Filed
with the Securities and Exchange Commission on February 16, 2017.
Registration
Statement No. 333-211048
UNITED
STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Post-Effective
Amendment No. 1
to
Form
S-1
REGISTRATION STATEMENT UNDER
THE SECURITIES ACT OF 1933
ENER-CORE,
INC.
(Exact name of registrant as specified in its charter)
Delaware
|
|
3511
|
|
46-0525350
|
(State
or other jurisdiction of
incorporation or organization)
|
|
(Primary
Standard Industrial
Classification Code Number)
|
|
(I.R.S.
Employer
Identification Number)
|
9400
Toledo Way
Irvine, California 92618
(949)
616-3300
(Address,
including zip code, and telephone number, including area code, of registrant’s principal executive offices)
Alain
J. Castro
Chief
Executive Officer
9400 Toledo Way
Irvine,
California 92618
(949)
616-3300
(Name,
address, including zip code, and telephone number, including area code, of agent for service)
Copies
of all communications to:
Shoshannah
D. Katz
Matthew
A. Susson
K&L
Gates LLP
1
Park Plaza, Twelfth Floor
Irvine,
CA 92614
(949)
253-0900
Approximate
date of commencement of proposed sale to the public:
As soon as practicable after the effective date of this registration statement.
If
any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under
the Securities Act of 1933, check the following box. ☒
If
this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please
check the following box and list the Securities Act registration statement number of the earlier effective registration statement
for the same offering. ☐
If
this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list
the Securities Act registration statement number of the earlier effective registration statement for the same offering. ☐
If
this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list
the Securities Act registration statement number of the earlier effective registration statement for the same offering. ☐
Indicate
by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller
reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer ☐
|
Accelerated filer ☐
|
Non-accelerated filer ☐
|
Smaller reporting company ☒
|
|
(Do
not check if a smaller reporting company)
|
The
registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until
the registrant shall file a further amendment which specifically states that this registration statement shall thereafter become
effective in accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement shall become effective
on such date as the Commission, acting pursuant to said Section 8(a), may determine.
EXPLANATORY
NOTE
This
Post-Effective Amendment No. 1, or Post-Effective Amendment, relates to the Registration Statement on Form S-1 of Ener-Core, Inc.
pertaining to 937,500 shares of our common stock, par value $0.0001 per share, which was initially filed with the Securities and
Exchange Commission on May 2, 2016 (File No. 333-211048), as amended, and was declared effective by the Securities and Exchange
Commission on June 28, 2016, or the Registration Statement. This Post-Effective Amendment is being filed to update certain financial
and other information contained in the prospectus and includes the financials and the notes thereto included in our Annual Report
on Form 10-K for the fiscal year ended December 31, 2015 and Quarterly Report on Form 10-Q for the fiscal quarter ended September
30, 2016 and certain other updated information contained in the Registration Statement.
No
additional securities are being registered under this Post-Effective Amendment. All applicable registration fees were paid at
the time of the original filing of the Registration Statement.
PROSPECTUS
Ener-Core,
Inc.
Up
to 937,500 Shares of Common Stock
This
prospectus relates to the offer and sale from time to time by the selling stockholders identified in this prospectus of up to
an aggregate of 937,500 shares of our common stock, par value $0.0001 per share. The selling stockholders acquired an aggregate
of 625,000 shares of common stock and warrants to purchase up to an aggregate of 312,500 shares of common stock pursuant to that
certain securities purchase agreement, dated as of December 31, 2015, by and between such selling stockholders and the Company.
The
shares of common stock registered hereby may be offered and sold by our selling stockholders through one or more underwriters,
broker-dealers or agents. If the shares of common stock are sold through underwriters or broker-dealers, the selling stockholders
will be responsible for underwriting discounts or commissions or agent’s commissions. The shares of common stock may be
sold in one or more transactions at fixed prices, at prevailing market prices at the time of the sale, at varying prices determined
at the time of sale, or at negotiated prices. See “Plan of Distribution.”
We
are not selling any shares of common stock under this prospectus, and we will not receive any of the proceeds from the offer and
sale of shares of our common stock by the selling stockholders.
This
prospectus describes the general manner in which shares of common stock may be offered and sold by any selling stockholder. When
the selling stockholders sell shares of common stock under this prospectus, we may, if necessary and required by law, provide
a prospectus supplement that will contain specific information about the terms of that offering. Any prospectus supplement may
also add to, update, modify or replace information contained in this prospectus. We urge you to read carefully this prospectus,
any accompanying prospectus supplement and any documents we incorporate by reference into this prospectus and any accompanying
prospectus supplement before you make your investment decision.
Our
common stock is currently quoted on the OTCQB Marketplace under the symbol “ENCR.” On February 7, 2017, the last reported
sale price of shares of our common stock on the OTCQB Marketplace was $2.01.
On
May 6, 2013, we effected a 30-for-1 forward split of our issued and outstanding shares of common stock by way of a stock dividend.
On July 8, 2015, we effected a 1-for-50 reverse split of our issued and outstanding shares of common stock. All share and per
share information in this prospectus gives effect to the 30-for-1 forward split and 1-for-50 reverse split, retroactively.
We
are an “emerging growth company” as defined under the Jumpstart Our Business Startups Act of 2012, and applicable
Securities and Exchange Commission rules, and have elected to comply with certain reduced public company reporting requirements.
Please refer to the discussions under “Summary—Implications of Being an Emerging Growth Company” and “Risk
Factors” below concerning how and when we may lose emerging growth company status and the various exemptions that are available
to us.
Investing
in our securities involves a high degree of risk. See “Risk Factors” beginning on page 12 of this prospectus.
Neither
the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or
determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.
The
date of this prospectus is , 2017.
TABLE
OF CONTENTS
You
should rely solely on the information contained in this prospectus. We have not authorized anyone to provide any information or
make any representations other than those contained in this prospectus. We take no responsibility for, and can provide no assurance
as to the reliability of, any other information that others may give you. We are offering to sell, and seeking offers to buy,
securities only in jurisdictions where such offers and sales are permitted. The information contained in this prospectus is accurate
only as of the date of this prospectus.
Unless
otherwise indicated, information contained in this prospectus concerning our industry, including our market opportunity, is based
on information from independent industry analysts, market research, publicly available information and industry publications.
The third-party sources from which we have obtained information are generally believed to be reliable, but we cannot assure you
that such information is accurate or complete. Management estimates contained in this prospectus are based on assumptions made
by us using our internal research data and our knowledge of such industry and market, including reference to publicly available
information released by independent industry analysts and third party sources, which we believe to be reasonable. In addition,
while we believe the market opportunity information included in this prospectus is generally reliable and is based on reasonable
assumptions, such data involves risks and uncertainties and is subject to change based on various factors, including those discussed
under the heading “Risk Factors.” These and other factors could cause our future performance to differ materially
from our assumptions and estimates. See “Special Note Regarding Forward-Looking Statements.”
For
investors outside the U.S.: We have not and the selling stockholders have not done anything that would permit this offering or
possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than in the
U.S. You are required to inform yourselves about and to observe any restrictions relating to the offering of the shares of common
stock and the distribution and possession of this prospectus outside of the U.S.
The
Ener-Core, Inc. logo and other trademarks or service marks of Ener-Core, Inc., including, but not limited to “ENER-CORE”,
appearing in this prospectus are the property of Ener-Core, Inc.
PROSPECTUS
SUMMARY
This
summary highlights certain information contained in other parts of this prospectus. Because it is a summary, it does not contain
all of the information you should consider before investing in our securities. You should read the entire prospectus carefully,
including “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of
Operations,” “Business” and our consolidated financial statements and related notes before deciding to invest
in our common stock. References in this prospectus to “Ener-Core,” “the Company,” “we,” “our,”
“ours,” “us,” or similar terms refer to Ener-Core, Inc. and its wholly-owned subsidiary, Ener-Core Power,
Inc., taken together, unless the context indicates otherwise.
Overview
Our
proprietary and patented Power Oxidation technology is designed to create greater industrial efficiencies by converting low-quality
waste gases generated from industrial processes into usable on-site energy, therefore decreasing both operating costs and significantly
reducing environmentally harmful gaseous emissions. We design, develop, license, manufacture and market our Power Oxidizers, which,
when bundled with an electricity generating turbine in the 250 kilowatt, or kW, and 2 megawatt, or MW, sizes, are called Powerstations.
We currently partner and are pursuing partnerships with large established manufacturers to integrate our Power Oxidizer with their
gas turbines, with the goal to open substantial new opportunities for our partners to market these modified gas turbines to industries
for which traditional power generation technologies were not technically feasible previously. We currently manufacture our Powerstations
in the 250 kW size and manufacture just the Power Oxidizer for the 2MW size. Beginning in 2017, contingent upon the successful
completion of certain field testing, our 2MW partner, Dresser-Rand a.s., a subsidiary of Dresser-Rand Group Inc., a Siemens company,
or Dresser-Rand, will manufacture the 2MW Power Oxidizers under a manufacturing license and will pay us a non-refundable license
fee for each unit manufactured.
Historically,
basic industries such as Petroleum, Plastics, Steel and Paper have consumed electricity in their manufacturing processes and created
heat for their manufacturing processes through the burning of fossil fuels in a combustion chamber. Nearly all such combustion
chambers use high quality premium fuels and burn those fuels at high temperatures, while low-quality waste gases were typically
destroyed or vented into the atmosphere. Worldwide, these industrial processes collectively contribute approximately 32% of total
global greenhouse gas emissions. Our technology utilizes these waste gases by modifying turbines with our gradual oxidation vessel.
Inside this vessel, pressure and temperature are applied over time to destroy contaminants and return a substantially low emission
source of energy in the form of heat. This heat then powers a turbine, spinning a generator and creating electricity. This technology
can potentially unlock a new, global source of clean power generation (electricity, steam and/or heat energy) while reducing harmful
emissions. Our goal is to enable industrial process facilities to generate clean energy from their existing waste gases, thereby
reducing the amount of energy they purchase from their regional utilities, and simultaneously reducing the cost of compliance
with local, state, and federal air quality regulations by avoiding the chemicals, catalysts and complex permitting required by
existing pollution abatement systems.
We
have experienced losses since inception and anticipate that we will continue to incur losses and negative cash flows for the foreseeable
future as we continue to further develop and deploy our power products.
Our
Opportunity
The
creation and release of waste gases, which lead to air pollution, is a byproduct of many modern industries. Industrial waste gases
take many forms and are often subject to governmental or regulatory oversight via air quality or air standards boards. The rules
and guidelines implemented by these boards lead to compliance costs for companies with industrial facilities that emit the waste
gases. With the worldwide concerns over the atmospheric emissions of greenhouse gases, air quality standards have become increasingly
stringent. For areas with industrial air pollution abatement regulations, industrial polluters currently have the following choices:
|
(i)
|
continue
to pollute and thereby pay substantial fines imposed by regulatory authorities,
|
|
|
|
|
(ii)
|
reduce
their air pollution through existing abatement solutions such as scrubbing or flaring, or
|
|
|
|
|
(iii)
|
institute
some combination of these solutions.
|
Each
industrial location must choose the most economic mix of the available solutions, but each of these solutions represents both
a financial operating cost as well as an environmental cost.
Our
technology provides an alternative to the typical economic and environmental costs of hydrocarbon pollution abatement by providing
the ability for industrial facilities to productively utilize their waste gases to generate power, which can be sold or used internally,
while at the same time reducing both the atmospheric pollution resulting from those waste gases and any resulting pollution abatement
costs.
Our
Technology
Our
technology involves the acceleration of a naturally occurring, gas oxidation process by injecting hydrocarbon gases into a controlled,
high temperature, high pressure, and oxygen rich environment. Oxidation is a natural and commonly observed chemical reaction that
occurs when a substance comes into contact with oxygen over a prolonged period of time, approximately 10 to 20 years for the waste
gases that we have targeted. The reaction is exothermic, which generates heat. By accelerating the reaction to 0.5–1.25
seconds within the controlled, steady state environment of our Power Oxidizers, the heat generated from the reaction is compounded
and we are able to capture and utilize the heat output within the heat profile ranges necessary to operate standard gas turbines
or steam boilers without actually igniting the gas.
Our
Products and Value Proposition
We
have developed a 250 kW Power Oxidizer that we integrate with a 250 kW gas turbine to produce 250 kW Powerstations. We have two
Powerstations currently in operation at a landfill site in the Netherlands and at the Irvine campus of the University of California,
Irvine, or UCI, and one additional Powerstation currently in the production phase expected to be installed at a landfill in southern
California. We have built a Power Oxidizer of a significantly larger size, capable of generating sufficient heat and airflow to
power a KG2 turbine produced by Dresser-Rand. Together, the Power Oxidizer and KG2 turbine comprise a 2MW Powerstation. The initial
unit was constructed in the first quarter of 2016, and is currently being used in field tests that were substantially completed
in the fourth quarter of 2016, at a third party location in Southern California. We have sold two 2MW Power Oxidizers to Dresser-Rand,
each of which were delivered to the customer site in October 2016 and were combined with KG2 turbines and installed at Pacific
Ethanol’s facility in Northern California in 2016. We believe this scaled-up version of our Power Oxidizer, combined with
the KG2 turbine, will result in a Powerstation product that is better aligned with the scale of emissions (and energy requirements)
observed at the industrial facilities that we believe stand to benefit most from this technology. As with the 250 kW Powerstation,
the larger Powerstations are designed to provide an alternative to typical combustion-based power generation and enable industries
to utilize their own waste gases to generate power.
We
also expect to integrate our Power Oxidizer technology into additional sized gas turbines as well as other applications that can
use the heat generated by our Power Oxidizers to power other industrial applications. We believe other industrial grade waste
gas-to-heat opportunities, powered by an ultra-low pollution Power Oxidizer, include: (i) the generation of steam from coupling
a Power Oxidizer with a traditional steam boiler, (ii) use in industrial grade dryers for kilns or industrial drying customer
requirements, and (iii) use in industrial chiller units for customers requiring cold air or water in their processes.
We
believe our Power Oxidizers provide a significantly lower fuel cost per kilowatt hour since they can operate using both premium,
refined natural gas as well as a wide variety of lower quality, low hydrocarbon gases, traditionally considered to be “waste”
gases, as well as certain volatile organic compounds, or VOCs, such as paint solvents. These gases and compounds are typically
seen as a waste by-product of industrial processes and which often represent a source of pollution which in turn often requires
expensive waste abatement equipment and significant recurring operating costs. Our Power Oxidizers can utilize many of these waste
gases and VOC compounds as fuels for our Powerstations, which we intend to serve as a fuel cost reduction for our industrial customers.
We
also believe our Power Oxidizers provide a superior air pollution waste abatement solution for industrial customers. A typical
industrial customer historically requires electricity, steam and generates industrial gases as a by-product of their facility
operations. Prior to our Powerstation solution, these customers would purchase energy or produce energy with a traditional gas
turbine. Traditional gas turbines use a combustion chamber to ignite the natural gas and result in air pollution such as carbon
dioxide, carbon monoxide, and nitrogen oxides. The gas turbine and by-product gases generally require pollution control equipment
and recurring costs in order to comply with existing pollution standards, which vary by geography with different regulations.
Since both the natural gas fuel and the industrial by-product gases oxidize in our Power Oxidizers over a much longer time than
combustion heat sources, the Power Oxidizer eliminates both the gas fuels and by-products to levels below significantly all of
the existing and proposed air quality emission standards in most areas of the world.
Licensing
Approach
On
November 14, 2014, we entered into a global commercial licensing agreement with Dresser-Rand, or the CLA, through our wholly-owned
subsidiary, Ener-Core Power, Inc., which granted Dresser-Rand the right to market and sell the Dresser-Rand KG2-3GEF 2 MW gas
turbine coupled with our Power Oxidizer, or a Combined System. The CLA grants Dresser-Rand exclusive rights to commercialize the
Ener-Core Power Oxidizer, within ranges of 1–4 MW of power capacity, bundled with the Dresser-Rand KG2 gas-turbine product
line. As part of the CLA, Dresser-Rand agreed to pay us a $1.6 million initial license fee, under the condition that we were able
to successfully scale up the technology to a size of 2 MW. Dresser-Rand also agreed to achieve annual sales thresholds agreed
to by both companies in order to retain the exclusivity of the commercial license. Upon payment of the initial license fee in
full, Dresser-Rand obtained an exclusive license to sell the Ener-Core Power Oxidizer within ranges of 1–4 MW of power capacity,
bundled with a gas-turbine to generate electricity.
On
June 29, 2016, we entered into a Commercial and Manufacturing License Agreement, or the CMLA, with Dresser-Rand, through Ener-Core
Power, Inc., intended to supersede and replace the CLA. Upon successful completion of the FSAT, the CLA will terminate and the
CMLA will provide the terms of the commercial relationship between us and Dresser-Rand. Once the FSAT is completed, the effective
date of the CMLA will be deemed November 14, 2014. In the event we are unable to successfully complete the FSAT, the CLA will
continue to govern our commercial relationship with Dresser-Rand. As of December 31, 2016, we had performed the testing protocols
of substantially all of the required tests, the results of which remain subject to verification by Dresser-Rand, which is currently
underway.
Under
the new CMLA, Dresser-Rand will have a worldwide license to manufacture, market, commercialize and sell the Power Oxidizer as
part of the Combined System within the 1 MW to 4 MW range of power capacity, or the License. Initially, the License will be exclusive,
even as to us, and will remain exclusive for so long as Dresser-Rand sells a minimum of number of units of the Combined System
in each calendar year beginning in 2017, or the Sales Threshold, subject to certain conditions and exceptions. If Dresser-Rand
does not meet the Sales Threshold in any calendar year and the Sales Threshold is not otherwise waived, Dresser-Rand may maintain
exclusivity of the License by making a true-up payment to us for each unit that is in deficit of the Sales Threshold, or a True-Up
Payment; provided, however, that Dresser-Rand may not maintain an exclusive License by making a True-Up Payment for more than
two consecutive calendar year periods. In the event Dresser-Rand does not meet the Sales Threshold, does not qualify for a waiver
and elects not to make the True-Up Payment, the License will convert to a nonexclusive License.
Upon
a sale by Dresser-Rand of a Combined System unit to a customer, the CMLA requires Dresser-Rand to make a license fee payment to
us equal to a percentage of the sales price of the Combined System purchased, in accordance with a predetermined fee schedule
that is anticipated to result in a payment of between $370,000 and $600,000 per Combined System unit sold, or the License Fee.
Payment terms to us from Dresser-Rand will be 50% of each License Fee within 30 days of order and 50% upon the earlier of the
Combined System commissioning or twelve months after the order date.
Dresser-Rand
may also request that we undertake design and development work on modifications to the Combined Systems, each referred to as a
Bespoke Development. We and Dresser-Rand will negotiate any fees resulting from any such Bespoke Development on a case-by-case
basis. Further, any obligation by us to undertake such Bespoke Development will be conditioned upon the execution of mutually
agreed-upon documentation.
As
long as the exclusive License remains in effect, we will provide certain ongoing sales and marketing support services, at no additional
cost to Dresser-Rand, subject to certain restrictions. Any additional sales and marketing services agreed upon by us and Dresser-Rand
will be compensated at an hourly rate to be upwardly adjusted annually.
If
we and Dresser-Rand so elect, we will manufacture a certain number of Power Oxidizers as part of a certain number of Combined
System projects during a transition period, or the Transition Phase, beginning after execution of the CMLA and prior to the period
in which Dresser-Rand manufactures its first three Power Oxidizers as part of at least two individual Combined System projects,
or the Initial Manufacturing Phase, as mutually agreed by the parties. So long as the License remains exclusive during the Transition
Phase, if any, and the Initial Manufacturing Phase, we will provide a mutually agreed upon number of hours of engineering support
services. After the conclusion of the Initial Manufacturing Phase, we will, for so long as the License remains exclusive, continue
providing up to an agreed upon number of hours of such support services on an annual basis at no additional cost to Dresser-Rand,
subject to certain conditions. Any additional engineering support services agreed upon by us and Dresser-Rand will be compensated
at an hourly rate, to be upwardly adjusted annually. During the Transition Phase, we must also develop the spare parts list pertaining
to the scope of supply to allow Dresser-Rand to offer service agreements for the Combined System.
We
must maintain our existing backstop security, or the Backstop Security, under the CLA in favor of Dresser-Rand in support of all
products manufactured, supplied or otherwise provided by us during the period beginning on the execution date of the CMLA, or
the Execution Date, and continuing through the expiration of the warranty period for the Combined System units sold to customers
as of the Execution Date; however, if we and Dresser-Rand mutually agree to engage in a Transition Phase, then such Backstop Security
must be extended to support all products manufactured, supplied or otherwise provided by us during such Transition Phase.
Dresser-Rand
must also: (i) develop the controls strategy for the Dresser-Rand gas turbine control system and integrate it with the Power Oxidizer
control system; (ii) with support from us, manufacture and commercialize the Combined System following the Transition Phase; (iii)
with support from us, develop and prioritize sales opportunities for the Combined System; (iv) assume the sales lead role with
respect to each customer; and (v) take commercial lead in developing sales to customers. In addition, Dresser-Rand will be primarily
responsible for overall warranty and other commercial conditions to Combined System customers, as well as sole project and service
provider and interface with customers. Dresser-Rand will also be responsible for warranty, service and after-sales technical assistance
for all portions of Combined Systems that comprise Dresser-Rand products. We, however, will be responsible for warranty and service
for all products manufactured or otherwise provided by us prior to or during the Transition Phase.
The
CMLA prohibits us from, without the prior written consent of Dresser-Rand, permitting the creation of any encumbrance, lien or
pledge of its intellectual property which would result in any modification to, revocation of, impairment of or other adverse effect
on Dresser-Rand’s rights with respect to the exclusive License. In addition, all intellectual property rights that are owned
by either us or Dresser-Rand as of the Execution Date will remain the sole property of such party, subject to the licenses described
in the CMLA. The CMLA also contains provisions that govern the treatment of process and technology developments and any joint
inventions that (i) relate to the subject matter of the CMLA and (ii) occur after the Execution Date and during the term thereof.
The
CMLA also contains certain restrictions on publicity and obligates Dresser-Rand to use its commercially reasonable efforts to
include our name and logo and otherwise promote our brand and Power Oxidizers in a mutually agreed-upon manner. We and Dresser-Rand
have also mutually agreed to withhold disclosure of certain commercial and technologically sensitive terms of the CMLA including
technical specifications, License Fee percentages, and the Sales Threshold minimum annual quantities to maintain exclusivity.
Commercial
Sales Efforts
We
are entering the combined heat and power, or CHP, market that is highly competitive and historically conservative in its acceptance
of new technologies. To date, we have sold and delivered one 250 kW commercial PowerStation unit to the Netherlands and have sold
one additional 250 kW PowerStation unit to a landfill site in Southern California scheduled for delivery in 2017. We have also
sold two initial 2MW Power Oxidizers to Dresser-Rand for installation at their end user customer, Pacific Ethanol, which were
delivered in the second half of 2016 but which remain subject to acceptance conditions which may not have been met as of December
31, 2016 and which remain subject to further review or deferral, depending in part on the results of the final FSAT test results.
These three systems, combined with the Dresser-Rand license fees of $1.6 million, represent our $4.6 million order backlog as
of February 7, 2017. To date, we have billed $4.2 million and collected $4.1 million of our existing backlog.
In
May 2016, we received a conditional purchase order for four 250 kW Powerstations expected to be installed on a landfill site in
Southern California and scheduled for delivery in late 2017. This order is valued at approximately $4.0 million and is subject
to additional pre-sales engineering and permitting requirements.
Markets
We
see our total potential market consisting of industrial facilities with permanent waste gas emissions sufficient to operate our
units on a constant basis. We evaluate our potential markets in two methods, geographically and vertically. Our most significant
sales opportunities are those where a customer’s demand for power, heat energy, and pollution abatement intersect as presented
in the schematic diagram below (opportunities not to scale):
We
believe the total addressable U.S. market size is at least $5 billion for our Power Oxidizer technology, based on our assumption
that our 333 kW Power Oxidizer is most appropriate for landfills and our 2 MW Power Oxidizer is most appropriate for our other
targeted markets. We also believe the total addressable market size in Europe, Japan and China provides us with potentially meaningful
opportunities.
Geographic
Target Markets
We
initially identified our geographic target markets to consist of North America, Europe, Japan and China, with selective evaluations
of other regions on a case-by-case basis. While we intend to focus primarily on the North American and European geographic markets
over the next year, we expect and intend to evaluate commercial opportunities in other geographic markets.
In
the United States, we are focused on opportunities where our low-quality fuels configuration and our ultra-low emissions configuration
provide competitive advantages. We are also focused on specific states where the wholesale electricity prices are the highest,
as this typically results in the most attractive return on investment scenarios for prospective customers. These states include
California, New Jersey, New York, Maine, New Hampshire, Massachusetts, Connecticut, Rhode Island and Vermont.
Internationally,
we have identified similar opportunities in Canada and western European countries with similar environmental and regulatory laws
as the United States, such as the Netherlands, Belgium, the United Kingdom, Germany, Italy, France and Spain.
Vertical
Markets
We
believe that our current products provide a superior value proposition for two customer types: (i) open and closed existing landfills,
and (ii) industrial facilities that could benefit from on-site combined heat/power, or CHP, generation coupled with waste gas
pollution abatement. In general, the projected economics seen to date indicate that sales into existing landfill plants will primarily
represent EC250 and EC333 sales opportunities and sales into other industrial facilities will typically involve our larger products.
We believe that our future steam product will primarily represent an attractive alternative to industrial facilities that value
on site steam production higher than on site electricity production. We also believe that larger sized Power Oxidizer turbines
of 5 MW and above, once developed, will likely be met with demand from large industrial facilities such as oil and gas refineries
and petrochemical plants.
Initially,
we will target the following markets:
|
●
|
Landfills;
|
|
|
|
|
●
|
Fuel-grade
and beverage ethanol/alcohol distilleries and related products production;
|
|
|
|
|
●
|
Rendering
and animal processing byproducts;
|
|
|
|
|
●
|
Wastewater
and sewage treatment;
|
|
|
|
|
●
|
Coal
mines;
|
|
|
|
|
●
|
“High
tech” aerospace and defense instruments and materials; semiconductor and electronics manufacturing; and
|
|
|
|
|
●
|
Petroleum
and petrochemical storage, distillation and petroleum production.
|
Competitive
Advantages
As
compared to alternative technologies, Power Oxidation provides certain advantages over alternative energy-generation technologies,
including the following:
|
●
|
Operates
on a wider range of fuels.
Our system is designed to operate on gases with energy densities as low as 50 BTU/scf (1700
kJ/m3). By comparison, most turbine, engine, and fuel cell systems require fuel quality of significantly higher energy densities.
|
|
●
|
Lower
air emissions.
Our Power Oxidizer technology produces substantially lower emissions of Nitrogen Oxides (NOx) and Carbon
Monoxide (CO) (CO) (< 1ppm) than, and destroys up to 99% of Volatile Organic Compounds (VOCs) compared to, combustion-based
systems like gas engines or gas turbines or other commonly deployed pollution abatement systems.
|
|
●
|
No
chemicals or catalysts for pollution abatement or control.
Today, most of the low-quality waste gases produced by industries
are processed through pollution abatement technologies that do not generate energy from the gases and are solely in place
to reduce the volume of emissions to the atmosphere. Unlike other pollution abatement systems, such as selective catalytic
reduction, our Power Oxidizer does not use chemicals or catalysts and, thus, cannot be rendered inactive from catalyst poisoning
or degradation.
|
|
●
|
Requires
less fuel conditioning.
Our system is capable of running on fuels with high levels of contaminants and is designed to
require substantially less fuel pre-treatment than competing systems. In most cases, our system is able to process the waste
gases from industrial processes without any of the fuel pre-treatment processes that are typically required by combustion-based
methods to remove impurities and contaminants prior to generating energy from gases.
|
Selected
Risks Associated with Our Business and Industry
Our
Power Oxidation technologies also have certain disadvantages over alternative energy-generation technologies, including the following:
|
●
|
New
and unproven technology.
Our Power Oxidation technologies have only been demonstrated commercially in a 250 kW product
and our technology has only been commercially available since 2013. Although we have received a purchase order for two of
our larger 2 MW Power Oxidizers, we currently have no commercial deployments of these larger units and have not demonstrated
their full commercial viability outside of our test facility.
|
|
●
|
Commercial
viability
. Our Power Oxidation products have had limited commercial installation and to date have been produced on a limited
scale.
|
|
●
|
Unproven
and early stage value proposition
. Our Power Oxidation solutions and our value proposition are not fully demonstrated
in multiple real world installations and to date have not been communicated widely among our potential customers. While we
believe that our value proposition is sound, the industries in which we are attempting to sell our products are conservative
and may discount, or not accept, our value proposition.
|
|
●
|
Competes
with existing mature technologies.
Our Power Oxidation products often cannot compete on a standalone cost basis solely
on either alternative power generation or pollution abatement solutions. Our product solutions currently make economic sense
in limited customer applications when pollution abatement and power generation are both required by a customer.
|
In
addition, our business is subject to a number of other risks and uncertainties, including those highlighted in the section titled
“Risk Factors” immediately following this prospectus summary. These risks include, but are not limited to, the following:
|
●
|
we
have experienced losses since inception and anticipate that we will continue to incur losses;
|
|
|
|
|
●
|
we
expect to require substantial additional financing;
|
|
|
|
|
●
|
our
independent registered public accounting firm has expressed substantial doubt about our ability to continue as a going concern;
and
|
|
|
|
|
●
|
we
have identified material weaknesses in our internal control over financial reporting and ineffective disclosure controls and
procedures.
|
Product
Commercialization to Date
|
●
|
Initial
Commercial Unit—250 kW Unit:
In June 2014, our first commercial EC250 Powerstation was installed at a landfill in
the Netherlands that is owned and operated by Attero, one of the leading waste management companies in the Netherlands.
|
|
●
|
First
Licensing Agreement:
On November 14, 2014, we entered into the CLA to develop and market Dresser-Rand’s KG2-3GEF
2 MW gas turbine coupled with our Power Oxidizer. The CLA and ongoing integration provides for a scale-up of our technology
into the larger utility grade sized turbines requested by our customers. Under the CLA, Dresser-Rand agreed to pay an initial
license fee of $1.6 million, which was initially placed in escrow, and to commercialize the technology through its sales and
distribution channels. In July 2015, we successfully completed the first of two technical milestones, which enabled Dresser-Rand
to begin commercialization of the KG2-3GEF/PO turbines.
|
|
●
|
Initial
Order—2 MW Unit into Distillery Market:
On January 12, 2015, Pacific Ethanol, Inc. publicly announced that it had
placed an order with Dresser-Rand that included two KG2-3GEF/PO units. The order represents the first two commercial KG2 units
that are designed to include our Power Oxidizer units. In August 2015, after the completion of the first technical test, we
received a formal purchase order for $2.1 million for two Power Oxidizer units. We delivered the units associated with this
initial order to the Stockton Biorefinery site owned by Pacific Ethanol in October 2016.
|
|
●
|
Additional
250 kW Commercial Unit:
In May 2015, the Orange County Board of Supervisors approved a project to install an EC250 Powerstation
at the Santiago Canyon landfill in Orange County, California, and in August 2015, we received a purchase order for $900,000
for the EC250 Powerstation unit. The order represents an entry into a closed landfill opportunity that we believe has the
potential for additional sales in the future. In 2016, it was determined that the Santiago Canyon landfill site
did not have sufficient power infrastructure in situ. Alternative locations for the EC250 Powerstation are currently being
evaluated.
|
Over
the next two years, we expect to continue our product commercialization efforts with the following expected deliverables and projects:
|
●
|
Completion
of Full Scale Acceptance Test—2 MW Unit
: Under the CLA, the second technical test is the full-scale acceptance test,
or FSAT, which is required after achievement of the first technical milestone. The FSAT consists of the building and installation
of a full prototype of a working 2 MW KG2 unit at a site in Southern California, and then testing the prototype under different
operating conditions for performance and life cycle validation. We completed construction of the 2 MW Power Oxidizer in 2016
and began the field testing of the 2 MW unit in the first half of 2016. In September 2016, after initial testing results were
received, the $1.6 million license fee payment was released from escrow, from which we received $1.1 million in cash, representing
the $1.6 million license fee net of $500,000 paid to Dresser-Rand for engineering services. We substantially completed field
testing in the fourth quarter of 2016 and are awaiting final testing reports, which we expect later in the first quarter of
2017.
|
|
●
|
Fulfillment
and Delivery of Existing Customer Order Backlog of Approximately $4.6 Million
: As of February 7, 2017, and prior to recognition
of revenues associated with these orders, we had a backlog of approximately $3.0 million for our Power Oxidizers and approximately
$1.6 million of Dresser-Rand license fees. During 2016, we (i) assembled, shipped and installed the first two Power Oxidizers
for the two KG2 units sold by Dresser-Rand to Pacific Ethanol, and (ii) received the $1.6 million license fee payment from
Dresser-Rand that was previously paid into escrow, less $500,000 paid to Dresser-Rand for engineering services. We are currently
evaluating the revenue recognition on these orders in conjunction with the FSAT testing process described above. We expect
to commission the Pacific Ethanol units in the first half of 2017. While we received payments on the EC250 Powerstation unit
for which we received a purchase order in August 2015, delivery of this unit (originally sourced to delivery at the Santiago
Canyon landfill location) has been delayed pending a change of the delivery location by the customer. We expect the unit to
be installed at an alternative site in 2017.
|
|
●
|
Commercialization
of EC250 Powerstations and Additional KG2 Power Oxidizers
: We have a pipeline of additional opportunities through Dresser-Rand
for KG2 Power Oxidizers and directly sold units for our EC250 Powerstations. We expect to receive additional purchase orders
for these products in 2017.
|
Corporate
Information
Ener-Core
was incorporated in Nevada in April 2010 under the name “Inventtech Inc.” Our operating subsidiary, Ener-Core
Power, Inc., was incorporated in Delaware in July 2012 under the name “Flex Power Generation, Inc.” Ener-Core
Power, Inc. became our subsidiary in July 2013 by way of a reverse merger transaction, or the Merger, as further described in
“Management’s Discussion and Analysis of Financial Condition and Results of Operations—Reverse Merger.”
