash used in operating activities(5,908)(742)(10,603)
Cash flows from Investing Activities:
Purchases of property and equipment(2,015)(3,220) 
Capitalized software development costs(4,844)(5,135)(441)
Acquisition of businesses, net of cash acquired (444,074) 
Net cash used in investing activities(6,859)(452,429)(441)
Cash flows from Financing Activities:
Proceeds from related-party loan63,000   
Repayment of related-party loan(44,000)  
Proceeds from term loan and line of credit 449,000  
Repayment of term loan(15,000)(182,488) 
Payments for financing costs (24,845) 
Payment of acquisition holdback(1,935)(1,715) 
Taxes paid related to net settlement of stock awards(3,053)(2,035) 
Redemptions of Class A common stock (510,469) 
Proceeds from warrant exercises  5,027  
Cash received from the Backstop 246,484  
Taxes paid on behalf of S1 Holdco partnership members(66)(1,511) 
Net cash used in financing activities(1,054)(22,552) 
Effect of exchange rate changes in cash, cash equivalent and restricted cash(231)213 (19)
Net decrease in cash, cash equivalents and restricted cash(14,052)(475,510)(11,063)
Cash and cash equivalents and restricted cash, beginning of the period39,075 517,553 48,639 
Cash and cash equivalents and restricted cash, end of the period$25,023 $42,043 $37,576 
Reconciliation of cash, cash equivalents and restricted cash to the Condensed Consolidated Balance Sheets:
Cash and cash equivalents$4,853 $16,532 $36,833 
Restricted cash7,779 8,112 743 
Cash and restricted cash included in assets held for sale from discontinued operations12,391 17,399  
Total cash, cash equivalents and restricted cash$25,023 $42,043 $37,576 
Supplemental cash flow information:
Cash paid for operating lease liabilities$1,593 $1,580 $175 
ROU assets obtained in exchange for operating lease liabilities$ $2,064 $7,987 
Capitalized assets financed by accounts payable$53 $309 $ 
Stock-based compensation included in capitalized software development costs$1,644 $340 $ 
Settlement of incentive plan through issuance of common stock$1,658 $ $ 
Equity issuance to settle intercompany loan$ $ $941 
Deferred consideration for acquisition$ $7,059 $ 
Restructuring of holdback liability to promissory note$5,156 $ $ 
    

See notes to unaudited condensed consolidated financial statements.
7    

System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

1.ORGANIZATION AND DESCRIPTION OF BUSINESS

System1, Inc. and subsidiaries (“System1” or the “Company”) operates an omnichannel customer acquisition platform, delivering high-intent customers to advertisers.

The Company provides its omnichannel customer acquisition platform services through its proprietary responsive acquisition marketing platform (“RAMP”). Operating seamlessly across major advertising networks and advertising category verticals to acquire users, RAMP allows the Company to monetize such users through its relationships with third party advertisers and advertising networks (“Advertising Partners”). Through RAMP, third party advertising platforms and publishers (“Network Partners”) send user traffic to, and monetize user traffic on, the Company’s owned and operated websites. RAMP operates across the Company’s network of owned and operated websites and related products, allowing it to monetize user traffic that it sources from various acquisition marketing channels, including Google, Facebook, Taboola and Zemanta.

The Company, through Total Security Limited, formerly known as Protected.net Group Limited (“Total Security” or “Protected”), also provides antivirus software solutions, offering customers a single packaged solution that provides protection and reporting to the end user. The Company delivers its antivirus software solutions directly to end-user customers around the world. The antivirus software solutions product offering comprises a core security package with varying levels of extra protection based on a customer's specific needs. The software is sold in either a monthly or annual subscription predominantly through its flagship products TotalAV and TotalAdBlock.

On September 6, 2023, the Company announced that it had received a non-binding indication of intent (the "IOI") from Just Develop It Limited (“JDI”), a significant shareholder of the Company which is principally owned and managed by certain members of the Protected management team, related to the potential acquisition of Protected, which operates the Company's subscription business. The offer consists of $240,000 in cash, the assumption of certain potential earnout payments in respect of Protected and the delivery of approximately 29,138 System1 shares held by JDI and related persons. A special committee of the Company's Board of Directors was formed to evaluate JDI’s IOI and other strategic alternatives.

