The accompanying notes are integral part of these condensed financial statements
Notes to Unaudited Condensed Financial Statements
NOTE 1- INCORPORATION, NATURE OF OPERATIONS AND ACQUISITION
Vapor Hub International Inc. (formerly DogInn, Inc.) (hereinafter known as the Company) was incorporated in the State of Nevada on July 15, 2010. On February 14, 2014, the Company entered into a Share Exchange Agreement with Vapor Hub Inc., a California corporation (Vapor), Delite Products, Inc., a California corporation (Delite) and the shareholders of both companies (the Exchange Agreement). As a result of the closing of the transactions contemplated by the Exchange Agreement, Vapor and Delite became the Companys wholly owned subsidiaries (which subsidiaries were subsequently merged into the Company on May 18, 2015, ending the separate existences of Vapor and Delite) and the Company now carries on the business of developing, producing, marketing and selling the next generation of electronic cigarettes, known as vaping devices, and related accessories, including e-liquids and atomizers.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying (a) condensed balance sheet at June 30, 2016 has been derived from audited statements and (b) the condensed unaudited financial statements as of and for the periods ended September 30, 2016 and 2015, have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles (US GAAP) for complete financial statements, and should be read in conjunction with the audited financial statements and related footnotes included in the Companys Annual Report on Form 10-K for the year ended June 30, 2016 (the 2016 Annual Report), filed with the Securities and Exchange Commission (the SEC) on October 13, 2016. It is managements opinion, however, that all material adjustments (consisting of normal recurring adjustments), have been made which are necessary for a fair financial statements presentation. The financial statements include all material adjustments (consisting of normal recurring accruals) necessary to make the financial statements not misleading as required by Regulation S-X, Rule 10-01. Operating results for the three months ended September 30, 2016 are not necessarily indicative of the results of operations expected for the year ending June 30, 2017.
This summary of significant accounting policies of the Company is presented to assist in understanding the Companys unaudited condensed financial statements. The unaudited condensed financial statements and notes are representations of the Companys management, which is responsible for their integrity and objectivity. These accounting policies conform to US GAAP and have been consistently applied in the preparation of the unaudited condensed financial statements.
The Company operates in one segment in accordance with accounting guidance Financial Accounting Standards Board (FASB) ASC Topic 280, Segment Reporting. The Companys Chief Executive Officer has been identified as the chief operating decision maker as defined by FASB ASC Topic 280.
Going Concern
The Companys unaudited condensed financial statements have been presented on the basis that the Company will continue as a going concern, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Companys cash balance as of September 30, 2016, its working capital deficit along with other factors raise substantial doubt about its ability to continue as a going concern. The accompanying unaudited condensed financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the possible inability of the Company to continue as a going concern.
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The Company continues to face liquidity and capital resources constraints using $147,675 in cash from operations in the three months ended September 30, 2016 and using $374,343 in financing activities during the same period. The Company does not believe that its operating cash flows will be sufficient to meet its financing needs for the next twelve months. The extent of the Companys future capital requirements will depend on many factors, including the Companys results from operations and the growth rate of the Companys business. The Companys near term objective is to raise debt or equity capital to fund its immediate cash needs and to finance its longer term growth.
The Company is also pursuing various means to increase revenues, reduce operating costs and to improve overall cash flow.
The Company presently does not have any arrangements for additional financing. However, the Company continues to evaluate various financing strategies to support its current operations and fund its future growth.
Use of Estimates
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The Company regularly evaluates significant estimates and assumptions related to its accounts receivable allowance, accounts payable, deferred income tax asset valuation allowances, fair value of derivative liability, fair value of stock and stock options, useful life of fixed assets, recoverability of long lived assets, inventory reserves, estimates of sales return and accrual for potential liabilities. The Company bases its estimates and assumptions on current facts, historical experience and various other factors that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the accrual of costs and expenses that are not readily apparent from other sources. The actual results experienced by the Company may differ materially and adversely from the Companys estimates. To the extent there are material differences between the estimates and the actual results, future results of operations will be affected.