Effective
as of September 3, 2015, we changed our state of incorporation from the State of Nevada to the State of Delaware, or the Reincorporation,
pursuant to a plan of conversion dated September 2, 2015, following approval by our stockholders of the Reincorporation at our
2015 Annual Meeting of Stockholders held on August 28, 2015. In connection with the Reincorporation, we filed articles of conversion
with the State of Nevada and a certificate of conversion and certificate of incorporation with the State of Delaware. Upon effectiveness
of the Reincorporation, the rights of our stockholders became governed by the Delaware General Corporation Law, the certificate
of incorporation filed in Delaware and newly adopted bylaws. As a Delaware corporation following the Reincorporation, which we
refer to as Ener-Core Delaware, we are deemed to be the same continuing entity as the Nevada corporation prior to the Reincorporation,
which we refer to as Ener-Core Nevada. As such, Ener-Core Delaware continues to possess all of the rights, privileges and powers
of Ener-Core Nevada, all of the properties of Ener-Core Nevada and all of the debts, liabilities and obligations of Ener-Core
Nevada, including all contractual obligations, and continues with the same name, business, assets, liabilities, headquarters,
officers and directors as immediately prior to the Reincorporation. Upon effectiveness of the Reincorporation, all of the issued
and outstanding shares of common stock of Ener-Core Nevada automatically converted into issued and outstanding shares of common
stock of Ener-Core Delaware without any action on the part of our stockholders.
The
address of our corporate headquarters is 9400 Toledo Way, Irvine, California 92618, and our telephone number is (949) 616-3300. Our
website address is www.ener-core.com. The information that is contained on, or that may be accessed through, our website
is not a part of this prospectus. We have included references to our website in this prospectus solely as inactive textual references.
December
2015 Equity Financing
On
December 30, 2015, we entered into a securities purchase agreement dated December 30, 2015, or the December 2015 Purchase Agreement,
pursuant to which we issued to certain institutional and other accredited investors, or the December 2015 Investors, an aggregate
of 625,000 shares of our common stock at a price of $4.00 per share, and five-year warrants to purchase an aggregate of 312,500
shares of our common stock at an exercise price of $5.00 per share, or the December 2015 Warrants, in exchange for aggregate gross
proceeds of $2.5 million, which we refer to as the December 2015 Equity Financing. We also entered into a registration rights
agreement with the December 2015 Investors, or the December 2015 Registration Rights Agreement, pursuant to which we are required
to file one or more registration statements with the SEC to register for resale by the December 2015 Investors the shares of our
common stock sold in the December 2015 Equity Financing and the shares of our common stock issuable upon exercise of the December
2015 Warrants. Pursuant to the terms of the December 2015 Registration Rights Agreement, we are registering 937,500 shares of
our common stock under the Securities Act, which includes the 625,000 shares of common stock sold in the December 2015 Equity
Financing and 312,500 shares of common stock issuable upon exercise of the December 2015 Warrants. All 937,500 shares of common
stock are being offered for resale pursuant to this prospectus.
In
addition, the December 2015 Purchase Agreement contains an anti-dilution adjustment provision, pursuant to which, in the event
that we sell or issue shares of our common stock at a price lower than the $4.00 per share purchase price of the shares issued
under the December 2015 Purchase Agreement, we will be required to issue to each December 2015 Investor, for no additional consideration,
an additional number of shares of common stock in an amount equal to (1) the purchase price paid by such December 2015 Investor
under the December 2015 Purchase Agreement divided by the price per share of common stock for the dilutive issuance, minus (2)
the total number of shares of common stock purchased by such December 2015 Investor. Such adjustment is called a Share Dilution
Adjustment. The Share Dilution Adjustment does not apply with respect to certain exempt issuances and will terminate on the earlier
of: (i) thirty (30) days from the date of effectiveness of the registration statement of which this prospectus forms a part and
(ii) six (6) months after December 31, 2015. Additionally, if, prior to such termination date, we issue or sell any warrants to
purchase shares of common stock with an exercise price per whole share that is less than the exercise price per December 2015
Warrant share in effect at such time, the exercise price per December 2015 Warrant share will be adjusted, with no additional
action required by the holder, to equal the exercise price per whole share of common stock as set forth in the warrants issued
in such dilutive issuance, except in the case of certain exempt issuances. On June 30, 2016, the anti-dilution adjustment provision
terminated.
Implications
of Being an Emerging Growth Company
We
are an “emerging growth company,” as defined in Section 2(a) of the Securities Act of 1933, as amended, or the
Securities Act, as amended and modified by the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. As such, we are eligible
to take advantage of exemptions from various disclosure and reporting requirements that are applicable to other public companies
that are not “emerging growth companies” including, but not limited to:
|
●
|
not
being required to comply with the auditor attestation requirements of Section 404(b) of the Sarbanes-Oxley Act of 2002;
|
|
|
|
|
●
|
being
permitted to present only two years of audited financial statements and only two years of related Management’s Discussion
and Analysis of Financial Condition and Results of Operations, in each case, instead of three years;
|
|
|
|
|
●
|
being
permitted to present the same number of years of selected financial data as the years of audited financial statements presented,
instead of five years;
|
|
●
|
reduced
disclosure obligations regarding executive compensation, including the omission of a compensation disclosure and analysis;
|
|
|
|
|
●
|
not
being required to comply with any requirement that may be adopted by the Public Company Accounting Oversight Board regarding
mandatory audit firm rotation or a supplement to the auditor’s report providing additional information about the audit
and the financial statements; and
|
|
|
|
|
●
|
exemptions
from the requirements of holding a non-binding advisory vote on executive compensation and stockholder approval of any golden
parachute payments not previously approved.
|
We
may choose to take advantage of some or all of the available exemptions. We have taken advantage of some of the reduced reporting
exemptions in this prospectus. Accordingly, the scope of the information contained herein may be different than the scope of the
information you receive from other public companies in which you hold stock. We do not know if some investors will find our shares
less attractive as a result of our utilization of these or other exemptions. The result may be a less active trading market for
our shares and our share price may be more volatile.
In
addition, Section 107 of the JOBS Act also provides that an “emerging growth company” can take advantage of the
extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting
standards. In other words, an “emerging growth company” can delay the adoption of certain accounting standards until
those standards would otherwise apply to private companies. We have irrevocably elected not to avail ourselves of this exemption
from new or revised accounting standards, and therefore, we will be subject to the same new or revised accounting standards as
other public companies that are not emerging growth companies.
We
will remain an “emerging growth company” until the earliest of (a) the last day of the first fiscal year in which
our annual gross revenues exceed $1.0 billion, (b) the date that we become a “large accelerated filer” as
defined in Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, which would occur if the
market value of our shares that are held by non-affiliates exceeds $700 million as of the last business day of our most recently
completed second fiscal quarter, (c) the date on which we have issued, during the previous three-year period, more than $1.0 billion
in nonconvertible debt, or (d) the last day of our fiscal year containing the fifth anniversary of the date of our first
sale of our common equity securities pursuant to an effective registration statement in the United States, which will occur on
December 31, 2017.
The
Offering
Common
stock outstanding before this offering:
|
3,844,660
shares(1)
|
|
|
Securities
offered for resale to the public by the selling stockholders:
|
937,500
shares of common stock(2)
|
|
|
Common
stock outstanding after this offering:
|
4,157,160
shares(3)
|
|
|
Use
of proceeds:
|
We
will not receive any proceeds from the sale of our common stock offered by the selling stockholders under this prospectus.
We may, however, receive proceeds from warrants exercised by selling stockholders in the event that such warrants are exercised
for cash. See “Use of Proceeds” beginning on page 31 of this prospectus.
|
|
|
OTCQB
Marketplace symbol:
|
Shares
of our common stock are currently quoted on the OTCQB Marketplace under the symbol “ENCR.”
|
|
|
Risk
factors:
|
Investing
in our securities involves a high degree of risk. See “Risk Factors” beginning on page 12 of this prospectus for
a discussion of factors you should consider before making a decision to invest in our securities.
|
|
|
Common
stock splits:
|
On
May 6, 2013, we effected a 30-for-1 forward split of our issued and outstanding shares of common stock by way of a stock dividend.
On July 8, 2015, we effected a 1-for-50 reverse split of our issued and outstanding shares of common stock. All share and
per share information in this prospectus gives effect to the 30-for-1 forward split and 1-for-50 reverse split, retroactively.
|
(1)
|
As
of February 7, 2017.
|
|
|
(2)
|
Consists
of 625,000 shares of common stock sold in the December 2015 Equity Financing and 312,500 shares of common stock issuable upon
exercise of the December 2015 Warrants.
|
|
|
(3)
|
Assumes
the sale of all of the shares of common stock offered by the selling stockholders pursuant to this prospectus.
|
The
number of shares of common stock to be outstanding after this offering is based on 3,844,660 shares of common stock outstanding
as of February 7, 2017. The number of shares of common stock to be outstanding after this offering does not include:
|
●
|
5,108,881
shares of common stock issuable upon the exercise of warrants outstanding as of February 7, 2017, at a weighted average exercise
price of $3.75 per share, which excludes the shares of common stock issuable upon exercise of the December 2015 Warrants registered
herein;
|
|
|
|
|
●
|
270,197
shares of common stock issuable upon the exercise of options outstanding as of February 7, 2017, at a weighted average exercise
price of $13.73 per share;
|
|
|
|
|
●
|
594,000
shares of common stock reserved for future issuance under the Ener-Core, Inc. 2015 Omnibus Incentive Plan, or the 2015 Plan,
as of February 7, 2017;
|
|
●
|
Securities
issuable upon conversion of our outstanding convertible senior secured promissory notes issued in April and May 2015, or the
2015 Notes;
|
|
|
|
|
●
|
Securities
issuable upon conversion of our outstanding convertible senior secured promissory notes issued in December 2016, or the December
2016 Notes; and
|
|
|
|
|
●
|
Securities
issuable upon conversion of our outstanding convertible unsecured promissory notes issued in September 2016, or the Convertible
Unsecured Notes.
|
RISK
FACTORS
Investing
in our securities involves a high degree of risk. You should carefully consider the risks and uncertainties described below, together
with all of the other information contained in this prospectus, including our financial statements and the related notes thereto,
before making a decision to invest in our securities. The risks and uncertainties described below are not the only ones we face.
Additional risks and uncertainties not presently known to us, or that we currently believe are not material, also may become important
factors that affect us and impair our business operations. The occurrence of any of the events or developments discussed in the
risk factors below could have a material and adverse impact on our business, results of operations, financial condition and cash
flows, and in such case, our future prospects would likely be materially and adversely affected. If any of such events or developments
were to happen, the trading price of our common stock and the value of the warrants could decline, and you could lose part or
all of your investment. Further, our actual results could differ materially and adversely from those anticipated in our forward-looking
statements as a result of certain factors.
All
share and per share amounts have been adjusted to reflect the 30-for-1 forward split of our issued and outstanding shares of common
stock by way of a stock dividend on May 6, 2013 and the 1-for-50 reverse split of our issued and outstanding shares of our common
stock on July 8, 2015, retroactively.
Risks
Relating to Our Financial Condition and Capital Requirements
We
have experienced losses since inception and anticipate that we will continue to incur losses, which makes it difficult to assess
our future prospects and financial results.
We
have never been profitable and, as of September 30, 2016, we had an accumulated deficit of $38.8 million. We incurred net losses
of $7.6 million in the nine months ended September 30, 2016 and net losses of $13.1 million, $10.5 million and $7.1 million in
the years ended December 31, 2015, 2014 and 2013, respectively. We expect to continue to incur net losses for the foreseeable
future as we continue to develop our products and seek customers and distribution for our products. Because of the risks and uncertainties
associated with developing and commercializing our products, we are unable to predict the extent of any future losses or when
we will become profitable, if at all. Even if we do achieve profitability, we may not be able to sustain or increase profitability
on a quarterly or annual basis. If we are unsuccessful in addressing these risks, our business may fail and investors may lose
all of their investment.
Our
limited operating history makes evaluating our business and future prospects difficult, and may increase the risk of your investment.
We
design, develop, license, manufacture and market products based on proprietary technologies that aim to expand the power-generation
range of gaseous fuels. While we shipped our first commercial product, the Ener-Core Powerstation EC250, in November 2013, to
date, our other manufacturing efforts have been limited to our prototype units and the assembly of our Multi-Fuel Test Facility
used in research and development. As such, we have a limited operating history with respect to designing and manufacturing systems
for producing continuous energy from a broad range of sources, including previously unusable low quality waste gases, providing
a limited basis for investors to evaluate our business, operating results, and prospects.
While
the basic technology has been verified, we have only within the last several years begun offering the EC250 and EC333 as commercial
systems and only received purchase orders for the KG2 Power Oxidizer system and 250 kW Powerstations within the last couple years.
This limits our ability to accurately forecast the cost of producing and distributing our systems or technology or to determine
a precise date on which our systems or technology will be widely released.
Our
plan to complete the initial commercialization of our gas-to-heat and electricity conversion technology is dependent upon the
timely availability of funds and upon our finalizing the engineering, component procurement, build out, and testing in a timely
manner. Any significant delays would materially adversely affect our business, prospects, operating results, and financial condition.
Consequently, it is difficult to predict our future revenues and appropriately budget for our expenses, and we have limited insight
into trends that may emerge and affect our business. In the event that actual results differ from our estimates or we adjust our
estimates in future periods, our operating results and financial position could be materially and adversely affected. If the market
for transforming methane gas, especially low quality waste gases from landfills, coal mines, oil fields, and other low-quality
methane sources into continuous electricity does not develop as we currently expect, or develops more slowly than we currently
expect, our business, prospects, operating results, and financial condition will be materially harmed.
We
expect to require substantial additional financing. Failure to obtain such financing may require us to cease our business
activities and result in our stockholders losing some or all of their investment in us.
There
is no assurance that we will operate profitably or generate positive cash flow in the future. As of September 30, 2016 and December
31, 2015, we had approximately $0.6 million and $2.8 million, respectively, in cash and cash equivalents (including restricted
cash). Although we raised approximately $3.4 million in December 2016, we will require additional financing in order to proceed
with the manufacture, sale and distribution of our products, including our EC250, EC333, KG2 and other Power Oxidizer products.
During the next 12 months, we currently project our cash needs to be in excess of $5.0 million, currently budgeted for employee,
occupancy and related costs ($3.2 million), professional fees, corporate filings, and business development costs ($0.8 million),
and working capital ($1.0 million). We will require additional financing if the costs of the development and operation of our
existing technologies are greater than we have currently anticipated or if we are not successful in earning revenues. Our sales
and fulfillment cycle can exceed 24 months, and we do not expect to generate sufficient revenue in the next 12 months to cover
our operating costs.
We
anticipate that we will rely on additional debt or equity capital in order to continue to fund our business operations until such
time as we become profitable, which may never occur. Issuances of additional equity and/or convertible securities will result
in dilution to our existing stockholders. Our ability to obtain additional financing will be subject to a number of factors,
including market conditions, our operating performance and investor sentiment. We may not be able to obtain financing on commercially
reasonable terms or terms that are acceptable to us when it is required. If we are unable to raise sufficient additional
capital when required or on acceptable terms, we may have to significantly delay, scale back or discontinue the development or
commercialization of one or more of our products, restrict our operations or obtain funds by entering into agreements on unattractive
terms, which would likely have a material adverse effect on our business, stock price and our relationships with third parties
with whom we have business relationships. Further, if we do not obtain sufficient funds to continue operations, our business could
fail and investors could lose up to their entire investment.
Our
independent registered public accounting firm has expressed substantial doubt about our ability to continue as a going concern,
and if we are unable to continue as a going concern, our securities will have little or no value.
Since
inception, we have experienced recurring operating losses and negative cash flows and we expect to continue to generate operating
losses and consume significant cash resources for the foreseeable future. Without additional financing, these conditions raise
substantial doubt about our ability to continue as a going concern, meaning that we may be unable to continue in operation for
the foreseeable future or realize assets and discharge liabilities in the ordinary course of operations. As a result, the report
of our independent registered public accounting firm that accompanies our audited consolidated financial statements for the years
ended December 31, 2015 and 2014, respectively, contains going concern qualifications and our independent registered public accounting
firm expressed substantial doubt about our ability to continue as a going concern. In addition to our history of losses,
our accumulated deficits as of September 30, 2016, December 31, 2015, December 31, 2014 and December 31, 2013 were approximately
$38.8 million, $31.1 million, $18.0 million and $7.5 million, respectively. At September 30, 2016, December 31, 2015, December
31, 2014 and December 31, 2013, we had cash and cash equivalents (including restricted cash) of $0.6 million, $2.8 million, $2.2
million and $1.3 million, respectively.
In
order to continue as a going concern, we will need, among other things, additional capital resources. Our management’s
plan is to obtain such resources by seeking additional equity and/or debt financing. During 2014, we raised a total of $4.6
million through debt financing and repaid $1.9 million of such debt financing and raised $4.0 million through equity financing.
During 2015, we raised a total of $5.0 million through debt financing and $3.3 million through equity financing. During 2016,
we raised a total of $3.7 million through debt financing and $3.0 million through equity financing. We may be required to raise
capital on unfavorable terms, assuming opportunities to raise capital are even available to us. Our failure to obtain additional
capital would have an adverse effect on our financial position, results of operations, cash flows, and business prospects, and
ultimately on our ability to continue.
Any
incurrence of additional indebtedness could adversely affect our ability to operate our business, remain in compliance with existing
or future debt or commercial covenants, make payments on our debt and limit our growth.
As
of February 7, 2017, we had $10.5 million of indebtedness outstanding, consisting of the principal balance and accrued interest
on outstanding 2015 Notes, Convertible Unsecured Notes and December 2016 Notes, as well as balances due on capital lease financing.
Outstanding
indebtedness could have important consequences for investors, including the following:
|
●
|
if
we are unable to comply with the obligations of any agreements governing our indebtedness, including financial and other restrictive
covenants, such failure could result in an event of default under such agreements;
|
|
|
|
|
●
|
the
covenants contained in our debt and commercial agreements may limit our ability to borrow additional funds, including restrictions
on use of certain of our intellectual property as collateral for future borrowings;
|
|
|
|
|
●
|
we
may need to use a portion of our cash flows to pay principal and interest on our debt, which will reduce the amount of money
that we have for operations, working capital, capital expenditures, expansion, acquisitions or general corporate or other
business activities;
|
|
|
|
|
●
|
we
may have a higher level of debt than some of our competitors, which could put us at a competitive disadvantage;
|
|
|
|
|
●
|
we
may be more vulnerable to economic downturns and adverse developments in our industry or the economy in general; and
|
|
|
|
|
●
|
our
debt level could limit our flexibility in planning for, or reacting to, changes in our business and the industry in which
we operate.
|
Our
ability to meet our expenses and debt obligations will depend on our future performance, which will be affected by financial,
business, economic, regulatory and other factors. We will not be able to control many of these factors. We cannot be certain that
our cash flows will be sufficient to allow us to pay the principal and interest on our existing or future debt and meet our other
obligations. If we do not have enough money to service our existing or future debt, we may be required to refinance all or part
of our existing or future debt, sell assets, borrow more money or raise equity, which we may not be able to timely consummate
on terms acceptable to us, if at all.
Risks
Relating to Our Business and Industry
A
sustainable market for our technology and products may never develop or may take longer to develop than we currently anticipate,
which would materially adversely affect our results of operations and/or cause our business to fail.
Our
products are being sold into mature markets and represent an emerging and unproven technology. We cannot be certain as to whether
our targeted customers will accept our technology or will purchase our products in sufficient quantities to allow our business
to grow. To succeed, demand for our current products must increase significantly in existing markets and there must be strong
demand for products that we introduce in the future. If a sustainable market fails to develop or develops more slowly than we
currently anticipate, we may be unable to recover the losses we have incurred to develop our products, we may have further impairment
of assets, and we may be unable to meet our operational expenses. The development of a sustainable market for our systems may
be hindered by many factors, including some that are out of our control. Examples include:
|
●
|
customer
reluctance to try a new product or concept;
|
|
●
|
the
relaxing of regulatory requirements or policies regarding the environment;
|
|
|
|
|
●
|
potential
customers’ perception that our EC250, EC333, KG2 and other Power Oxidizer products that we may develop are not competitive
on a cost basis;
|
|
|
|
|
●
|
the
costs associated with the installation and commissioning of our EC250, EC333, KG2 and other Power Oxidizer products that we
may develop;
|
|
|
|
|
●
|
maintenance
and repair costs associated with our products;
|
|
|
|
|
●
|
economic
downturns and reduction in capital spending;
|
|
|
|
|
●
|
customer
perceptions of our products’ safety, quality and effectiveness;
|
|
|
|
|
●
|
customer
and potential customer awareness of our products;
|
|
|
|
|
●
|
the
emergence of newer, more competitive technologies and products;
|
|
|
|
|
●
|
the
financial and operational stability of our turbine partners;
|
|
|
|
|
●
|
the
inability of our turbine partners to fulfill orders in a timely manner;
|
|
|
|
|
●
|
excessive
warranty-related costs associated with parts replacement for Power Oxidizer or turbine components for Powerstations operating
in the field; and
|
|
|
|
|
●
|
the
inability of our commercial partners to successfully sell and market our co-branded Power Oxidizer products.
|
If
we are unable to develop effectively and promote our technology timely and gain recognition in our market segment, we may not
be able to achieve acceptable sales revenue and our results of operations and financial condition would then suffer. We cannot
predict the rate of adoption or acceptance of our technology by potential customers or prospective channel partners. While we
may be able to effectively demonstrate the feasibility of our technology, this does not guarantee the market will accept it, nor
can we control the rate at which such acceptance may be achieved. Failure to achieve productive relationships with a sufficient
number of prospective partners who are established resellers in the market segments of our target customers may impede adoption
of our solutions. Additionally, some potential customers in our target industries are historically risk-averse and have been slow
to adopt new technologies. If our technology is not accepted in the industrial combustion and power generation market, we may
not earn enough by selling or licensing our technology to support our operations, recover our research and development costs or
become profitable and our business could fail.
Our
products are unproven on a large-scale commercial basis and could fail to perform as anticipated.
The
Power Oxidizer has never been utilized on a large-scale commercial basis and we cannot predict all of the difficulties that may
arise when the technology is utilized on such scale. In addition, our technology has never operated at a profitable volume level.
It is possible that the technology may require further research, development, design and testing prior to implementation of a
large-scale commercial application. Accordingly, we cannot assure you that our technology will perform successfully on a large-scale
commercial basis, that it will be profitable to us or that our products will be cost competitive in the market.
We
may not be able to maintain effective product distribution channels, which could limit sales of our products.
We
may be unable to attract distributors, resellers and integrators, as planned, that can market our products effectively and provide
timely and cost-effective customer support and service. There is also a risk that, after we have established such relationships,
some or all of our distributors, resellers or integrators may be acquired, may change their business models or may go out of business,
any of which could have an adverse effect on our business. Further, our potential distributors, integrators and resellers may
carry competing products. The loss of important sales personnel, distributors, integrators or resellers could adversely affect
us.
Our
products involve a lengthy sales cycle and we may not anticipate sales levels appropriately, which could impair our results of
operations.
The
sale of our products typically involves a significant commitment of capital by customers, and such purchase decisions often require
substantial time, economic analysis, product testing and corporate approvals. Once a customer makes a formal decision to purchase
our product, the fulfillment of the sales order by us and our turbine partners will require a substantial amount of additional
time. For these reasons, the sales and fulfillment cycle associated with our products is typically lengthy and subject to a number
of significant risks over which we have little or no control. We currently expect to plan our production and inventory levels
based on internal forecasts of customer demand, which are highly unpredictable and can fluctuate substantially. If sales in any
period fall significantly below anticipated levels, our financial condition, results of operations and cash flow would suffer.
If demand in any period increases well above anticipated levels, we may have difficulties in responding, incur greater costs to
respond, or be unable to fulfill the demand in sufficient time to retain the order, which would negatively impact our operations
and our reputation. In addition, our operating expenses are based on anticipated sales levels, and a high percentage of our expenses
are generally fixed in the short term. As a result of these factors, a small fluctuation in the timing of cash payments by our
customers could result in additional capital being required to fund our operating and inventory needs. Further, our operating
results may be subject to significant variations and, as such, our operating performance in one period may not be indicative of
our future performance.
We
may incur significant warranty related costs, which may result in decreased gross profit per unit sold and reduce our ability
to achieve our profitability targets.
We
have sold, and our business plan anticipates that we will continue to sell, products with warranties. There can be no assurance
that the provision for estimated product warranty will be sufficient to cover our warranty expenses now or in the future. We cannot
ensure that our efforts to reduce our risk through warranty disclaimers will effectively limit our liability. While we expect
warranty costs to decrease significantly on a per unit basis, the limited operating time for our commercial units makes our warranty
and other post-sale charges difficult to estimate. Further, we may, at times, undertake programs to enhance the performance of
units previously sold. Such enhancements may be provided at no cost or below our cost. If we choose to offer such programs, such
actions could result in significant additional costs to our business. For example, during 2014, we provided for a warranty reserve
of $242,000 for our initial EC250 commercial unit to allow for full replacement of key components primarily related to sub-components
furnished by our suppliers. If our commercial units have greater than expected warranty related expenses or if we experience warranty
costs associated with our oxidizer units, we may experience lower gross margins on our products or we may be required to increase
our expenses to re-engineer our Power Oxidizer products. Further, any significant incurrence of warranty expense in excess of
estimates could have a material adverse effect on our operating results, financial condition, and cash flow.
We
face intense competition and currently expect competition to increase in the future, which could prohibit us from developing a
customer base and generating revenue.
The
energy industry is characterized by intense competition. We compete with existing co-generation solutions and other power generation
solutions for our current and future customers. Those existing solutions have typically more mature technology and have a lower
equipment cost than our Power Oxidizer units. Our Power Oxidizers are typically more expensive per kilowatt of power capacity
when compared to the initial cost of equipment, and competing products typically have lower upfront costs than our Power Oxidizers.
Many of our existing and potential competitors have greater financial and commercial resources than us, and it may be difficult
for us to compete against them. Many of our existing and potential competitors have better name recognition and substantially
greater financial, technical, manufacturing, marketing, personnel, and/or research capabilities than we do. In addition, new competitors,
some of whom may have extensive experience in related fields or greater financial resources, may enter the market.
Although
at this time we do not believe that any of our potential competitors have technology similar to ours, if and when we release products
based on our technology, potential competitors may respond by developing and producing similar products. Many firms in the energy
industry have made and continue to make substantial investments in improving their technologies and manufacturing processes. Our
competitors may achieve substantial economies of scale and scope, thereby substantially reducing their fixed production costs
and their marginal production costs. In addition, they may be able to price their products below the marginal cost of production
in an attempt to establish, retain, or increase market share.
In
addition to our efforts to replace existing combustion technologies, we face competition from other companies in two sectors,
each with its distinct competitive landscape:
|
●
|
Low-quality
fuels
—Where the gas source has an energy density (BTU/ft3) below the minimum level required by reciprocating engines
and standard gas turbines, a prospective customer can elect to do nothing and allow low BTU gas to simply be emitted into
the atmosphere or can purchase gas such as propane or natural gas, mix it with the low BTU gas to make combustion feasible,
and then flare the mixture. Because this alternative results in the destruction of the low BTU gas instead of converting the
gas into a form of energy that could be sold or monetized, we do not consider it to be a direct form of competition, however,
potential customers may utilize this approach in lieu of investing in our products.
|
|
|
|
|
●
|
Ultra-low
emissions
—Within applications where a customer is required to meet emissions regulations and controls limits, typically
by national, regional or local legislation, our systems compete with pollution control technologies, such as Selective Catalytic
Reduction, Dry-Low-NOx, or Dry-Low-Emissions systems, and in some cases, with low-emission flares and thermal oxidizers. As
many of our competitors are large, well-established companies, they derive advantages from production economies of scale,
worldwide presence, and greater resources, which they can devote to product development or promotion.
|
In
light of the foregoing, it may be difficult for us to compete successfully in the energy market.
As
an alternative energy technology, our products are subject to wavering interest and levels of investment arising from the volatility
of traditional energy costs and pricing.
In
addition to environmental concerns, the market for alternative energy technologies is driven in part by customers’ desire
for stable, cost-effective energy production methods, including technologies that minimize waste or allow use of waste gases to
capture more value from traditional energy production methods. Although increases or volatility in the costs of traditional energy
production, including the cost of additives to flare or use waste gases, may drive some interest in our technology, significant
drops in the costs of traditional energy production and resources could have the opposite effect, resulting in decreased willingness
by customers to invest in comparatively unproven alternative energy technologies. If traditional energy production costs and pricing
drop significantly for a sustained period of time, customers may not view our products as providing a comparative economic benefit
and we may not be able to compete successfully in our target markets.
We
anticipate the need to be able to provide a third party financing option to our current and future customers for our existing
and future Power Oxidizer products in order to facilitate our planned growth. We have very limited operational history for our
Power Oxidizer products, which may make financing these products very difficult. Any changes in business credit availability or
cost of borrowing could adversely affect our business.
We
compete with products and solutions that have significantly longer operating histories than our Power Oxidizers. As such, traditional
lending solutions such as capital lease providers or banks have access to a substantial amount of information regarding competing
products and have established credit parameters for end user customers. Our Power Oxidizers are new to the market and lenders
and potential lenders have not established credit parameters specific to our Power Oxidizer units, which puts us at a competitive
disadvantage.
Declines
in the availability of commercially acceptable business credit and increases in corporate borrowing costs could negatively impact
the number of systems we can install. Substantial declines in the business and operations of our customers could have a material
adverse effect on our sales and, therefore, our business, results of operations and financial condition. If our potential customers
are unable to access credit or experience increases in borrowing costs, our operating results may be materially and adversely
affected and our ability to grow our business may be impaired.
Turbine
prices, sub-component availability and reliability factors impact our price competitiveness, warranty costs and rate of market
acceptance.
Our
Power Oxidizer products are currently commercialized in a manner that is fully integrated with a gas turbine, thus providing a
complete Powerstation to the ultimate customer and operator. We purchase the turbines for the 250 kW and 333 kW Powerstations
from an independent third party. The availability of these turbines is dependent on the current commercial backlog and financial
stability of their manufacturers. A lengthy sub-component fulfillment timeframe could impact our ability to timely deliver a Powerstation
and therefore could delay our revenues. The turbines are typically long lead time components and the pricing of these turbines
could increase over time, causing the overall price of the integrated Powerstation to become commercially uncompetitive, which
would hinder sales of our Power Oxidizer products or render them prohibitively expensive, which would result in decreased profit
margins. Once operational, any issues in the reliability of the turbine, either due to issues with the Power Oxidizer or any inherent
flaws in the turbine, could result in excessive warranty obligations for us and a level of operational reliability that is deemed
unsatisfactory by our customers, which could hurt our relationships with our customers and materially and adversely affect our
business, prospects, operating results and financial condition.
We
are dependent on our suppliers, some of which are single or limited source suppliers, and the inability or refusal of these suppliers
to deliver necessary components at prices, volumes, and schedules acceptable to us would have a material adverse effect on our
business, prospects, operating results, and financial condition.
We
are continually evaluating, qualifying, and selecting suppliers for our gas-to-heat and electricity conversion systems. For our
Power Oxidizer units, our raw materials generally consist of readily available pipes, tanks and machined metal products made of
steel and other readily available commercial metals. We also purchase an integrated controls system that is configured from off-the-shelf
units. However, for certain proprietary components, we use parts that are single-sourced from certain suppliers for machined parts
designed and built to our specifications. We expect to move away from single-sourced suppliers as our production levels increase
and with future modifications to our products. We also intend to source globally from a number of suppliers, some of whom may,
however, be single source suppliers for these components, in particular for the gas turbine sub-component. While we attempt to
maintain the availability of components from multiple sources, it may not always be possible to avoid purchasing from a single
source. To date, we have no qualified alternative sources for any of our single-sourced components.
While
we believe that we may be able to establish alternate supply relationships and can obtain or engineer replacements for our single-source
components, we may be unable to do so in the short term or at all at prices or costs that are favorable to us. In particular,
qualifying alternate suppliers or developing our own replacements for certain highly customized components may be time consuming
and costly.
Our
supply chain exposes us to potential delivery failures or component shortages. If we experience significant increased demand,
or need to replace our existing suppliers, there can be no assurance that additional supplies of component parts will be available
if or when required, on terms that are favorable to us, or at all, or that any supplier would allocate sufficient supplies to
us in order to meet our requirements or fill our orders in a timely manner. The loss of any single- or limited-source supplier
or the disruption in the supply of components from these suppliers could lead to delayed deliveries to our customers, which could
hurt our relationships with our customers, result in negative publicity and materially adversely affect our business, prospects,
operating results, and financial condition.
Commodity
market factors impact our costs and availability of materials.
Our
products contain a number of commodity materials from metals, including steel, special high temperature alloys, copper, nickel,
and molybdenum, to computer components. The availability of these commodities could impact our ability to acquire the materials
necessary to meet our production requirements. The cost of metals has historically fluctuated and we currently do not hedge against
our materials inflation risk. An increase in materials pricing could impact the costs to manufacture our products. If we are not
able to acquire commodity materials at prices and on terms satisfactory to us, or at all, our operating results may be materially
adversely affected.
We
may face risks from doing business internationally.
We
have licensed, sold or distributed, and expect to continue to license, sell, or distribute, products outside of the United States
and derive revenues from these sources. Our revenues and results of operations may be vulnerable to currency fluctuations, and
we do not currently hedge any foreign currency. As of the date of this prospectus, we have shipped one of our EC250 systems to
a customer in the Netherlands. We will report our revenues and results of operations in United States dollars, but, in future
reporting periods, a significant portion of our revenues may be earned outside of the United States. In such a case, we cannot
accurately predict the impact of future exchange rate fluctuations on our revenues and operating margins. Such fluctuations could
have a material adverse effect on our business, results of operations, and financial condition.