The Company determined that the Protected business met the criteria to be classified as held for sale, and that a sale represented a strategic shift that will have a major effect on the Company’s operations and financial results. Accordingly, the results of operations of its Protected business are presented as net loss from discontinued operations in the condensed consolidated statements of operations for all periods presented, and the assets and liabilities for its Protected business have been classified as held for sale and segregated for all periods presented in the condensed consolidated balance sheets. Refer to Note 15—DISCONTINUED OPERATIONS for additional information.


Going Concern

Starting in the third quarter of 2022 and continuing into 2023, the Company has experienced declining cash flows and financial performance as a result of deteriorating macroeconomic conditions, resulting in reductions in both advertiser and overall consumer demand for the Company's marketing services. In response to these conditions, the Company obtained additional financing in the second quarter of 2023 (as previously disclosed) which was expected to provide the Company sufficient liquidity to manage through the current business environment. However, subsequent to the quarter ended June 30, 2023, the Company has experienced increased customer acquisition costs in addition to the loss of a significant Network Partner, both of which have further negatively impacted the Company’s future cash forecasts, and may negatively impact the Company’s forecasted compliance with the maximum leverage ratio covenant of the Term Loan (defined in Note 9—DEBT). As of September 30, 2023, the Company had cash on hand of $4,853, an accumulated deficit of $646,242, and had cash outflows from operations of $5,908 for the nine months ended September 30, 2023. The Company has principal and interest payments due of approximately $15,000 per quarter, and as of the date of this filing, the Company had no remaining available capacity under the 2023 Revolving Note (defined in Note 13—RELATED-PARTY TRANSACTIONS).

8    

System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

The declining cash flows and financial performance raise substantial doubt regarding the Company's ability to continue as a going concern for a period of one year following the date that these condensed consolidated financial statements are issued. The Company has both developed and implemented plans to improve its liquidity. The Company’s implemented plans include the restructuring of the CouponFollow Holdback Amount in September 2023 through the issuance of a $5,156 note and obtaining the Onyx and OpenMail2 debt financings for $10,000 and $2,500, respectively (refer to Note 13RELATED-PARTY TRANSACTIONS) in October 2023 entering into a factoring agreement in November 2023 for an initial $5,000 (refer to Note 16 – SUBSEQUENT EVENTS) as well as implementing a significant reduction in headcount in both the second quarter of 2023 and in early September 2023, resulting in approximately $14,500 of annualized savings. The Company’s developed plans include the sale of Protected (refer to the Discontinued Operations section of Note 15DISCONTINUED OPERATIONS), which the Company anticipates will result in significant cash inflows. As announced in its press release on September 6, 2023, the Company received a non-binding indication of intent from JDI to acquire Protected for $240,000 in cash as part of the consideration. However, until the Company has executed a definitive sale agreement, the Company cannot provide assurances that the sale will be finalized on acceptable terms or at all. To the extent the Company's financial performance does not improve or the Company's plans are not successful or finalized, the Company may have insufficient available cash balances to fund their operations for the remainder of the calendar year. Additionally, if the Company is unable to satisfy certain covenants under the Credit Agreement (refer to Note 9 DEBT, NET), this could constitute an event of default and provide the administrative agent on behalf of the lenders the ability to immediately call the outstanding principal balances of the Term Loan and 2022 Revolving Facility, with cross default provisions with the 2023 Revolving Note, and the Receivables Purchase Agreement (refer to Note 16 SUBSEQUENT EVENTS). In the event of a default, including the aforementioned cross defaults there can be no assurance that the Company will be able to continue as a going concern, which will force us to delay, reduce or discontinue certain aspects of our business strategy. Accordingly, the Company believes that there is substantial doubt about its ability to continue as a going concern for the twelve-month period following the date of this filing.

The condensed consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties. Accordingly, the condensed consolidated financial statements have been prepared on a basis that assumes the Company will continue as a going concern and which contemplates the realization of assets and satisfaction of liabilities and commitments in the ordinary course of business.

2.SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation, Principles of Consolidation and Summary of Significant Accounting Policies

The Company was a special purpose acquisition company originally incorporated as a Cayman Islands exempted company on February 11, 2020 under the name Trebia Acquisition Corp. (“Trebia”). The Company was formed for the purpose of effecting a merger, share exchange, asset acquisition, share purchase, reorganization or similar business combination with one or more businesses. On January 27, 2022, the Company consummated a business combination (the "Merger"), which resulted in the acquisition of S1 Holdco, LLC (“S1 Holdco”) and System1 SS Protect Holdings, Inc. As a result of the Merger, the results of operations, financial position and cash flows of the Predecessor and Successor may not be directly comparable.

