NOTES
TO FINANCIAL STATEMENTS
FOR
THE YEARS ENDED SEPTEMBER 30, 2016 AND 2015
NOTE
1- DESCRIPTION OF BUSINESS
Cipherloc
Corporation (the “Company” or “Cipherloc”) was incorporated in Texas on June 22, 1953 as American Mortgage
Company. On March 15, 2015, the Company changed its name to Cipherloc Corporation. The name change became effective through the
Amended Certificate as of March 23, 2015.
Cipherloc
is a data security solutions company. Our highly innovative products - based on our patented polymorphic encryption technology
- are designed to enable an iron-clad layer of protection to be added to existing solutions.
On
September 30, 2015, the Company decided to sell Cloud MD. Cloud MD was a business segment that provided cloud based medical software
and services, designed for healthcare providers. The details of the sale were finalized in October 2015. By selling Cloud MD,
the Company will allocate all resources towards the Cipherloc encryption development. The Cloud MD component is presented as a
discontinued operation as more fully described in Note 3.
NOTE
2 - GOING CONCERN
The
accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United
States of America, which contemplate continuation of the Company as a going concern. However, the Company has incurred losses
from operations, has an accumulated deficit at September 30, 2016 of ($45,780,569) and needs additional cash to maintain its operations.
These
factors raise doubt about the Company’s ability to continue as a going concern. The accompanying financial statements do
not include any adjustments that might result from the outcome of this uncertainty. The Company’s continued existence is
dependent upon management’s ability to develop profitable operations, continued contributions from the Company’s executive
officers to finance its operations and the ability to obtain additional funding sources to explore potential strategic relationships
and to provide capital and other resources for the further development and marketing of the Company’s products and business.
NOTE
3 – SIGNIFICANT ACCOUNTING POLICIES
The
Company prepares its financial statements in accordance with accounting principles generally accepted in the United States of
America. Significant accounting policies are as follows:
Use
of Estimates and Assumptions
The
preparation of financial statements in conformity with accounting principles generally accepted in the United States (“GAAP”)
requires management to make estimates and assumptions that affect (i) the reported amounts of assets and liabilities, (ii) the
disclosure of contingent assets and liabilities known to exist as of the date the financial statements are published, and (iii) the
reported amount of net revenues and expenses recognized during the periods presented. Adjustments made with respect to the use
of estimates often relate to improved information not previously available. Uncertainties with respect to such estimates and assumptions
are inherent in the preparation of financial statements; accordingly, actual results could differ from these estimates. The Company’s
most significant estimates relate to the valuation of its proprietary technology and the valuation of its common stock.
Legal
The Company is subject to legal proceedings, claims and liabilities which arise in
the ordinary course of business. The Company accrues for losses associated with legal claims when such losses are probable and
can be reasonably estimated. These accruals are adjusted as additional information becomes available or circumstances change.
Legal fees are charged to expense as they are incurred.
Consolidation of Financial Statements
The Company is presenting the years ended September 30, 2016 and 2015 without consolidation of financial activity,
as there has been no activity in any subsidiaries.
Reclassifications
Certain reclassifications have been made to conform the 2015 amounts to the 2016
classifications for comparative purposes.
Cash
and Cash Equivalents and Concentration of Credit Risk
The Company considers
all highly liquid investments with an original maturity of three months or less to be cash equivalents. At September 30, 2016
and 2015, cash and cash equivalents include cash on hand and cash in the bank. The Company maintains its cash in accounts held
by large, globally recognized banks which, at times, may exceed federally insured limits as guaranteed by the Federal Deposit
Insurance Corporation (FDIC). The FDIC insures these deposits up to $250,000. At September 30, 2016, approximately $94,138 of
the Company’s cash balance was uninsured. The Company has not experienced any losses in such accounts.
Website and Software Costs
The Company’s accounting for
software development costs complies with ASC 985-20, Costs of Software to be Sold, Leased or Marketed, whereby capitalization
begins when the Company has a working prototype and has been tested, thereby achieving technological feasibility. This occurs
very late in the development stage of the software product. The Company has determined the software costs do not fall under ASC
350-40, Internal-Use Software, based on the guidance in ASC 985-605-55-119 through 125 which covers guidance for hosting agreements.