Additionally,
our business will be subject to other risks inherent in the international marketplace, many of which are beyond our control. These
risks include:
|
●
|
laws
and policies affecting trade, investment, and taxes, including laws and policies relating to the repatriation of funds and
withholding taxes, and changes in these laws;
|
|
|
|
|
●
|
changes
in local regulatory requirements, including restrictions on gas-to-heat and electricity conversions;
|
|
|
|
|
●
|
longer
accounts receivable payment cycles and difficulties in collecting accounts receivable;
|
|
|
|
|
●
|
increased
financial accounting and reporting burdens and complexities;
|
|
|
|
|
●
|
differing
degrees of protection for intellectual property;
|
|
|
|
|
●
|
instability
of foreign economies and governments; and
|
|
|
|
|
●
|
war
and acts of terrorism.
|
Any
of the foregoing could have a material adverse effect on our business, financial condition, and results of operations.
As
our products remain under development, they may not meet quality and cost expectations or may require costly improvements.
In
order to achieve our goal of improving the quality and lowering the total costs of ownership of our products, we may require engineering
changes. Such improvement initiatives may render existing inventories obsolete or excessive and there is no guarantee such changes
will meet our customers’ expectations. Any quality issues with our products or those of our turbine manufacturing partners
could have a material adverse effect on our rate of product adoption, results of operations, financial condition, and cash flow.
Moreover, as we develop new configurations for our gas-to-heat and electricity conversion systems and as our customers place existing
configurations in commercial use, our products may perform below expectations. Any performance below expectations could materially
and adversely affect our operating results, financial condition, and cash flow and affect the marketability of our products.
If
we are unable to adequately control the costs associated with operating our business, including our costs of sales and materials,
our business, prospects, operating results, and financial condition will suffer.
If
we are unable to achieve and/or maintain a sufficiently low level of costs for designing, marketing, selling and distributing
our gas transforming systems relative to their selling prices, our business, prospects, operating results, and financial condition
could be materially and adversely affected. We have made, and will be required to continue to make, significant investments for
the design and sales of our system and technologies. There can be no assurances that our costs of producing and delivering our
system and technologies will be less than the revenue we generate from sales, licenses and/or royalties or that we will achieve
our currently expected gross margins.
We
may be required to incur substantial marketing costs and expenses to promote our systems and technologies even though our marketing
costs and expenses to date have been relatively limited. If we are unable to keep our operating costs aligned with the level of
revenues we generate, our business, prospects, operating results, and financial condition will be harmed. Many of the factors
that impact our operating costs are beyond our control. For example, the costs of our components could increase due to shortages
if global demand for such components increases.
If
we do not respond effectively and on a timely basis to rapid technological change, our business could suffer.
Our
industry is characterized by rapidly changing technologies, industry standards, customer needs, and competition, as well as by
frequent new product and service introductions. We must respond to technological changes affecting both our customers and suppliers.
We may not be successful in developing and marketing, on a timely and cost-effective basis, new products that respond to technological
changes, evolving industry standards or changing customer requirements. Our success will depend, in part, on our ability to accomplish
all of the following in a timely and cost-effective manner:
|
●
|
effective
use and integration of new technologies;
|
|
|
|
|
●
|
continual
development of our technical expertise;
|
|
|
|
|
●
|
enhancement
of our engineering and system designs;
|
|
|
|
|
●
|
retention
of key engineering personnel, which have played a critical role in the development of our technology;
|
|
|
|
|
●
|
development
of products that meet changing customer needs;
|
|
|
|
|
●
|
marketing
of our products; and
|
|
|
|
|
●
|
influence
of and response to emerging industry standards and other changes.
|
In
particular, we plan to upgrade or adapt our gas-to-heat and conversion systems and technology in order to continue to provide
customers with the latest technology. However, our products may not compete effectively if we are not able to develop, source
and integrate the latest technology into our gas-to-heat and electricity conversion systems at a cost structure or on a timeframe
acceptable to our customers or potential customers. Other parties’ future research and discoveries may make our products
and solutions less attractive or even obsolete compared to other alternatives that may emerge. Any failure to keep up with advances
in gas-to-heat and electricity conversion systems and technology would result in a decline in our competitive position that would
materially and adversely affect our business, prospects, operating results, and financial condition.
Our
customers operate in a highly regulated business environment, and non-compliance with such regulations or changes in regulations
could impose significant costs on us or our customers.
Our
customers are subject to federal, state, local and foreign laws, regulations and policies governing, among other things, emissions
and occupational health and safety. Regulatory agencies may impose special requirements on our customers or on us for the implementation
and operation of our products, some of which may significantly affect or even eliminate some of our target markets. We can provide
no assurances that we or our customers will be able to obtain any approvals or permits that are or may become required in a timely
manner, or at all. We may incur material costs or liabilities in complying with government regulations, whether applicable to
our customers’ use of our products, due to additional development costs or indemnity costs, or to us directly. Potentially
significant expenditures could be required in order to comply with evolving environmental and health and safety laws, regulations
and requirements that may be adopted or imposed in the future. Non-compliance of our products or their performance with laws,
regulations and other requirements applicable to our customers or to us, could result in fines, disputes or other business disruptions,
which would have a material adverse effect on our operating results.
Deregulation,
restructuring or other fundamental changes affecting the energy industry may make our products less economically beneficial to
our customers, thereby affecting demand for our products.
We
cannot determine how any deregulation or restructuring of the electric utility industry may ultimately affect the market for our
products. Changes in regulatory standards or policies that currently support investment in more environmentally efficient power
production could reduce the level of investment in the research and development of alternative power sources, including gas-to-heat
and electricity conversion systems. Changes in the regulation or structure of the electric utility industry may result in rule
changes that create challenges for our marketing and sales efforts. For example, as part of electric utility deregulation, federal,
state, and local governmental authorities may impose transitional charges or exit fees, which would make it less economical for
some potential customers to switch to our products, thereby materially adversely affecting our revenue and other operating results.
Our
business depends substantially on the continuing efforts of certain personnel whose absence or loss could materially disrupt our
business.
Our
future success depends substantially on the continued services of our executive officers, especially our Chief Executive Officer,
Alain J. Castro, our Chief Financial Officer, Domonic Carney, and our engineering vice president, Douglas Hamrin. If one or more
of these persons were to become unable or unwilling to continue in their present positions, we may not be able to replace them
readily or timely, if at all. Therefore, our business may be severely disrupted, and we may incur additional expenses to recruit
and retain their replacements, if any acceptable persons may be found. In addition, if any of our executive or engineering officers
joins a competitor or forms a competing company, we may lose some of our customers or potential customers.
If
we are unable to attract, train, and retain engineering and sales personnel, our business may be materially and adversely affected.
Our
future success depends, to a significant extent, on our ability to attract, train, and retain engineering and sales personnel.
Recruiting and retaining capable personnel, particularly those with expertise in our industry, is vital to our success. There
is substantial competition for qualified technical and sales personnel with experience in our industry, and there can be no assurance
that we will be able to attract or retain them. If we are unable to attract and retain qualified employees, our business may be
materially and adversely affected.
We
may not be able to effectively manage our growth, expand our production capabilities or improve our operational, financial and
management information systems, which would impair our results of operations.
If
we are successful in executing our business plan, we will experience growth in our business that could place a significant strain
on our business operations, management and other resources. Our ability to manage our growth will require us to expand our production
capabilities, continue to improve our operational, financial and management information systems, and to motivate and effectively
manage our employees. We cannot provide assurance that our systems, procedures and controls or financial resources will be adequate,
or that our management will be able to manage this growth effectively.
We
have identified material weaknesses in our internal control over financial reporting and ineffective disclosure controls and procedures
that will require additional resources to mitigate.
The
Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, requires that we report annually on the effectiveness of our internal control
over financial reporting and that our principal executive officer and principal financial officer conclude as to the effectiveness
of our disclosure controls and procedures on a quarterly basis. Among other things, we must perform systems and processes evaluation
and testing. We must also conduct an assessment of our internal controls to allow management to report on our assessment of our
internal control over financial reporting, as required by Section 404 of Sarbanes-Oxley. We have identified material weaknesses
in our internal control over financial reporting as of December 31, 2015. As defined in Rule 12b-2 under the Securities Exchange
Act of 1934, as amended, or the Exchange Act, a “material weakness” is a deficiency, or combination of deficiencies,
in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our
annual or interim consolidated financial statements will not be prevented or detected on a timely basis. Specifically, we determined
that we had the following material weaknesses in our internal control over financial reporting: (i) we do not have written documentation
of our internal control policies and procedures; (ii) we do not have sufficient segregation of duties within accounting functions,
which is a basic internal control; (iii) for the year ended December 31, 2014, we did not have accounting and finance staff with
sufficient technical accounting training and experience capable to manage and process our derivative equity accounting including
stock options and warrants, and, in addition, we had 100% turnover during the year of accounting and finance management and staff,
which resulted in periods of time where there was insufficient review of internal and external reports and proof of key internal
controls; (iv) for the year ended December 31, 2014 and until May 2015, we did not have a majority of our directors considered
to be independent directors and until July 2015 our Audit Committee consisted of the chairman of the committee only; (v) for the
year ended December 31, 2015 we had inadequate controls over our costing and accounting for our capitalized inventory and project
costing including a lack of a perpetual inventory system and (vi) for the years ended December 31, 2015 and 2014, management concluded
that (a) our management information systems and information technology internal control design was deficient because the potential
for unauthorized access to certain information systems and software applications existed during 2014 and 2015 in several departments,
including corporate accounting, and (b) certain key controls for maintaining the overall integrity of systems and data processing
were not properly designed and operating effectively, which increased the likelihood of potential material errors in our financial
reporting.
As
of December 31, 2015, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures
were ineffective at the reasonable assurance level. This conclusion was due to the presence of material weaknesses in our internal
control over financial reporting, as described above.
Due
to our size, we rely heavily on key management for day-to-day operations and for key cash and spending internal controls. Further,
our size and correspondingly limited resources give rise to additional internal control weaknesses, including our information
technology controls and disclosure controls.
We
continue to review and develop controls and procedures that we believe to be sufficient to accurately report our financial performance
on a timely basis, as well as mitigate our existing material weaknesses and significant deficiencies in our internal controls.
As of the date hereof, however, while we have taken steps to remediate our material weaknesses, we have not remediated these material
weaknesses in full. If we do not develop and implement effective controls and procedures, we may not be able to report our
financial performance on a timely and materially accurate basis and our business and stock price may be adversely affected.
If
product liability claims are brought against us, we may incur substantial costs if our insurance coverage for such claims is inadequate.
We
may be exposed to product liability claims, other claims and litigation in the event that the use of our products results, or
is alleged to result, in bodily injury and/or property damage or our products actually or allegedly fail to perform as expected.
Although we maintain insurance coverage with respect to certain product liability and other claims, such claims are expensive
to defend and our insurance coverage may not be sufficient to cover all of our product liability-related expenses or losses, if
it applies at all. Moreover, insurance coverage is becoming increasingly expensive, and, in the future, we may not be able to
maintain insurance coverage at a reasonable cost, in sufficient amounts or upon adequate terms to protect us against losses due
to product liability. Any damages that are not covered by insurance or are in excess of policy limits could have a material adverse
effect on our financial condition, results of operations and cash flows. In addition, product liability and other claims can divert
the attention of management and other personnel for significant periods of time, regardless of the ultimate outcome. Further,
claims of this nature could cause our customers to lose confidence in our products and us. As a result, an unsuccessful defense
of a product liability or other claim could have a material adverse effect on our financial condition, results of operations and
cash flows.
We
may be vulnerable to disruption, damage and financial obligation as a result of information technology system failures.
Despite
the implementation of security measures, any of the internal computer systems belonging to us or our third-party service providers
are vulnerable to damage from computer viruses, unauthorized access, natural disasters, terrorism, war and telecommunication and
electrical failure. Any system failure, accident or security breach that causes interruptions in our own or in third-party service
vendors’ operations could result in a material disruption of our product development programs. Further, our information
technology and other internal infrastructure systems, including firewalls, servers, leased lines and connection to the Internet,
face the risk of systemic failure, which could disrupt our operations. To the extent that any disruption or security breach results
in a loss or damage to our data or applications, or inappropriate disclosure of confidential or proprietary information, we may
incur resulting liability, our product development programs and competitive position may be adversely affected and the further
development of our products may be delayed. Furthermore, we may incur additional costs to remedy the damage caused by these disruptions
or security breaches. We do not currently maintain insurance coverage that would potentially address such costs and are not certain
whether we can obtain such coverage at an acceptable cost, if at all. Even if we were to obtain such insurance coverage, there
can be no assurance that the policy obtained would cover some or all of the costs incurred by such disruptions or security breaches,
and thus we may still incur significant financial losses upon such an event.
Additionally,
certain confidential information, including nonpublic personal information and sensitive business data, including but not limited
to data pertaining to certain public utilities, may be processed and stored on, and transmitted through, our computer systems
and networks. In the event such information is jeopardized as a result of a disruption causing system failure, we may suffer significant
losses, reputational damage, litigation, regulatory fines or penalties, or otherwise experience a material adverse effect on our
business, financial condition or results of operations.
We
are an “emerging growth company” and the reduced reporting requirements applicable to emerging growth companies may
make our common stock less attractive to investors.
We
are an “emerging growth company,” as defined in the Jumpstart Our Business Startups Act of 2012, or the JOBS Act,
and we may take advantage of certain exemptions from various reporting requirements that are applicable to public companies that
are not emerging growth companies including, but not limited to, not being required to comply with the auditor attestation requirements
of Section 404 of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports
and proxy statements and exemptions from the requirements of holding a non-binding advisory vote on executive compensation and
stockholder approval of any golden parachute payments not previously approved. Investors may find our common stock less attractive
because we may rely on these exemptions, there may be a less active trading market for our common stock and our stock price may
be more volatile.
In
addition, Section 107 of the JOBS Act also provides that an emerging growth company can take advantage of the extended transition
period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. In other words,
an emerging growth company can delay the adoption of certain accounting standards until those standards would otherwise apply
to private companies. However, we are choosing to “opt out” of such extended transition period, and as a result, we
will comply with new or revised accounting standards on the relevant dates on which adoption of such standards is required for
non-emerging growth companies. Section 107 of the JOBS Act provides that our decision to opt out of the extended transition period
for complying with new or revised accounting standards is irrevocable.
As
an emerging growth company, we have also chosen to take advantage of certain provisions of the JOBS Act that allow us to provide
you with less information in this prospectus than would otherwise be required if we are not an emerging growth company. As a result,
this prospectus includes less information about us than would otherwise be required if we were not an emerging growth company
within the meaning of the JOBS Act, which may make it more difficult for you to evaluate an investment in us.
We
would cease to be an emerging growth company upon the earliest of: (a) the last day of the first fiscal year in which our
annual gross revenues exceed $1.0 billion, (b) the date that we become a “large accelerated filer” as defined
in Rule 12b-2 under the Exchange Act, which would occur if the market value of our shares that are held by non-affiliates
exceeds $700 million as of the last business day of our most recently completed second fiscal quarter, (c) the date
on which we have issued, during the previous three-year period, more than $1.0 billion in nonconvertible debt, or (d) the
last day of our fiscal year containing the fifth anniversary of the date of our first sale of our common equity securities pursuant
to an effective registration statement in the United States, which will occur on December 31, 2017.
Risks
Related to Our Intellectual Property
We
may not be able to obtain, maintain, defend or enforce the intellectual property rights covering our products, which could adversely
affect our ability to compete.
We
utilize a variety of intellectual property rights in our products and technology. We use our portfolio of process and design technologies
as part of our effort to differentiate our product offerings. Our commercial success depends, in large part, on our ability to
obtain, maintain, defend or enforce our patents, trademarks, trade secrets and other intellectual property rights covering our
technologies and products. We may not have sufficient resources or may otherwise be unable to preserve these intellectual property
rights successfully in the future and such rights could be invalidated, circumvented, challenged, breached or infringed upon.
If we are unable to protect and maintain our intellectual property rights, or if there are any successful intellectual property
challenges or infringement proceedings against us, our ability to differentiate our product offerings would be substantially impaired.
In addition, if our intellectual property rights or work processes become obsolete, we may not be able to differentiate our product
offerings and some of our competitors may be able to offer more attractive products to our customers, which could materially adversely
affect our competitive business position and harm our business prospects.
We
may be unable to enforce our intellectual property rights throughout the world.
The
laws of some foreign countries do not protect intellectual property rights to the same extent as the laws of the United States.
Companies have encountered significant problems in protecting and defending intellectual property rights in certain foreign jurisdictions.
To the extent that we have obtained or are able to obtain patents or other intellectual property rights in any foreign jurisdictions,
it may be difficult to stop the infringement of our patents or the misappropriation of other intellectual property rights. For
example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties.
In addition, some countries limit the availability of certain types of patent rights and enforceability of patents against third
parties, including government agencies or government contractors. In these countries, patents may provide only limited benefit
or no benefit.
Proceedings
to enforce our patent rights in foreign jurisdictions could result in substantial costs and divert our efforts and attention from
other aspects of our business. Accordingly, efforts to protect our intellectual property rights in such countries may be inadequate.
In addition, future changes in the law and legal decisions by courts in the United States and foreign countries may affect our
ability to obtain adequate protection for our technology and products and the enforcement of intellectual property.
Developments
or assertions by us or against us relating to intellectual property rights could materially impact our business.
We
currently own or license significant intellectual property, including patents, and intend to be involved in future licensing arrangements.
Patent laws afford only limited practical protection of our intellectual property rights.
Litigation
may be necessary in the future to enforce our intellectual property rights or to determine the validity and scope of the proprietary
rights of others or to defend against claims of invalidity. As we create or adopt new technology, we will also face an inherent
risk of exposure to the claims of others that we have allegedly violated their intellectual property rights.
We
might experience intellectual property claim losses in the future and we might also incur significant costs to defend such claims.
Infringement or invalidity claims could materially adversely affect our business, results of operations and financial condition.
Regardless of the validity or the success of the assertion of these claims, we could incur significant costs and diversion of
resources in enforcing our intellectual property rights or in defending against such claims, which could have a material adverse
effect on our business, results of operations and financial condition.
Confidentiality
agreements with employees and others may not adequately prevent disclosure of our trade secrets and other proprietary information.
Our
success depends upon the skills, knowledge, and experience of our technical personnel, our consultants and our advisors, as well
as our licensees and contractors, and, as such, trade secrets are an important element of our overall intellectual property portfolio.
However, trade secrets are difficult to protect. We enter, and currently expect that we will continue to enter, into confidentiality
and intellectual property assignment agreements with our corporate partners, employees, consultants, outside scientific collaborators,
developers, licensees and other advisors that may be breached or may not effectively assign intellectual property rights to us.
Our trade secrets also could be independently discovered by our competitors, in which case we would not be able to prevent use
of such trade secrets by these competitors. The enforcement of a claim alleging that a party illegally obtained and used our trade
secrets could be difficult, expensive and time consuming, and we cannot predict the outcome. In addition, courts outside the United
States may be less willing to protect trade secrets than will courts within the United States. The failure to obtain or maintain
meaningful trade secret protection could adversely affect our competitive position.
Many
of our competitors have significant resources and incentives to apply for and obtain intellectual property rights that could limit
or prevent our ability to commercialize our current or future products in the United States or abroad.
Many
of our existing and potential competitors, who have or may have significant resources and have made or may make substantial investments
in competing technologies, have sought or may seek to apply for and obtain patents that prevent, limit or interfere or will prevent,
limit or interfere with our ability to make, use or sell our products either in the United States or in international markets.
Our current or future U. S. or foreign patents may be challenged or circumvented by competitors or others or may be found to be
invalid, unenforceable or insufficient. Since patent applications are confidential until patents are issued in the United States
or, in most cases, until after 18 months from filing of the application, or corresponding applications are published in other
countries, and since publication of discoveries in the scientific or patent literature often lags behind actual discoveries, we
cannot be certain that we were the first to file patent applications for inventions or that we would have priority rights with
respect to inventions covered by our pending applications.
Risks
Related to Our Securities
If
an orderly and active trading market for our securities does not develop or is not sustained, the value and liquidity of your
investment in our securities could be adversely affected.
An
active or liquid market in our common stock or securities exercisable or convertible for our common stock does not currently exist
and might not develop or, if it does develop, it might not be sustainable. The last reported sale price of our common stock on
the OTCQB Marketplace on February 7, 2017 was $2.01 per share. The historic bid and ask quotations for our common stock, however,
should not be viewed as an indicator of the current or historical market price for our common stock nor as an indicator of the
market price for our common stock if our common stock were to be listed on a national securities exchange. The offering price
for our securities as issued by the Company from time to time is determined through discussions between the Company and the prospective
investor(s), with reference to the most recent closing price of our common stock on the OTCQB Marketplace, and may vary from the
market price of our securities following any offering. Further, our trading volume on the OTCQB Marketplace has been generally
very limited.
If
an active public market for our common stock develops, we expect the market price may be volatile, which may depress the market
price of our securities and result in substantial losses to investors if they are unable to sell their securities at or above
their purchase price.
If
an active public market for our common stock develops, we expect the market price of our securities to fluctuate substantially
for the foreseeable future, primarily due to a number of factors, including:
|
●
|
our
status as a company with a limited operating history and limited revenues to date, which may make risk-averse investors more
inclined to sell their shares on the market more quickly and at greater discounts than would be the case with the shares of
a seasoned issuer in the event of negative news or lack of progress;
|
|
|
|
|
●
|
announcements
of technological innovations or new products by us or our existing or future competitors;
|
|
|
|
|
●
|
the
timing and development of our products;
|
|
|
|
|
●
|
general
and industry-specific economic conditions;
|
|
|
|
|
●
|
actual
or anticipated fluctuations in our operating results;
|
|
|
|
|
●
|
liquidity;
|
|
|
|
|
●
|
actions
by our stockholders;
|
|
|
|
|
●
|
changes
in our cash flow from operations or earnings estimates;
|
|
|
|
|
●
|
changes
in market valuations of similar companies;
|
|
|
|
|
●
|
our
capital commitments; and
|
|
|
|
|
●
|
the
loss of any of our key management personnel.
|
In
addition, market prices of the securities of technology companies, particularly companies like ours without consistent revenues
and earnings, have been highly volatile and may continue to be highly volatile in the future, some of which may be unrelated to
the operating performance of particular companies. Further, our common stock is currently quoted on the OTCQB Marketplace, which
is often characterized by low trading volume and by wide fluctuations in trading prices due to many factors that may have little
to do with our operations or business prospects. The availability of buyers and sellers represented by this volatility could lead
to a market price for our common stock that is unrelated to operating performance. Moreover, the OTCQB Marketplace is not a stock
exchange, and trading of securities quoted on the OTCQB Marketplace is often more sporadic than the trading of securities listed
on a national securities exchange like The NASDAQ Stock Market or the New York Stock Exchange. Even if we were to seek to list
our securities on a national securities exchange, there is no assurance we will be able to do so, and if we do so, many of these
same forces and limitations may still impact our trading volumes and market price in the near term. Additionally, the sale or
attempted sale of a large amount of common stock into the market may also have a significant impact on the trading price of our
common stock.
Many
of these factors are beyond our control and may decrease the market price of our common stock, regardless of our operating performance.
In the past, securities class action litigation has often been brought against companies that experience high volatility in the
market price of their securities. Whether or not meritorious, litigation brought against us could result in substantial costs,
divert management’s attention and resources and harm our financial condition and results of operations.
We
have a substantial number of options, warrants and convertible notes outstanding, which could give rise to additional issuances
of our common stock, potential dilution of ownership to existing stockholders and volatility in the price of our securities.
As
of February 7, 2017, we have outstanding options and warrants to purchase an aggregate of 5,691,578 shares of our common stock
at exercise prices ranging from $3.00 to $50.00 per share. Of these, 270,197 represent shares underlying employee options with
exercise prices ranging from $4.31 to $24.00 per share and 5,421,381 represent shares underlying warrants at exercise prices ranging
from $3.00 to $50.00 per share. As of February 7, 2017, we also have outstanding convertible notes with an aggregate principal
amount of approximately $10.4 million, which are convertible into shares of our common stock at a price of $2.50 per share, subject
to adjustment in accordance with the terms of such notes. To the extent any holders of options or warrants exercise such options
and warrants or in the event the convertible notes are converted into shares of common stock, the issuance of shares of our common
stock upon such exercise or conversion will result in dilution of ownership to existing stockholders.
Further,
the trading price of our securities could decline if there are substantial sales of our common stock, particularly sales by our
directors, executive officers, employees and significant stockholders, or when there is a large number of shares of our common
stock available for sale, as would occur in the event of an exercise of outstanding options and/or warrants or conversion of outstanding
convertible notes.
We
expect to seek additional funding and may issue new securities with terms or rights superior to those of our shares of common
stock, which could adversely affect the market price (if any) of our securities and our business.
Effective
upon our reincorporation in Delaware on September 3, 2015, our certificate of incorporation authorizes up to 200,000,000 shares
of common stock with a par value of $0.0001 per share, and 50,000,000 shares of preferred stock with a par value of $0.0001 per
share. Our board of directors may choose to issue some or all of such shares to fund our overhead and general operating requirements
or to acquire one or more companies or properties. The issuance of any such shares may reduce the book value per share and may
contribute to a reduction in the market price (if any) of the outstanding shares of our common stock or preferred stock. If we
issue any such additional shares, such issuance could reduce the proportionate ownership and voting power of all current stockholders.
Further, such issuance(s) may result in a change of control of our Company.
Our
leadership and principal stockholders own a large percentage of our voting stock, which will allow them to influence substantial
control over matters requiring stockholder approval.
Currently,
our executive officers, directors, Like Capital Limited, SAIL Exit Partners, LLC and its affiliates and Jeneration Capital Master
Fund and its affiliates beneficially own approximately 48% of our outstanding common stock, based on the beneficial ownership
at February 7, 2017. If these stockholders act together, they may be able to elect our board of directors, depending on stockholder
participation at our annual meetings, and may significantly influence most other matters requiring approval by stockholders, including
the approval of mergers, going private transactions, and other extraordinary transactions, as well as the terms of any of these
transactions. This concentration of ownership could have the effect of delaying a change in our control or otherwise discouraging
a potential acquirer from attempting to obtain control of us, which could in turn have an adverse effect on the market price of
our common stock or prevent our stockholders from realizing a premium over the then-prevailing market price for their shares of
common stock.
Certain
provisions in our charter documents have anti-takeover effects.
Certain
provisions of our certificate of incorporation and bylaws may have the effect of delaying, deferring or preventing a change in
control of us. Such provisions, including those limiting who may call special stockholders’ meetings, together with the
possible issuance of our preferred stock without stockholder approval, may make it more difficult for other persons, without the
approval of our board of directors, to make a tender offer or otherwise acquire substantial amounts of our common stock or to
launch other takeover attempts that a stockholder might consider to be in such stockholder’s best interest. See “Description
of Capital Stock” for additional information.
Our
operating results may fluctuate significantly, and these fluctuations may cause the price of our securities to fall.
Our
quarterly operating results may fluctuate significantly in the future due to a variety of factors that could affect our revenues
or our expenses in any particular quarter. You should not rely on quarter-to-quarter comparisons of our results of operations
as an indication of future performance. Factors that may affect our quarterly results include:
|
●
|
market
acceptance of our products and those of our competitors;
|
|
|
|
|
●
|
the
sales and fulfillment cycle associated with our products, which is typically lengthy and subject to a number of significant
risks over which we have little or no control, and the corresponding delay in our receipt of the associated revenue;
|
|
|
|
|
●
|
our
ability to complete the technical milestone tests associated with our commercial agreements;
|
|
|
|
|
●
|
our
ability to attract and retain key personnel;
|
|
|
|
|
●
|
development
of new designs and technologies; and
|
|
|
|
|
●
|
our
ability to manage our anticipated growth and expansion.
|
Until
our common stock is listed on a qualified national securities exchange or our common stock price exceeds $5 per share, our common
stock will be considered a “penny stock” and will not qualify for exemption from the “penny stock” restrictions,
which may make it more difficult for you to sell your securities.
Historically,
shares of our common stock have traded on the OTCQB Marketplace at a price of less than $5.00 per share and, as a result, our
common stock is considered a “penny stock” by the SEC and subject to rules adopted by the SEC regulating broker-dealer
practices in connection with transactions in “penny stocks.” The SEC has adopted regulations which generally define
a “penny stock” to be any equity security that is not listed on a qualified national securities exchange and that
has a market price of less than $5.00 per share, or with an exercise price of less than $5.00 per share, subject to certain exceptions.
Our securities are covered by the penny stock rules, which impose additional sales practice requirements on broker-dealers who
sell to persons other than established customers and accredited investors. The penny stock rules require a broker-dealer, prior
to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized risk disclosure document in a
form prepared by the SEC which provides information about penny stocks and the nature and level of risks in the penny stock market.
The broker-dealer also must provide the customer with current bid and offer quotations for the penny stock, the compensation of
the broker-dealer and its salesperson in the transaction and monthly account statements showing the market value of each penny
stock held in the customer’s account. The bid and offer quotations, and the broker-dealer and salesperson compensation information,
must be given to the customer orally or in writing prior to effecting the transaction and must be given to the customer in writing
before or with the customer’s confirmation. In addition, the penny stock rules require that prior to a transaction in a
penny stock not otherwise exempt from these rules; the broker-dealer must make a special written determination that the penny
stock is a suitable investment for the purchaser and receive the purchaser’s written agreement to the transaction. These
disclosure requirements may have the effect of reducing the level of trading activity in the secondary market for the security
that is subject to these penny stock rules. Consequently, these penny stock rules may affect the ability of broker-dealers to
trade our securities. We believe that the penny stock rules discourage investor interest in and limit the marketability of our
securities.
FINRA
sales practice requirements may also limit a stockholder’s ability to buy and sell our securities.
In
addition to the “penny stock” rules described above, the Financial Industry Regulatory Authority, or FINRA, has adopted
rules that require that in recommending an investment to a customer, a broker-dealer must have reasonable grounds for believing
that the investment is suitable for that customer. Prior to recommending speculative low priced securities to their non-institutional
customers, broker-dealers must make reasonable efforts to obtain information about the customer’s financial status, tax
status, investment objectives and other information. Under interpretations of these rules, FINRA believes that there is a high
probability that speculative low priced securities will not be suitable for at least some customers. The FINRA requirements may
make it more difficult for broker-dealers to recommend that their customers buy our securities, which may limit your ability to
buy and sell our securities and have an adverse effect on the market for our securities.
We
are a former “shell company” and as such are subject to certain limitations not applicable to other public companies
generally.
Prior
to our reverse merger transaction in July 2013, we were a public reporting “shell company,” as defined in Rule 12b-2
under the Exchange Act. Although we are no longer a “shell company,” the Rule 144 safe harbor available for the resale
of our restricted securities is only available to our stockholders if we have filed all reports and other materials required to
be filed by Section 13 or 15(d) of the Exchange Act, as applicable, during the preceding 12 months, other than current reports
on Form 8-K, at the time of the proposed sale, regardless of whether the restricted securities were initially issued at the time
we were a shell company or subsequent to termination of such status. Other reporting companies that are not former shell companies
and have been reporting for more than 12 months are not subject to this same reporting threshold for non-affiliate reliance on
Rule 144.
As
a result of the restrictions applicable to former shell companies, we may be less successful in offering registered securities
to investors and investors may have less interest in obtaining restricted securities, which may materially and adversely affect
our ability to efficiently and timely raise additional financing, if we are able to do so at all.
Further,
as shell companies and reverse merger transactions have been, and remain to some degree, subject to additional scrutiny by the
SEC, FINRA and the national securities exchanges, our prior shell company status and the reverse merger transaction that terminated
it may result in delays in the completion of any offering and our attempt to qualify for and list on a national securities exchange.
Specifically, as a former shell company and subject of a reverse merger transaction, we are required to demonstrate the ability
to maintain a threshold per share market price for an extended trading period in order to qualify for listing on a national securities
exchange. If we are unable to do so, we will breach certain contractual obligations and may need to complete additional securities
issuances on terms and at pricing that would be materially adverse to our financial condition and dilutive to our stockholders.
The
indemnification rights provided to our directors, officers and employees may result in substantial expenditures by our company
and may discourage lawsuits against its directors, officers, and employees.
Our
certificate of incorporation and bylaws contain provisions permitting us to enter into indemnification agreements with our directors,
officers, and employees. We also have contractual obligations to provide such indemnification protection to the extent not covered
by directors’ and officers’ liability insurance. The foregoing indemnification obligations could result in us incurring
substantial expenditures to cover the cost of settlement or damage awards against directors and officers, which we may be unable
to recoup. These provisions and resultant costs may also discourage us from bringing a lawsuit against our directors and officers
for breaches of their fiduciary duties, and may similarly discourage the filing of derivative litigation by our stockholders against
our directors and officers even though such actions, if successful, might otherwise benefit us and our stockholders.
To
date, we have not paid any cash dividends and we do not anticipate paying any such dividends in the foreseeable future.
We
have never paid cash dividends on our capital stock. We do not currently anticipate paying cash dividends on our common stock
in the foreseeable future and we may not have sufficient funds legally available to pay dividends. Even if the funds are legally
available for distribution, we may nevertheless decide not to pay any dividends. We presently intend to retain all earnings for
our operations.
SPECIAL
NOTE REGARDING FORWARD-LOOKING STATEMENTS
This
prospectus contains “forward-looking statements” that involve substantial risks and uncertainties. The forward-looking
statements are contained principally in the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” and “Business.” In some cases, you
can identify forward-looking statements by the following words: “may,” “will,” “could,” “would,”
“should,” “expect,” “intend,” “plan,” “anticipate,” “believe,”
“estimate,” “predict,” “project,” “potential,” “continue,” “ongoing”
or the negative of these terms or other comparable terminology, although not all forward-looking statements contain these words.