9    

System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

The Company was deemed the accounting acquirer in the Merger based on an analysis of the criteria outlined in Accounting Standards Codification (“ASC”) 805, Business Combinations and S1 Holdco was deemed to be the predecessor entity. Accordingly, the historical financial statements of S1 Holdco became the historical financial statements of the Company, upon the consummation of the Merger. As a result, the financial statements included in this report reflect (i) the historical operating results of S1 Holdco prior to the Merger ("Predecessor") and (ii) the combined results of the Company, including S1 Holdco and Protected following the closing of the Merger ("Successor"). The accompanying financial statements include a Predecessor period, which was the period January 1, 2022 through January 26, 2022, concurrent with the Merger and Successor periods from January 27, 2022 through September 30, 2022, and thereafter. A black-line between the Successor and Predecessor periods has been placed in the condensed consolidated financial statements and in the tables to the notes to the condensed consolidated financial statements to highlight the lack of comparability between these two periods as the Merger resulted in a new basis of accounting for the Company.

The accompanying condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The accompanying condensed consolidated financial statements include the accounts of System1 and its subsidiaries for the Successor periods, and S1 Holdco for the Predecessor period. All intercompany accounts and transactions have been eliminated in the consolidation of the financial statements. The condensed consolidated financial statements have been prepared by the Company and are unaudited, pursuant to the rules and regulations of the United States Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such SEC rules and regulations. The interim condensed consolidated financial statements included herein reflect all adjustments (consisting of normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of the financial position, results of operations and cash flows for the interim periods presented. The condensed consolidated statements of operations for the three and nine months ended September 30, 2023 (Successor), the three months ended September 30, 2022 (Successor), the period from January 1, 2022 through January 26, 2022 (Predecessor) and for the period from January 27, 2022 through September 30, 2022 (Successor) are not necessarily indicative of the results to be anticipated for the entire year ending December 31, 2023 or thereafter.

Certain prior period amounts in the condensed consolidated financial statements have been reclassified to conform with the current period presentation. These reclassifications had no effect on the results of operations or financial position for any period presented.

Held for Sale

The Company reports a business as held for sale when management has received approval to sell the business and is committed to a formal plan, the business is available for immediate sale, the business is being actively marketed, the sale is anticipated to occur during the ensuing year and certain other specified criteria are met. A business classified as held for sale is recorded at the lower of its carrying amount or estimated fair value less costs to sell, which is required to be remeasured each reporting period. If the carrying amount of the business exceeds its estimated fair value, which is based on the estimated sales price of the transaction, less costs to sell, a loss is recognized. Depreciation is not recorded on assets of a business classified as held for sale.

Discontinued Operations

The Company presents discontinued operations when there is a disposal of a component or a group of components that represents a strategic shift that will have a major effect on operations and financial results. The results of discontinued operations are reported in net income from discontinued operations in the condensed consolidated statements of operations for all periods presented, commencing in the period in which the business is either disposed of or is classified as held for sale, including any gain or loss recognized on closing or adjustment of the carrying amount to fair value less costs to sell. Assets and liabilities related to a business classified as held for sale which also meets the criteria for discontinued operations are segregated in the condensed consolidated balance sheets for the current and prior periods presented.

10    

System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

All discussions and amounts in the condensed consolidated financial statements and related notes, except for cash flows, for all periods presented relate to continuing operations only, unless otherwise noted.

Adoption of Recent Accounting Pronouncements
On January 1, 2023, the Company adopted ASU No. 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Loss on Financial Instruments". Accordingly, upon adoption of this new standard, the Company recorded an allowance for credit losses of $327, with a corresponding cumulative adjustment to the beginning balance of accumulated deficit in the first quarter of fiscal 2023.

Risks and Concentrations

The Company is subject to certain business and operational risks, including competition from alternative technologies, as well as dependence on key Advertising Partners, key employees, key contracts, and growth to achieve its business and operational objectives.