The Company’s product will generally not be hosted and will reside on the technology platform available to the user.
Fixed Assets
Fixed assets are recorded at cost and
depreciation is provided over the estimated useful lives of the related assets using the straight-line method for financial statement
purposes. The estimated life of equipment is three (3) years. The estimated life of our leasehold improvements is the lesser of
the term of the related lease and useful life.
Long-Lived Assets
Long-lived assets are evaluated for impairment
whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable
or that the useful lives of these assets are no longer appropriate. Each impairment test is based on a comparison of the undiscounted
future cash flows to the recorded value of the asset. If impairment is indicated, the asset is written down to its estimated fair
value. The Company impaired software in the amount of $347,477 associated with discontinued operations during the year ended
September 30, 2015.
Fair
Value of Financial Instruments
The
Company's financial instruments consisted primarily of cash, accounts payable and accrued expenses, and debt. The carrying amounts
of such financial instruments approximate their respective estimated fair value due to the short-term maturities and approximate
market interest rates of these instruments.
Fair
value is focused on an exit price that would be received upon sale of an asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date. Within the measurement of fair value, the use of market-based
information is prioritized over entity specific information and a three-level hierarchy for fair value measurements is used based
on the nature of inputs used in the valuation of an asset or liability as of the measurement date.
The
three-level hierarchy for fair value measurements is defined as follows:
|
●
|
Level
1 – inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active
markets; liabilities in active markets;
|
|
●
|
Level
2 – inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets,
and inputs that are observable for the asset or liability other than quoted prices, either directly or indirectly, including
inputs in markets that are not considered to be active; or directly or indirectly including inputs in markets that are not
considered to be active;
|
|
|
|
|
●
|
Level
3 – inputs to the valuation methodology are unobservable and significant to the fair value measurement.
|
Customer
Concentration
During
the year ended September 30, 2016, one customer accounted for 100% of revenues.
Revenue
Recognition
Software
license revenue is generally recognized when a signed contract or other persuasive evidence of an arrangement exists, the software
has been electronically delivered, the license fee is fixed or is measured on a paid user basis, and collection of the resulting
receivable is probable. When contracts contain multiple elements wherein Vendor-Specific Objective Evidence (“VSOE”)
exists for all undelivered elements, we account for the delivered elements in accordance with the “Residual Method.”
VSOE of fair value for maintenance and support is established by a stated renewal rate, if substantive, included in the license
arrangement or rates charged in stand-alone sales of maintenance and support. Revenue from subscription license agreements, which
include software, rights to unspecified future products and maintenance, is recognized ratably over the term of the subscription
period. When the fair value of VSOE of post contract customer support cannot be determined, the revenue is recognized ratably
over the contract period. In June 2014, the Company entered into an agreement to provide software and support to a third party
for which no VSOE for any elements is known. Delivery of the use of the license was not achieved until December 2015; the only
remaining undelivered element was post contract support services, and accordingly, the revenues will be recognized on a pro rata
basis prospectively over the remaining 30 months of the related contracts. Deferred revenue results from fees billed to or collected
from customers for which revenue has not yet been recognized.
Deferred Revenue
Deferred revenue
result from fees billed to customers for which revenue has not yet been recognized.
The Company has
deferred revenue of $783,522 and $1,125,000 as of September 30, 2016 and 2015, respectively.
Research
and Development and Software Development Costs
Capitalization
of certain software development costs are recorded after the determination of technological feasibility. Based on our product
development process, technological feasibility is determined upon the completion of a working model. To date, costs incurred by
us from the completion of the working model to the point at which the product is ready for general release do not have technological
feasibility. Accordingly, we have charged all such costs to research and development expense in the period incurred. Our research
and development costs incurred in our continuing operations for the years ended September 30, 2016 and 2015 were $755,159 and
$227,650, respectively.