Concentration of Risk
Financial instruments that potentially subject the Company to concentration of credit risk consist principally of cash. The Company places its cash with high quality banking institutions. The Company did not have any cash accounts in excess of FDIC insured limits as of September 30, 2016.
The Company relied on three manufacturers to make all of the Companys Mods during the three months ended September 30, 2016 and one manufacturer to make all of the Companys Mods during the three months ended September 30, 2015.
The Company had a concentration in accounts payable of 45% and 49% to two manufacturers as of September 30, 2016.
Financial Instruments and Fair Value Measurement
Pursuant to ASC 820,
Fair Value Measurements and Disclosures
, an entity is required to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. ASC 820 establishes a fair value hierarchy based on the level of independent, objective evidence surrounding the inputs used to measure fair value. A financial instruments categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. ASC 820 prioritizes the inputs into three levels that may be used to measure fair value:
Level 1
- applies to assets or liabilities for which there are quoted prices in active markets for identical assets or liabilities.
Level 2
- applies to assets or liabilities for which there are inputs other than quoted prices that are observable for the asset or liability such as quoted prices for similar assets or liabilities in active markets; quoted prices for identical assets or liabilities in markets with insufficient volume or infrequent transactions (less active markets); or model-derived valuations in which significant inputs are observable or can be derived principally from, or corroborated by, observable market data.
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Level 3
- applies to assets or liabilities for which there are unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of the assets or liabilities.
The Companys financial instruments consist principally of cash, accounts payable, accrued liabilities, amounts due to related parties, derivative liabilities and convertible notes payable. Pursuant to ASC 820, the fair value of the Companys cash is determined based on Level 1 inputs, which consist of quoted prices in active markets for identical assets. Pursuant to ASC 820, the fair value of the Companys derivative liability is determined based on Level 3 inputs, which consist of unobservable inputs. The Company believes that the recorded values of all of its other financial instruments approximate their current fair values because of their nature and respective maturity dates or durations.
Revenue Recognition
The Company recognizes merchandise revenues when delivery of goods or completion of services has occurred provided there is persuasive evidence of an agreement, acceptance has been approved by its customers, the fee is fixed or determinable based on the completion of stated terms and conditions, and collection of any related receivable is probable. The Company recognizes royalty revenues when products are sold by third parties and collection of any related receivable is probable.
For retail transactions, revenue is recognized at the point of sale. For wholesale and online transactions, revenue is recognized at the time goods are shipped.
Deferred Revenue
The Company accrues deferred revenue when customer payments are received, but product has not yet shipped. As of September 30, 2016 and June 30, 2016, the Company had recorded $155,276 and $94,754, respectively for deferred revenue as a result of prepayments for product made by customers. Those prepayments are recognized into revenue at the point those prepaid products have subsequently shipped. The Company expects to recognize the $155,276 into revenue during the current fiscal year.
Advertising Expense
Advertising costs are expensed as incurred. Advertising expense for the three months ended September 30, 2016 and 2015 were $13,015 and $38,657, respectively and are included in general and administrative expenses.
Deferred Finance Costs, Net
Costs with respect to the issuance of common stock, warrants, stock options or debt instruments by the Company are initially deferred and ultimately offset against the proceeds from such equity transactions or amortized to interest expense over the term of any debt funding, if successful, or expensed if the proposed equity or debt transaction is unsuccessful.
Unamortized finance costs for the three months ended September 30, 2016 and as of June 30, 2016 were $100,302 and $133,166 respectively.
The Company adopted ASU 2015-03 during the quarter ended September 30, 2016, which requires debt issuance costs to be presented in the balance sheet as a direct deduction from the associated debt liability. The Companys adoption of this ASU did not have a significant impact on the Companys financial position, results of operations or cash flows. The adoption resulted in a reclassification of deferred finance costs of $100,302 and $133,166 from current assets to offset against convertible notes payable in current liabilities as of September 30, 2016 and June 30, 2016, respectively.