The following table illustrates the level of concentration as a percentage of total revenue for the Company's key Advertising Partners:

SuccessorPredecessor
Three Months Ended September 30, 2023Three Months Ended September 30, 2022Nine Months Ended September 30, 2023Period from January 27, 2022 through September 30, 2022Period from January 1, 2022 through January 26, 2022
Google84 %86 %86 %87 %88 %
Microsoft2 %4 %2 %4 %4 %

Accounts receivable are primarily derived from Advertising Partners located within the United States. As of September 30, 2023, two of the Company’s largest Advertising Partners, Google and Yahoo, represented 74% and 6%, respectively, of the Company’s accounts receivables balance. As of December 31, 2022, these two Advertising Partners represented 68% and 12%, respectively, of the Company’s accounts receivable balance.

Use of Estimates    

The preparation of these condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements, and the reported amounts of revenue and expenses during the reporting period.

Significant estimates and assumptions reflected in these condensed consolidated financial statements include, but are not limited to: (1) valuation of goodwill, acquired intangible assets and long-lived assets, (2) valuation and recognition of the Company's stock-based compensation awards, (3) valuation of the Protected disposal group, and (4) income taxes. Significant estimates affecting the condensed consolidated financial statements have been prepared on the basis of the most current and best available information, including historical experience, known trends and other market-specific or other relevant factors that the Company believes to be reasonable. Management evaluates its estimates, as there are changes in circumstances, facts and experience. Changes in estimates are recorded in periods which they become known. However, actual results from the resolution of such estimates and assumptions may vary from those used in the preparation of the condensed consolidated financial statements.

Concentration of Credit Risk

Cash is deposited with high-credit-quality financial institutions and, at times, such balances with any one financial institution may exceed the insurance limits of the prevailing regulatory body. Historically, the Company has not
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System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

experienced any losses related to these cash balances and believes that there is minimal risk of expected future losses. However, there can be no assurance that there will not be losses on these deposits.

3.MERGER

On June 28, 2021, the Company entered into a Business Combination Agreement (as amended on November 30, 2021, January 10, 2022 and January 25, 2022) (the “Business Combination Agreement” or "BCA"), by and among S1 Holdco, Trebia, and Protected (collectively, the “Companies”). On January 26, 2022 (the “Closing Date”), the Company consummated the business combination (the "Merger") pursuant to the Business Combination Agreement. Following the consummation of the Merger, the combined company is organized via an “Up-C” structure, in which substantially all of the assets and business operations of System1 are held by S1 Holdco. The combined Companies’ business continues to operate through the subsidiaries of S1 Holdco and Protected. Additionally, Trebia’s ordinary shares and public warrants ceased trading on the New York Stock Exchange ("NYSE"), and System1 Inc.'s Class A common stock and the Public Warrants began trading on the NYSE on January 28, 2022 under the symbols “SST” and “SST.WS,” respectively.

The consideration paid to the existing equity holders of S1 Holdco and Protected in connection with the Merger consisted of the following:

Cash;
Class A common stock;
Class C common stock;
Replacement Awards.

The aggregate cash consideration was $440,155.

The aggregate equity consideration paid and/or retained for S1 Holdco Class B Units was $610,144, consisting of (a) the aggregate equity consideration payable under the Business Combination Agreement, consisting of shares of Class A common stock and Replacement Awards, and (b) the aggregate Class B Units in S1 Holdco retained by S1 Holdco equity holders at the Closing.

The fair value of the Class A common stock was determined by utilizing the transaction closing price per share per the BCA of $10.00 and a discount of 10%, as the shares were not immediately available for sale upon issuance and this restriction is viewed to be a function of the security characteristics.

Additionally, the aggregate Class B units in S1 Holdco retained by S1 Holdco equity holders at the Closing Date resulted in a non-controlling interest. The 22,077 Class B units in S1 Holdco and the corresponding Class C common stock in the Company were determined to have an estimated value of $198,691. As the Class B units in S1 Holdco together with the corresponding shares of the Company's Class C common stock are exchangeable for shares of Class A common stock on a one-for-one basis, the fair value was determined using the same method as for the shares of Class A common stock, utilizing the transaction closing price of $10.00 and a discount of 10% (as the units and the corresponding shares of Class C common stock were not immediately available for sale upon issuance and this restriction is viewed to be a function of the security characteristics). The fair value of $198,691 was included in non-controlling interest on the accompanying condensed consolidated balance sheet and condensed consolidated statements of changes in stockholders' equity.