Share-Based
Compensation
The Company measures
the cost of services provided by employees in exchange for an award of an equity instrument based on the grant-date fair value
of the award. Compensation cost is recognized over the vesting or requisite service period. The Black-Scholes option-pricing model
is used to estimate the fair value of options or warrants granted. Performance-based grants should be recognized prior to completion
if the assessment is that it is probable that the performance condition will be met. There were no options or warrants issued
by the Company during the years ended September 30, 2016 and 2015.
For
non-employees, the Company uses the fair value at each reporting date over the service period, which is usually the vesting period.
Income
Taxes
The
Company utilizes the asset and liability method in accounting for income taxes. Under this method, deferred tax assets and liabilities
are recognized for operating loss and tax credit carry-forwards and for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the year in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates
is recognized in the results of operations in the period that includes the enactment date. A valuation allowance is recorded to
reduce the carrying amounts of deferred tax assets unless it is more likely than not that the value of such assets will be realized.
The
Company uses the two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate the tax
position for recognition by determining if the weight of available evidence indicates it is more likely than not, that the position
will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure
the tax benefit as the largest amount, which is more than 50% likely of being realized upon ultimate settlement. The Company considers
many factors when evaluating and estimating the Company's tax positions and tax benefits, which may require periodic adjustments.
The Company did not record any liabilities for uncertain tax positions for the years ended September 30, 2016 or 2015.
Basic
and Diluted Net Loss per Common Share
Basic
income (loss) per share is computed by dividing net income (loss) available to common shareholders by the weighted average number
of common shares outstanding during the reporting period. The weighted average number of shares is calculated by taking the
number of shares outstanding and weighting them by the amount of time that they were outstanding. Diluted earnings per share
reflects the potential dilution that could occur if stock options, warrants, and other commitments to issue common stock were
exercised or equity awards vest resulting in the issuance of common stock that could share in the earnings of the Company. As
of September 30, 2016 and 2015, the Company had 10,000,000 shares of preferred stock outstanding which are convertible into 15,000,000
shares of common stock.
Diluted
loss per share is the same as basic loss per share during periods where net losses are incurred since the inclusion of the potential
common stock equivalents would be anti-dilutive as a result of the net loss.
Discontinued Operations
Cloud
MD Sale
The Company’s Board of Directors believed
that it was in the best interest of the Company to discontinue the former business operation Cloud MD. During September 2015,
the Cloud MD business segment was discontinued and a plan of sale of the segment was approved. The Cloud MD sale occurred in October
2015 as a $250,000 note payable from the buyer. Accordingly, the assets, which had a net book value of zero as of September 30,
2015, qualified as held for sale and the Company has presented Cloud MD as discontinued operations. As of September 30, 2016,
the Company has not received any payments towards the note payable from the buyer, and a full allowance has been recorded.
Details of the classifications for revenues,
operating expenses and discontinued operations are shown below.
|
|
Year
ended
September 30,
|
|
|
|
2016
|
|
|
2015
|
|
Revenues
|
|
$
|
-
|
|
|
$
|
-
|
|
Operating
expenses
|
|
|
-
|
|
|
|
(641,526
|
)
|
|
|
|
|
|
|
|
|
|
Loss
from discontinued operations
|
|
$
|
-
|
|
|
$
|
(641,526
|
)
|
There
were no significant assets of discontinued operations during the periods presented.
Recent
Accounting Announcements
The
Financial Accounting Standards Board (“FASB”) issues Accounting Standards Updates (“ASU”) to amend the
authoritative literature in the Accounting Standards Codification (“ASC”). There have been a number of ASUs to date
that amend the original text of ASC. The Company believes those updates issued to date either (i) provide supplemental guidance,
(ii) are technical corrections, (iii) are not applicable to the Company or (iv) are not expected to have a significant impact
on the Company.
In
February 2016, the FASB issued ASU 2016-02, Leases (Topic 840), to increase transparency and comparability among organizations
by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements.
The amendments in this standard are effective for fiscal years beginning after December 15, 2018, including interim periods within
those fiscal years, for a public entity. Early adoption of the amendments in this standard is permitted for all entities and the
Company must recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach.
The Company is currently in the process of evaluating the effect this guidance will have on its financial statements and related
disclosures.