Modification of Debt Instruments
The Company evaluated modifications of debt instruments under ASC 470-50-40 Extinguishments of Debt (ASC 470). ASC 470 requires modifications to debt instruments to be evaluated to assess whether the modifications are considered substantial modifications. A substantial modification of terms shall be accounted for like an extinguishment. For extinguished debt, a difference between the re-acquisition price and the net carrying amount of the extinguished debt shall be recognized currently in income of the period of extinguishment as losses or gains.
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Basic and Diluted Net Loss per Share
The Company computes net income per share in accordance with ASC 260, Earnings per Share. ASC 260 requires presentation of both basic and diluted earnings per share (EPS) on the face of the income statement. Basic EPS is computed by dividing net income available to common shareholders (numerator) by the weighted average number of shares outstanding (denominator) during the period. Diluted EPS gives effect to all dilutive potential common shares outstanding during the period using the treasury stock method and convertible preferred stock using the if-converted method. In computing diluted EPS, the average stock price for the period is used in determining the number of shares assumed to be purchased from the exercise of stock options, warrants or debentures. Diluted EPS excludes all dilutive potential shares if their effect is anti-dilutive. As of September 30, 2016, there were 69,856,556 dilutive securities related to the convertible notes payable as the Company had net income and as of September 30, 2015, there were no dilutive securitie
s as the Company had incurred a net loss. See Note 9 for further discussion.
Recent Accounting Pronouncements
In August 2016 the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (ASU 2016-15). ASU 2016-15 will make eight targeted changes to how cash receipts and cash payments are presented and classified in the statement of cash flows. ASU 2016-15 is effective for fiscal years beginning after December 15, 2017. The new standard will require adoption on a retrospective basis unless it is impracticable to apply, in which case it would be required to apply the amendments prospectively as of the earliest date practicable. The Company is currently in the process of evaluating the impact of adoption on its financial statements.
In March 2016, the FASB issued ASU 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. The amendments are effective for public companies for annual periods beginning after December 15, 2016, and interim periods within those annual periods. Several aspects of the accounting for share-based payment award transactions are simplified, including: (a) income tax consequences; (b) classification of awards as either equity or liabilities; and (c) classification on the statement of cash flows. The Company is currently in the process of evaluating the impact of the adoption on its financial statements.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842) (ASU 2016-02). ASU 2016-02 requires an entity to recognize assets and liabilities arising from a lease for both financing and operating leases. The ASU will also require new qualitative and quantitative disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, with early adoption permitted. The Company is currently evaluating the impact of adopting this guidance.
In November 2015, the FASB issued ASU 2015-17, which simplifies the presentation of deferred tax assets and liabilities on the balance sheet. Previous GAAP required an entity to separate deferred income tax liabilities and assets into current and noncurrent amounts on the balance sheet. The amendment requires that deferred tax liabilities and assets be classified as noncurrent in a classified balance sheet. This ASU is effective for annual periods beginning after December 15, 2017, and interim periods within annual periods beginning after December 15, 2018. The Company is currently evaluating the potential impact this standard will have on its financial statements and related disclosures.
In September 2015, the FASB issued ASU 2015-16, which requires that an acquirer recognize adjustments to provisional amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined. This ASU is effective for interim and annual reporting period beginning after December 15, 2016, including interim periods within those fiscal years, with the option to early adopt for financial statements that have not been issued. The Company is currently evaluating the potential impact this standard will have on its financial statements and related disclosures.
In July 2015, the FASB issued ASU 2015-11, which requires an entity to measure in scope inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The amendments apply to inventory that is measured using first-in, first-out (FIFO) or average cost. This ASU is effective for interim and annual reporting periods beginning after December 15, 2016, with the option to early adopt as of the beginning of an annual or interim period. The Company does not expect the adoption of this ASU to have a significant impact on its financial position, results of operations and cash flows.