These statements relate to future events or our future financial performance or condition and involve known and unknown risks,
uncertainties and other factors that could cause our actual results, levels of activity, performance or achievement to differ
materially from those expressed or implied by these forward-looking statements. These forward-looking statements include, but
are not limited to, statements about:
|
●
|
Our
estimates regarding operating results, future revenues, capital requirements and the need for additional financing.
|
|
|
|
|
●
|
Strategy
for customer growth, retention, product development, market position, financial results and reserves.
|
|
|
|
|
●
|
Customer
acceptance of and demand for our products.
|
|
|
|
|
●
|
Anticipated
levels of capital expenditures and uses of capital for fiscal year 2017.
|
|
|
|
|
●
|
Current
or future volatility in the credit markets and future market conditions.
|
|
|
|
|
●
|
Expectations
of the effect on our financial condition of claims, litigation, contingent liabilities, warranty-related costs and stock price
volatility.
|
|
|
|
|
●
|
Strategy
for risk management.
|
|
|
|
|
●
|
Our
ability to effectively manage growth and expansion.
|
|
|
|
|
●
|
Economic
and financial conditions, including volatility in interest and exchange rates, commodity and equity prices and the value of
financial assets.
|
|
|
|
|
●
|
The
occurrence of hostilities, political instability or catastrophic events.
|
|
|
|
|
●
|
Changes
in customer demand or market opportunity.
|
|
|
|
|
●
|
Changes
in the price of key components and disruptions in supply chains for these components.
|
|
|
|
|
●
|
Disruptions
to our technology network, including computer systems and software, as well as natural events such as severe weather, fires,
floods and earthquakes or man-made or other disruptions of our operating systems, structures or equipment.
|
|
|
|
|
●
|
Our
intellectual property position and the intellectual property positions of third parties.
|
|
|
|
|
●
|
The
impact of government laws, regulations and policies.
|
|
|
|
|
●
|
Our
ability to continue as a going concern.
|
|
|
|
|
●
|
Other
risk factors discussed under “Risk Factors.”
|
We
caution you that the forward-looking statements highlighted above do not encompass all of the forward-looking statements made
in this prospectus.
You
should read this prospectus and the documents that we reference elsewhere in this prospectus and have filed as exhibits to the
registration statement, of which this prospectus is a part, completely and with the understanding that our actual results may
differ materially from what we expect as expressed or implied by our forward-looking statements. In light of the significant risks
and uncertainties to which our forward-looking statements are subject, you should not place undue reliance on or regard these
statements as a representation or warranty by us or any other person that we will achieve our objectives and plans in any specified
timeframe, or at all. We discuss many of these risks and uncertainties in greater detail under the section entitled “Risk
Factors” and elsewhere in this prospectus. These forward-looking statements represent our estimates and assumptions only
as of the date of this prospectus regardless of the time of delivery of this prospectus or any sale of our securities. Except
as required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result
of new information, future events or otherwise after the date of this prospectus.
USE
OF PROCEEDS
We
are registering the shares of common stock covered by this prospectus pursuant to the registration rights granted to the selling
stockholders in connection with our December 2015 Private Placement. We will not receive any proceeds from the offer and sale
from time to time by the selling stockholders of the shares of our common stock covered by this prospectus. The selling stockholders
will receive all of the net proceeds from any such offer and sale.
Private
Placement of COMMON SHARES AND WARRANTS
Securities
Purchase Agreement
On
December 30, 2015, we entered into a securities purchase agreement dated December 30, 2015, or the December 2015 Purchase Agreement,
pursuant to which we issued to certain institutional and other accredited investors, or the December 2015 Investors, an aggregate
of 625,000 shares of our common stock at a price of $4.00 per share, and five-year warrants to purchase an aggregate of 312,500
shares of our common stock at an exercise price of $5.00 per share, or the December 2015 Warrants, in exchange for aggregate gross
proceeds of $2.5 million, which we refer to as the December 2015 Equity Financing.
The
December 2015 Purchase Agreement contains representations, warranties and covenants made by us and the December 2015 Investors
that are typical for transactions of this type. In addition, the December 2015 Purchase Agreement contains an anti-dilution adjustment
provision, pursuant to which, in the event that we sell or issue shares of our common stock at a price lower than the per share
purchase price of the shares issued under the December 2015 Purchase Agreement ($4.00 per share), we will be required to issue
to each December 2015 Investor, for no additional consideration, an additional number of shares of common stock in an amount equal
to (1) the purchase price paid by such December 2015 Investor under the December 2015 Purchase Agreement divided by the price
per share of common stock for the dilutive issuance, minus (2) the total number of shares of common stock purchased by such December
2015 Investor. This anti-dilution provision does not apply with respect to certain exempt issuances and will terminate on the
earlier of: (i) thirty (30) days from the date of effectiveness of the registration statement required to be filed by us pursuant
to the December 2015 Registration Rights Agreement (as defined below), of which this prospectus is a part, and (ii) six months
after December 31, 2015. The December 2015 Purchase Agreement prohibits December 2015 Investors from engaging in (or causing any
person to engage in) any short sales or similar transactions with respect to the common stock from the date of the December 2015
Purchase Agreement ending on the 45th day following December 30, 2015. On June 30, 2016, the anti-dilution adjustment provision
terminated.
Each
December 2015 Warrant is exercisable immediately for cash. In addition, unless all of the shares of common stock underlying the
December 2015 Warrants that are subject to an exercise notice with respect to any December 2015 Warrant are registered for resale
pursuant to an effective registration statement and are issuable without any restrictive legend, such December 2015 Warrant may
also be exercised by way of a cashless exercise. The December 2015 Warrants also contain provisions that protect their holders
against dilution by adjustment of the exercise price in certain events such as stock dividends, stock splits and other similar
events. Additionally, if, prior to the earlier of (i) thirty (30) days from the date of effectiveness of the registration statements
required to be filed by us pursuant to the December 2015 Registration Rights Agreement, of which this prospectus is a part, and
(ii) six months after the issuance date of the December 2015 Warrants, we issue or sell any warrants to purchase shares of common
stock with an exercise price per whole share that is less than the exercise price per December 2015 Warrant share in effect at
such time, the exercise price per December 2015 Warrant share will be adjusted, with no additional action required by the holder,
to equal the exercise price per whole share of common stock as set forth in the warrants issued in such dilutive issuance, except
in the case of certain exempt issuances.
The
shares of common stock sold in the December 2015 Equity Financing and the December 2015 Warrants were not registered under the
Securities Act, or the securities laws of any state, and were offered and sold in reliance on the exemption from registration
under the Securities Act provided by Section 4(a)(2) of the Securities Act and/or Rule 506 of Regulation D promulgated thereunder.
The December 2015 Warrant shares issuable to the December 2015 Investors upon exercise of the Warrants were not registered under
the Securities Act, or the securities laws of any state, and were offered in reliance on the exemption from registration under
the Securities Act provided by Section 4(a)(2) of the Securities Act and/or Rule 506 of Regulation D promulgated thereunder. Each
December 2015 Investor was an accredited investor (as defined in Rule 501 of Regulation D under the Securities Act) at the time
of the December 2015 Equity Financing.
Registration
Rights Agreement
In
connection with the Private Placement, we also entered into a registration rights agreement with the December 2015 Investors,
or the December 2015 Registration Rights Agreement, pursuant to which we are required to file one or more registration statements
with the SEC to register for resale by the December 2015 Investors the shares of our common stock sold in the December 2015 Equity
Financing and the shares of our common stock issuable upon exercise of the December 2015 Warrants, and use our commercially reasonable
efforts to maintain the effectiveness of such registration statement(s).
Pursuant
to the terms of the December 2015 Registration Rights Agreement, we are registering 937,500 shares of our common stock under the
Securities Act, which includes the 625,000 shares of common stock sold in the December 2015 Equity Financing and 312,500 shares
of common stock issuable upon exercise of the December 2015 Warrants. All 937,500 shares of common stock are being offered for
resale pursuant to this prospectus.
SELLING
STOCKHOLDERS
The
shares of common stock being offered by the selling stockholders are those previously issued to the selling stockholders and those
issuable to the selling stockholders upon exercise of warrants. For additional information regarding the issuances of common stock
and the warrants, see “Private Placement of Common Shares and Warrants” above. We are registering the shares of common
stock in order to permit the selling stockholders to offer the shares for resale from time to time. Except for the ownership of
the shares of common stock and the warrants, and in some cases as holders of our outstanding notes, the selling stockholders have
not had any material relationship with us within the past three years.
The
table below lists the selling stockholders and other information regarding the beneficial ownership of the shares of common stock
by each of the selling stockholders. The second column lists the number of shares of common stock beneficially owned by each selling
stockholder, based on its ownership of the shares of common stock and the warrants, as of May 24, 2016, assuming exercise of the
warrants held by the selling stockholders on that date, without regard to any limitation on exercise.
The
third column lists the shares of common stock being offered by this prospectus by the selling stockholders, which includes the
shares of common stock purchased by each selling stockholder in the December 2015 Equity Financing, as well as the shares of common
stock issuable upon exercise of the December 2015 Warrants held by such selling stockholder. The fourth column lists the percentage
of shares of common stock beneficially owned by such selling stockholder after the completion of the offering, based on its ownership
as of May 24, 2016, based on 3,844,660 shares of common stock outstanding as of February 7, 2017 and assuming the sale of all
of the shares offered by the selling stockholders pursuant to this prospectus.
In
accordance with the terms of registration rights agreements with the holders of the shares of common stock and the warrants, this
prospectus generally covers the resale of that number of shares of common stock equal to the number of shares of common stock
issued and the shares of common stock issuable upon exercise of the related warrants, determined as if the outstanding warrants
were exercised, as applicable, in full, in each case as of the trading day immediately preceding the date this registration statement
was initially filed with the SEC. The fourth column assumes the sale of all of the shares offered by the selling stockholders
pursuant to this prospectus.
The
selling stockholders may have sold or transferred some or all of their shares of common stock, or acquired additional shares of
our common stock or securities convertible into or exercisable for shares of our common stock, since the date on which the information
in the table below is presented. Information about the selling stockholders may change over time.
Name of Selling Stockholder
|
|
Number of Shares Beneficially
Owned Prior to Offering(1)
|
|
|
Maximum Number of Shares
to be Sold Pursuant to this Prospectus(2)
|
|
|
Number of Shares Beneficially
Owned After Offering(3)
|
|
|
Percentage of Shares Beneficially
Owned After Offering(3)
|
|
Anson Investments Master Fund LP
|
|
|
175,729
|
(4)
|
|
|
93,750
|
|
|
|
81,979
|
|
|
|
2.09
|
%
|
Thomas S. Bridges Revocable Trust
|
|
|
42,000
|
(5)
|
|
|
30,000
|
|
|
|
12,000
|
|
|
|
*
|
|
Williams Family Limited Partnership
|
|
|
37,500
|
(6)
|
|
|
37,500
|
|
|
|
0
|
|
|
|
*
|
|
Donald R. Kendall, Jr.
|
|
|
18,750
|
(7)
|
|
|
18,750
|
|
|
|
0
|
|
|
|
*
|
|
The Gans Family Trust
|
|
|
14,167
|
(8)
|
|
|
7,500
|
|
|
|
6,667
|
|
|
|
*
|
|
Intracoastal Capital LLC
|
|
|
203,896
|
(9)
|
|
|
187,500
|
|
|
|
16,396
|
|
|
|
*
|
|
Empery Asset Master, Ltd.
|
|
|
166,151
|
(10)
|
|
|
27,909
|
|
|
|
138,242
|
|
|
|
3.54
|
%
|
Empery Tax Efficient, LP
|
|
|
100,125
|
(11)
|
|
|
14,406
|
|
|
|
85,719
|
|
|
|
2.20
|
%
|
Empery Tax Efficient II, LP
|
|
|
134,691
|
(12)
|
|
|
51,435
|
|
|
|
83,256
|
|
|
|
2.12
|
%
|
Jeneration Capital Master Fund
|
|
|
375,000
|
(13)
|
|
|
375,000
|
|
|
|
0
|
|
|
|
*
|
|
Hudson Bay Master Fund Ltd.
|
|
|
200,322
|
(14)
|
|
|
93,750
|
|
|
|
106,572
|
|
|
|
2.70
|
%
|
*
Less than 1%
(1)
|
The
number of shares of common stock owned are those “beneficially owned” as determined under the rules of the SEC,
including any shares of common stock as to which the selling stockholder has sole or shared voting or investment power and
any shares of common stock that the selling stockholder has the right to acquire within 60 days of May 24, 2016 through the
exercise of any option, warrant, or right.
|
|
|
(2)
|
Includes
both the shares of common stock purchased by each selling stockholder in the December 2015 Equity Financing and the shares
of common stock issuable upon exercise of the December 2015 Warrants held by such selling stockholder.
|
|
|
(3)
|
Assumes
the sale of all of the shares offered by the selling stockholders pursuant to this prospectus.
|
|
|
(4)
|
Includes
62,500 shares of common stock, 31,250 shares of common stock underlying the December 2015 Warrants and 81,979 shares of common
stock underlying additional warrants held by Anson Investments Master Fund Ltd, or Anson. M5V Advisors Inc, or M5V, and Frigate
Ventures LP, or Frigate, the Co-Investment Advisers of Anson, hold voting and dispositive power over the shares of common
stock held by Anson. Bruce Winson is the managing member of Admiralty Advisors LLC, which is the general partner of Frigate.
Moez Kassam and Adam Spears are directors of M5V. Mr. Winson, Mr. Kassam and Mr. Spears each disclaim beneficial ownership
of these shares of common stock except to the extent of their pecuniary interest therein. The principal business address of
Anson is 190 Elgin Ave; George Town, Grand Cayman.
|
|
|
(5)
|
Includes
20,000 shares of common stock and 10,000 shares of common stock underlying the December 2015 Warrants. Thomas Bridges may
be deemed to have sole voting and investment power over these securities.
|
|
|
(6)
|
Includes
25,000 shares of common stock and 12,500 shares of common stock underlying the December 2015 Warrants. Douglas Williams may
be deemed to have sole voting and investment power over these securities.
|
|
|
(7)
|
Includes
12,500 shares of common stock and 6,250 shares of common stock underlying the December 2015 Warrants.
|
|
|
(8)
|
Includes
5,000 shares of common stock and 2,500 shares of common stock underlying the December 2015 Warrants. Robert Gans and Melissa
Gans may be deemed to have shared voting and investment power over these securities.
|
|
|
(9)
|
Includes
125,000 shares of common stock, 62,500 shares of common stock underlying the December 2015 Warrants and 16,396 shares of common
stock underlying additional warrants held by Intracoastal Capital, LLC, or Intracoastal. Mitchell P. Kopin and Daniel B. Asher,
each of whom is a manager of Intracoastal, have shared voting control and investment discretion over the securities reported
herein that are held by Intracoastal. As a result, each of Mr. Kopin and Mr. Asher may be deemed to have beneficial ownership
(as determined under Section 13(d) of the Exchange Act) of the securities reported herein that are held by Intracoastal. Mr.
Asher is also a control person of a broker-dealer. As a result of such common control, Intracoastal may be deemed to be an
affiliate of a broker-dealer. Intracoastal acquired the shares of common stock being registered hereunder in the ordinary
course of business, and at the time of the acquisition of the shares of common stock and warrants described herein, Intracoastal
did not have any arrangements or understandings with any person to distribute such securities.
|
(10)
|
Includes
93,188 shares of common stock, 9,303 shares of common stock underlying the December 2015 Warrants and 63,660 shares of common
stock underlying additional warrants held by Empery Asset Master, Ltd. Empery Asset Management LP, the authorized agent of
Empery Asset Master Ltd., or EAM, has discretionary authority to vote and dispose of the shares held by EAM and may be deemed
to be the beneficial owner of these shares. Martin Hoe and Ryan Lane, in their capacity as investment managers of Empery Asset
Management LP, may also be deemed to have investment discretion and voting power over the shares held by EAM. EAM, Mr. Hoe
and Mr. Lane each disclaim any beneficial ownership of these shares.
|
|
|
(11)
|
Includes
37,293 shares of common stock, 4,802 shares of common stock underlying the December 2015 Warrants and 58,030 shares of common
stock underlying additional warrants held by Empery Tax Efficient, LP. Empery Asset Management LP, the authorized agent of
Empery Tax Efficient, LP, or ETE, has discretionary authority to vote and dispose of the shares held by ETE and may be deemed
to be the beneficial owner of these shares. Martin Hoe and Ryan Lane, in their capacity as investment managers of Empery Asset
Management LP, may also be deemed to have investment discretion and voting power over the shares held by ETE. ETE, Mr. Hoe
and Mr. Lane each disclaim any beneficial ownership of these shares.
|
|
|
(12)
|
Includes
34,290 shares of common stock, 17,145 shares of common stock underlying the December 2015 Warrants and 83,256 shares of common
stock underlying additional warrants held by Empery Tax Efficient II, LP. Empery Asset Management LP, the authorized agent
of Empery Tax Efficient II, LP, or ETE II, has discretionary authority to vote and dispose of the shares held by ETE II and
may be deemed to be the beneficial owner of these shares. Martin Hoe and Ryan Lane, in their capacity as investment managers
of Empery Asset Management LP, may also be deemed to have investment discretion and voting power over the shares held by ETE
II. ETE II, Mr. Hoe and Mr. Lane each disclaim any beneficial ownership of these shares.
|
|
|
(13)
|
Includes
250,000 shares of common stock and 125,000 shares of common stock underlying the December 2015 Warrants.
|
|
|
(14)
|
Includes
62,500 shares of common stock, 31,250 shares of common stock underlying the December 2015 Warrants and 106,572 shares of common
stock underlying additional warrants held by Hudson Bay Master Fund Ltd. Hudson Bay Capital Management LP, the investment
manager of Hudson Bay Master Fund Ltd., has voting and investment power over these securities. Sander Gerber is the managing
member of Hudson Bay Capital GP LLC, which is the general partner of Hudson Bay Capital Management LP. Each of Hudson Bay
Master Fund Ltd. and Sander Gerber disclaims beneficial ownership over these securities.
|
PLAN
OF DISTRIBUTION
We
are registering the shares of common stock previously issued and the shares of common stock issuable upon exercise of the warrants
to permit the resale of these shares of common stock by the holders of the common stock and warrants from time to time after the
date of this prospectus. We will not receive any of the proceeds from the sale by the selling stockholders of the shares of common
stock. We will bear all fees and expenses incident to our obligation to register the shares of common stock.
The
selling stockholders may sell all or a portion of the shares of common stock beneficially owned by them and offered hereby from
time to time directly or through one or more underwriters, broker-dealers or agents. If the shares of common stock are sold through
underwriters or broker-dealers, the selling stockholders will be responsible for underwriting discounts or commissions or agent’s
commissions. The shares of common stock may be sold in one or more transactions at fixed prices, at prevailing market prices at
the time of the sale, at varying prices determined at the time of sale, or at negotiated prices. These sales may be effected in
transactions, which may involve crosses or block transactions,
|
●
|
on
any national securities exchange or quotation service on which the securities may be listed or quoted at the time of sale;
|
|
|
|
|
●
|
in
the over-the-counter market;
|
|
|
|
|
●
|
in
transactions otherwise than on these exchanges or systems or in the over-the-counter market;
|
|
|
|
|
●
|
through
the writing of options, whether such options are listed on an options exchange or otherwise;
|
|
|
|
|
●
|
ordinary
brokerage transactions and transactions in which the broker-dealer solicits purchasers;
|
|
|
|
|
●
|
block
trades in which the broker-dealer will attempt to sell the shares as agent but may position and resell a portion of the block
as principal to facilitate the transaction;
|
|
|
|
|
●
|
purchases
by a broker-dealer as principal and resale by the broker-dealer for its account;
|
|
|
|
|
●
|
an
exchange distribution in accordance with the rules of the applicable exchange;
|
|
|
|
|
●
|
privately
negotiated transactions;
|
|
|
|
|
●
|
short
sales;
|
|
|
|
|
●
|
sales
pursuant to Rule 144;
|
|
|
|
|
●
|
broker-dealers
may agree with the selling securityholders to sell a specified number of such shares at a stipulated price per share;
|
|
|
|
|
●
|
a
combination of any such methods of sale; and
|
|
|
|
|
●
|
any
other method permitted pursuant to applicable law.
|
If
the selling stockholders effect such transactions by selling shares of common stock to or through underwriters, broker-dealers
or agents, such underwriters, broker-dealers or agents may receive commissions in the form of discounts, concessions or commissions
from the selling stockholders or commissions from purchasers of the shares of common stock for whom they may act as agent or to
whom they may sell as principal (which discounts, concessions or commissions as to particular underwriters, broker-dealers or
agents may be in excess of those customary in the types of transactions involved). In connection with sales of the shares of common
stock or otherwise, the selling stockholders may enter into hedging transactions with broker-dealers, which may in turn engage
in short sales of the shares of common stock in the course of hedging in positions they assume. The selling stockholders may also
sell shares of common stock short and deliver shares of common stock covered by this prospectus to close out short positions and
to return borrowed shares in connection with such short sales. The selling stockholders may also loan or pledge shares of common
stock to broker-dealers that in turn may sell such shares.
The
selling stockholders may pledge or grant a security interest in some or all of the convertible notes, warrants or shares of common
stock owned by them and, if they default in the performance of their secured obligations, the pledgees or secured parties may
offer and sell the shares of common stock from time to time pursuant to this prospectus or any amendment to this prospectus under
Rule 424(b)(3) or other applicable provision of the Securities Act of 1933, as amended, amending, if necessary, the list of selling
stockholders to include the pledgee, transferee or other successors in interest as selling stockholders under this prospectus.
The selling stockholders also may transfer and donate the shares of common stock in other circumstances in which case the transferees,
donees, pledgees or other successors in interest will be the selling beneficial owners for purposes of this prospectus.
The
selling stockholders and any broker-dealer participating in the distribution of the shares of common stock may be deemed to be
“underwriters” within the meaning of the Securities Act, and any commission paid, or any discounts or concessions
allowed to, any such broker-dealer may be deemed to be underwriting commissions or discounts under the Securities Act. At the
time a particular offering of the shares of common stock is made, a prospectus supplement, if required, will be distributed which
will set forth the aggregate amount of shares of common stock being offered and the terms of the offering, including the name
or names of any broker-dealers or agents, any discounts, commissions and other terms constituting compensation from the selling
stockholders and any discounts, commissions or concessions allowed or reallowed or paid to broker-dealers.
Under
the securities laws of some states, the shares of common stock may be sold in such states only through registered or licensed
brokers or dealers. In addition, in some states the shares of common stock may not be sold unless such shares have been registered
or qualified for sale in such state or an exemption from registration or qualification is available and is complied with.
There
can be no assurance that any selling stockholder will sell any or all of the shares of common stock registered pursuant to the
registration statement, of which this prospectus forms a part.
The
selling stockholders and any other person participating in such distribution will be subject to applicable provisions of the Securities
Exchange Act of 1934, as amended, and the rules and regulations thereunder, including, without limitation, Regulation M of the
Exchange Act, which may limit the timing of purchases and sales of any of the shares of common stock by the selling stockholders
and any other participating person. Regulation M may also restrict the ability of any person engaged in the distribution of the
shares of common stock to engage in market- making activities with respect to the shares of common stock. All of the foregoing
may affect the marketability of the shares of common stock and the ability of any person or entity to engage in market-making
activities with respect to the shares of common stock.
We
will pay all expenses of the registration of the shares of common stock pursuant to the registration rights agreement, estimated
to be $50,000 in total, including, without limitation, Securities and Exchange Commission filing fees and expenses of compliance
with state securities or “Blue Sky” laws; provided, however, that a selling stockholder will pay all underwriting
discounts and selling commissions, if any. We will indemnify the selling stockholders against liabilities, including some liabilities
under the Securities Act, in accordance with the registration rights agreements, or the selling stockholders will be entitled
to contribution. We may be indemnified by the selling stockholders against civil liabilities, including liabilities under the
Securities Act, that may arise from any written information furnished to us by the selling stockholder specifically for use in
this prospectus, in accordance with the related registration rights agreement, or we may be entitled to contribution.
Once
sold under the registration statement, of which this prospectus forms a part, the shares of common stock will be freely tradable
in the hands of persons other than our affiliates.
DIVIDEND
POLICY
We
have never declared or paid cash dividends on our common stock. We currently intend to retain all available funds and any future
earnings for use in the operation of our business and do not anticipate paying any dividends on our common stock in the foreseeable
future. Any future determination to declare dividends will be made at the discretion of our board of directors and will depend
on our financial condition, operating results, capital requirements, general business conditions and other factors that our board
of directors may deem relevant. Additionally, our ability to pay dividends on our common stock is limited by restrictions under
the terms of our existing debt covenants.
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF
FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The
following discussion and analysis of our results of operations and financial condition should be read in conjunction with our
financial statements and the notes to those financial statements that are included elsewhere in this prospectus. This discussion
contains forward-looking statements, such as our plans, objectives, expectations and intentions, that are based upon current expectations
that involve risks and uncertainties. Actual results and the timing of events could differ materially from those anticipated in
these forward-looking statements as a result of a number of factors, including those set forth under the “Prospectus Summary,”
“Risk Factors” and “Business” sections and elsewhere in this prospectus.
Overview
Our
proprietary and patented Power Oxidation technology is designed to create greater industrial efficiencies by converting low-quality
waste gases generated from industrial processes into usable on-site energy, therefore decreasing both operating costs and significantly
reducing environmentally harmful gaseous emissions. We design, develop, license, manufacture and market our Power Oxidizers, which,
when bundled with an electricity generating turbine in the 250 kilowatt, or kW, and 2 megawatt, or MW, sizes, are called Powerstations.
We currently partner and are pursuing partnerships with large established manufacturers to integrate our Power Oxidizer with their
gas turbines, with the goal to open substantial new opportunities for our partners to market these modified gas turbines to industries
for which traditional power generation technologies were not technically feasible previously. We currently manufacture our Powerstations
in the 250 kW size and manufacture just the Power Oxidizer for the 2MW size. Beginning later in 2016, contingent upon the successful
completion of certain field testing, our 2MW partner, Dresser-Rand a.s., a subsidiary of Dresser-Rand Group Inc., a Siemens company,
or Dresser-Rand, will manufacture the 2MW Power Oxidizers under a manufacturing license and will pay us a non-refundable license
fee for each unit manufactured.
Historically,
basic industries such as Petroleum, Plastics, Steel and Paper have consumed electricity in their manufacturing processes and created
heat for their manufacturing processes through the burning of fossil fuels in a combustion chamber. Nearly all such combustion
chambers use high quality premium fuels and burn those fuels at high temperatures, while low-quality waste gases were typically
destroyed or vented into the atmosphere. Worldwide, these industrial processes collectively contribute approximately 32% of total
global greenhouse gas emissions. Our technology utilizes these waste gases by modifying turbines with our gradual oxidation vessel.
Inside this vessel, pressure and temperature are applied over time to destroy contaminants and return a substantially low emission
source of energy in the form of heat. This heat then powers a turbine, spinning a generator and creating electricity. This technology
can potentially unlock a new, global source of clean power generation (electricity, steam and/or heat energy) while reducing harmful
emissions. Our goal is to enable industrial process facilities to generate clean energy from their existing waste gases, thereby
reducing the amount of energy they purchase from their regional utilities, and simultaneously reducing the cost of compliance
with local, state, and federal air quality regulations by avoiding the chemicals, catalysts and complex permitting required by
existing pollution abatement systems.
Our
Products and Value Proposition
We
have developed a 250 kW Power Oxidizer that we integrate with a 250 kW gas turbine to produce 250 kW “Powerstations,”
respectively. We have two Powerstations currently in operation at a landfill site in the Netherlands and at the Irvine campus
of the University of California, Irvine, or UCI, and one additional Powerstation currently in the production phase expected to
be installed at a landfill in southern California. We have built a Power Oxidizer of a significantly larger size, capable of generating
sufficient heat and airflow to power a KG2 turbine produced by Dresser-Rand. Together, the Power Oxidizer and KG2 turbine comprise
a 2MW Powerstation. The initial unit was constructed in the first quarter of 2016, and is currently being used in field tests
that were substantially completed in 2016, at a third party location in Southern California. We have sold two 2MW Power Oxidizers
to Dresser-Rand, each of which were delivered to the customer site in October 2016 and were combined with KG2 turbines and installed
at Pacific Ethanol’s facility in Northern California in 2016. We believe this scaled-up version of our Power Oxidizer, combined
with the KG2 turbine, will result in a Powerstation product that is better aligned with the scale of emissions (and energy requirements)
observed at the industrial facilities that we believe stand to benefit most from this technology. As with the 250 kW Powerstation,
the larger Powerstations are designed to provide an alternative to typical combustion-based power generation and enable industries
to utilize their own waste gases to generate power.
We
also expect to integrate our Power Oxidizer technology into additional sized gas turbines as well as other applications that can
use the heat generated by our Power Oxidizers to power other industrial applications. We believe other industrial grade waste
gas-to-heat opportunities, powered by an ultra-low pollution Power Oxidizer, include: (i) the generation of steam from coupling
a Power Oxidizer with a traditional steam boiler, (ii) use in industrial grade dryers for kilns or industrial drying customer
requirements, and (iii) use in industrial chiller units for customers requiring cold air or water in their processes.
We
believe our Power Oxidizers provide a significantly lower fuel cost per kilowatt hour since they can operate using both premium,
refined natural gas as well as a wide variety of lower quality, low hydrocarbon gases, traditionally considered to be “waste”
gases, as well as certain volatile organic compounds, or VOCs, such as paint solvents. These gases and compounds are typically
seen as a waste by-product of industrial processes and which often represent a source of pollution which in turn often requires
expensive waste abatement equipment and significant recurring operating costs. Our Power Oxidizers can utilize many of these waste
gases and VOC compounds as fuels for our Powerstations, which we intend to serve as a fuel cost reduction for our industrial customers.
We
also believe our Power Oxidizers provide a superior air pollution waste abatement solution for industrial customers. A typical
industrial customer historically requires electricity, steam and generates industrial gases as a by-product of their facility
operations. Prior to our Powerstation solution, these customers would purchase energy or produce energy with a traditional gas
turbine. Traditional gas turbines use a combustion chamber to ignite the natural gas and result in air pollution such as carbon
dioxide, carbon monoxide, and nitrogen oxides. The gas turbine and by-product gases generally require pollution control equipment
and recurring costs in order to comply with existing pollution standards, which vary by geography with different regulations.
Since both the natural gas fuel and the industrial by-product gases oxidize in our Power Oxidizers over a much longer time than
combustion heat sources, the Power Oxidizer eliminates both the gas fuels and by-products to levels below significantly all of
the existing and proposed air quality emission standards in most areas of the world.
Reverse
Merger
Prior
to the reverse merger discussed below, pursuant to a contribution agreement dated November 12, 2012 by and among FlexEnergy, Inc.,
FlexEnergy Energy Systems, Inc., and Ener-Core Power, Inc., Ener-Core Power, Inc. (formerly Flex Power Generation, Inc.) was spun-off
from FlexEnergy, Inc. as a separate corporation. As part of that transaction, Ener-Core Power, Inc. received all of the assets
(including intellectual property) and liabilities pertaining to the Power Oxidizer business, which was the business carved out
of FlexEnergy, Inc.
We
were originally incorporated on April 29, 2010 in Nevada under the name Inventtech, Inc. On April 16, 2013, we entered into a
merger agreement with Ener-Core Power, Inc. and a wholly-owned merger sub, pursuant to which the merger sub merged with and into
Ener-Core Power, Inc., with Ener-Core Power, Inc. as the surviving entity. Prior to the merger, we were a public reporting “shell
company,” as defined in Rule 12b-2 under the Exchange Act. On May 6, 2013, the pre-merger public shell company effected
a 30-for-1 forward split of its common stock. All share amounts have been retroactively restated to reflect the effect of that
stock split.
On
July 1, 2013, we completed the reverse merger with Ener-Core Power, Inc., which remains our operating subsidiary. The merger was
accounted for as a “reverse merger” and recapitalization. As part of the reverse merger, 120,520,000 shares of outstanding
common stock of the pre-merger public shell company were cancelled (unadjusted for our July 8, 2015 reverse stock split). This
cancellation has been retroactively accounted for as of the inception of Ener-Core Power, Inc. on November 12, 2012. Accordingly,
Ener-Core Power, Inc. was deemed to be the accounting acquirer in the transaction and, consequently, the transaction was treated
as a recapitalization of Ener-Core Power, Inc. Accordingly, the assets and liabilities and the historical operations that are
reflected in the consolidated financial statements are those of Ener-Core Power, Inc. and are recorded at the historical cost
basis of Ener-Core Power, Inc. Our assets, liabilities and results of operations were de minimis at the time of the reverse merger.
Reverse
Stock Split
Our
April 2015 and May 2015 senior notes (see discussion below under “Financing Activities”) had three covenants, one
of which was the requirement to enter into a reverse stock split in order to increase our share price above $5.00 per share in
anticipation of an underwritten public offering. Our board of directors approved a reverse stock split of our authorized, issued
and outstanding shares of common stock, as well as our authorized shares of preferred stock, par value $0.0001 per share, of which
no shares are issued and outstanding, at a ratio of 1-for-50, or our Reverse Stock Split. On July 8, 2015, the Reverse Stock Split
became effective and the total number of shares of common stock held by each stockholder converted automatically into the number
of shares of common stock equal to: (i) the number of issued and outstanding shares of common stock held by each such stockholder
immediately prior to the Reverse Stock Split divided by (ii) 50. We issued one whole share of the post-Reverse Stock Split common
stock to any stockholder who otherwise would have received a fractional share as a result of the Reverse Stock Split, determined
at the beneficial owner level by share certificate. As a result, no fractional shares were issued in connection with the Reverse
Stock Split and no cash or other consideration was paid in connection with any fractional shares that would otherwise have resulted
from the Reverse Stock Split.
Also
on the effective date, all of our options, warrants and other convertible securities outstanding immediately prior to the Reverse
Stock Split were adjusted by dividing the number of shares of common stock into which the options, warrants and other convertible
securities are exercisable or convertible by 50 and multiplying the exercise or conversion price thereof by 50, all in accordance
with the terms of the plans, agreements or arrangements governing such options, warrants and other convertible securities and
subject to rounding to the nearest whole share. Such proportional adjustments were also made to the number of shares and restricted
stock units issued and issuable under our equity compensation plans. The consolidated financial statements and notes to the consolidated
financial statements included elsewhere in this prospectus give retroactive effect to the Reverse Stock Split for all periods
presented.