In
May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
No. 2014-09 “Revenue from Contracts with Customers” (Topic 606). Under this guidance, revenue is recognized when
promised goods or services are transferred to customers in an amount that reflects the consideration that is expected to be received
for those goods or services. The updated standard will replace most existing revenue recognition guidance under U.S. GAAP when
it becomes effective and permits the use of either the retrospective or cumulative effect transition method. Early adoption is
not permitted. The updated standard will be effective for the Company beginning January 1, 2018. The Company is currently
evaluating the effect that the updated standard will have on its financial statements and related disclosures.
In
August 2014, the FASB issued ASU No. 2014-15 "Presentation of Financial Statements—Going Concern: Disclosure of
Uncertainties about an Entity’s Ability to Continue as a Going Concern"” (Subtopic 205-40), which requires management
to evaluate, at each annual and interim reporting period, whether there are conditions or events that raise substantial doubt
about the entity's ability to continue as a going concern within one year after the date the financial statements are issued and
provide related disclosures. ASU No. 2014-15 is effective for annual periods ending after December 15, 2016 and interim periods
thereafter. Early application is permitted. The Company is currently evaluating the effect that the updated standard will have
on its financial statements and related disclosures.
In
November 2015, the FASB issued ASU No. 2015-17 “Income Taxes: Balance Sheet Classification of Deferred Taxes” (Topic
740), which requires deferred tax liabilities and assets to be classified as noncurrent in a classified statement of financial
position. ASU No. 2015-17 will align the presentation of deferred income tax assets and liabilities with International Financial
Reporting Standards. The new standard will be effective for fiscal years beginning after December 15, 2016, including interim
periods within those annual years, and early application is permitted. The Company is currently evaluating the effect that the
updated standard will have on its financial statements and related disclosures.
NOTE
4 – SOFTWARE LICENSES
Gawk
On June 14, 2014, the Company entered into
a license agreement with Gawk to use the CipherLoc engine for $1,125,000 for a period of four (4) years. This customer licensed
the CipherShop-CipherLoc encryption software technology and support services. The Company was not required to make significant
modifications at the time the contract was executed. The Company has never sold or licensed the CipherShop-CipherLoc encryption
software, nor any support services for such. Under the license agreement, the Company is to provide access to its software on
an operational basis and provide training. The Company will also provide unspecified upgrades, if and when available, and 24/7
support over the license term. No Vendor-Specific Objective Evidence was known for any of the elements. After the agreement was
executed, the licensee requested modifications to the software because they could not use the software with the requested modifications.
The Company made the newly requested modifications to the software. Management delivered the finished product in late December
2015, thus delivery had not deemed to have occurred until such date. The contract termination date was not extended beyond the
initial date of June 2018. Revenues are being recorded from the date of delivery over the remaining term of the agreement or 30
months. For these reasons, revenue is recognized proratably from December 2015 until June 2018. During the year ended September
30, 2016, the Company recognized revenues of $341,478 and had a deferred revenue balance of $783,522.
GoSecured
The Company signed a license agreement with
GoSecured on September 15, 2016 to provide GoSecured with a non-exclusive, non-transferable license to use multiple versions of
CipherLoc encryption software. GoSecured is to pay a $10,000 license and maintenance fee, as well a royalty (three to ten percent
of gross sales) for each end user agreement, dependent upon the origination of the end user agreement. To date, no amounts
have been received or recorded as revenues under this contract.
NOTE
5 – RELATED PARTY TRANSACTIONS
Employment
Contracts
The Company entered
into an employment agreement with its Chief Executive Officer on January 1, 2013. The employment agreement will expire on January
1, 2018 and shall automatically renew for another five years unless terminated in accordance with the provisions of the
employment agreement. The employment agreement provides for:
i.
|
A
monthly salary of $20,833 per month subject to an annual increase of 10% per year and consistent with the Company policy applicable
to other senior executives and officers and approval by the Board of Directors. During the year ended September 30, 2016,
the base salary was $360,000.
|
|
|
ii.