In connection with the Merger, System1 and Cannae Holdings, Inc. (“Cannae”), an investor in the Sponsor of Trebia, entered into a backstop agreement (the “Backstop Agreement”) on June 28, 2021, as amended on January 10, 2022, whereby Cannae agreed, to subscribe for up to 25,000 shares of Trebia Class A common stock in order to fund up to $250,000 of redemptions by shareholders of Trebia. See discussion below regarding the Amended and Restated Sponsor Agreement, which was amended in conjunction with the Backstop Agreement. As a result of shareholder redemptions, Cannae provided $246,484 of the cash used to fund the Closing Cash Consideration
12    

System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

pursuant to its obligations under the Backstop Agreement and in exchange received 24,648 shares of Class A common stock ("Backstop shares").

Additionally, pursuant to the Backstop Agreement, the Selling Shareholders (i.e., certain shareholders of S1 Holdco and Protected prior to the Merger) agreed that, in the event shareholders of Trebia requested redemption of Trebia outstanding equity immediately prior to the Merger in excess of a certain dollar value threshold, certain equity holders of S1 Holdco and Protected would reduce their cash consideration and proportionally increase their equity consideration for the Merger, which is referred to as the “Seller Backstop Election”. In the event that the Seller Backstop Election was made, the Sponsors would forfeit their shares to allow the Company to then issue shares to the Selling Shareholders. The Seller Backstop Election was triggered and, as a result, the Sponsors forfeited 930 shares of Trebia Class B ordinary shares which were converted at time of Merger, at a one-to-one ratio, into shares of Class A common stock of System1 and delivered to the various selling shareholders of S1 Holdco, collectively referred to as the “Sponsor Promote Shares”. The total consideration amount, in a combination of cash and equity consideration, did not change from the amount agreed in the Business Combination Agreement due to this Seller Backstop Election. The Company recorded $7,706 in Salaries and benefits expense and $661 in Selling, general and administrative expense for Sponsor Promote Shares during the period January 27, 2022 through March 31, 2022 (Successor).

In connection with the execution of the Business Combination Agreement and the Backstop Agreement, on June 28, 2021, as amended on January 10, 2022, the sponsors of Trebia entered into the Amended and Restated Sponsor Agreement whereby the sponsors agreed to forfeit up to 2,600 shares of Trebia Class B common stock in order for the Company to then issue the shares to Cannae (“Backstop forfeiture shares”), in exchange for Cannae entering into the Backstop Agreement. On January 27, 2022, based upon the final backstop funding provided by Cannae, the sponsors forfeited 2,533 shares of Trebia Class B shares, after which the Company then issued 2,533 shares of Class A common stock to Cannae. Trebia recorded a forward purchase liability of $25,336 immediately prior to the Merger, representing the fair value of the Backstop shares and the Backstop forfeiture shares.

In accordance with the Amended and Restated Sponsor Agreement entered into concurrently with the Business Combination Agreement, the Company issued 1,450 Class D shares to the Trebia sponsors in exchange for 1,450 Trebia Class B shares ("Sponsor RSA's"). The difference in the fair value of the two was treated as a capital contribution. The founders of S1 Holdco and Protected were also issued 1,450 Class D shares ("Seller RSUs"). Further, in connection with the Merger, the Company also effected an incentive plan for Protected business.

Concurrently with the consummation of the Merger, System1 entered into a tax receivable agreement with the minority holders of S1 Holdco, (the “Tax Receivable Agreement” or "TRA"), pursuant to which, among other things, the parties to the Tax Receivable Agreement have agreed to the allocation and payment of 85% of the actual savings, if any, in U.S. federal, state and local income tax that System1 may realize as a result of certain tax benefits (if any) related to the transactions contemplated by the Business Combination Agreement and future exchanges of Class B Units in S1 Holdco (together with the corresponding shares of the Company’s shares of Class C common stock) in exchange for shares of the Company’s Class A common stock. As of the Closing Date, the fair value of obligations under the TRA was determined to be zero as any tax savings were uncertain. The TRA is contingent consideration and subsequent changes in fair value of the contingent liability are recognized in earnings.

The Company adopted ASU No. 2021-08, Business Combinations: Contract Assets & Liabilities on January 1, 2022 and accordingly, has recorded contract assets and contract liabilities acquired as part of the Merger based on what the Company would have recorded under ASC 606, Revenue from Contracts with Customers, as of the acquisition date, as if the Company had entered into the original contract at the same date and on the same terms as S1 Holdco and Protected.

The Merger has been accounted for as a business combination using the acquisition method of accounting. The total purchase price was allocated to the tangible and identifiable intangible assets acquired and liabilities assumed based on their respective fair values on the acquisition date.