Reincorporation
Effective
as of September 3, 2015, we changed our state of incorporation from the State of Nevada to the State of Delaware, or the Reincorporation,
pursuant to a plan of conversion dated September 2, 2015, following approval by our stockholders of the Reincorporation at our
2015 Annual Meeting of Stockholders held on August 28, 2015. In connection with the Reincorporation, we filed articles of conversion
with the State of Nevada and a certificate of conversion with the State of Delaware. Upon effectiveness of the Reincorporation,
the rights of our stockholders became governed by the Delaware General Corporation Law, the certificate of incorporation filed
in Delaware and newly adopted bylaws. As a Delaware corporation following the Reincorporation, which we refer to as Ener-Core
Delaware, we are deemed to be the same continuing entity as the Nevada corporation prior to the Reincorporation, which we refer
to as Ener-Core Nevada. As such, Ener-Core Delaware continues to possess all of the rights, privileges and powers of Ener-Core
Nevada, all of the properties of Ener-Core Nevada and all of the debts, liabilities and obligations of Ener-Core Nevada, including
all contractual obligations, and continues with the same name, business, assets, liabilities, headquarters, officers and directors
as immediately prior to the Reincorporation. Upon effectiveness of the Reincorporation, all of the issued and outstanding shares
of common stock of Ener-Core Nevada automatically converted into issued and outstanding shares of common stock of Ener-Core Delaware
without any action on the part of our stockholders.
Financing
Activities
Our
financing activities during 2015 consisted of the placement of $5 million of senior notes, or the 2015 Notes, and $3.3 million
of common stock equity investments. We also committed significant resources during the year to raise capital through an underwritten
public offering in the second half of 2015 in order to provide growth capital to finalize the KG2 integration and to facilitate
sales of our products. The 2015 Notes entered into in April and May 2015 also had three covenants including: (i) a reverse split
by July 22, 2015 (see above), (ii) an underwritten public offering by October 22, 2015 and (iii) a concurrent listing on a national
securities exchange by October 22, 2015. The public offering and listing deadlines were extended in the fourth quarter of 2015
and were modified as described in greater detail below in March 2016. Additional related activities were undertaken as precursors
to the underwritten public offering efforts including the April 2015 warrant exchange, the 1-for-50 reverse split in July 2015,
and the reincorporation in Delaware effective September 2015. The underwritten public offering began with the filing of a registration
statement in July 2015, continued with marketing the public offering in November 2015 and concluded with the withdrawal of the
registration statement in March 2016 due to poor market conditions for public offerings. In lieu of the public offering financing,
we concluded two PIPE transactions in December 2015 and April 2016. We incurred approximately $0.6 million in offering costs,
primarily legal and accounting expenses related to the filing of the registration statement and amendments, which had been capitalized
as prepaid expenses for the 2015 quarterly reporting periods. Accordingly, with the withdrawal of the registration statement in
April 2016, those previously capitalized expenses were considered impaired and were expensed in the fourth quarter of 2015.
In
September 2016, we concluded a further financing transaction pursuant to which we issued the Convertible Unsecured Notes (as defined
below) in exchange for gross proceeds of $1.25 million. Further, in December 2016, we amended and restated the 2015 Notes and
issued the December 2016 Notes (as defined below) in exchange for gross proceeds of approximately $3.4 million.
April
2015 Warrant Exchange
On
April 2, 2015, we entered into warrant exchange agreements, or the Exchange Agreements, with five accredited investors, or the
April 2014 Investors, that held warrants for the purchase of up to an aggregate of 81,941 shares of our common stock that were
issued on April 16, 2014, or the April 2014 Warrants, in connection with our April 2014 senior secured convertible notes and warrants
financing transaction, or the April 2014 Financing. Pursuant to the Exchange Agreements, the April 2014 Investors agreed to surrender
for cancellation all of their April 2014 Warrants in exchange for shares of our common stock, which in the aggregate totaled 73,747
shares of our common stock, or the Exchange Shares. Under the Exchange Agreements, we granted the April 2014 Investors a right
of first refusal to participate in any future sale of our equity or equity equivalent securities on a pro rata basis up to 50%
of the securities offered in such sale, from the closing of the exchange transaction until April 16, 2016, except for a registered
underwritten public offering. In the event that we engage in a registered underwritten public offering of our common stock and
the offering price per share in such registered offering is more than 85% of the closing sale price of our common stock on the
date of pricing of such offering, then the participation right will be 20% of the securities offered in such registered offering.
The April 2014 Investors waived their right to participate in our withdrawn public offering and the right of first refusal has
since lapsed.
April
2015 and May 2015 Convertible Senior Secured Promissory Notes and Warrants Financing
On
April 23, 2015, we sold senior secured promissory notes with an aggregate principal amount of $3.1 million, or the April 2015
Notes, and warrants for the purchase of up to 136,264 shares of our common stock, or the April 2015 Warrants. The investors in
the offering paid $1,000 for each $1,000 of principal amount of April 2015 Notes and April 2015 Warrants. In connection with the
offering, we agreed to effect a reverse stock split of our common stock initially yielding a post-split stock price of at least
$4.00 per share of common stock within three months following the closing of the offering, to secure the listing of our common
stock on a national securities exchange no later than six months following the closing of the offering, and to complete a firm
commitment underwritten public offering registered under the Securities Act with aggregate gross proceeds to us equaling or exceeding
$10,000,000 no later than six months following the closing of the offering.
On
May 7, 2015, we sold senior secured promissory notes with an aggregate principal amount of $1.9 million, or the May 2015 Notes,
and warrants for the purchase of up to 83,517 shares of our common stock, or the May 2015 Warrants. The investors in the offering
paid $1,000 for each $1,000 of principal amount of May 2015 Notes and May 2015 Warrants. In connection with the offering, we agreed
to covenants substantially identical to those described above relating to the April 2015 Notes financing.
Originally,
the April 2015 Notes provided for a maturity date of April 23, 2017, and the May 2015 Notes provided for a maturity date of May
7, 2017. The April 2015 Notes and the May 2015 Notes, which we collectively refer to as the 2015 Notes, each initially bore an
interest rate of 12.00% per annum (which would have increased to 18% in the event of default) payable monthly in cash. The 2015
Notes are secured by a guaranty by Ener-Core Power, Inc. as well as current and future assets of the Company and Ener-Core Power,
Inc. (excluding certain intellectual property assets described more fully below) pursuant to the pledge and security agreement
entered into in connection with the 2015 Notes financings, as amended to date. The 2015 Notes and the related securities purchase
agreements, or the 2015 SPAs, initially required our consummation of a firm commitment underwritten public offering registered
under the Securities Act with aggregate gross proceeds to us equal to or in excess of $10,000,000, or a Qualified Public Offering,
and a related listing of our common stock on a national securities exchange prior to October 22, 2015. Through a series of amendments
to the 2015 Notes and related 2015 SPAs from October 2015 through December 2016, these requirements have been adjusted, extended
or removed from the 2015 Notes. We and required holders also amended the 2015 Notes effective November 2, 2015 to include the
Support Agreement and all related obligations, as well as the Convertible Unsecured Notes and December 2016 Notes, under the definitions
of “Permitted Indebtedness” and “Permitted Liens.” Such amendments are binding upon all of the issued
2015 Notes and all parties to the 2015 SPAs pursuant to the terms thereof.
On
November 23, 2016, we and certain investors holding 2015 Notes executed amendment agreements to amend and restate the 2015 Notes
in order to (i) provide that the 2015 Notes will rank
pari passu
with the December 2016 Notes, (ii) adjust the terms of
such 2015 Notes, including without limitation the initial conversion price per share, to conform to the December 2016 Notes and
(iii) contemplate the issuance to the holders of the 2015 Notes of additional five-year warrants, or the December 2016 Additional
Warrants, for the purchase of up to an aggregate of 2,222,217 shares of our common stock. On December 2, 2016, we issued to the
holders of the 2015 Notes the December 2016 Additional Warrants. Upon the amendment and restatement thereof, the 2015 Notes provide
that they will mature on December 31, 2018 and do not bear any ordinary interest, as the principal amount of the 2015 Notes includes
an original issue discount of ten percent;
provided
that that 2015 Notes will bear interest at a rate of ten percent per
annum immediately upon the occurrence of, and will continue to accrue during the continuance of, an Event of Default (as defined
in the 2015 Notes).
As
amended and restated through December 2, 2016, the 2015 Notes and related 2015 SPAs contain the following provisions:
|
●
|
We
no longer must consummate a “Qualified Public Offering,” however remain obligated to commence trading of our common
stock on a national securities exchange by no later than December 31, 2017.
|
|
●
|
The
2015 Notes, as amended and restated on December 2, 2016:
|
|
●
|
rank
pari passu
with the December 2016 Notes and senior to the Convertible Unsecured Notes;
|
|
|
|
|
●
|
are
convertible any time at a price per share of $2.50 per share;
|
|
|
|
|
●
|
will
automatically convert into shares of common stock on the fifth trading day immediately following the date on which (i) the
Weighted Average Price (as defined in the 2015 Notes) of our common stock for each trading day during a twenty trading day
period equals or exceeds $5.00 (as adjusted for any stock dividend, stock split, stock combination, reclassification or similar
transaction) and no Equity Conditions Failure (as defined in the 2015 Notes) has occurred;
|
|
|
|
|
●
|
are
subject to a limitation on any conversion if, following such conversion, a holder would beneficially own more than 4.99% or
9.99%, with such threshold determined by the holder prior to issuance, of the shares of our common stock after giving effect
to such conversion; and
|
|
|
|
|
●
|
contain
a provision that prevents us from entering into or becoming party to a Fundamental Transaction (as defined in the 2015 Notes)
unless the successor entity assumes all of our obligations under the 2015 Notes and the related transaction documents pursuant
to written agreements in form and substance satisfactory to at least a certain number of holders of the 2015 Notes.
|
|
|
|
|
●
|
Upon
an Event of Default and delivery to the holder of the 2015 Note of notice thereof, such holder may require us to redeem all
or any portion of its 2015 Note at a price equal to 115% of the Conversion Amount (as defined in the 2015 Notes) being redeemed.
|
|
|
|
|
●
|
Upon
a Change of Control (as defined in the 2015 Notes) and delivery to the holder of the 2015 Note of notice thereof, such holder
may also require the Company to redeem all or any portion of its 2015 Note at a price equal to 115% of the Conversion Amount
being redeemed
|
|
●
|
At
any time from and after January 1, 2018 and provided that we have not received either (i) initial deposits for at least eight
2 MW Power Oxidizer units or (ii) firm purchase orders totaling not less than $3,500,000 and initial payment collections of
at least $1,600,000, in each case during the period commencing on the issuance date of the 2015 Notes and ending on December
31, 2017, the holder of the 2015 Note may require us to redeem all or any portion of its 2015 Note at a price equal to 100%
of the Conversion Amount being redeemed.
|
|
|
|
|
●
|
At
any time, we may redeem all or any portion of the then outstanding principal and accrued and unpaid interest with respect
to such principal under the 2015 Notes at 100% of such aggregate amount;
provided, however
, that the aggregate Conversion
Amount to be redeemed pursuant to all 2015 Notes must be at least $500,000, or such lesser amount as is then outstanding.
The portion of the 2015 Note(s) to be redeemed shall be redeemed at a price equal to the greater of (i) 110% of the Conversion
Amount of the 2015 Note being redeems and (ii) the product of (A) the Conversion Amount being redeemed and (B) the quotient
determined by dividing (I) the greatest Weighted Average Price (as defined in the 2015 Notes) of the shares of common stock
during the period beginning on the date immediately preceding the date of the notice of such redemption by us and ending on
the date on which the redemption by us occurs by (II) the lowest Conversion Price (as defined in the 2015 Notes) in effect
during such period.
|
The
April 2015 Warrants and the May 2015 Warrants, which we collectively refer to as the 2015 Warrants, entitle their holders to purchase
shares of our common stock at an exercise price of $12.50 per share and will expire on the 60-month anniversary of their issuance
date. The 2015 Warrants may be exercised at any time and may be exercised on a “cashless” basis if a registration
statement covering the resale of the shares underlying the 2015 Warrants is not then available; provided, however, that we may
not effect any exercise if, following such exercise, a holder would beneficially own more than 4.99% of the shares of our common
stock outstanding immediately after giving effect to such exercise. The December 2015 amendments to the 2015 SPAs provided for
the issuance of additional five-year warrants, or Additional Warrants, exercisable for ten shares of common stock per $1,000 of
outstanding principal of the 2015 Notes held by each buyer, each with an exercise price of $12.50 per share, subject to adjustment
as set forth within the Additional Warrants, issuable in tranches triggered by certain Company actions. An initial tranche of
50,000 Additional Warrants became issuable and were issued in conjunction with the execution of the December Amendments. We issued
a second tranche of 50,000 Additional Warrants on February 2, 2016, or the February 2016 Warrants. The March 2016 amendments to
the 2015 SPAs further provided for the issuance of additional five-year warrants in substantially the same form as the Additional
Warrants, or the March 2016 Warrants, to purchase an aggregate of 500,000 shares of common stock at a purchase price of $5.00
per share, exercisable for ten shares of common stock per $100 of outstanding principal of the 2015 Notes held by each buyer. In
connection with the issuance of the March 2016 Warrants, the exercise price of the first and second tranche of Additional Warrants
was adjusted from $12.50 per share to $5.00 per share. We accounted for the February 2016 Warrants and the March 2016 Warrants
as derivative liabilities and recorded an additional $148,000 of debt discount upon the issuance of the February 2016 Warrants
and $1,497,000 of debt discount upon the issuance of the March Warrants. The December 31, 2015 debt discount and the additional
discounts recorded in February 2016 and March 2016 are amortized over the expected remaining life of the debt.
May
2015 Equity Financing
On
May 1, 2015, we sold 108,000 shares of our common stock at a purchase price of $7.50 per share and received gross proceeds of
approximately $810,000 from the sale of such shares.
Support
Agreement Obligations and Related Warrant
Effective
November 2, 2015, we executed the Support Agreement pursuant to which an investor provided us with financial and other assistance
(including the provision of sufficient and adequate collateral) in order to obtain a $2.1 million letter of credit in favor of
Dresser-Rand in satisfaction of our backstop security requirement under the CLA. If the investor is required to make any payments
on the letter of credit, then we are obligated to reimburse the investor the full amount of any such payment. Such payment obligation
is secured by a pledge of certain collateral of the Company pursuant to a concurrently executed security agreement, or the Security
Agreement, and the security interest in favor of and our payment obligations to the investor are subject to the terms of that
certain Subordination and Intercreditor Agreement executed concurrently with the Support Agreement and the Security Agreement,
by and among the investor, us and the collateral agent pursuant to the 2015 Notes.
The
term of our obligations under the Support Agreement commenced on November 2, 2015, the issuance date of the letter of credit in
favor of Dresser-Rand, and will terminate on the earliest of: (a) replacement of the letter of credit with an alternative form
of backstop security in favor of Dresser-Rand, (b) Dresser-Rand eliminating the backstop security requirement under the CLA, or
(c) the last day of the twenty-fourth calendar month following the commencement of the term. In consideration of the investor’s
support commitment, we will pay the investor a one-time fee equal to 4% of the amount of the letter of credit and a monthly fee
equal to 1% of the amount of the letter of credit for the first twelve months. If the Support Agreement has not terminated after
the initial twelve months, we are obligated to pay another one-time fee equal to 4% of the amount of the letter of credit, and
a monthly fee equal to 2% of the amount of the letter of credit for up to another twelve months. We have also agreed to reimburse
the upfront fee and expenses incurred by the investor in connection with obtaining the letter of credit, provided that if such
upfront fee is less than 2% of the amount of the letter of credit, we will pay the investor an additional one-time fee equal to
50% of the reduction in such upfront fees. We retain the right to replace at any time, and in whole or in part, the collateral
provided by the investor in connection with the letter of credit with an alternative solution, with or without notice to investor
and with no penalty for the exchange, but with a related reduction in fees. As further consideration, we also issued the investor
a five-year warrant to purchase 74,000 shares of our common stock, at an exercise price of $15.00 per share, subject to adjustment
for stock splits or other similar changes to our capital structure, which will become exercisable on November 2, 2016.
December
2015 Equity Financing
On
December 30, 2015, we entered into a securities purchase agreement dated December 30, 2015, or the December 2015 Purchase Agreement,
pursuant to which we issued to certain institutional and other accredited investors, or the December 2015 Investors, an aggregate
of 625,000 shares of our common stock at a price of $4.00 per share, and five-year warrants to purchase an aggregate of 312,500
shares of our common stock at an exercise price of $5.00 per share, or the December 2015 Warrants, in exchange for aggregate gross
proceeds of $2.5 million, which we refer to as the December 2015 Equity Financing. We also entered into the December 2015 Registration
Rights Agreement with the December 2015 Investors pursuant to which we are required to file one or more registration statements
with the SEC to register for resale by the December 2015 Investors the shares of our common stock sold in the December 2015 Equity
Financing and the shares of our common stock issuable upon exercise of the December 2015 Warrants, and use our commercially reasonable
efforts to maintain the effectiveness of such registration statement(s).
The
December 2015 Purchase Agreement contains an anti-dilution adjustment provision, pursuant to which, in the event that we sell
or issue shares of our common stock at a price lower than the $4.00 per share purchase price of the shares issued under the December
2015 Purchase Agreement, we will be required to issue to each December 2015 Investor, for no additional consideration, an additional
number of shares of common stock in an amount equal to (1) the purchase price paid by such December 2015 Investor under the December
2015 Purchase Agreement divided by the price per share of common stock for the dilutive issuance, minus (2) the total number of
shares of common stock purchased by such December 2015 Investor. Such adjustment is called a Share Dilution Adjustment. The Share
Dilution Adjustment does not apply with respect to certain exempt issuances and will terminate on the earlier of: (i) thirty (30)
days from the date of effectiveness of the registration statement of which this prospectus forms a part and (ii) six (6) months
after December 31, 2015. Additionally, if, prior to such termination date, we issue or sell any warrants to purchase shares of
common stock with an exercise price per whole share that is less than the exercise price per December 2015 Warrant share in effect
at such time, the exercise price per December 2015 Warrant share will be adjusted, with no additional action required by the holder,
to equal the exercise price per whole share of common stock as set forth in the warrants issued in such dilutive issuance, except
in the case of certain exempt issuances. On June 30, 2016, the anti-dilution adjustment provision terminated.
Each
December 2015 Warrant is exercisable immediately for cash. In addition, unless all of the shares of common stock underlying the
December 2015 Warrants that are subject to an exercise notice with respect to any December 2015 Warrant are registered for resale
pursuant to an effective registration statement and are issuable without any restrictive legend, such December 2015 Warrant may
also be exercised by way of a cashless exercise. The December 2015 Warrants also contain provisions that protect their holders
against dilution by adjustment of the exercise price in certain events such as stock dividends, stock splits and other similar
events. Additionally, if, prior to the earlier of (i) thirty (30) days from the date of effectiveness of the registration statements
required to be filed by us pursuant to the December 2015 Registration Rights Agreement and (ii) six months after the issuance
date of the December 2015 Warrants, we issue or sell any warrants to purchase shares of common stock with an exercise price per
whole share that is less than the exercise price per December 2015 Warrant share in effect at such time, the exercise price per
December 2015 Warrant share will be adjusted, with no additional action required by the holder, to equal the exercise price per
whole share of common stock as set forth in the warrants issued in such dilutive issuance, except in the case of certain exempt
issuances.
Underwritten
Offering Withdrawal
On
April 5, 2016, we formally requested that the Securities and Exchange Commission withdraw our registration statement, originally
filed in July 2015. The underwritten public offering and a simultaneous listing on a national exchange was originally a requirement
under our 2015 Notes. After negotiating the March Amendments (defined below), our board of directors determined, with the consultation
of our professional advisors, that market conditions in early 2016 were not conducive to a marketed underwritten public offering.
March
2016 Debt Amendments
On
March 31, 2016, we executed amendments to the 2015 Notes and related Securities Purchase Agreements, or, collectively, the March
Amendments, each with certain investors holding the requisite number of conversion shares and warrant shares underlying the 2015
Notes and warrants issued in April 2015 and May 2015 pursuant to the referenced Securities Purchase Agreements, or the April and
May Warrants. The March Amendments (i) removed the requirement that we consummate a “Qualified Public Offering”; (ii)
extended the deadline for us to commence trading on a Qualified Eligible Market (as defined in the March Amendments) to no later
than April 14, 2016; provided that if we consummated a private offering of its securities resulting in gross proceeds to us of
at least $3,000,000 after June 30, 2016 and prior to or on April 14, 2016, or a Qualified Private Offering, such deadline would
be automatically extended to October 15, 2016; (iii) provided for the issuance of warrants to purchase up to 500,000 shares of
our common stock, each with an exercise price of $5.00 per share, subject to adjustment as set forth within the warrants, or the
March Warrants; and (iv) added an additional covenant on behalf of us that, on or prior to April 14, 2016, we would cause our
net monthly cash flow directly associated with the CLA, taken together with our monthly capital expenditure spending associated
with the CLA, and excluding expenditures associated with the FSAT requirements defined in the CLA, to be neutral or positive,
to be accomplished by re-negotiation or termination of such CLA. On April 11, 2016, we consummated a $3 million private offering
and thereby satisfied condition (ii) above. On March 31, 2016, we issued warrants to purchase 500,000 shares of our common stock,
as described in Note 11 to our unaudited condensed consolidated financial statements included elsewhere in this prospectus, or
the March Warrants, and remained in compliance with the net monthly cash flow covenant listed in (iv) above during all relevant
times. On June 29, 2016, we signed the CMLA, which will replace the CLA upon the successful completion of the technical tests
associated with the KG2. Additionally, upon execution of the September Amendments (as defined below), the monthly cash flow covenant
listed in (iv) above was removed.
The
March Amendments amended the terms of the 2015 Notes to extend the conversion feature until the term of the 2015 Notes and to
provide for the issuance of additional warrants. Additionally, in February 2016, pursuant to the terms of the December 2015 amendments
to the 2015 Notes, we issued warrants to purchase up to 50,000 shares of our common stock at an exercise price of $12.50 per share,
or the February Warrants, and subsequently adjusted the exercise price to $5.00 per share with the issuance of the March Warrants,
to $4.00 per share upon the execution of the various warrant amendments on August 24, 2016 (as described below under “August
Warrant Amendments”) and to $3.00 per share upon the execution of the amendment and restatement of the 2015 Notes. We accounted
for the February Warrants and the March Warrants as derivative liabilities and recorded an additional $148,000 of debt discount
upon the issuance of the February Warrants and $1,497,000 of debt discount upon the issuance of the March Warrants. The
December 31, 2015 debt discount and the additional discount recorded in February 2016 and March 2016 is amortized over the expected
remaining life of the debt.
April
2016 Equity Financing
On
April 11, 2016, we entered into a stock purchase agreement, pursuant to which we issued to an accredited investor an aggregate
of 696,056 shares of our common stock in exchange for gross proceeds of approximately $3.0 million, or the April 2016 Private
Placement. The closing of the April 2016 Private Placement satisfied the Qualified Private Offering requirement described in the
March Amendments described in Note 11 to our unaudited condensed consolidated financial statements included elsewhere in this
prospectus under “March 2016 Amendment to 2015 Notes”.
August
2016 Warrant Amendments
On
August 24, 2016, we executed amendments to the 2015 Warrants, the Additional Warrants, the December 2015 Warrants, the February
2016 Warrants and the March 2016 Warrants. The amendments reduced the exercise price of such warrants to $4.00 per share and removed
all remaining net cash settlement provisions, as applicable, in each warrant. For the warrants accounted for as derivative liabilities,
we marked the warrants to market immediately prior to the change in the strike price to a value of $1,719,000. The removal of
the warrant agreement provisions that required derivative accounting resulted in a reclassification of $1,719,000 from derivative
liabilities to Paid-in Capital. The reduction in exercise price to $4.00 resulted in an additional discount to the 2015 Notes
of $206,000 which will be amortized to interest expense over the expected remaining life of the 2015 Notes.
September
and October 2016 Debt Amendments
Effective
as of September 1, 2016, we executed amendments to the 2015 Notes and related Securities Purchase Agreements, or the September
Amendments, which are binding upon all of the 2015 Notes. The September Amendments (i) extend the deadline for us to commence
trading on a Qualified Eligible Market (as defined in the September Amendments) to no later than December 31, 2016; (ii) provide
that we may, on or prior to September 1, 2016, issue to one or more investors up to an aggregate of $1,500,000 principal amount
of one-year term unsecured notes, as described in Note 9 to our condensed consolidated financial statements included elsewhere
in this prospectus, and related warrants, and approve the forms of agreements to be executed in connection with the issuance of
such unsecured notes and warrants; (iii) remove the covenant on behalf of us related to net monthly cash flow directly associated
with the CLA; (iv) extend the earliest date on which the holders of the 2015 Notes may require us to redeem all or any portion
of such 2015 Notes until December 31, 2016; and (v) extend the deadline for us to consummate a Further Private Offering (as defined
in the 2015 Notes) to December 31, 2016. Effective as of October 21, 2016, we executed amendments to the 2015 Notes to clarify
and conform the terms of such 2015 Notes to the terms of previous amendments to such 2015 Notes and the related Securities Purchase
Agreements.
September
2016 Convertible Unsecured Notes
On
September 1, 2016, we entered into a securities purchase agreement and related note agreements and warrant agreements whereby
we issued $1,250,000 in convertible unsecured promissory notes, or the Convertible Unsecured Notes, and detachable five-year warrants
to purchase an aggregate of 124,999 shares of our common stock at an exercise price of $4.00 per share, or the September 2016
Financing. We received total gross proceeds of $1,250,000, less transaction expenses of $20,000 consisting of legal costs for
net proceeds of $1,230,000.
The
Convertible Unsecured Notes bear interest at a rate of 12% per annum and mature on September 1, 2017. The Convertible Unsecured
Notes are subordinate to the 2015 Notes described in Note 8 to our condensed consolidated financial statements included elsewhere
in this prospectus. The Convertible Unsecured Notes were initially convertible at the option of the holder into common stock at
an initial exercise price of $4.31and will automatically convert into shares of common stock in the event of a conversion of at
least 50% of the then outstanding (i) principal, (ii) accrued and unpaid interest with respect to such principal and (iii) accrued
and unpaid late charges, if any, with respect to such principal and interest, under the 2015 Notes. Upon the conversion of 50%
or more of the 2015 Notes at a price per share less than $4.31, the conversion price of the Convertible Unsecured Notes will be
reduced to the effective conversion price of the 2015 Notes. The Convertible Unsecured Notes also contain a blocker provision
that prevents us from effecting a conversion in the event that the holder, together with certain affiliated parties, would beneficially
own in excess of 9.99% of the shares of common stock outstanding immediately after giving effect to such conversion. At any time
after the issuance date of the Convertible Unsecured Notes, we may, at its option, redeem all or any portion of the then outstanding
principal and accrued and unpaid interest with respect to such principal, or the Company Optional Redemption Amount, at 100% of
such aggregate amount; provided, however, that we may not redeem all or any portion of the Company Optional Redemption Amount
so long as any of the 2015 Notes remain outstanding without the prior written consent of the collateral agent with respect to
such 2015 Notes and certain investors holding the requisite number of conversion shares and warrant shares underlying the 2015
Notes and April 2015 Warrants and May 2015 Warrants.
The
securities purchase agreement for the Convertible Unsecured Notes calls for the issuance of additional five-year warrants to purchase
an aggregate of 62,500 shares at an exercise price of $4.00 per share on each of the 61st, 91st, 121st and 151st days after the
closing of the September 2016 Financing, or, in each case, an Additional Warrant Date, but only in the event we have not consummated
a further financing consisting of the issuance of common stock and warrants for aggregate gross proceeds of at least $3,000,000
prior to such respective Additional Warrant Date. As of December 31, 2016, we had not consummated a further financing and,
as a result, issued warrants to purchase an aggregate of 62,500 shares of our common stock on each of November 1, 2016, December
1, 2016 and December 31, 2016.
December
2016 Convertible Senior Secured Promissory Notes and Warrants Financing
On
November 23, 2016, we entered into a securities purchase agreement, pursuant to which we issued to 21 accredited investors unregistered
convertible senior secured promissory notes with an aggregate principal amount of approximately $3.7 million, or the December
2016 Notes, and five-year warrants, or the December 2016 Financing Warrants, to purchase an aggregate of 1,498,622 shares of our
common stock at an exercise price of $3.00 per share, or the December 2016 Financing Warrant Shares, with aggregate net proceeds
to us after a ten percent original issue discount and placement agent fee of approximately $3.2 million, or the December 2016
Financing. In connection with the December 2016 Financing, we agreed to secure the listing of our common stock on a national securities
exchange by no later than December 31, 2017.
The
December 2016 Notes bear no ordinary interest, as the principal amount of the December 2016 Notes will include an original issue
discount. Upon an Event of Default (as defined in the December 2016 Notes), however, the December 2016 Notes will bear interest
at a rate of 10% per annum. The December 2016 Notes will mature on December 31, 2018. The December 2016 Notes rank
pari passu
with the 2015 Notes and rank senior to the Convertible Unsecured Notes. The December 2016 Notes will be convertible at the
option of the holder into common stock at an exercise price of $2.50 (as subject to adjustment therein) and will automatically
convert into shares of common stock on the fifth trading day immediately following the date on which (i) the Weighted Average
Price (as defined in the December 2016 Notes) of the common stock for each trading day during a twenty trading day period equals
or exceeds $5.00 (as adjusted for any stock dividend, stock split, stock combination, reclassification or similar transaction)
and no Equity Conditions Failure (as defined in the December 2016 Notes) has occurred. The December 2016 Notes also contain a
blocker provision that prevents us from effecting a conversion in the event that the holder, together with certain affiliated
parties, would beneficially own in excess of either 4.99% or 9.99%, with such threshold determined by the holder prior to issuance,
of the shares of common stock outstanding immediately after giving effect to such conversion.
Upon
an Event of Default and delivery to the holder of the December 2016 Note of notice thereof, such holder may require us to redeem
all or any portion of its December 2016 Note at a price equal to 115% of the Conversion Amount (as defined in the December 2016
Notes) being redeemed. Additionally, upon a Change of Control (as defined in the December 2016 Notes) and delivery to the holder
of the December 2016 Note of notice thereof, such holder may also require us to redeem all or any portion of its December 2016
Note at a price equal to 115% of the Conversion Amount being redeemed. Further, at any time from and after January 1, 2018 and
provided that we have not received either (i) initial deposits for at least eight 2 MW Power Oxidizer units or (ii) firm purchase
orders totaling not less than $3,500,000 and initial payment collections of at least $1,600,000, in each case during the period
commencing on the issuance date of the December 2016 Notes and ending on December 31, 2017, the holder of the December 2016 Note
may require us to redeem all or any portion of its December 2016 Note at a price equal to 100% of the Conversion Amount being
redeemed.
At
any time, we may redeem all or any portion of the then outstanding principal and accrued and unpaid interest with respect to such
principal under the December 2016 Notes, at 100% of such aggregate amount; provided, however, that the aggregate Conversion Amount
to be redeemed pursuant to all December 2016 Notes must be at least $500,000, or such lesser amount as is then outstanding. The
portion of the December 2016 Note(s) to be redeemed shall be redeemed at a price equal to the greater of (i) 110% of the Conversion
Amount of the December 2016 Note being redeems and (ii) the product of (A) the Conversion Amount being redeemed and (B) the quotient
determined by dividing (I) the greatest Weighted Average Price (as defined in the December 2016 Notes) of the shares of common
stock during the period beginning on the date immediately preceding the date of the notice of such redemption by us and ending
on the date on which the redemption by us occurs by (II) the lowest Conversion Price (as defined in the December 2016 Notes) in
effect during such period.
The
December 2016 Notes contain a provision that prevents the Company from entering into or becoming party to a Fundamental Transaction
(as defined in the December 2016 Notes) unless the successor entity assumes all of our obligations under the December 2016 Notes
and the related transaction documents pursuant to written agreements in form and substance satisfactory to at least a certain
number of holders of the December 2016 Notes.
In
connection with the execution of the purchase agreement for the December 2016 Financing and the issuance of the December 2016
Notes, Ener-Core Power, Inc. entered into a Guaranty, pursuant to which it has agreed to guarantee all of our obligations under
the purchase agreement, the December 2016 Notes and the related transaction documents.
The
December 2016 Financing Warrants are exercisable immediately in exchange for cash. In addition, unless all of the December 2016
Financing Warrant Shares that are subject to an exercise notice with respect to any December 2016 Financing Warrant are registered
for resale pursuant to an effective registration statement and are issuable without any restrictive legend, such December 2016
Financing Warrant may also be exercised by way of a cashless exercise. The December 2016 Financing Warrants also provide that
the exercise price of each December 2016 Financing Warrant will be adjusted upon the occurrence of certain events such as stock
dividends, stock splits and other similar events. The December 2016 Financing Warrants include a blocker provision that prevents
us from effecting any exercise in the event that the holder, together with certain affiliated parties, would beneficially own
in excess of either 4.99% or 9.99%, with such threshold determined by the holder prior to issuance, of the shares of common stock
outstanding immediately after giving effect to such exercise.
December
2016 Amendments to 2015 Notes
On
November 23, 2016, we and certain investors holding 2015 Notes executed amendment agreements, or the Amendment Agreements, to
amend and restate the 2015 Notes in order to (i) provide that the 2015 Notes rank
pari passu
with the December 2016 Notes
and (ii) adjust the terms of such 2015 Notes, including without limitation the initial conversion price per share, to conform
to the December 2016 Notes. Additionally, the Amendment Agreements provide for the issuance to the holders of the 2015 Notes of
additional warrants, or the December 2016 Additional Warrants, to purchase an aggregate of 2,222,217 shares of common stock at
an exercise price of $3.00 per share, or the Additional Warrant Shares, in connection with the amendment and restatement of the
2015 Notes. The Amendment Agreements also adjusted the exercise price of certain warrants held by the investors holding 2015 Notes
to $3.00 per share.