|
A
cash bonus of 25% of his annual base salary each year if the Company reaches the following milestones:
|
|
a.
|
The
Company posts annual gross revenues on a consolidated basis of at least $5,000,000;
|
|
|
|
|
b.
|
The
Company’s earnings before the deduction of income taxes and amortization expenses (“EBITA”), including cash
extraordinary items but before officer’s bonuses, on a consolidated basis for any year is at least $1,000,000;
|
iii
.
|
An
automobile allowance of $1,500 per month.
|
|
|
iv
.
|
A
medical insurance allowance of $1,500 per month.
|
|
|
v
.
|
In
the event the executive’s employment is terminated without cause he will receive the entire contract remaining on the
agreement.
|
The Company has
removed other provisions from the original employment agreement.
During the years
ended September 30, 2016 and 2015, cash compensation amounted to $397,854 and $684,098, including benefits, respectively.
During the years ended September 30, 2016 and 2015, stock-based compensation amounted to zero and $10,738,600, respectively.
As of September 30, 2015, the Chief Executive Officer was due $778,087, which is included within accrued compensation
on the accompanying balance sheet. The Chief Executive Officer was prepaid $44,788 to be offset against 2017 payments.
In addition, as of September 30, 2016, payroll taxes of $34,557 were included within accrued liabilities on the accompanying balance
sheet. Payments made to the Chief Executive Officer were made on a gross basis with the Chief Executive Officer assuming responsibility
for the remittance of the tax to the appropriate tax authorities.
Other than the employment
contract with our CEO, we have employment agreements with Michael Salas and Michael Hufnagel (the “Agreements”). The
Agreements are for a term of one year, with Mr. Salas’s Agreement commencing on April 25, 2016 and expiring on April 24,
2017, and Mr. Hufnagel’s commencing on June 27, 2016 and expiring on June 26, 2017. Both Agreements have three successive
one year extensions. Mr. Salas has an annual salary of $175,000 and quarterly stock issuances equal to $125,000 per year. Mr.
Hufnagel has an annual salary of $145,000, an initial sign-on bonus of $10,000 and quarterly stock issuances equal to $60,000
per year. As of September 30, 2016, these individuals were owed $13,333 which is included within accrued compensation on
the accompanying balance sheet. As of September 30, 2016, these individuals were owed common shares for services, but for which
shares have not yet been issued. An accrual has been recorded to equity totaling $41,456 to accrue the common shares earned.
The
Agreement provides that, in addition to receiving paid vacation in accordance with the Company’s policies as well as other
customary benefits and provisions, Mr. Salas and Mr. Hufnagel shall receive an annual base salary, a signing bonus and a stock
grant. If, at any time during the term of the Agreement, Mr. Salas or Mr. Hufnagel is terminated “without cause,”
they will be entitled to receive a cash payment equal to the aggregate compensation payable to them during the remaining term
of the Agreement.
Terminated
Employment Agreement
We
previously had an employment agreement with our Chief Financial Officer which terminated in 2015. There were amounts that
were accrued and unpaid as of September 30, 2016 and 2015, totaling $291,715 and $253,665, respectively, According to the
original agreement, the unpaid salaries were to accrue interest at 15%, which has been accrued at each reporting date.
Interest expense was $38,050 and $23,915 during the years ended September 30, 2016 and 2015, respectively. Management
believes that such amounts were previously satisfied though the issuance of common stock, and does not intend to pay such
amounts.
NOTE
6 – COMMITMENTS AND CONTINGENCIES
Litigation
As of September 30, 2016, the Company is
not involved in any material litigation.
The Company has settled all litigation
in which it was involved. The matter that was pending in the United States Federal District Court for the Southern District of
Mississippi was settled and dismissed on July 12, 2016 and the matter pending in Chancery Court of Rankin County Mississippi was
settled and dismissed on July 18, 2016. The Company repurchased its stock with the $45,580 it held in escrow as the Company’s
contribution to the settlements and all other expenses and costs were covered by the Company’s insurance carrier. The repurchased
stock had a fair market value of $61,281 resulting in a gain on settlement.