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The Company has reviewed other recent accounting pronouncements issued prior to the date of issuance of its financial statements included in this report, and does not believe any of these pronouncements will have a material impact on its financial statements.
NOTE 3 OFFICERS LOANS PAYABLE
As of September 30, 2016 and June 30, 2016, the Company had a balance of $146,277 and $103,409 respectively, outstanding as related party loans from Kyle Winther, the Companys CEO, Lori Winther, the Companys CFO and Winther & Company, CPAs (an entity owned by Lori Winther, and her husband, Niels Winther, CPA, who is a director of the Company), as well as a Chase Bank Line of Credit (which was extended to the Company, though owed personally by Niels and Lori Winther). The outstanding balances are unsecured, non-interest bearing and repayable upon demand.
NOTE 4 INVENTORIES
As of September 30, 2016 and June 30, 2016, the Company had a balance of $790,399 and $585,489, respectively, as inventories which consist of vaping devices, electronic cigarettes, e-liquid, related supplies, and accessories. There was no reserve for inventory obsolescence as of September 30, 2016 and June 30, 2016.
NOTE 5 LEASE COMMITMENTS
On February 28, 2015, the Company entered into a lease agreement with landlord Samantha Carrington to provide retail space for its Simi Valley retail location and on April 1, 2015, the Simi Valley retail location opened at the new premises. The lease term extends through March 31, 2017 with a monthly lease payment of $3,190. The Company has a remaining commitment under this lease as of September 30, 2016 of $19,140 and a security deposit of $6,380 was paid to the landlord in relation to this lease.
On September 1, 2015, the Company entered into a Commercial Lease Agreement with the Winther Family Trust, pursuant to which the Company leases property located at 1871 Tapo Street, Simi Valley, CA 93065 (the Premises), for a term of 60 months commencing on September 1, 2015. The Company will pay a base rent of $5,650 per month for the duration of the term and also made a security deposit in the same amount. The Company has a remaining commitment under this lease as of September 30, 2016 of $265,550. The Premises replaced the Companys prior facility located at 67 W. Easy St., Unit 115, Simi Valley, CA 93065 and serves as the Companys primary office location. In addition to providing office space, the approximately 5,000 square foot facility is also used for warehousing and shipping. The lessor of the Premises, the Winther Family Trust, is controlled by Niels Winther and Lori Winther. Both Niels Winther and Lori Winther are Directors of the Company, and Lori Winther also serves as the Companys Chief Financial Officer and Secretary.
On September 15, 2015, the Company entered into a lease agreement with Santa Susana Business Center, LLC to lease warehouse and office space at 4685 Runway Street, Unit D, Simi Valley, CA 93063. The lease term extends through September 30, 2017 with a monthly lease payment of $1,716 and increasing to $1,802 on October 1, 2016. The Company has a remaining commitment under this lease of $21,624 as of September 30, 2016 and a security deposit of $1,802 was paid to the landlord in relation to this lease.
Rent expense for the three months ended September 30, 2016 and 2015 was $31,668 and $32,952, respectively.
NOTE 6 RELATED PARTIES
From time to time the Company will engage the services of Winther & Co. an accounting firm owned by the husband of the Companys CFO. Winther & Co. provides bookkeeping, accounting and tax services to the Company. For the three months ended September 30, 2016 and 2015, the Company incurred approximately $10,156 and $18,262, respectively, in fees with Winther & Co. As of September 30, 2016 and June 30, 2016 the Company had Accounts Payable outstanding to related parties for accounting fees of $0 and $0, respectively.
Reference is also made to the Officers Loans Payable described in Note 3 and the Commercial Lease Agreement with the Winther Family Trust described in Note 5.
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NOTE 7 CONVERTIBLE NOTES PAYABLE