December
2016 Amendments to Convertible Unsecured Notes
On
November 23, 2016, we and certain investors holding Convertible Unsecured Notes executed amendments to the securities purchase
agreement for the Convertible Unsecured Notes, or the September 2016 SPA, to (i) extend the deadline for us to commence trading
on a Qualified Eligible Market (as defined in the September 2016 SPA) to no later than December 31, 2017 and (ii) reduce the exercise
price of certain warrants held by the investors holding Convertible Unsecured Notes to $3.00 per share. Additionally, we and certain
investors holding Convertible Unsecured Notes executed amendments to such Convertible Unsecured Notes to reduce the initial conversion
price per share of such Convertible Unsecured Notes to $2.50 and adjust certain definitions.
Dresser-Rand
2 MW Integration
During
the nine months ended September 30, 2016, we allocated a significant portion of our resources, including nearly all of our engineering
staff and additional consultants, to the completion of our initial 2MW Power Oxidizer, which we subsequently integrated with the
Dresser-Rand KG2-3GEF turbine to create a 2MW Powerstation that is currently undergoing final field testing.
On
November 14, 2014, we entered into a Commercial License Agreement, or, as amended, the CLA, with Dresser-Rand, through our wholly-owned
subsidiary, Ener-Core Power, Inc., which grants Dresser-Rand the right to market and sell the Dresser-Rand KG2-3GEF 2 MW gas turbine
coupled with our Power Oxidizer, or a Combined System. The CLA grants Dresser-Rand exclusive rights to commercialize the Ener-Core
Power Oxidizer, within ranges of 1–4 MW of power capacity, bundled with the Dresser-Rand KG2 gas-turbine product line. As
part of the CLA, Dresser-Rand agreed to pay a $1.6 million initial license fee, under the condition that we were able to successfully
scale up the technology from the current size of 250 kW to a size of 2 MW. Dresser-Rand also agreed to achieve annual sales thresholds
agreed to by both companies in order to retain the exclusivity of the commercial license. Upon payment of the initial license
fee in full, Dresser-Rand will have an exclusive license to sell the Ener-Core Power Oxidizer within ranges of 1–4 MW of
power capacity, bundled with a gas-turbine to generate electricity.
The
CLA calls for a series of technical milestones. The first technical milestone involved the completion of a “Sub-Scale Acceptance
Test,” or SSAT, which we successfully completed in July 2015. The second technical milestone will be the “Full-Scale
Acceptance Test,” or FSAT, that includes a multitude of tests using a full, working Combined System. During the second half
of 2015 and continuing into the first quarter of 2016, we constructed the Combined System, which was substantially complete as
of September 30, 2016. We commissioned the Combined System in the second quarter of 2016 and began the FSAT procedures. Both the
SSAT and FSAT are required prior to the delivery of the first commercial 1.75 MW Combined System units.
The
CLA also requires the satisfaction of certain binding conditions, all fully satisfied in 2015, in order for Dresser-Rand to be
obligated to perform its covenants under the CLA, which covenants include the payment of license fees into escrow, the acceptance
of binding purchase orders from its customers for KG2/PO units, the issuance of binding purchase orders to us for Power Oxidizer
units and the performance of additional engineering services required for the FSAT. In March 2015, the CLA was amended to revise
the second binding condition. The revised binding condition eliminates the need for a bond but requires the $400,000 quarterly
cash payments due from Dresser-Rand to be paid into a cash escrow account. Funds may be released from the cash escrow as follows:
(i) to Dresser-Rand for up to $500,000 to reimburse Dresser-Rand for certain engineering costs; (ii) to Dresser-Rand in the event
of termination of the CLA as a result of a failed acceptance test; or (iii) to us upon the satisfaction of the FSAT. In September
2016, we and Dresser-Rand mutually agreed to waive the FSAT requirement for escrow cash release and, subsequently, Dresser-Rand
released to us the $1.6 million license fee payment from escrow, from which we received $1.1 million in cash, representing the
$1.6 million license fee net of $500,000 paid to Dresser-Rand for engineering services. In October 2016, the escrow account was
closed. In October 2016, we shipped the first two KG2/PO Power Oxidizer units to the Pacific Ethanol location in Stockton, California
for further implementation with the Dresser-Rand KG2 turbines.
Dresser-Rand
Commercial and Manufacturing Agreement
On
June 29, 2016, we entered into a Commercial and Manufacturing License Agreement, or the CMLA, with Dresser-Rand, through Ener-Core
Power, Inc., intended to supersede and replace the CLA. Upon successful completion of the FSAT, the CLA will terminate and the
CMLA will provide the terms of the commercial relationship between us and Dresser-Rand. Once the FSAT is completed, the effective
date of the CMLA will be deemed November 14, 2014. In the event we are unable to successfully complete the FSAT, the CLA will
continue to govern our commercial relationship with Dresser-Rand. As of December 31, 2016, we had performed the testing protocols
of substantially all of the required tests, the results of which remain subject to verification by Dresser-Rand, which is currently
underway.
Under
the new CMLA, Dresser-Rand will have a worldwide license to manufacture, market, commercialize and sell the Power Oxidizer as
part of the Combined System within the 1 MW to 4 MW range of power capacity, or the License. Initially, the License will be exclusive,
even as to us, and will remain exclusive for so long as Dresser-Rand sells a minimum of number of units of the Combined System
in each calendar year beginning in 2017, or the Sales Threshold, subject to certain conditions and exceptions. If Dresser-Rand
does not meet the Sales Threshold in any calendar year and the Sales Threshold is not otherwise waived, Dresser-Rand may maintain
exclusivity of the License by making a true-up payment to us for each unit that is in deficit of the Sales Threshold, or a True-Up
Payment;
provided, however
, that Dresser-Rand may not maintain an exclusive License by making a True-Up Payment for more
than two consecutive calendar year periods. In the event Dresser-Rand does not meet the Sales Threshold, does not qualify for
a waiver and elects not to make the True-Up Payment, the License will convert to a nonexclusive License.
Upon
a sale by Dresser-Rand of a Combined System unit to a customer, the CMLA requires Dresser-Rand to make a license fee payment to
us equal to a percentage of the sales price of the Combined System purchased, in accordance with a predetermined fee schedule
that is anticipated to result in a payment of between $370,000 and $600,000 per Combined System unit sold, or the License Fee.
Payment terms to us from Dresser-Rand will be 50% of each License Fee within 30 days of order and 50% upon the earlier of the
Combined System commissioning or twelve months after the order date.
Dresser-Rand
may also request that we undertake design and development work on modifications to the Combined Systems, each referred to as a
Bespoke Development. We and Dresser-Rand will negotiate any fees resulting from any such Bespoke Development on a case-by-case
basis. Further, any obligation by us to undertake such Bespoke Development will be conditioned upon the execution of mutually
agreed-upon documentation.
As
long as the exclusive License remains in effect, we will provide certain ongoing sales and marketing support services, at no additional
cost to Dresser-Rand, subject to certain restrictions. Any additional sales and marketing services agreed upon by us and Dresser-Rand
will be compensated at an hourly rate to be upwardly adjusted annually.
If
we and Dresser-Rand so elect, we will manufacture a certain number of Power Oxidizers as part of a certain number of Combined
System projects during a transition period, or the Transition Phase, beginning after execution of the CMLA and prior to the period
in which Dresser-Rand manufactures its first three Power Oxidizers as part of at least two individual Combined System projects,
or the Initial Manufacturing Phase, as mutually agreed by the parties. So long as the License remains exclusive during the Transition
Phase, if any, and the Initial Manufacturing Phase, we will provide a mutually agreed upon number of hours of engineering support
services. After the conclusion of the Initial Manufacturing Phase, we will, for so long as the License remains exclusive, continue
providing up to an agreed upon number of hours of such support services on an annual basis at no additional cost to Dresser-Rand,
subject to certain conditions. Any additional engineering support services agreed upon by us and Dresser-Rand will be compensated
at an hourly rate, to be upwardly adjusted annually. During the Transition Phase, we must also develop the spare parts list pertaining
to the scope of supply to allow Dresser-Rand to offer service agreements for the Combined System.
We
must maintain our existing backstop security, or the Backstop Security, under the CLA in favor of Dresser-Rand in support of all
products manufactured, supplied or otherwise provided by us during the period beginning on the execution date of the CMLA, or
the Execution Date, and continuing through the expiration of the warranty period for the Combined System units sold to customers
as of the Execution Date; however, if we and Dresser-Rand mutually agree to engage in a Transition Phase, then such Backstop Security
must be extended to support all products manufactured, supplied or otherwise provided by us during such Transition Phase.
Dresser-Rand
must also: (i) develop the controls strategy for the Dresser-Rand gas turbine control system and integrate it with the Power Oxidizer
control system; (ii) with support from us, manufacture and commercialize the Combined System following the Transition Phase; (iii)
with support from us, develop and prioritize sales opportunities for the Combined System; (iv) assume the sales lead role with
respect to each customer; and (v) take commercial lead in developing sales to customers. In addition, Dresser-Rand will be primarily
responsible for overall warranty and other commercial conditions to Combined System customers, as well as sole project and service
provider and interface with customers. Dresser-Rand will also be responsible for warranty, service and after-sales technical assistance
for all portions of Combined Systems that comprise Dresser-Rand products. We, however, will be responsible for warranty and service
for all products manufactured or otherwise provided by us prior to or during the Transition Phase.
The
CMLA prohibits us from, without the prior written consent of Dresser-Rand, permitting the creation of any encumbrance, lien or
pledge of its intellectual property which would result in any modification to, revocation of, impairment of or other adverse effect
on Dresser-Rand’s rights with respect to the exclusive License. In addition, all intellectual property rights that are owned
by either us or Dresser-Rand as of the Execution Date will remain the sole property of such party, subject to the licenses described
in the CMLA. The CMLA also contains provisions that govern the treatment of process and technology developments and any joint
inventions that (i) relate to the subject matter of the CMLA and (ii) occur after the Execution Date and during the term thereof.
The
CMLA also contains certain restrictions on publicity and obligates Dresser-Rand to use its commercially reasonable efforts to
include our name and logo and otherwise promote our brand and Power Oxidizers in a mutually agreed-upon manner. We and Dresser-Rand
have also mutually agreed to withhold disclosure of certain commercial and technologically sensitive terms of the CMLA including
technical specifications, License Fee percentages, and the Sales Threshold minimum annual quantities to maintain exclusivity.
Commercial
Sales Efforts
Our
commercial sales and marketing focus during 2015 was to build from our first commercial success in 2014 and add to our sales team
as we begin to roll out our technology. Shortly after signing the CLA with Dresser-Rand in November 2014, our existing sales team
began to work with the international sales and marketing teams from Dresser-Rand to develop a go-to-market strategy. In parallel,
our existing internal sales team has continued to advance commercial opportunities from 2014 and enter new industrial markets
with our EC250 and EC333 products.
In
2015, we began to focus our sales resources and efforts toward the improved commercialization of our technology, and we increased
our sales efforts through the hiring of two key sales and marketing executives with experience in the oil and gas, waste remediation
and pollution control industries. In January 2015, we engaged the services of John Millard as Director of the Europe/Middle East
Region. Mr. Millard is based out of Zurich, Switzerland and has been tasked with marketing our Power Oxidizer technology into
Europe and the Middle East, both of which are markets that we believe have demonstrated a willingness and a desire to be early
adopters of our technology. In March 2015, we hired Mark Owen as Director of Sales in North America. Mr. Owen brings years of
industry experience including recent experience selling pollution control systems throughout North America, along with experience
rolling out new technology solutions and building sales teams and processes.
During
2015, one of our international distributors, Holland Renewable Energy Technologies, added an additional distribution partner to
its commercial agreements. This new distributor, Hofstetter B.V, will begin to distribute our Power Oxidizer solutions in 2015
in the European market. Hofstetter is a world leader in flaring technology systems and has installed over 1,600 flaring systems
worldwide. We believe this partnership will result in increased market awareness in Europe, a market that we believe is increasingly
receptive of our technology solutions. We believe that Hofstetter provides an immediate and established market presence in Europe.
We
are entering the combined heat and power, or CHP, market that is highly competitive and historically conservative in its acceptance
of new technologies. To date, we have sold and delivered one 250 kW commercial PowerStation unit to the Netherlands and have sold
one additional 250 kW PowerStation unit to a landfill site in Southern California scheduled for delivery in 2017. We have also
sold two initial 2MW Power Oxidizers to Dresser-Rand for installation at their end user customer, Pacific Ethanol, which were
delivered in the second half of 2016 but which remain subject to acceptance conditions which may not have been met as of December
31, 2016 and which remain subject to further review or deferral, depending in part on the results of the final FSAT test results.
These three systems, combined with the Dresser-Rand license fees of $1.6 million, represent our $4.6 million order backlog as
of February 7, 2017. To date, we have billed $4.2 million and collected $4.1 million of our existing backlog.
In
May 2016, we received a conditional purchase order for four 250 kW Powerstations expected to be installed on a landfill site in
Southern California and scheduled for delivery in late 2017. This order is valued at approximately $4.0 million and is subject
to additional pre-sales engineering and permitting requirements.
Dresser-Rand
Initial Commercial Activity
In
January 2015, Pacific Ethanol announced the first sale of the new KG2-3GEF/PO unit, which placed a two unit order with Dresser-Rand.
Pursuant to the terms of the CLA, we began working on the initial phase of these two systems immediately after the announcement
of the order received by Dresser-Rand from Pacific Ethanol. After receipt of formal acceptance of the successful completion of
the SSAT, in August 2015, we received a binding purchase order from Dresser-Rand for two 1.75MW Power Oxidizer units for a total
purchase price of $2.1 million. We received the entire $2.1 million purchase price in the fourth quarter of 2015 after we satisfied
the Dresser-Rand performance security requirement in November 2015. In September 2016, we secured the release of the license fees
payable from Dresser-Rand, which had previously been placed in an escrow account and which were contingent upon satisfaction of
the FSAT. We received $1.1 million in cash, representing the $1.6 million license fee net of $500,000 paid to Dresser-Rand for
engineering services. We have not recognized the license fees as revenues as of September 30, 2016, since the required testing
has not been completed.
Other
Commercial Efforts
In
May 2015, we received an award for our second commercial EC250 Powerstation as part of a California Energy Commission award of
$1.5 million to the University of California, Irvine’s Advanced Power & Energy Program. We received a formal purchase
order of approximately $900,000 in the third quarter of 2015 and through September 30, 2016 we have billed and collected $815,000.
We anticipate that delivery and commission of this Powerstation will occur in 2017.
Our
commercial sales and marketing focus during 2016 was to work with the domestic and international sales and marketing teams from
Dresser-Rand to facilitate additional KG2 unit sales in order to drive Power Oxidizer sales. While we expect to close multiple
KG2 opportunities in 2017, some of our potential orders for KG2 units require the successful completion of the FSAT, the testing
protocols of which we substantially completed in the fourth quarter 2016 but which remain subject to verification by Dresser-Rand.
In parallel, our existing internal sales team has continued to advance commercial opportunities and enter new industrial markets
with our EC250 product. We have also expanded our understanding of our greater, integrated Powerstation solution and are working
towards value-added partnership relationships with key providers of products which can use our ultra-low emissions heat. We also
intend to sell the Combined System, a full working KG2 unit described above, upon completion of the FSAT procedures. Several parties
have expressed interest and we view the possible sale of the Combined System as a potential cash recovery in 2017.
Revenue,
Order-to-Cash Cycle and Customer Order Cash Flows
Our
order-to-cash cycle is lengthy and requires multiple steps to complete. As such, we utilize and evaluate certain metrics such
as bookings, backlog, and billed backlog. The initial commercial phase involves our sales team identifying a suitable project
and evaluating each site to determine whether our value proposition fits the potential customer’s needs. We evaluate potential
industrial sites based on the amount, density and quality of the waste gas produced, the impacts of air quality penalties and
required pollution abatement, and the expected cost savings or sales value of on-site power production. We also evaluate with
the potential customer whether there are other financial considerations that could further strengthen the economic payback to
the potential customer (which could include revenue increases that may result from pollution abatement benefits or carbon/emission
credits or tax avoidance). As part of this evaluation, we work with potential customers to produce financial models, which seek
to capture and quantify all of the various benefits of the potential project to determine the overall economic payback to the
potential customer. If the potential customer determines to proceed after this evaluation, we enter into an agreement with the
customer, which typically includes purchase order arrangements.
Customer
orders, which are defined as firm commitments to purchase with fixed and determinable prices and contracted delivery terms, are
considered bookings and are included as backlog. From the date of booking until the projected shipping date, we follow the standard
practices that are typically followed by other power equipment producers, which include payment terms that involve customer advance
payments designed to mirror our cash inventory outlays for sourcing parts and materials necessary to assemble the power plants
to achieve a neutral customer order cash flow until delivery. All customer advance payments are recorded as billings, are reported
as billed backlog and are represented on our balance sheet as deferred revenue or customer advances. As the Power Oxidizer plant
assets are built, the costs are capitalized as inventory.
Powerstations
are shipped to the customer locations and assembled on site. We supervise the assembly and commissioning of the Powerstations,
which can take several months to complete. Once commissioning of the fully installed Powerstation(s) is/(are) concluded and title
passes to the customer, we issue the final billings and recognize revenues and costs of revenues by decrementing deferred revenues
and inventory respectively.
We
also charge customers for commissioning services, post sale support, and post-warranty service and maintenance on our Power Oxidizer
units. We provide a standard warranty, which typically ends between nine months and one year after commissioning.
Operating
expense reduction
Beginning
in the first quarter of 2016, we evaluated our cash spending, including the costs incurred with our withdrawn underwritten public
offering. Beginning in the second quarter of 2016 and continuing into the third quarter of 2016, we identified and implemented
cost reductions, primarily the reduction of employee and consulting headcount and professional services, and we expect to implement
additional cost reductions in 2017, including a further reduction of service provider cash spending and a reduction in our fixed
overhead costs. Excluding our debt service and excluding non-recurring costs related to the underwritten offering and testing
of the FSAT, our quarterly cash spending for the three months ended September 30, 2016 was approximately $1,100,000, a reduction
of approximately $400,000 from the first fiscal quarter of 2016.
Commercial
Activity
During
the quarter ended September 30, 2015, we closed orders for two KG2 Oxidizer systems and one EC 250 Powerstation system for a total
unit backlog of $3.0 million. With our $1.6 million in license fees due from Dresser-Rand under the terms of the CLA, we consider
our backlog at December 31, 2015 to be $4.6 million. We expect to collect the license fees and ship the three units in 2016.
In
November 2015, we delivered to Dresser-Rand a $2.1 million letter of credit with an expiration date of June 30, 2017, which Dresser-Rand
accepted as the backstop security required in support of the purchase order for the first two KG2 Power Oxidizer units. Under
the terms of the Dresser-Rand purchase order, the backstop security enables us to collect 50% of the order value in cash immediately
with additional payments over time as we purchase materials for the Power Oxidizer units. In order to obtain the letter of credit
to serve as the required backstop security, we executed a Backstop Security Support Agreement, or the Support Agreement, pursuant
to which an investor agreed to provide us with financial and other assistance (including the provision of sufficient and adequate
collateral) as necessary to obtain the letter of credit. If the investor is required to make any payments on the letter of credit,
we will reimburse the investor the full amount of any such payment, subject to the terms of a Security Agreement and Subordination
and Intercreditor Agreement executed concurrently with the Support Agreement. The acceptance of the backstop security by Dresser-Rand
allowed us to bill and collect on advance payment billings for the purchase order for the first two KG2 Power Oxidizer units.
During
the second half of 2015, we began to bill and collect customer deposits on our existing $4.6 million backlog consisting of $2.4
million billed and collected for sales of our Power Oxidizers and Powerstations systems and $0.4 million billed and paid into
escrow for our license fee arrangement with Dresser Rand.
Going
Concern
Our
consolidated financial statements are prepared using the accrual method of accounting in accordance with accounting principles
generally accepted in the United States of America, or GAAP, and have been prepared on a going concern basis, which contemplates
the realization of assets and settlement of liabilities in the normal course of business. Since our inception, we have made a
substantial investment in research and development to develop the Power Oxidizer, have successfully deployed an EC250 field test
unit at the U.S. Army base at Fort Benning, Georgia, and installed and commissioned our first commercial unit in the Netherlands
in the second quarter of 2014. In November 2014, we signed the CLA to incorporate our Power Oxidizer into Dresser-Rand’s
1.75MW turbine. In August 2015, the CLA became a mutually binding agreement due to the satisfaction of certain binding conditions
contained in the CLA.
We
have sustained recurring net losses and negative cash flows since inception and have not yet established an ongoing source of
revenues sufficient to cover our operating costs and allow us to continue as a going concern. Despite capital raises of $2.5
million in December 2015, $3.0 million in April 2016, $1.25 in September 2016 and $3.4 million in December 2016, we expect to
require additional sources of capital to support our growth initiatives. We must secure additional funding to continue as a going
concern and execute our business plan.
Our
plan is to obtain capital sufficient to meet our operating expenses by seeking additional equity and/or debt financing. The cash
and cash equivalents balance (excluding restricted cash) on September 30, 2016, December 31, 2015 and December 31, 2014, was approximately$0.6
million, $2.6 million and $2.2 million, respectively. In April 2016, management began taking steps to reduce our operational cash
burn through a combination of staff reductions and reductions of outside service providers. We expect to implement additional
cost savings through reduced overhead costs later in 2016 as well as reduced non-recurring costs and capital expenditures related
to our efforts to develop the 2MW KG2. We expect that the $0.6 million of cash and cash equivalents as of September 30, 2016,
the $3.0 million of equity raised in April 2016, $1.25 million in September 2016, $3.4 million in December 2016 and receipts on
customer billings, will continue to fund our working capital needs, general corporate purposes, and related obligations into the
fourth quarter of 2016 at our reduced spending levels. However, we expect to require significantly more cash for working capital
and as financial security to support our growth initiatives. We will not receive any of the proceeds from the sale by the selling
stockholders of the shares of common stock pursuant to the registration statement of which this prospectus is a part.
We
will pursue raising additional equity and/or debt financing to fund our operations and product development. If future funds
are raised through issuance of stock or debt, these securities could have rights, privileges, or preferences senior to those of
our common stock and debt covenants that could impose restrictions on our operations. Any equity or convertible debt financing
will likely result in additional dilution to our current stockholders. We cannot make any assurances that any additional
financing, including the proposed registered offering, will be completed on a timely basis, on acceptable terms or at all.
Our inability to successfully raise capital in a timely manner will adversely impact our ability to continue as a going concern.
If our business fails or we are unable to raise capital on a timely basis, our investors may face a complete loss of their investment.
The
accompanying consolidated financial statements do not give effect to any adjustments that might be necessary if we were unable
to meet our obligations or continue operations as a going concern.
Critical
Accounting Policies and Estimates
The
preparation of financial statements in conformity with 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 expenses during the reporting period. Significant items subject to such estimates and assumptions
include but are not limited to: collectability of receivables; the valuation of certain assets, useful lives, and carrying amounts
of property and equipment, equity instruments and share-based compensation; provision for contract losses; valuation allowances
for deferred income tax assets; valuation of derivative liabilities; and exposure to warranty and other contingent liabilities.
We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances,
the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates.
While
our significant accounting policies are more fully described in the notes to our consolidated financial statements included elsewhere
in this prospectus, we believe that the following accounting policies are the most critical to aid you in fully understanding
and evaluating our financial condition and results of operations.
Basis
of Presentation
The
accompanying consolidated financial statements include our accounts and our wholly-owned subsidiary, Ener-Core Power, Inc. All
significant intercompany transactions and accounts have been eliminated in consolidation. All monetary amounts are rounded to
the nearest $000, except certain per share amounts.
The
accompanying financial statements have been prepared in accordance with GAAP.
Reclassifications
Certain
amounts in the 2015 consolidated condensed financial statements have been reclassified to conform to the current year presentation.
These reclassifications have no effect on previously reported net loss.
Segments
We
operate in one segment. All of our operations are located domestically.
Use
of Estimates
The
preparation of financial statements in conformity with 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 expenses during the reporting period. Significant items subject to such estimates and assumptions
include but are not limited to: collectability of receivables; the valuation of certain assets, useful lives, and carrying amounts
of property and equipment, equity instruments and share-based compensation; provision for contract losses; valuation allowances
for deferred income tax assets; valuation of derivative liabilities; and exposure to warranty and other contingent liabilities.
We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances,
the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates.
Foreign
Currency Adjustments
Our
functional currency for all operations worldwide is the U.S. dollar. Nonmonetary assets and liabilities are translated at historical
rates and monetary assets and liabilities are translated at exchange rates in effect at the end of the year. Income statement
accounts are translated at average rates for the year. At September 30, 2016 and 2015 and December 31, 2015 and 2014, we did not
hold any foreign currency asset or liability amounts. Gains and losses resulting from foreign currency transactions are reported
as other income in the period they occurred.
Concentrations
of Credit Risk
Cash
and Cash Equivalents
We
maintain our non-interest bearing transactional cash accounts at financial institutions for which the Federal Deposit Insurance
Corporation, or FDIC, provides insurance coverage of up to $250,000. For interest bearing cash accounts, from time to time, balances
exceed the amount insured by the FDIC. We have not experienced any losses in such accounts and believe we are not exposed to any
significant credit risk related to these deposits. At September 30, 2016 and December 31, 2015, we had $200,000 in deficit and
$2.5 million in excess of the FDIC limit, respectively.
We
consider all highly liquid investments available for current use with an initial maturity of three months or less and are not
restricted to be cash equivalents. We invest our cash in short-term money market accounts.
Restricted
Cash
Collateral
Account
Under
a credit card processing agreement with a financial institution that was entered in 2013, we are required to maintain funds on
deposit with the financial institution as collateral. The amount of the deposit, which is at the discretion of the financial institution,
was $50,000 on September 30, 2016 and December 31, 2015 and 2014.
Dresser-Rand
Escrow Account
Under
the CLA, prepaid license fee payments of $400,000 per quarter were paid by Dresser-Rand into an escrow account with a financial
institution beginning in August 2015. Dresser-Rand withdrew up to $125,000 per quarter from this escrow account for qualified
engineering expenses incurred by Dresser-Rand under the terms and conditions of the CLA. Through September 30, 2016, Dresser-Rand
funded $1,600,000 and withdrew $500,000. On September 26, 2016 substantially all of the remaining $1,100,000 was released to us
from the escrow account and, in October 2016, the escrow account was closed. The balance in the escrow account was $5,000, $150,000
and $0 on September 30, 2016 and December 31, 2015 and December 31, 2014, respectively. See also Note 8—Deferred Revenues
and Customer Advances to our condensed consolidated financial statements included elsewhere in this prospectus.
Accounts
Receivable
Our
accounts receivable are typically from credit worthy customers or, for international customers are supported by guarantees or
letters of credit. For those customers to whom we extend credit, we perform periodic evaluations of them and maintain allowances
for potential credit losses as deemed necessary. We generally do not require collateral to secure accounts receivable. We have
a policy of reserving for uncollectible accounts based on our best estimate of the amount of probable credit losses in existing
accounts receivable. We periodically review our accounts receivable to determine whether an allowance is necessary based on an
analysis of past due accounts and other factors that may indicate that the realization of an account may be in doubt. Account
balances deemed to be uncollectible are charged to the allowance after all means of collection have been exhausted and the potential
for recovery is considered remote.
As
of September 30, 2016 and December 31, 2014, one customer accounted for 100% of net accounts receivable. We had no net accounts
receivable as of December 31, 2015.
Accounts
Payable
As
of September 30, 2016, December 31, 2015 and December 31, 2014, three, five and six vendors, respectively, collectively accounted
for approximately 45%, 50% and 54% of our total accounts payable.
Inventory
Inventory,
which consists of raw materials, is stated at the lower of cost or net realizable value, with cost being determined by the average-cost
method, which approximates the first-in, first-out method. At each balance sheet date, we evaluate our ending inventory for excess
quantities and obsolescence. This evaluation primarily includes an analysis of forecasted demand in relation to the inventory
on hand, among consideration of other factors. Based upon the evaluation, provisions are made to reduce excess or obsolete inventories
to their estimated net realizable values. Once established, write-downs are considered permanent adjustments to the cost basis
of the respective inventories. At September 30, 2016, December 31, 2015 and 2014, we did not have a reserve for slow-moving or
obsolete inventory.
Property
and Equipment
Property
and equipment are stated at cost, and are being depreciated using the straight-line method over the estimated useful lives of
the related assets, ranging from three to ten years. Maintenance and repairs that do not improve or extend the lives of the respective
assets are expensed. At the time property and equipment are retired or otherwise disposed of, the cost and related accumulated
depreciation accounts are relieved of the applicable amounts. Gains or losses from retirements or sales are reflected in the consolidated
statements of operations.
Deposits
Deposits
primarily consist of amounts incurred or paid in advance of the receipt of fixed assets or are deposits for rent and insurance.
Accrued
Warranties
Accrued
warranties represent the estimated costs that will be incurred during the warranty period of our products. We make an estimate
of expected costs that will be incurred by us during the warranty period and charge that expense to the consolidated statement
of operations at the date of sale. We also reevaluate the estimate at each balance sheet date and if the estimate is changed,
the effect is reflected in the consolidated statement of operations. We made our initial commercial sale to Efficient Energy Conversion
TurboMachinery, B.V., or EECT, in the second quarter of 2014 with a six month warranty and later extended that warranty at our
discretion. We had no warranty accrual at December 31, 2015 or September 30, 2016. We expect that most terms for future warranties
of our Powerstations and Power Oxidizers will be depending on the warranties provided and the products sold. Accrued warranties
for expected expenditures within one year are classified as current liabilities and as non-current liabilities for expected expenditures
for time periods beyond one year.
Deferred
Rent
We
record deferred rent expense, included in accrued expenses, which represents the temporary differences between the reporting of
rental expense on the financial statements and the actual amounts remitted to the landlord. The deferred rent portion of lease
agreements are leasing inducements provided by the landlord. Also, tenant improvement allowances provided are recorded as a deferred
rent liability and recognized ratably as a reduction to rent expense over the lease term. As of September 30, 2016, we had $4,000
of deferred rent, recorded in accrued liabilities.
Intangible
Assets
Our
intangible assets represent intellectual property acquired during the reverse merger. We amortize our intangible assets with finite
lives over their estimated useful lives.
Impairment
of Long-Lived Assets
We
account for our long-lived assets in accordance with the accounting standards which require that long-lived assets be reviewed
for impairment whenever events or changes in circumstances indicate that the historical carrying value of an asset may no longer
be appropriate. We consider the carrying value of assets may not be recoverable based upon our review of the following events
or changes in circumstances: the asset’s ability to continue to generate income from operations and positive cash flow in
future periods; loss of legal ownership or title to the assets; significant changes in our strategic business objectives and utilization
of the asset; or significant negative industry or economic trends. An impairment loss would be recognized when estimated future
cash flows expected to result from the use of the asset are less than its carrying amount. As of September 30, 2016 and December
31, 2015 and 2014, we do not believe there have been any impairments of our long-lived assets. There can be no assurance, however,
that market conditions will not change or demand for our products will continue, which could result in impairment of long-lived
assets in the future.
Fair
Value of Financial Instruments
Our
financial instruments consist primarily of cash and cash equivalents, restricted cash, accounts receivable, accounts payable,
convertible notes, derivative liabilities and capital lease liabilities. Fair value estimates discussed herein are based upon
certain market assumptions and pertinent information available to management as of September 30, 2016 and December 31, 2015 and
2014. The carrying amounts of short-term financial instruments are reasonable estimates of their fair values due to their short-term
nature or proximity to market rates for similar items.
We
determine the fair value of our financial instruments based on a three-level hierarchy established for fair value measurements
under which these assets and liabilities must be grouped, based on significant levels of observable or unobservable inputs. Observable
inputs reflect market data obtained from independent sources, while unobservable inputs reflect management’s market assumptions.
This hierarchy requires the use of observable market data when available. These two types of inputs have created the following
fair-value hierarchy:
|
●
|
Level
1: Valuations based on unadjusted quoted prices in active markets that are accessible at the measurement date for identical,
unrestricted assets or liabilities. Currently, we classify our cash and cash equivalents as Level 1 financial instruments.
|
|
●
|
Level
2: Valuations based on observable inputs (other than Level 1 prices), such as quoted prices for similar assets at the measurement
date quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially
the full term of the asset or liability. We do not currently have any accounts under Level 2.
|
|
|
|
|
●
|
Level
3: Valuations based on inputs that require inputs that are both significant to the fair value measurement and unobservable
and involve management judgment (i.e., supported by little or no market activity). Currently, we classify our warrants and
conversion options accounted for as derivative liabilities as Level 3 financial instruments.
|
If
the inputs used to measure fair value fall in different levels of the fair value hierarchy, a financial security’s hierarchy
level is based upon the lowest level of input that is significant to the fair value measurement.
Derivative
Financial Instruments
We
issue derivative financial instruments in conjunction with its debt and equity offerings and to provide additional incentive to
investors and placement agents. We use derivative financial instruments in order to obtain the lowest cash cost-source of funds.
Derivative liabilities are recognized in the consolidated balance sheets at fair value based on the criteria specified in Financial
Accounting Standards Board, or FASB, Accounting Standards Codification, or ASC, topic 815-40 “
Derivatives and Hedging—Contracts
in Entity’s own Equity
.” The estimated fair value of the derivative liabilities is calculated using either the
Black-Scholes-Merton or Monte Carlo simulation model method.
We
issued detachable common stock warrants and convertible secured notes payable with conversion features in April 2014 and issued
detachable common stock warrants and secured debt with a conversion feature in April and May 2015 and again in September 2016.
We amended our existing debt to add a conversion feature in December 2015. We issued additional common stock warrants with price
reset provisions in December 2015, February 2016 and March 2016. These embedded derivatives and detachable warrants were evaluated
under ASC topic 815-40. We determined that the warrants and embedded conversion feature for the April 2014 issuance, the conversion
feature for the 2015 issuances the conversion feature for the 2016 issuance should be accounted for as derivative liabilities.