Commission Agreement
The Company entered
into an agreement with BrokerBank Securities, Inc. to raise up to $40 million from the issuance of common stock. In connection
therewith, the Company agreed to pay a commission of 9%, payable 5% in cash and 4% in common stock. During the year ended September
30, 2016, the Company paid cash commissions of $20,680 and 28,000 shares of common stock. These amounts were netted against the
proceeds received as described in Note 7 below. After September 30, 2016, the Company revised the commission to be paid to 8%
in cash.
Leases
The
Company leased 3,906 square feet of office space Buda, Texas. The lease for the Buda facility began on April 1, 2016 and continues
until March 31, 2019. The current rental rate of $7,216 continues until March 31, 2017, and then increases to $7,379 from April
1, 2017 until March 31, 2018. On April 1, 2018, the rent goes to $7,542 and ends on March 31, 2019. The lease shall be automatically
renewed for two one-year periods, $7,705 per month through March 31, 2020
and $7,867 per month until March 31, 2021
)
unless either Landlord or Customer (the Company) notifies the other in writing at least 180 days prior to the expiration of the
current term.
Future
annual minimum lease obligations at September 30, 2016 are as follows:
Year
Ending September 30,
|
|
Amount
|
|
2017
|
|
$
|
87,570
|
|
2018
|
|
$
|
89,520
|
|
2019
|
|
$
|
45,252
|
|
TOTAL:
|
|
$
|
222,342
|
|
Line of Credit
The Company does not have any lines of
credit. Prior to September 30, 2015, the Company had a line of credit that was unsecured and was paid in full in the amount of
$53,612.
NOTE
7 - STOCKHOLDERS’ DEFICIT
Common
Stock
As of September 30, 2016 and 2015, the Company
had 5,268,859 and 4,356,741 outstanding, respectively, and was authorized to issue 650,000,000 common shares at a par value
of $0.01. The Company issued 25,000 shares of stock for a subscription receivable for $50,000 during the year ended September
30, 2015. The subscription receivable was removed during the year ended September 30, 2016 due to non-payment.
Preferred
Stock
As of September 30, 2016 and 2015, the Series
A Preferred Stock is convertible into the Company’s common stock at a rate of 1 to 1.5 common shares. As of November 11,
2016, there are a total of 10,000,000 shares of the Series A Preferred Stock authorized and outstanding which are convertible
into a total of 15,000,000 shares of common stock. Each share of the Preferred Stock has 150 votes on all matters presented to
be voted by the holders of common stock. The holders of the Preferred A shares can only convert the shares if agreed upon by 50.1%
vote of all preferred shareholders. On February 5, 2015, the Company issued 6,000,000 shares of its Series A Preferred Stock to
its CEO. As of September 30, 2015, the Series A Preferred Stock is convertible into the Company’s common stock at a rate
of 1 to 1.5 common shares. The Company recorded $9,900,000 as stock compensation based on the market value of the Company’s
common stock on the date of grant.
Fiscal
Year Ended September 30, 2016
Stock
Issued for Cash
During
the year ended September 30, 2016, through the utilization of a Private Placement Memorandum and upon receipt of executed Subscription
Agreements, the Company issued 513,500 shares of common stock for $946,320, net of offering costs of $80,680.
Stock
Issued for Services
During the year ended
September 30, 2016, the Company issued 10,677 shares of common stock valued at $32,138 and accrued earned shares of common
stock amounting to $41,456 as compensation to certain officers pursuant to their employment agreements. In addition, the Company
issued 800 shares for marketing services valued at $1,600, and 5,000 shares issued for software development valued at $27,500.
The Company also issued 75,000 shares for legal services valued at $210,000. The shares for these issuances were valued using
the closing market price of the Company's common stock on the commitment date.
Stock
Issued for Settlements
The Company issued
stock to terminate software licenses. The Company incurred settlement expenses of $763,469 for the termination of software licenses
related to seven separate licenses in that the software usage would possibly interfere with the Company’s future software
development. The settlements were satisfied through the issuance of 307,141 shares of common stock at fair value on date of grant.