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System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

The purchase consideration, inclusive of the Protected assets and liabilities, was allocated to the following assets and liabilities:
Amount
Tangible assets acquired and liabilities assumed:
Cash and marketable securities$68,748 
Accounts receivable79,086 
Prepaid expenses7,807 
Income tax receivable4,566 
Property, plant & equipment, net1,551 
Other assets6,950 
Accounts payable(9,798)
Deferred revenue(60,768)
Accrued expenses and other current liabilities(110,004)
Income tax payable(2,091)
Notes payable(172,038)
Deferred tax liabilities(138,613)
Other liabilities(8,474)
Total tangible assets acquired and liabilities assumed(333,078)
Intangible assets562,100 
Goodwill821,277 
Net assets acquired$1,050,299 
Consideration:
Cash$440,155 
Equity411,453 
Total consideration attributable to System1851,608 
Total consideration attributable to non-controlling interest198,691 
Total consideration$1,050,299 

The intangible assets, inclusive of the Protected intangible assets, as of the closing date of the acquisition included:

AmountWeighted Average Useful Life (in Years)
Trademarks$246,400 10
Customer relationships119,700 4
Technology196,000 4
Total$562,100 

The fair value of the intangible assets acquired was determined using income-based approach methodologies. Intangible assets are amortized over their estimated economic useful lives using a straight-line method, which approximates the pattern in which the economic benefits are consumed. The majority of the customer relationships pertain to the Protected business, and are amortized on an accelerated basis. To determine the amortization period for each of the customer relationships assets and to evaluate the pattern of usage of economic benefits, the Company performed a customer attrition analysis of the Company's customer relationships to estimate the attrition rate and consequently the life expectancy for the existing customer relationships.

Key assumptions used in the valuation of intangible assets are below:
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System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)


TrademarksThe Company valued trademarks using the relief-from-royalty method under the income-based approach. Key assumptions include forecasted revenue, an estimated royalty rate applicable to the trademarks, and a discount rate.

Customer relationships – The Company valued customer relationships using an excess-earnings method utilizing distributor inputs. Key assumptions include customer attrition rate, revenue growth rate, existing customer revenue, deferred revenue, and a discount rate.

Technology – The Company valued technology using the excess-earnings method utilizing company-specific inputs. Key assumptions include forecasted revenue, technology migration rate and a discount rate.

The goodwill arising from the acquisition consists largely of the expected synergies from combining operations as well as the value of the workforce. Goodwill is not deductible for tax purposes.

Unaudited Pro Forma Information

The following table provides unaudited pro forma information as if the Merger, inclusive of Protected, and other 2022 acquisitions (refer to Note 4—ACQUISITIONS) occurred as of January 1, 2021. The unaudited pro forma information reflects adjustments for additional amortization resulting from the fair value adjustments to assets acquired and liabilities assumed, adjustments for alignment of accounting policies, adjustments for transaction expenses, adjustments for certain stock-based compensation and equity related expenses incurred as a result of the transaction and the resulting tax effects, as if the Merger and acquisitions of Answers, CouponFollow and RoadWarrior occurred January 1, 2021. The pro forma results do not include any anticipated cost synergies or other effects of the merged companies. Accordingly, pro forma amounts are not necessarily indicative of the results that actually would have occurred had the acquisitions been completed on the dates indicated, nor is it indicative of the future operating results of the combined company.

Nine months ended
September 30, 2022
Pro forma revenue$657,013 
Pro forma net (loss)$(310,944)


4.ACQUISITIONS

Answers Holdings, Inc.

On May 4, 2022, the Company acquired the assets of Answers Holdings, Inc. and its subsidiaries, collectively ("Answers") for total cash consideration of $4,632. The acquisition of Answers constitutes a business combination under ASC 805, Business Combinations.

This acquisition expands the Company's portfolio of Owned & Operated Advertising publishing sites and search destinations to include a destination for higher education and lifelong learning content. The results of Answers’ operations as of and after the date of acquisition have been included in the Company’s condensed consolidated financial statements. The operating results of Answers are reported within the Owned and Operated Advertising segment.

The purchase consideration was allocated to the following assets and liabilities:
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System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

Amount
Assets acquired and liabilities assumed:
Working capital$32 
Trademark - 10 years weighted average useful life
1,100 
Goodwill3,500 
Net assets acquired$4,632 
Total consideration:
Cash$4,632 

The goodwill arising from the acquisition consists largely of the expected synergies from combining operations, and is deductible for tax purposes over 15 years. The Company incurred $93 in transaction costs related to the acquisition.