In August, 2016 all warrants issued that were previously determined to be accounted for as derivative liabilities were amended
and we determined that after giving rise to the amendments, that the warrants were no longer required to be accounted for as derivative
liabilities. We determined that the detachable warrants associated with the 2015 issuance on the issuance date and the detachable
warrants associated with the 2016 issuance on the issuance date should not be accounted for as derivative liabilities. Warrants
and the debt conversion features determined to be derivative liabilities were bifurcated from the debt host and are classified
as liabilities on the consolidated balance sheet. Warrants not determined to be derivative liabilities were recorded to debt discount
and paid in capital. We record the warrants and embedded derivative liabilities at fair value and adjust the carrying value of
the common stock warrants and embedded derivatives to their estimated fair value at each reporting date with the increases or
decreases in the fair value of such warrants and derivatives at each reporting date, recorded as a gain or (loss) in the consolidated
statements of operations. The 2015 detachable warrants determined not to be derivative liabilities were recorded to debt discount
with a corresponding entry to paid-in capital. The warrants amended in 2016 where the accounting was changed to eliminate
derivative liability treatment were marked to market immediately prior to the amendment and the fair value was reclassified on
the amendment date from derivative liabilities to paid in capital.
Revenue
Recognition
We
generate revenue from the sale of our clean power energy systems and from consulting services. Revenue is recognized when there
is persuasive evidence of an arrangement, product delivery and acceptance have occurred, the sales price is fixed or determinable
and collectability of the resulting receivable is reasonably assured. Amounts billed to clients for shipping and handling are
classified as sales of product with related costs incurred included in cost of sales.
Provisions
for discounts and rebates to customers, estimated returns and allowances, and other adjustments are provided for in the same period
the related revenue is recorded. We defer any revenue for which the services have not been performed or are subject to refund
until such time that we and our customer jointly determine that the services have been performed or no refund will be required.
Revenues
under long-term construction contracts are generally recognized using the completed-contract method of accounting. Long-term construction-type
contracts for which reasonably dependable estimates cannot be made or for which inherent hazards make estimates difficult are
accounted for under the completed-contract method. Revenues under the completed-contract method are recognized upon substantial
completion—that is acceptance by the customer, compliance with performance specifications demonstrated in a factory acceptance
test or similar event. Accordingly, during the period of contract performance, billings and costs are accumulated on the balance
sheet, but no profit or income is recorded before completion or substantial completion of the work. Anticipated losses on contracts
are recognized in full in the period in which losses become probable and estimable. Changes in estimate of profit or loss on contracts
are included in earnings on a cumulative basis in the period the estimate is changed. As of September 30, 2016, December 31, 2015
and December 31, 2014, we had a $600,000, $600,000 and no provision for contract losses, respectively.
Research
and Development Costs
Research
and development costs are expensed as incurred. Research and development costs were $2,871,000 and $2,636,000 for the
nine months ended September 30, 2016 and 2015, respectively, and were $3,412,000 and $3,156,000 for the years ended December 31,
2015 and 2014, respectively.
Share-Based
Compensation
We
maintain an equity incentive plan and record expenses attributable to the awards granted under the equity incentive plan. We amortize
share-based compensation from the date of grant on a weighted average basis over the requisite service (vesting) period for the
entire award.
We
account for equity instruments issued to consultants and vendors in exchange for goods and services at fair value. The measurement
date for the fair value of the equity instruments issued is determined at the earlier of (i) the date at which a commitment for
performance by the consultant or vendor is reached or (ii) the date at which the consultant’s or vendor’s performance
is complete. In the case of equity instruments issued to consultants, the fair value of the equity instrument is recognized over
the term of the consulting agreement.
In
accordance with the accounting standards, an asset acquired in exchange for the issuance of fully vested, non-forfeitable equity
instruments should not be presented or classified as an offset to equity on the grantor’s balance sheet once the equity
instrument is granted for accounting purposes. Accordingly, we record the fair value of the fully vested, non-forfeitable common
stock issued for future consulting services as prepaid expense in our consolidated balance sheets.
Income
Taxes
We
account for income taxes under the provisions of the accounting standards. Under the accounting standards, deferred tax assets
and liabilities are recognized for the expected future tax benefits or consequences attributable to temporary 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 years in which those temporary
differences are expected to be recovered or settled. A valuation allowance is provided for significant deferred tax assets
when it is more likely than not that such asset will not be realized through future operations. Our deferred tax assets and liabilities
are primarily related to our Net Operating Losses and timing differences between book and tax accounting for depreciation and
our net deferred tax assets were fully reserved as of December 31, 2015 and December 31, 2014.
The
accounting guidance for uncertainty in income taxes provides that a tax benefit from an uncertain tax position may be recognized
when it is more likely than not that the position will be sustained upon examination, including resolutions of any related appeals
or litigation processes, based on the technical merits. We recognize any uncertain income tax positions on income tax returns
at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing authority. An uncertain
income tax position will not be recognized if it has less than a 50% likelihood of being sustained. As of December 31,
2015 and 2014 there were no unrecognized tax benefits included in the consolidated balance sheets that would, if recognized, affect
the effective tax rate. Our practice is to recognize interest and/or penalties related to income tax matters in income tax
expense. We had no accrual for interest or penalties on our consolidated balance sheets at December 31, 2015 and 2014
and have not recognized interest and/or penalties in the consolidated statements of operations for the years ended December 31,
2015 or 2014.
We
are subject to taxation in the U.S. and various state and foreign jurisdictions.
We
do not foresee material changes to our gross uncertain income tax position liability within the next twelve months.
Earnings
(Loss) per Share
Basic
loss per share is computed by dividing net loss attributable to common stockholders by the weighted average number of common shares
assumed to be outstanding during the period of computation. Diluted loss per share is computed similar to basic loss per
share except that the denominator is increased to include the number of additional common shares that would have been outstanding
if the potential shares had been issued and if the additional common shares were dilutive. Approximately 1.6 million, 0.5
million, 1.1 million and 0.5 million shares of common stock issuable upon full exercise of all options and warrants at September
30, 2016 and 2015 and December 31, 2015 and 2014, respectively, and all shares potentially issuable in the future under the terms
of the Secured Notes Payable were excluded from the computation of diluted loss per share due to the anti-dilutive effect on the
net loss per share.
All
share and per share amounts in the table below have been adjusted to reflect the 1-for-50 reverse split of our issued and outstanding
common stock on July 8, 2015, retroactively.
|
|
Three Months Ended
September 30,
|
|
|
Year Ended
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
2015
|
|
|
2014
|
|
Net loss
|
|
$
|
(1,596,000
|
)
|
|
$
|
(3,310,000
|
)
|
|
$
|
(13,107,000
|
)
|
|
$
|
(10,534,000
|
)
|
Weighted average number of common shares outstanding:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
|
3,785,216
|
|
|
|
2,464,100
|
|
|
|
2,405,147
|
|
|
|
1,707,620
|
|
Net loss attributable to common stockholders per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
$
|
(0.42
|
)
|
|
$
|
(1.34
|
)
|
|
$
|
(5.45
|
)
|
|
$
|
(6.17
|
)
|
Comprehensive
Income (Loss)
We
have no items of other comprehensive income (loss) in any period presented. Therefore, net loss as presented in our Consolidated
Statements of Operations equals comprehensive loss.
Results
of Operations for the Three and Nine Months Ended September 30, 2016 and 2015
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Cost of goods sold:
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Gross profit
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling, general, and administrative
|
|
|
941,000
|
|
|
|
1,165,000
|
|
|
|
3,255,000
|
|
|
|
3,475,000
|
|
Research and development
|
|
|
1,170,000
|
|
|
|
928,000
|
|
|
|
2,871,000
|
|
|
|
2,636,000
|
|
Total operating expenses
|
|
|
2,111,000
|
|
|
|
2,093,000
|
|
|
|
6,126,000
|
|
|
|
6,111,000
|
|
Operating loss
|
|
|
(2,111,000
|
)
|
|
|
(2,093,000
|
)
|
|
|
(6,126,000
|
)
|
|
|
(6,111,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expenses):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
(246,000
|
)
|
|
|
(150,000
|
)
|
|
|
(985,000
|
)
|
|
|
(257,000
|
)
|
Amortization of debt discount
|
|
|
(809,000
|
)
|
|
|
(1,117,000
|
)
|
|
|
(2,209,000
|
)
|
|
|
(1,921,000
|
)
|
Loss on exchange of warrants
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(279,000
|
)
|
Loss on modification of convertible debt
|
|
|
—
|
|
|
|
—
|
|
|
|
(1,429,000
|
)
|
|
|
—
|
|
Gain (loss) on valuation of derivative liabilities
|
|
|
1,570,000
|
|
|
|
50,000
|
|
|
|
3,124,000
|
|
|
|
(33,000
|
)
|
Total other income (expenses), net
|
|
|
515,000
|
|
|
|
(1,217,000
|
)
|
|
|
(1,499,000
|
)
|
|
|
(2,490,000
|
)
|
Loss before provision for income taxes
|
|
|
(1,596,000
|
)
|
|
|
(3,310,000
|
)
|
|
|
(7,625,000
|
)
|
|
|
(8,601,000
|
)
|
Provision for income taxes
|
|
|
—
|
|
|
|
—
|
|
|
|
3,000
|
|
|
|
—
|
|
Net loss
|
|
$
|
(1,596,000
|
)
|
|
$
|
(3,310,000
|
)
|
|
$
|
(7,628,000
|
)
|
|
$
|
(8,601,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss per share—basic and diluted
|
|
$
|
(0.42
|
)
|
|
$
|
(1.34
|
)
|
|
$
|
(2.12
|
)
|
|
$
|
(3.61
|
)
|
Weighted average common shares—basic and diluted
|
|
|
3,785,216
|
|
|
|
2,464,100
|
|
|
|
3,591,233
|
|
|
|
2,385,500
|
|
Revenue,
Cost of Goods Sold and Gross Profit/(Loss)
We
had no revenues for both the three and nine months ended September 30, 2016 or 2015, respectively, and, therefore, we had no cost
of goods sold or gross profit or loss.
Selling,
general and administrative expenses
Selling,
general and administrative expenses costs include officer compensation, salaries and benefits, stock-based compensation expense,
consulting fees, legal expenses, intellectual property costs, accounting and auditing fees, investor relations costs, insurance,
public company reporting costs and listing fees, and corporate overhead related costs. Total selling, general and administrative
expenses for the three months ended September 30, 2016 decreased $228,000, or 19.5%, to $941,000 from $1,169,000 for the same
period of the prior year. The decrease was primarily due to the cost savings measures we implemented beginning in April 2016,
including a decrease in stock compensation of $36,000, a decrease in professional services of approximately $166,000 for lower
legal and investor relations expenses, a decrease of $17,000 in overhead, and a decrease of $11,000 for travel expenses.
Total
selling, general and administrative expenses for the nine months ended September 30, 2016 decreased $221,000, or 6.4%, to $3,254,000
from $3,475,000 for the same period of the prior year. The decrease was primarily due to the net effect of a decrease of
headcount costs and stock compensation expenses of approximately $37,000, a reduction of approximately $62,000 in travel expenses,
an expense decrease due to overhead allocated to research and development of $44,000, a reduction of professional services of
$16,000 and a reduction of approximately $42,000 in non-recurring charges, including bad debt expense and bank charges.
Research
and development
Research
and development costs include development expenses for the Power Oxidizer and integration expenses related to our Power Oxidizer
products with other partners such as Dresser-Rand and include salaries and benefits, consultant fees, cost of supplies and materials
for samples and prototypes, depreciation, as well as outside services costs. Research and development expense for the three
months ended September 30, 2016 increased $242,000, or 26.0%, to $1,170,000 from $928,000 for the same period of the prior year. The
increase is due to the net effect of lower recurring expenses due to lower headcount, an expense reduction due to an allocation
of headcount costs to Power Oxidizers carried in fixed assets and inventory, an increase in non-recurring charges due to the FSAT
test unit in 2016 and a decrease in non-recurring charges due to the SSAT testing in 2015. See tabular presentation and greater
detail below.
Research
and development expense for the nine months ended September 30, 2016 increased $235,000, or 8.9%, to $2,871,000 from $2,636,000
for the same period of the prior year. he increase is due to the net effect of lower recurring expenses due to lower
headcount, an expense reduction due to an allocation of headcount costs to Power Oxidizers carried in fixed assets and inventory,
an increase in non-recurring charges due to the FSAT test unit in 2016 and a decrease in non-recurring charges due to the SSAT
testing in 2015. See tabular presentation and greater detail below.
The
following tabular presentation sets forth certain changes to research and development expenses for the three and nine months ended
September 30, 2016 and 2015, respectively:
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
Research and Development Expenses
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
Recurring gross headcount, overhead, supplies and depreciation
|
|
|
669,000
|
|
|
|
766,000
|
|
|
|
2,370,000
|
|
|
|
2,459,000
|
|
Less amount capitalized to FSAT and Inventory units
|
|
|
(186,000
|
)
|
|
|
—
|
|
|
|
(186,000
|
)
|
|
|
—
|
|
Net recurring research and development expenses
|
|
|
483,000
|
|
|
|
766,000
|
|
|
|
2,184,000
|
|
|
|
2,459,000
|
|
Non-recurring FSAT equipment related expenses
|
|
|
687,000
|
|
|
|
—
|
|
|
|
687,000
|
|
|
|
—
|
|
Non-recurring SSAT related expenses
|
|
|
—
|
|
|
|
162,000
|
|
|
|
—
|
|
|
|
177,000
|
|
Total Research and Development expenses
|
|
$
|
1,170,000
|
|
|
$
|
928,000
|
|
|
$
|
2,871,000
|
|
|
$
|
2,636,000
|
|
The
decrease in the recurring gross expenses of $97,000 to $669,000 for the three months ended September 30, 2016 and the decrease
of $89,000 to $2,370,000 for the nine months ended September 30, 2016 is due to lower employee headcount, lower consulting, and
lower stock compensation charges compared to the comparable 2015 reporting periods.
The
three and nine months ended September 30, 2016 included a reduction of $186,000 related to salaries, benefits, and consulting
costs associated with the buildout and completion of the FSAT unit and partial construction of the two Power Oxidizers delivered
in October 2016 to Pacific Ethanol. We capitalized $45,000 to fixed assets for the FSAT unit and $141,000 into inventory for the
Power Oxidizer units delivered to Pacific Ethanol in October 2016.
The
three and nine months ended September 30, 2016 included $687,000 of non-recurring expenses and charges related to the FSAT conducted
in the 2016 quarter, including $350,000 of assets capitalized in 2015 as fixed assets but not placed into service until the end
of the second quarter of 2016. We determined that the underlying assets recorded in 2015 and certain similar assets recorded in
2016 were not likely to be recovered and therefore considered to be impaired. The three and nine months ended September 30, 2015
included non-recurring costs related to the SSAT, which was completed in 2015.
Other
Income (Expenses):
Other
income (expenses) for the three and nine months ended September 30, 2016 consisted primarily of cash and non-cash interest on
the 2015 Notes, placed in April and May 2015 and the Convertible Unsecured Notes, placed in September 2016, the non-recurring
charge for the modification of the 2015 Notes, cash and non-cash charges on the backstop security arrangement, and the mark to
market adjustment for our derivative liabilities related to the 2015 and Convertible Unsecured Notes and the warrants issued in
conjunction with our December 2015 private equity placement. Other income (expenses) for the three and nine months ended September
30, 2015 consisted of the mark to market adjustment for the December 2014 warrants, which were exchanged for common stock in April
2015, and cash and non-cash interest on the 2015 Notes, placed in late April and early May 2015.
Net
Loss
For
the three months ended September 30, 2016, our net loss was approximately $1.6 million, primarily from operating expenses of $2.1
million and $0.5 million of other income. Operating expenses include recurring cash basis expenses of $1.1 million, reduced by
$0.2 million of recurring cash basis expenses capitalized to fixed assets and inventory, non-recurring expenses relating to the
FSAT testing and equipment of $0.7 million, and non-cash expenses of $0.5 million, consisting of stock-based compensation expenses
of $0.3 million and depreciation of $0.2 million. The $0.5 million of other income (net) consists of $0.3 million of cash interest
expense and $0.8 million of non-cash interest expense, which is offset by a $1.6 million mark to market gain on derivative liabilities.
For
the nine months ended September 30, 2016, our net loss was approximately $7.6 million, primarily from operating expenses of $6.1
million and other expenses (net) of $1.5 million. The operating expenses included $4.1 million of cash based expenses, a reduction
of $0.2 million of recurring cash basis expenses capitalized to assets, non-recurring expenses relating to the FSAT testing and
equipment charges of $0.7 million and $1.5 million of non-cash expenses including stock-based compensation of $1.0 million and
depreciation of $0.5 million. Other expenses (net) consists of $1.0 million of interest on the 2015 Notes, Convertible Unsecured
Notes and $2.1 million backstop security, $2.2 million of amortization of the discount on the 2015 Notes and Convertible Unsecured
Notes, which is offset by a $3.1 million mark to market gain on derivative liabilities.
Earnings
per share
Earnings
per share, basic and diluted were ($0.42) and ($1.34) for the three months ended September 30, 2016 and 2015, respectively, and
were ($2.12) and ($1.34) for the nine months ended September 30, 2016 and 2015, respectively.
Liquidity
Cash
Flows used in Operating Activities
Our
cash used in operating activities was approximately $5.4 million and $4.5 million for the nine months ended September 30, 2016
and 2015, respectively. Cash used in operating activities for the nine months ended September 30, 2016 resulted from a net loss
of approximately $7.6 million, reduced by net non-cash charges of $2.5 million for stock-based compensation, gains on revaluation
of derivative securities, non-cash interest expense due to amortization of debt discount and deferred financing charges, expense
related to modification of debt, fixed asset impairment, and depreciation, offset by a change of $0.3 million of working capital,
primarily due to a $1.9 million increase in inventory, accounts receivable and prepaid expenses offset by a $1.5 million increase
in accounts payable and deferred revenue and a $0.1 million decrease in restricted cash. Cash used in operating activities for
the nine months ended September 30, 2015 of $4.5 million resulted from a net loss of approximately $8.6 million reduced by $3.6
million of non-cash charges for stock based compensation, depreciation, and losses on revaluation of derivative securities and
$0.5 million in additional working capital, primarily increases in accounts payable of $0.8 million and an increase of $0.3 million
of restricted cash.
Cash
Flows from Investing Activities
Cash
used in investing activities of $0.7 million for the nine months ended September 30, 2016 was attributable to the purchase of
parts and equipment to build the FSAT unit for the KG2 product development. Cash used in investing activities of $1.8 million
for the nine months ended September 30, 2015 was attributable to the purchase of property and equipment consisting primarily of
the multi-fuel test facility, which was used to satisfy the initial SSAT for the CLA and early payments made to construct the
full KG2 prototype to be used in the KG2 integration for the FSAT.
Cash
Flows from Financing Activities
Cash
provided by financing activities for the nine months ended September 30, 2016 of $4.1 million consisted of a an equity investment
of $2.9 million, net of $0.1 million in fees and the placement of $1.2 million, net of expenses of Convertible Unsecured Notes.
Cash provided by financing activities for the nine months ended September 30, 2015 consisted of $4.7 million of proceeds from
the $5.0 million 2015 Notes placement, net of $0.3 million in fees, and $0.7 million received from a private equity placement
of $0.8 million net of $0.1 million of fees.
Capital
Resources
Our
principal capital requirements are to fund our working capital requirements, invest in research and development and capital equipment
and fund the continued costs of public company compliance requirements. We have historically funded our operations
through debt and equity financings.
From
our inception, we have incurred losses from operations. For the nine months ended September 30, 2016, we have incurred losses
from operations and have an accumulated deficit of approximately $38.7 million and a net loss of approximately $7.6 million. For
the nine months ended September 30, 2016, we used cash in operations of approximately $5.4 million, which raises substantial doubt
about our ability to continue as a going concern.
We
expect to continue to incur substantial additional operating losses from costs related to the continuation of product and technology
development and administrative activities. Our cash on hand at September 30, 2016 was approximately $0.7 million (including
restricted cash of $50,000).
Our
sales cycle can exceed 24 months and, except as noted below, we do not expect to generate sufficient revenue in the next twelve
months to cover our operating costs. We anticipate that we will pursue raising additional debt or equity financing to fund
new product development and execute on the commercialization of our product plans.
Until
we achieve our product commercialization plans and are able to generate sales to realize the benefits of the strategy and sufficiently
increase cash flow from operations, we will require additional capital to meet our working capital requirements, research and
development, capital requirements and compliance requirements and will continue to pursue raising additional equity and/or debt
financing.
Our
principal sources of liquidity are cash and receivables. As of September 30, 2016, cash and cash equivalents (including
restricted cash) were $0.7 million, or 9.1% of total assets, compared to $2.8 million, or 37.1% of total assets, at December 31,
2015. The decrease in cash and cash equivalents was primarily attributable to cash used in operating activities of
$5.4 million and $0.7 million of spending on fixed assets, primarily on the KG2 unit to be used for the FSAT testing.
We
have not yet achieved profitable operations and have yet to establish an ongoing source of revenue to cover operating costs and
meet our ongoing obligations. During the three months ended September 30, 2016, we continued to reduce our cash operating expenses.
Excluding one-time charges related to the FSAT unit testing, our September 2016 operational cash requirement decreased to approximately
$1.1 million, down from approximately $1.5 million per quarter in the first quarter of 2016. In June 2016, we signed the CMLA
with Dresser-Rand. The transition to the CMLA will decrease our cash needs for the next 12 months as compared to our projections
for prior quarters due to lower working capital requirements. Since Dresser-Rand will begin manufacturing our Power Oxidizers
and pay us a license fee of at least $370,000 per unit, our cash requirements is expected to decrease in future quarters. Our
cash spending requirements, excluding debt repayment for the $6.25 million of debt due in 2017, are expected to be $7.0 million,
consisting of:
|
●
|
Employee,
occupancy and related costs: $3.2 million
|
|
|
|
|
●
|
Professional
fees and business development costs: $0.8 million
|
|
|
|
|
●
|
Research
and development programs: $0.5 million
|
|
|
|
|
●
|
Corporate
filings: $0.5 million
|
|
|
|
|
●
|
Working
capital: $1.0 million
|
|
|
|
|
●
|
Debt
service: $1.0 million
|
We
expect to reduce our cash spending requirement over the next year by further reducing our operating expenses, reducing our working
capital requirement to zero, and eliminating most of our debt service cash spending.
Dresser-Rand
license fee payments
: Under the CMLA, beginning in the third quarter of 2016, Dresser-Rand is obligated to pay us a minimum
of $370,000 per KG2 unit sold, of which 50% is due 30 days after order placement by the end customer to Dresser-Rand and 50% is
payable within one year of order placement.
Sale
or lease of FSAT KG2 unit
: We constructed a functional KG2 production unit as part of the FSAT testing and intend to sell
or lease this unit within the next nine months.
Results
of Operations for the Fiscal Years Ended December 31, 2015 and 2014
|
|
Year Ended
December 31,
|
|
|
Year Ended
December 31,
|
|
|
|
2015
|
|
|
2014
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
—
|
|
|
$
|
868,000
|
|
Cost of goods sold
|
|
|
600,000
|
|
|
|
1,170,000
|
|
Gross profit (loss)
|
|
|
(600,000
|
)
|
|
|
(302,000
|
)
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
Selling, general, and administrative
|
|
|
5,197,000
|
|
|
|
5,449,000
|
|
Research and development
|
|
|
3,412,000
|
|
|
|
3,156,000
|
|
Total operating expenses
|
|
|
8,609,000
|
|
|
|
8,605,000
|
|
Operating loss
|
|
|
(9,209,000
|
)
|
|
|
(8,907,000
|
)
|
|
|
|
|
|
|
|
|
|
Other income (expenses):
|
|
|
|
|
|
|
|
|
Interest income
|
|
|
2,000
|
|
|
|
1,000
|
|
Loss on debt conversion
|
|
|
—
|
|
|
|
(2,414,000
|
)
|
Loss on exchange of warrants
|
|
|
(279,000
|
)
|
|
|
—
|
|
Loss on debt extinguishment
|
|
|
(707,000
|
)
|
|
|
—
|
|
Gain (loss) on revaluation of derivative liabilities, net
|
|
|
(198,000
|
)
|
|
|
1,574,000
|
|
Interest expense
|
|
|
(2,716,000
|
)
|
|
|
(787,000
|
)
|
Total other income (expenses), net
|
|
|
(3,898,000
|
)
|
|
|
(1,626,000
|
)
|
Loss before provision for income taxes
|
|
|
(13,107,000
|
)
|
|
|
(10,533,000
|
)
|
Provision for income taxes
|
|
|
—
|
|
|
|
1,000
|
|
Net loss
|
|
$
|
(13,107,000
|
)
|
|
$
|
(10,534,000
|
)
|
|
|
|
|
|
|
|
|
|
Loss per share—basic and diluted
|
|
$
|
(5.45
|
)
|
|
$
|
(6.17
|
)
|
Weighted average common shares—basic and diluted
|
|
|
2,405,147
|
|
|
|
1,707,620
|
|
Revenue
Our
revenue primarily consists of Power Oxidizer sales as well as engineering services. For the year ended December 31, 2014,
we had revenue of $868,000. For the year ended December 31, 2015, we had no product sales, as compared to $868,000 for the
prior year where we had $58,000 of waste gas testing consulting services and sold one unit to Attero in the Netherlands.
Cost
of Goods Sold
For
the year ended December 31, 2014, cost of goods sold was $1,170,000. For the year ended December 31, 2015, we had $600,000 of
cost of goods sold. Cost of goods sold for 2015 represents the estimated contract loss on the first two KG2 oxidizers sold
to Dresser-Rand (a Siemens Company) for delivery expected in 2016. Cost of goods sold for the 2014 periods primarily consisted
of the costs to build our Power Oxidizer unit shipped to Attero, including materials, labor, overhead costs and warranty costs,
and materials costs related to the consulting services.
Gross
profit (Loss)
Gross
profit (Loss) increased from ($302,000) in 2014 to ($600,000) in 2015 representing the increase from $0.3 million in warranty
driven losses in 2014 for the first commercial unit sold to Attero for a 250 kW Powerstation to a $0.6 million contract loss provision
for the first two KG2 Oxidizers sold to Dresser-Rand (a Siemens company) for units expected to be shipped in 2016.
Operating
expenses:
Total
operating expenses for the years ended December 31, 2015 and 2014 were $8.6 million and $8.6 million respectively. Our operating
expenses consist of non-cash expenses including stock compensation charges and depreciation and cash-basis expenses, consisting
of employee salaries and benefits paid in cash, rents and overhead, research and development materials, consulting expenses, professional
services, and insurance.
From
2014 to 2015, despite the total expenses being consistent, the underlying activity is due to the net effect of a decrease of non-cash
expenses of $1.7 million and cash basis expense increases of $1.7 million.
From
2014 to 2015, total expenses paid in cash increased by $1.7 million resulting from:
|
●
|
$0.8
million increase in employee salaries and benefits due to increased staff in 2015 to support the engineering integration of
for the KG2 Power Oxidizer and the increase sales and marketing headcount.
|
|
|
|
|
●
|
$0.6
million increase in non-recurring professional fees primarily related to our S-1 filings and uplisting efforts.
|
|
|
|
|
●
|
$0.2
million increase in research and development materials.
|
|
|
|
|
●
|
$0.1
million increase in bad debt expense, fees, travel, and other miscellaneous expenses.
|
The
non-cash expense reduction from $3.6 million in 2014 to $1.9 million in 2015 is due to a reduction in stock based compensation
of $1.9 million, offset by a $0.2 million increase in depreciation, primarily associated with additional depreciation on our SSAT
rig which was capitalized in July 2015.
Selling,
General and Administrative Expenses
Selling,
general and administrative expenses include officer compensation, salaries and benefits, stock-based compensation expense, consulting
fees, legal expenses, intellectual property costs, accounting and auditing fees, investor relations costs, insurance, public company
reporting costs and listing fees, and corporate overhead related costs. Total selling, general and administrative expenses
for the year ended December 31, 2015 decreased $252,000 to $5,197,000 from $5,449,000 for the same period of the prior year.
The
decrease for the year ended December 31, 2015 compared to 2014 is primarily due to the net effect of a decrease in stock-based
compensation expense of $1.1 million and offset by a net increase in cash expenses of $0.9 million consisting of approximately
$0.3 million of increased employee headcount related costs for additional sales and marketing staff and $0.6 million for increased
legal and accounting fees in 2015 associated with costs for the public offering filings and corporate legal work.
Research
and Development Expenses
Research
and development costs include development expenses for the Power Oxidizer and integration expenses related to our Power Oxidizer
products with partners such as Dresser-Rand and include salaries and benefits, consultant fees, cost of supplies and materials
for samples and prototypes, depreciation, as well as outside services costs. Research and development expenses for the fiscal
year ended December 31, 2015 increased $256,000 to $3,412,000 from $3,156,000 for 2014.
The
increase was due to the net effect of a $0.8 million decrease in non-cash stock-based compensation expense offset by increases
of $0.2 million for depreciation associated with the SSAT rig placed into service in mid-2015, an increase of $0.6 million for
employee related costs due to higher headcount to support the Dresser-Rand integration, and an increase of $0.3 million for R&D
materials, supplies, and natural gas consumed during the SSAT conducted in mid-2015.
Other
Income (Expenses)
Other
income and expenses for the year ended December 31, 2015 of ($3,898,000) consisted primarily of combined interest expense and
amortization of debt discount of ($2,716,000), loss on debt extinguishment of ($707,000), and a loss of ($198,000), all associated
with our 2015 Notes entered into in April and May 2015 with a further loss of ($279,000) related to the April 2015 exchange of
warrants issued in 2014 for shares of our common stock.
Other
income and expenses for the year ended December 31, 2014 of ($1,626,000) consisted primarily of combined interest expense and
amortization of debt discount of ($787,000) and loss on debt conversion of ($2,414,000), offset by a gain on the fair value adjustment
of our derivative liabilities of $1,574,000, all of which were associated with convertible secured notes issued in April 2014
and settled in August 2014.
Net
Loss
For
the year ended December 31, 2015, our net loss was approximately $13.1 million, primarily from $600,000 in negative gross profit,
operating expenses of $8.6 million, of which $1.5 million was for employee stock compensation, and other expense of $3.9 million
related to the 2015 Notes issued in April and May 2015, as amended.
The
increase from the net loss of $10.5 million for the year ended December 31, 2014 to $13.1 million for the year ended December
31, 2015 was due to an increase in other expenses of $2.2 million and the increase in operating loss of $0.3 million, as described
above.
Liquidity
Cash
Flows used in Operating Activities
Our
cash used in operating activities were approximately $4.3 million and $4.5 million for the years ended December 31, 2015 and 2014,
respectively. Cash used in operating activities for the year ended December 31, 2015 resulted from a net loss of approximately
$13.1 million, reduced by non-cash charges of $6.0 million and $2.8 million of working capital. The non-cash charges consisted
of $2.2 million in non-cash amortization of debt discounts and deferred financing fees, $1.5 million for stock-based compensation,
a $0.7 million loss due to the modification of the 2015 Notes recorded as a debt extinguishment loss, a $0.6 million provision
for estimated contract losses on our first two commercial KG2 units, $0.2 million for losses on revaluation of derivative securities,
and $0.4 million for depreciation. The $2.8 million change in working capital was primarily due to $2.8 million increase in customer
advances an increase of $0.9 million of accounts payable, offset by an increase of $0.7 million for purchased inventory.
Cash
used in operating activities for the year ended December 31, 2014 resulted primarily from a net losses of $10.5 million, reduced
by non-cash charges of $5.9 million including $3.5 million of stock-based compensation expense, $2.5 million due to the accelerated
amortization of debt discount on the conversion in August 2014 of the convertible secured notes issued in April 2014, $0.7 million
of debt amortization, $0.4 million in fair value warrants issued for services and settlements, $0.2 million in warranty expenses,
$0.2 million in depreciation and $0.1 million in working capital, offset by a $1.7 million gain on the reduction in fair value
of our derivative liabilities.
Cash
Flows from Investing Activities
Cash
used in investing activities of $3.1 million for the year ended December 31, 2015 was attributable to the purchase of property
and equipment consisting primarily of the MFTF, which was used to satisfy the SSAT for the CLA and payments made to construct
the full KG2 prototype to be used in the KG2 integration for the FSAT. Cash used in investing activities for the year ended December
31, 2014 was attributable to purchases of research equipment and office equipment of $188,000.
Cash
Flows from Financing Activities
Cash
provided by financing activities of $7.8 million for the year ended December 31, 2015 was attributable to $3.3 million in equity
placements and the $5.0 million of 2015 Notes sold in April and May 2015, net of offering costs and fees. Cash provided by financing
activities was $5.7 million for the year ended December 31, 2014 consisting of a $3.8 million equity raise in September 2014,
net and the net effect of $3.8 million in proceeds from the convertible secured notes issued in April 2014 and settled in August
2014 offset by a $1.9 million repayment.
Capital
Resources
Our
principal capital requirements are to fund our working capital requirements, invest in research and development and capital equipment
and fund the continued costs of public company compliance requirements. We have historically funded our operations through
debt and equity financings.
From
our inception, we have incurred losses from operations. For the year ended December 31, 2015, we had a net loss of approximately
$13.1 million and an accumulated deficit of approximately $31.1 million. For the year ended December 31, 2015, we used cash in
operations of approximately $4.3 million, which raises substantial doubt about our ability to continue as a going concern.
We
expect to continue to incur substantial additional operating losses from costs related to the continuation of product and technology
development and administrative activities. Our cash on hand at December 31, 2015 was approximately $2.8 million (including
restricted cash of $0.2 million). On April 23, 2015, we sold the April 2015 Notes with an aggregate principal amount of $3.1
million and the April 2015 Warrants for the purchase of up to 136,264 shares of our common stock. On May 1, 2015, we sold 108,000
shares of our common stock at a purchase price of $7.50 per share and received gross proceeds of approximately $810,000 from the
sale of such shares. On May 7, 2015, we sold the May 2015 Notes with an aggregate principal amount of $1.9 million and the May
2015 Warrants for the purchase of up to 83,517 shares of our common stock. On December 31, 2015, we sold 625,000 shares of our
common stock and warrants for the purchase of up to 312,500 shares of our common stock and received gross proceeds of $2.5 million
from the sale of such securities. We paid $550,000 in costs and fees associated with these equity and debt financings.