Stock
Issued for Subscription Receivable
The
Company issued stock for an interested Private Placement Memorandum party. The individual’s payment did not clear the bank
account, and, the stock was never received by the individual. The Company has not received the money and is in the process of
cancelling the issued stock.
Fiscal
Year Ended September 30, 2015
Stock Issued for Cash
During
the year ended September 30, 2015, through the utilization of a Private Placement Memorandum and upon receipt of executed Subscription
Agreements, the Company issued 1,147,500 shares of common stock for $2,283,000 in net cash proceeds pursuant to the exemption
from the registration provisions of the Securities Act of 1933, as amended (the “Act”), afforded by Rule 506 of Regulation
D.
Stock
Issued in Connection with acquisition of Software Licensing
During
the year ended September 30, 2015, the Company issued 50,000 shares of common stock valued at $194,500 based on the market price
on the date of grant in regards to the purchase of a software license known as XPSS in accordance with the Software Licensing
Agreement. Each of the two owners received 25,000 shares.
Stock
Issued for Services
During
the year ended September 30, 2015, the Company issued 161,654
shares
of common stock as compensation, which includes 2,084 shares issued for performance to Dr. Carlson. The fair value of the
shares was $994,665 including stock that vested immediately and a performance base grant valued at $10,733, and was recorded
at the market price on the date of grant.
Stock
Issued for Performance
Dr. Carlson shall
be entitled to a performance bonus of 50,000 shares of Cipherloc stock to be paid at such time as the CipherLoc Polymorphic Hardware
Engine can be demonstrated to function as a working, complete, product capable of being manufactured in facilities that would
normally produce standard Field Programmable Gate Array chips. Management has determined that it is probable that the award will
vest. Accordingly, the Company recognized 2,084 shares during 2015 and compensation expense of $10,733 during the year ended September
30, 2015. The unvested portion of the award will be recognized over the implied service period of 24 months. During the
year ended September 20, 2016, it was determined that technological feasibility had not yet been reached and no additional expense
was recognized during the year.
Stock
Issued for Services Related Party
On September 18,
2015, the Company granted 140,000 common shares to its President/CEO, Michael De La Garza. The fair value of the shares was $838,600
and was recorded at the market price on the date of grant. In addition, on February 5, 2015, the Company issued 6,000,000 shares
of its Series A Preferred Stock to its CEO, valued at $9.9 million. The Company recorded $10.7 million as stock compensation for
the combined value of all preferred and common stock, based upon the market value of the Company’s common stock on the date
of grant.
NOTE
8 - INCOME TAXES
The provision
(benefit) for income taxes from continued operations for the years ended September 30, 2016 and 2015 consist of the following:
|
|
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
Current:
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
-
|
|
|
$
|
-
|
|
State
|
|
|
-
|
|
|
|
-
|
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
|
|
|
|
|
|
|
|
Deferred:
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
(603,753)
|
|
|
$
|
(435,391)
|
|
State
|
|
|
-
|
|
|
|
-
|
|
|
|
|
(603,753)
|
|
|
|
(435,391)
|
|
Valuation allowance
|
|
|
603,753
|
|
|
|
435,391
|
|
Provision (benefit)
for income taxes, net
|
|
$
|
-
|
|
|
$
|
-
|
|
The difference
between income tax expense computed by applying the federal statutory corporate tax rate and actual income tax expense is as follows:
|
|
September 30,
|
|
|
|
2016
|
|
|
2015
|
|
Statutory federal income tax rate
|
|
|
34.0
|
%
|
|
|
34.0
|
%
|
State income taxes and other
|
|
|
0.0
|
|
|
|
0.0
|
|
Valuation allowance
|
|
|
(34.0
|
)
|
|
|
(34.0
|
)
|
Effective tax rate
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
Deferred income
taxes result from temporary differences in the recognition of income and expenses for the financial reporting purposes and for
tax purposes. The tax effect of these temporary differences representing deferred tax asset and liabilities result principally
from the following:
|
|
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
Net operating loss carry
forward
|
|
$
|
11,597,828
|
|
|
$
|
9,822,083
|
|
Valuation allowance
|
|
|
(11,597,828)
|
|
|
|
(9,822,083)
|
|
Deferred income
tax asset
|
|
$
|
-
|
|
|
$
|
-
|
|
The Company has a
net operating loss carry forward of approximately $11.6 million available to offset future taxable income. For income tax
reporting purposes, the Company’s aggregate unused net operating losses were subject to the limitations of
Section 382 of the Internal Revenue Code, as amended. Under the Tax Reform Act of 1986, the benefits from net operating losses
carried forward may be impaired or limited on certain circumstances. Management has determined that there is a cumulative
ownership change of more than 50% over a three-year period. The Company has provided a valuation reserve against the full amount
of the net operating loss benefit, because in the opinion of management based upon the earning history of the Company; it is more
likely than not that the benefits will not be realized. For income tax reporting purposes, Management has determined that net
operating losses prior to February 5, 2015 are subject to an annual limitation of approximately $600,000.