TrademarkThe Company valued the trademark using the relief-from-royalty method under the income approach. Key assumptions include forecasted revenue, an estimated royalty rate applicable to the trademark and a discount rate.

NextGen Shopping, Inc.

On March 4, 2022, the Company acquired NextGen Shopping, Inc. (d/b/a “CouponFollow”) for total cash consideration of $75,087, of which $16,446 was deferred, $5,600 was held-back (the "Holdback Amount"), and $25,500 related to the fair value of 2,000 shares of Class A common stock issued. The fair value of the shares of Class A common stock was determined by utilizing the closing price per share of the Company's Class A common stock listed on the NYSE as of March 3, 2022, and a discount rate of 7.5%, as the shares were not immediately available for sale upon issuance, and this restriction was deemed to be a function of the security characteristics. The deferred consideration of $16,446 was paid during the three months ended June 30, 2022. The Holdback Amount becomes payable eighteen months subsequent to the acquisition date, subject to the Company's satisfaction of any potential post-closing purchase price adjustments and indemnification claims. The cash payment included the transaction costs of $3,129 that the Company paid on behalf of CouponFollow in connection with the closing of the transaction. The acquisition of CouponFollow constitutes a business combination under ASC 805.

In conjunction with this acquisition, the Company also committed to pay postcombination compensation of $8,500, which is payable in cash and subject to continued services from certain individuals of CouponFollow. Separately, in conjunction with the acquisition, the Company entered into the CouponFollow Incentive Plan, providing up to $10,000 of postcombination compensation which is payable in stock or cash at the option of the Company, and subject to continued service from certain individuals, and up to $25,000 which is payable in stock or cash at the option of the Company contingent upon achieving certain financial thresholds and the continued employment of certain key individuals of CouponFollow.

On September 6, 2023, the Company restructured the CouponFollow Incentive Plan and issued a Senior Unsecured Promissory note (the "Promissory Note") of $5,156 to the seller and current employee of the Company (the "Lender"), to settle the Holdback Amount which was due to the Lender. The Promissory Note amount equaled the Holdback Amount due to the Lender after consideration of the holdback adjustment amount noted in the next sentence. The remainder of the Holdback Amount, after adjustment for post-closing purchase price adjustments of $158 due to other sellers was settled in cash at its due date. Refer to Note 13—RELATED-PARTY TRANSACTIONS and Note 14—STOCK-BASED COMPENSATION for additional information regarding impact of the Promissory Note and CouponFollow Incentive Plan.

This acquisition leverages CouponFollow’s reputation, software and large organic traffic to vertically integrate with the Company’s RAMP platform and generate paid traffic for shopping-related products. The results of
16    

System1, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)
(Dollars, number of shares and number of units in thousands, except for per share or per unit amounts)

CouponFollow’s operations from the date of acquisition have been included in the Company’s condensed consolidated financial statements. The operating results of CouponFollow are reported within the Owned and Operated Advertising segment.

The total purchase price was allocated to the assets acquired and liabilities assumed based on their respective fair values on the acquisition date.

The purchase consideration was allocated to the following assets and liabilities:
Amount
Cash and cash equivalents$21,232 
Accounts receivable5,860 
Other current assets446 
Accounts payable(116)
Accrued expenses and other current liabilities(118)
Income tax payable(197)
Deferred tax liabilities(10,895)
Trademark - 10 years weighted average useful life
38,100 
Software - 4 years weighted average useful life
4,100 
Goodwill42,175 
Net assets acquired$100,587 
Consideration:
Cash$75,087 
Equity25,500 
Total consideration$100,587 

The goodwill arising from the acquisition consists largely of the expected synergies from combining operations as well as the value of the workforce. The goodwill is not deductible for tax purposes. The Company incurred $813 in transaction costs related to the acquisition.

TrademarkThe Company valued the trademark using the relief-from-royalty method under the income approach. Key assumptions include forecasted revenue, an estimated royalty rate applicable to the trademarks and a discount rate.

SoftwareAcquired software technology was valued using the excess-earnings method utilizing company-specific inputs. Key assumptions include forecasted revenue, an estimated royalty rate applicable to the software and a discount rate.

RoadWarrior, LLC