For the years ended
September 30, 2016 and 2015, the difference between the amounts of income tax expense or benefit that would result from applying
the statutory rates to pretax income to the reported income tax expense of $0 is the result
of the net operating loss carry forward and the related valuation allowance.
The
Company anticipates it will continue to record a valuation allowance against the losses of certain jurisdictions, primarily federal
and state, until such time as it is able to determine it is “more-likely-than-not” the deferred tax asset will be
realized. Such position is dependent on whether there will be sufficient future taxable income to realize such deferred tax assets.
The Company’s effective tax rate may vary from period to period based on changes in estimated taxable income or loss by
jurisdiction, changes to the valuation allowance, changes to federal, state or foreign tax laws, future expansion into areas with
varying country, state, and local income tax rates, deductibility of certain costs and expenses by jurisdiction.
The
Company has not filed its federal income tax filings since 2012, which is through the fiscal year ending September 30, 2013. The
Company is preparing the 2013 and 2014 filings, which report activity through the fiscal years ending September 30, 2014 and
2015. The September 30, 2016 tax return is not due at this time. The Company intends to remediate the lack of filing
timely tax returns
immediately.
NOTE
9 - SUBSEQUENT EVENTS
The following individuals were awarded common
stock bearing a restrictive legend pursuant to Rule 144: Michael Hufnagel was issued 10,000 shares of common stock as a quarterly
employee bonus. Robert LeBlanc was issued 25,000 shares of common for patent work. Gino Mauriello was issued 20,000 shares of
common stock for his tenure as a Board Director. Albert Carlson was issued 50,000 shares of common stock as an annual bonus. Eric
Marquez was issued 70,000 shares of common stock for his tenure as a Board Director and as a CFO stock award. Michael De La Garza
was issued 300,000 shares of common stock for his tenure as Chairman of the Board and as a CEO stock award. The fair value of
all 475,000 shares is $2,579,250 and will be recorded in fiscal 2017.
The
Company has continued to raise equity financing through a Private Placement Memorandum. After September 30, 2016, the Company
has sold 406,500 shares of common shares at $2.00 per share and received $784,520, net of offering costs.
The Company issued 25,000 shares for software
termination settlement. The fair value of the shares on December 6, 2016 was $106,250.
On
November 28, 2016, the Company entered into an independent sales contract for a period of six months commencing December 1, 2016.
In connection therewith, the Company will pay $5,000 draw per month to be offset against future commissions from the licensing
of its technology. The Company will pay a commission on licenses as follows:
Sales Amount
|
|
|
Commission to be Paid
|
|
$
|
50,000
|
|
|
|
20
|
%
|
$
|
100,000
|
|
|
|
18
|
%
|
$
|
500,000
|
|
|
|
16
|
%
|
$
|
1,000,000
|
|
|
|
14
|
%
|
$
|
2,000,000
|
|
|
|
12
|
%
|
$
|
3,000,000
|
|
|
|
10
|
%
|
$
|
4,000,000
|
|
|
|
8
|
%
|
$
|
5,000,000
|
|
|
|
6
|
%
|
$
|
10,000,000
|
|
|
|
4
|
%
|
$
|
15,000,000+
|
|
|
|
TBD
|
|