Our
sales cycle can exceed 24 months and we do not expect to generate sufficient revenue in the next twelve months to cover our operating
costs. We anticipate that we will pursue raising additional debt or equity financing to fund new product development and
execute on the commercialization of our product plans. We cannot make any assurances that our strategies will be effective
or that any additional financing will be completed on a timely basis, on acceptable terms or at all. Our inability to successfully
implement our strategies or to complete any other financing will adversely impact our ability to continue as a going concern.
Until
we achieve our product commercialization plans and are able to generate sales to realize the benefits of the strategy and sufficiently
increase cash flow from operations, we will require additional capital to meet our working capital requirements, research and
development, capital requirements and compliance requirements and will continue to pursue raising additional equity and/or debt
financing.
Our
principal source of liquidity is cash. As of December 31, 2015, cash and cash equivalents (including restricted cash) were
$2.8 million or 37.2% of total assets compared to $2.2 million, or 67.6% at December 31, 2014. The increase in cash and cash
equivalents was due to the receipt of $7.8 million of cash from debt and equity financings, offset by cash used in operating activities
of $4.5 million and $3.1 million of spending on fixed assets, primarily on the MFTF and the prototype to be used for the FSAT.
We
have not yet achieved profitable operations and have yet to establish an ongoing source of revenue to cover operating costs and
meet our ongoing obligations. Our cash needs for the next 12 months are projected to be in excess of $10 million, which we estimate
to include the following:
|
●
|
Employee,
occupancy and related costs: $4.3 million
|
|
|
|
|
●
|
Professional
fees and business development costs: $1.2 million
|
|
●
|
Research
and development programs: $1.5 million
|
|
|
|
|
●
|
Corporate
filings: $0.5 million
|
|
●
|
Working
capital: $2.5 million
|
During
the quarter ended December 31, 2015, we began to bill and collect customer deposits on our existing $4.6 million backlog consisting
of $2.4 million billed for sales of our Power Oxidizers and Powerstations and $0.4 million billed for our license fee arrangement
with Dresser-Rand. Of the $2.8 million billed, we collected $2.4 million in cash, $0.4 million was placed into a restricted escrow
account as described below.
Dresser
Rand Restricted Cash Escrow Account
. As of December 31, 2015, we had $150,000 in restricted cash held in an escrow account
under the terms and conditions of the CLA. The escrowed funds represent 25% of the total $1,600,000 license fees due under the
CLA, reduced by $250,000 of reimbursable engineering costs payable to Dresser-Rand. We expect to receive additional cash payments
of $400,000 per quarter which will be placed into escrow until a gross total of $1,600,000 is placed into the escrow account.
Dresser-Rand is allowed to draw up to $125,000 per quarter from the escrow account up to a maximum draw of $500,000. The remaining
$1,100,000 will be released to us upon the satisfaction of the FSATs identified in the CLA. We expect the FSAT requirements to
be completed in the second quarter of 2016.
Off-Balance
Sheet Arrangements
In
November 2015, we delivered to Dresser-Rand a $2.1 million letter of credit with an expiration date of June 30, 2017, which Dresser-Rand
accepted as the backstop security required in support of the purchase order for the first two KG2 Power Oxidizer units. Under
the terms of the Dresser-Rand purchase order, the backstop security enables us to collect 50% of the order value in cash immediately
with additional payments over time as we purchase materials for the Power Oxidizer units. In order to obtain the letter of credit
to serve as the required backstop security, we executed a Backstop Security Support Agreement, or the Support Agreement, pursuant
to which an investor agreed to provide us with financial and other assistance (including the provision of sufficient and adequate
collateral) as necessary to obtain the letter of credit. If the investor is required to make any payments on the letter of credit,
we will reimburse the investor the full amount of any such payment, subject to the terms of a Security Agreement and Subordination
and Intercreditor Agreement executed concurrently with the Support Agreement.
We
have not entered into any other financial guarantees or other commitments to guarantee the payment obligations of any third parties.
We have not entered into any derivative contracts that are indexed to our shares and classified as stockholders’ equity
that are not reflected in our financial statements. Furthermore, we do not have any retained or contingent interest in assets
transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity. We do not have
any variable interest in any unconsolidated entity that provides financing, liquidity, market risk or credit support to us or
engages in leasing, hedging or research and development services with us.
Inflation
We
believe that inflation has not had a material effect on our operations to date.
Recently
Issued Accounting Pronouncements
In
May 2014, the FASB issued Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic
606) (“ASU 2014-09”). ASU 2014-09 provides a framework for addressing revenue recognition issues and, upon its effective
date, replaces almost all existing revenue recognition guidance, including industry-specific guidance, in current U.S. generally
accepted accounting principles. ASU 2014-09 is effective beginning with the calendar year ended December 31, 2017. We have not
yet assessed the impact ASU 2014-09 will have upon adoption on its financial position, results of operations or cash flows.
In
August 2014, the FASB issued ASU 2014-15, Presentation of Financial Statements—Going Concern (Subtopic 205-40): Disclosure
of Uncertainties about an Entity’s Ability to Continue as a Going Concern. ASU 2014-15 requires that an entity’s management
evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity’s
ability to continue as a going concern within one year after the date that the financial statements are issued. Substantial doubt
about an entity’s ability to continue as a going concern exists when relevant conditions and events, considered in the aggregate,
indicate that it is probable that the entity will be unable to meet its obligations as they become due within one year after the
date that the financial statements are issued. Certain disclosures are necessary in the footnotes to the financial statements
in the event that conditions or events raise substantial doubt about an entity’s ability to continue as a going concern.
ASU 2014-15 is effective for the annual period ending after December 15, 2016, and for annual periods and interim periods thereafter
and early application is permitted. We have not yet assessed the impact ASU 2014-15 will have upon adoption.
In
November 2014, the FASB issued ASU 2014-16—Derivatives and Hedging: Determining Whether the Host Contract in a Hybrid Financial
Instrument Issued in the Form of a Share is More Akin to Debt or to Equity. ASU 2014-16 clarifies how current GAAP should be interpreted
in evaluating the economic characteristics and risks of a host contract in a hybrid financial instrument that is issued in the
form of a share. ASU 2014-16 is effected for the interim and annual periods beginning after December 15, 2015. We have not yet
assessed the impact ASU 2014-16 will have upon adoption.
In
April 2015, the FASB issued ASU 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation
of Debt Issuance Costs. ASU 2015-03 simplifies the presentation of debt issuance costs by requiring that debt issuance costs related
to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability,
consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments
in this update. ASU 2015-03 is effective for public business entities for financial statements issued for fiscal years beginning
after December 15, 2015 and interim periods within those fiscal years and early application is permitted. We elected to adopt
ASU 2015-03 beginning with the interim period ended June 30, 2015. There was no impact to any prior periods presented as a result
of adopting ASU 2015-03.
In
July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory. ASU 2015-11 requires
that entities measure inventory at the lower of cost and net realizable value. ASU 2015-11 is effective for fiscal years beginning
after December 15, 2016, including interim periods within those fiscal years and early application is permitted. We have not yet
assessed the impact ASU 2015-11 will have upon adoption.
In
November 2015, the FASB issued ASU 2015-17, Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes. ASU 2015-17
requires that entities’ deferred tax liabilities and assets be classified as noncurrent in a classified statement of financial
position. ASU 2015-17 is effective for fiscal years beginning after December 15, 2017 and interim periods within annual periods
beginning after December 15, 2018. We have not yet assessed the impact ASU 2015-17 will have upon adoption.
In
February 2016 the FASB issued ASU 2016-2, Leases (Topic 842). ASU 2016-2 affects any entity entering into a lease and changes
the accounting for operating leases to require companies to record an operating lease liability and a corresponding right-of-use
lease asset, with limited exceptions. ASU 2016-2 is effective for fiscal years beginning after December 15, 2019 and interim periods
with annual periods beginning after December 15, 2010. Early adoption is allowed. We have not yet assessed the impact ASU 2016-2
will have upon adoption.
JOBS
Act
Section 107
of the JOBS Act also provides that an “emerging growth company” can take advantage of the extended transition period
provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. In other words,
an “emerging growth company” can delay the adoption of new or revised accounting standards until those standards would
otherwise apply to private companies. We have irrevocably elected not to avail ourselves of this exemption from new or revised
accounting standards and, therefore, we will be subject to the same new or revised accounting standards as other public companies
that are not emerging growth companies.
For
as long as we remain an “emerging growth company” under the recently enacted JOBS Act, we will, among other things:
|
●
|
be
exempt from the provisions of Section 404(b) of the Sarbanes-Oxley Act, which requires that our independent registered
public accounting firm provide an attestation report on the effectiveness of our internal control over financial reporting;
|
|
|
|
|
●
|
be
permitted to omit the detailed compensation discussion and analysis from proxy statements and reports filed under the Securities
Exchange Act of 1934, as amended, or the Exchange Act, and instead provide a reduced level of disclosure concerning executive
compensation; and
|
|
|
|
|
●
|
be
exempt from any rules that may be adopted by the Public Company Accounting Oversight Board requiring mandatory audit firm
rotation or a supplement to the auditor’s report on the financial statements.
|
Although
we are still evaluating the JOBS Act, we currently intend to take advantage of some or all of the reduced regulatory and reporting
requirements that will be available to us so long as we qualify as an “emerging growth company,” except that we have
irrevocably elected not to take advantage of the extension of time to comply with new or revised financial accounting standards
available under Section 102(b) of the JOBS Act. Among other things, this means that our independent registered public accounting
firm will not be required to provide an attestation report on the effectiveness of our internal control over financial reporting
so long as we qualify as an emerging growth company, which may increase the risk that weaknesses or deficiencies in our internal
control over financial reporting go undetected. Likewise, so long as we qualify as an emerging growth company, we may elect not
to provide you with certain information, including certain financial information and certain information regarding compensation
of our executive officers, that we would otherwise have been required to provide in filings we make with the SEC, which may make
it more difficult for investors and securities analysts to evaluate us. As a result, investor confidence in us and the market
price of our common stock may be materially and adversely affected.
BUSINESS
Overview
Our
proprietary and patented Power Oxidation technology is designed to create greater industrial efficiencies by converting low-quality
waste gases generated from industrial processes into usable on-site energy, therefore decreasing both operating costs and significantly
reducing environmentally harmful gaseous emissions. We design, develop, license, manufacture and market our Power Oxidizers, which,
when bundled with an electricity generating turbine in the 250 kilowatt, or kW, and 2 megawatt, or MW, sizes, are called Powerstations.
We currently partner and are pursuing partnerships with large established manufacturers to integrate our Power Oxidizer with their
gas turbines, with the goal to open substantial new opportunities for our partners to market these modified gas turbines to industries
for which traditional power generation technologies were not technically feasible previously. We currently manufacture our Powerstations
in the 250 kW size and manufacture just the Power Oxidizer for the 2MW size. Beginning in 2017, contingent upon the successful
completion of certain field testing, our 2MW partner, Dresser-Rand a.s., a subsidiary of Dresser-Rand Group Inc., a Siemens company,
or Dresser-Rand, will manufacture the 2MW Power Oxidizers under a manufacturing license and will pay us a non-refundable license
fee for each unit manufactured.
Historically,
basic industries such as Petroleum, Plastics, Steel and Paper have consumed electricity in their manufacturing processes and created
heat for their manufacturing processes through the burning of fossil fuels in a combustion chamber. Nearly all such combustion
chambers use high quality premium fuels and burn those fuels at high temperatures, while low-quality waste gases were typically
destroyed or vented into the atmosphere. Worldwide, these industrial processes collectively contribute approximately 32% of total
global greenhouse gas emissions. Our technology utilizes these waste gases by modifying turbines with our gradual oxidation vessel.
Inside this vessel, pressure and temperature are applied over time to destroy contaminants and return a substantially low emission
source of energy in the form of heat. This heat then powers a turbine, spinning a generator and creating electricity. This technology
can potentially unlock a new, global source of clean power generation (electricity, steam and/or heat energy) while reducing harmful
emissions. Our goal is to enable industrial process facilities to generate clean energy from their existing waste gases, thereby
reducing the amount of energy they purchase from their regional utilities, and simultaneously reducing the cost of compliance
with local, state, and federal air quality regulations by avoiding the chemicals, catalysts and complex permitting required by
existing pollution abatement systems.
We
have experienced losses since inception and anticipate that we will continue to incur losses and negative cash flows for the foreseeable
future as we continue to further develop and deploy our power products.
Our
Opportunity
The
creation and release of waste gases, which lead to air pollution, is a byproduct of many modern industries. Industrial waste gases
take many forms and are often subject to governmental or regulatory oversight via air quality or air standards boards. The rules
and guidelines implemented by these boards lead to compliance costs for companies with industrial facilities that emit the waste
gases. With the worldwide concerns over the atmospheric emissions of greenhouse gases, air quality standards have become increasingly
stringent. For areas with industrial air pollution abatement regulations, industrial polluters currently have the following choices:
|
(i)
|
continue
to pollute and thereby pay substantial fines imposed by regulatory authorities,
|
|
|
|
|
(ii)
|
reduce
their air pollution through existing abatement solutions such as scrubbing or flaring, or
|
|
|
|
|
(iii)
|
institute
some combination of these solutions.
|
Each
industrial location must choose the most economic mix of the available solutions, but each of these solutions represents both
a financial operating cost as well as an environmental cost.
Our
technology provides an alternative to the typical economic and environmental costs of hydrocarbon pollution abatement by providing
the ability for industrial facilities to productively utilize their waste gases to generate power, which can be sold or used internally,
while at the same time reducing both the atmospheric pollution resulting from those waste gases and any resulting pollution abatement
costs.
Our
Technology
Our
technology involves the acceleration of a naturally occurring, gas oxidation process by injecting hydrocarbon gases into a controlled,
high temperature, high pressure, and oxygen rich environment. Oxidation is a natural and commonly observed chemical reaction that
occurs when a substance comes into contact with oxygen over a prolonged period of time, approximately 10 to 20 years for the waste
gases that we have targeted. The reaction is exothermic, which generates heat. By accelerating the reaction to 0.5–1.25
seconds within the controlled, steady state environment of our Power Oxidizers, the heat generated from the reaction is compounded
and we are able to capture and utilize the heat output within the heat profile ranges necessary to operate standard gas turbines
or steam boilers without actually igniting the gas.
In
nature, methane and other greenhouse gases react with oxygen in the air and are eventually decomposed through an oxidation reaction
over a period of 10 to 20 years. The speed of the reaction is dependent on three primary variables: the temperature, the pressure
of the gases, and the abundance of oxygen. The oxidation reaction is exothermic (i.e., generates heat as a natural output of the
chemical reaction), but since the reaction occurs slowly in natural, ambient conditions, the heat generated by the reaction is
quickly dissipated and normally unnoticeable. Our Power Oxidizer accelerates the natural process by introducing a hydrocarbon-rich
waste gas stream into a vessel with a high concentration of air, under pressure, and at high temperature. The combination of these
factors results in an oxidation reaction occurring in 0.5–1.25 seconds. By accelerating the reaction within the controlled,
steady state environment of our Power Oxidizers, the heat generated from the reaction is compounded and we are able to capture
and utilize the heat output within the heat profile ranges necessary to operate standard gas turbines or steam boilers without
actually igniting the gas.
Traditionally,
industrial heat is provided by the combustion of a hydrocarbon which generates pollution such as nitrogen oxide (NO
2
)
,
or NOX, as a byproduct. By comparison, our Power Oxidizers provide similar industrial grade heat at temperatures below when
NOX is generated in a combustion reaction. The combination of our ability to utilize a low quality or “waste” fuel
with the elimination of NOX generation (as compared to combustion heat sources) provides our Power Oxidizers with a superior alternative
to traditional heat generation sources.
Our
Power Oxidizers are designed to operate on gases with extremely low energy densities as compared to alternative chemical reactions,
such as combustion. While the Power Oxidizers operate on waste gases, they may also be operated on commercially available natural
gas or other high quality hydrocarbon gas products, or a combination of both waste gases and commercially available natural gas
or other high quality hydrocarbon gas products. It should be noted, however, that the Power Oxidation technology is not useful
for combustion exhaust gases emitted as the result of combustion reactions such as Carbon Dioxide or Carbon Monoxide. See Figure
1 below for the operating range of the Power Oxidizers.
Figure
1
Our
Products
We
have developed a 250 kW Power Oxidizer that we integrate with a 250 kW gas turbine to produce 250 kW Powerstations. We have two
Powerstations currently in operation at a landfill site in the Netherlands and at the Irvine campus of the University of California,
Irvine, or UCI, and one additional Powerstation currently in the production phase expected to be installed at a landfill in southern
California. We have built a Power Oxidizer of a significantly larger size, capable of generating sufficient heat and airflow to
power a KG2 turbine produced by Dresser-Rand. Together, the Power Oxidizer and KG2 turbine comprise a 2MW Powerstation. The initial
unit was constructed in the first quarter of 2016, and is currently being used in field tests that were substantially completed
in the fourth quarter of 2016, at a third party location in Southern California. We have sold two 2MW Power Oxidizers to Dresser-Rand,
each of which were delivered to the customer site in October 2016 and were combined with KG2 turbines and installed at Pacific
Ethanol’s facility in Northern California in 2016. We believe this scaled-up version of our Power Oxidizer, combined with
the KG2 turbine, will result in a Powerstation product that is better aligned with the scale of emissions (and energy requirements)
observed at the industrial facilities that we believe stand to benefit most from this technology. As with the 250 kW Powerstation,
the larger Powerstations are designed to provide an alternative to typical combustion-based power generation and enable industries
to utilize their own waste gases to generate power.
We
also expect to integrate our Power Oxidizer technology into additional sized gas turbines as well as other applications that can
use the heat generated by our Power Oxidizers to power other industrial applications. We believe other industrial grade waste
gas-to-heat opportunities, powered by an ultra-low pollution Power Oxidizer, include: (i) the generation of steam from coupling
a Power Oxidizer with a traditional steam boiler, (ii) use in industrial grade dryers for kilns or industrial drying customer
requirements, and (iii) use in industrial chiller units for customers requiring cold air or water in their processes.
Our
first commercial products, or the EC Series, the Ener-Core Powerstation EC250, or EC250, previously called “FP250,”
and the Ener-Core Powerstation EC333, or EC333, are products that combine our Power Oxidizer with a 250 kW and a 333 kW gas turbine,
respectively. The gas turbines were initially developed by Ingersoll-Rand, plc, or Ingersoll-Rand, and subsequently enhanced by
our predecessor, FlexEnergy, Inc., or FlexEnergy. The substitution of the Power Oxidizer for the combustor within a traditional
turbine allows for the resulting, modified turbine to utilize low density waste gases as a fuel, in place of commercially purchased
gases. The low energy density gases that the EC Series products can use as a fuel do not have an alternative commercial market
as traditional combustion-based turbines require uncontaminated high energy fuels and thus cannot run on low energy density gases,
and therefore such low energy density gases have no market value. The use of these waste gases results in a lower fuel cost to
operate, in addition to providing a significant reduction in industrial air emissions.
We
are currently completing the scaling up of our Power Oxidizer, as well as the successfully combination thereof with Dresser-Rand’s
KG2-3GEF turbine. The resulting product is currently being marketed and sold by Dresser-Rand’s international teams under
the Dresser-Rand brand and is called the KG2-3GEF/PO (or KG2 with Power Oxidizer, or KG2/PO). We began the scale up and integration
of our Power Oxidizer with Dresser-Rand’s KG2 turbine in late 2014 and continued to invest in engineering resources to support
the integration and field testing of this unit throughout 2016. The final step of integration is the completion of the Full Scale
Acceptance Test, or FSAT, which commenced in the second quarter of 2016 and was substantially completed in the fourth quarter
of 2016, although the results of such tests remain subject to verification by Dresser-Rand. As of February 8, 2017 the results
of all of the testing protocols required by the FSAT have not been received and are expected later in the first quarter of 2017.
We
fulfilled the first Power Oxidizer units and sold them to Dresser-Rand at an estimated loss of $300,000 each in order to get our
product into the field for proof of concept. After approval of the FSAT testing, Dresser-Rand is expected to manufacture the KG2/PO
under a commercial and manufacturing license agreement which is expected to generate per unit license fees of between $370,000
and $650,000, calculated as a percentage of the total sales value of the KG2/PO. We will bear no requirement to source materials
costs although we will be required to support Dresser-Rand’s sales efforts and installation of the KG2/PO systems. As a
result, we expect our per unit margins to increase in future reporting periods.
As
compared to alternative technologies, Power Oxidation provides certain advantages over alternative energy-generation technologies,
including the following:
|
●
|
Operates
on a wider range of fuels.
Our system is designed to operate on gases with energy densities as low as 50 BTU/scf (1700
kJ/m3). By comparison, most turbine, engine, and fuel cell systems require fuel quality of significantly higher energy densities.
|
|
●
|
Lower
air emissions.
Our Power Oxidizer technology produces substantially lower emissions of Nitrogen Oxides (NOx) and Carbon
Monoxide (CO) (< 1ppm) than, and destroys up to 99% of Volatile Organic Compounds (VOCs) compared to, combustion-based
systems like gas engines or gas turbines or other commonly deployed pollution abatement systems.
|
Figure
2
|
●
|
No
chemicals or catalysts for pollution abatement or control.
Today, most of the low-quality waste gases produced by industries
are processed through pollution abatement technologies that do not generate energy from the gases and are solely in place
to reduce the volume of emissions to the atmosphere. Unlike other pollution abatement systems, such as selective catalytic
reduction, our Power Oxidizer does not use chemicals or catalysts and, thus, cannot be rendered inactive from catalyst poisoning
or degradation.
|
|
●
|
Requires
less fuel conditioning.
Our system is capable of running on fuels with high levels of contaminants and is designed to
require substantially less fuel pre-treatment than competing systems. In most cases, our system is able to process the waste
gases from industrial processes without any of the fuel pre-treatment processes that are typically required by combustion-based
methods to remove impurities and contaminants prior to generating energy from gases.
|
Our
Power Oxidation technologies also have certain disadvantages over alternative energy-generation technologies, including the following:
|
●
|
New
and unproven technology.
Our Power Oxidation technologies have only been demonstrated commercially in a 250 kW product
and our technology has only been commercially available since 2013. Although we have received a purchase order for two of
our larger 2 MW Power Oxidizers, we currently have no commercial deployments of these larger units and have not demonstrated
their full commercial viability outside of our test facility.
|
|
●
|
Commercial
viability
. Our Power Oxidation products have had limited commercial installation and to date have been produced on a limited
scale.
|
|
●
|
Unproven
and early stage value proposition
. Our Power Oxidation solutions and our value proposition are not fully demonstrated
in multiple real world installations and to date have not been communicated widely among our potential customers. While we
believe that our value proposition is sound, the industries in which we are attempting to sell our products are conservative
and may discount, or not accept, our value proposition.
|
|
●
|
Competes
with existing mature technologies.
Our Power Oxidation products often cannot compete on a standalone cost basis solely
on either alternative power generation or pollution abatement solutions. Our product solutions currently make economic sense
in limited customer applications when pollution abatement and power generation are both required by a customer.
|
Licensing
Approach
On
November 14, 2014, we entered into a global commercial licensing agreement with Dresser-Rand, or the CLA, through our wholly-owned
subsidiary, Ener-Core Power, Inc., which granted Dresser-Rand the right to market and sell the Dresser-Rand KG2-3GEF 2 MW gas
turbine coupled with our Power Oxidizer, or a Combined System. The CLA grants Dresser-Rand exclusive rights to commercialize the
Ener-Core Power Oxidizer, within ranges of 1–4 MW of power capacity, bundled with the Dresser-Rand KG2 gas-turbine product
line. As part of the CLA, Dresser-Rand agreed to pay us a $1.6 million initial license fee, under the condition that we were able
to successfully scale up the technology to a size of 2 MW. Dresser-Rand also agreed to achieve annual sales thresholds agreed
to by both companies in order to retain the exclusivity of the commercial license. Upon payment of the initial license fee in
full, Dresser-Rand obtained an exclusive license to sell the Ener-Core Power Oxidizer within ranges of 1–4 MW of power capacity,
bundled with a gas-turbine to generate electricity.
On
June 29, 2016, we entered into a Commercial and Manufacturing License Agreement, or the CMLA, with Dresser-Rand, through Ener-Core
Power, Inc., intended to supersede and replace the CLA. Upon successful completion of the FSAT, the CLA will terminate and the
CMLA will provide the terms of the commercial relationship between us and Dresser-Rand. Once the FSAT is completed, the effective
date of the CMLA will be deemed November 14, 2014. In the event we are unable to successfully complete the FSAT, the CLA will
continue to govern our commercial relationship with Dresser-Rand. As of December 31, 2016, we had performed the testing protocols
of substantially all of the required tests, the results of which remain subject to verification by Dresser-Rand, which is currently
underway.
Under
the new CMLA, Dresser-Rand will have a worldwide license to manufacture, market, commercialize and sell the Power Oxidizer as
part of the Combined System within the 1 MW to 4 MW range of power capacity, or the License. Initially, the License will be exclusive,
even as to us, and will remain exclusive for so long as Dresser-Rand sells a minimum of number of units of the Combined System
in each calendar year beginning in 2017, or the Sales Threshold, subject to certain conditions and exceptions. If Dresser-Rand
does not meet the Sales Threshold in any calendar year and the Sales Threshold is not otherwise waived, Dresser-Rand may maintain
exclusivity of the License by making a true-up payment to us for each unit that is in deficit of the Sales Threshold, or a True-Up
Payment; provided, however, that Dresser-Rand may not maintain an exclusive License by making a True-Up Payment for more than
two consecutive calendar year periods. In the event Dresser-Rand does not meet the Sales Threshold, does not qualify for a waiver
and elects not to make the True-Up Payment, the License will convert to a nonexclusive License.
Upon
a sale by Dresser-Rand of a Combined System unit to a customer, the CMLA requires Dresser-Rand to make a license fee payment to
us equal to a percentage of the sales price of the Combined System purchased, in accordance with a predetermined fee schedule
that is anticipated to result in a payment of between $370,000 and $600,000 per Combined System unit sold, or the License Fee.
Payment terms to us from Dresser-Rand will be 50% of each License Fee within 30 days of order and 50% upon the earlier of the
Combined System commissioning or twelve months after the order date.
Dresser-Rand
may also request that we undertake design and development work on modifications to the Combined Systems, each referred to as a
Bespoke Development. We and Dresser-Rand will negotiate any fees resulting from any such Bespoke Development on a case-by-case
basis. Further, any obligation by us to undertake such Bespoke Development will be conditioned upon the execution of mutually
agreed-upon documentation.
As
long as the exclusive License remains in effect, we will provide certain ongoing sales and marketing support services, at no additional
cost to Dresser-Rand, subject to certain restrictions. Any additional sales and marketing services agreed upon by us and Dresser-Rand
will be compensated at an hourly rate to be upwardly adjusted annually.
If
we and Dresser-Rand so elect, we will manufacture a certain number of Power Oxidizers as part of a certain number of Combined
System projects during a transition period, or the Transition Phase, beginning after execution of the CMLA and prior to the period
in which Dresser-Rand manufactures its first three Power Oxidizers as part of at least two individual Combined System projects,
or the Initial Manufacturing Phase, as mutually agreed by the parties. So long as the License remains exclusive during the Transition
Phase, if any, and the Initial Manufacturing Phase, we will provide a mutually agreed upon number of hours of engineering support
services. After the conclusion of the Initial Manufacturing Phase, we will, for so long as the License remains exclusive, continue
providing up to an agreed upon number of hours of such support services on an annual basis at no additional cost to Dresser-Rand,
subject to certain conditions. Any additional engineering support services agreed upon by us and Dresser-Rand will be compensated
at an hourly rate, to be upwardly adjusted annually. During the Transition Phase, we must also develop the spare parts list pertaining
to the scope of supply to allow Dresser-Rand to offer service agreements for the Combined System.
We
must maintain our existing backstop security, or the Backstop Security, under the CLA in favor of Dresser-Rand in support of all
products manufactured, supplied or otherwise provided by us during the period beginning on the execution date of the CMLA, or
the Execution Date, and continuing through the expiration of the warranty period for the Combined System units sold to customers
as of the Execution Date; however, if we and Dresser-Rand mutually agree to engage in a Transition Phase, then such Backstop Security
must be extended to support all products manufactured, supplied or otherwise provided by us during such Transition Phase.
Dresser-Rand
must also: (i) develop the controls strategy for the Dresser-Rand gas turbine control system and integrate it with the Power Oxidizer
control system; (ii) with support from us, manufacture and commercialize the Combined System following the Transition Phase; (iii)
with support from us, develop and prioritize sales opportunities for the Combined System; (iv) assume the sales lead role with
respect to each customer; and (v) take commercial lead in developing sales to customers. In addition, Dresser-Rand will be primarily
responsible for overall warranty and other commercial conditions to Combined System customers, as well as sole project and service
provider and interface with customers. Dresser-Rand will also be responsible for warranty, service and after-sales technical assistance
for all portions of Combined Systems that comprise Dresser-Rand products. We, however, will be responsible for warranty and service
for all products manufactured or otherwise provided by us prior to or during the Transition Phase.
The
CMLA prohibits us from, without the prior written consent of Dresser-Rand, permitting the creation of any encumbrance, lien or
pledge of its intellectual property which would result in any modification to, revocation of, impairment of or other adverse effect
on Dresser-Rand’s rights with respect to the exclusive License. In addition, all intellectual property rights that are owned
by either us or Dresser-Rand as of the Execution Date will remain the sole property of such party, subject to the licenses described
in the CMLA. The CMLA also contains provisions that govern the treatment of process and technology developments and any joint
inventions that (i) relate to the subject matter of the CMLA and (ii) occur after the Execution Date and during the term thereof.
The
CMLA also contains certain restrictions on publicity and obligates Dresser-Rand to use its commercially reasonable efforts to
include our name and logo and otherwise promote our brand and Power Oxidizers in a mutually agreed-upon manner. We and Dresser-Rand
have also mutually agreed to withhold disclosure of certain commercial and technologically sensitive terms of the CMLA including
technical specifications, License Fee percentages, and the Sales Threshold minimum annual quantities to maintain exclusivity.
Commercial
Sales Efforts
We
are entering the combined heat and power, or CHP, market that is highly competitive and historically conservative in its acceptance
of new technologies. To date, we have sold and delivered one 250 kW commercial PowerStation unit to the Netherlands and have sold
one additional 250 kW PowerStation unit to a landfill site in Southern California scheduled for delivery in 2017. We have also
sold two initial 2MW Power Oxidizers to Dresser-Rand for installation at their end user customer, Pacific Ethanol, which we delivered
in October, 2016, but which remain subject to acceptance conditions which may not have been met as of December 31, 2016 and which
remain subject to further review or deferral, depending in part on the results of the final FSAT test results. These three systems,
combined with the Dresser-Rand license fees of $1.6 million, represent our $4.6 million order backlog as of February 7, 2017.
To date, we have billed $4.2 million and collected $4.1 million of our existing backlog.
In
May 2016, we received a conditional purchase order for four 250 kW Powerstations expected to be installed on a landfill site in
Southern California and scheduled for delivery in late 2017. This order is valued at approximately $4.0 million and is subject
to additional pre-sales engineering and permitting requirements.
Product
Commercialization to Date
|
●
|
Initial
Technology Development
: In 1999, Edan Prabhu, the founder of FlexEnergy, our predecessor company, initially developed
the “gradual oxidation” technology for use in catalytic engines and turbines. The first patent on catalytic gradual
oxidation was granted to him in 2002. Several more years were spent after that on improving the technology to the level where
it could be successfully demonstrated and commercialized.
|
|
●
|
Initial
Institutional Funding
: In 2008, FlexEnergy received an initial round of institutional funding totaling approximately $3,000,000.
The funding allowed FlexEnergy to purchase parts and materials necessary to begin field testing of the first development unit.
|
|
●
|
F100
Development Test Unit
: In November 2008, FlexEnergy began testing the first F100 development test unit in a San Diego,
California test facility. This system was the first to combine the gradual oxidizer with a gas turbine, which was a 100 kilowatt
gas turbine developed by Elliott Energy Systems, Inc. Through the process of designing proprietary software, hardware, and
controls for the system, FlexEnergy learned how to effectively match the operating conditions of a gas turbine to the gradual
oxidizer. In August 2010, FlexEnergy commissioned the first F100 field test unit at the Lamb Canyon Landfill in Beaumont,
California with cooperation from the County of Riverside. This unit was the first to be evaluated for prolonged test periods,
which led to significant improvements to our patented and proprietary key components and control processes.
|
|
●
|
Prototype
Evaluation—In-Field 250 kW Unit
: In 2012, FlexEnergy’s technology underwent testing and verification by Southern
Research Institute, or SRI, as part of a U.S. Department of Defense, or DoD, demonstration program. SRI commissioned the testing,
which was performed by Integrity Air Monitoring, Inc. SRI is a not-for-profit 501(c)(3) scientific research organization that
conducts advanced research in environmental, energy, and other fields, and FlexEnergy was one of its subcontractors. As part
of that testing program, FlexEnergy shipped a prototype EC250 unit in 2012 for field tests for a one-year period and operations
in 2012 and 2013. This test and verification project was a critical opportunity to operate FlexEnergy’s technology for
an extended period of time within a true, industrial environment (as opposed to a controlled, laboratory environment), after
a concerted 10-year research and development effort. The field tests were successful and proved that the technology and the
accelerated oxidation reactions could be sustained in real world environments for extended periods of time. The field tests
were completed in 2013 and represented a key step toward the commercialization of the Power Oxidation technology.
|
|
●
|
Prototype
for Controlled Testing:
In 2013, through a partnership with UCI, we installed a fully operational EC250 unit at UCI’s
campus. This facility location was chosen due to its proximity to our corporate headquarters, as well as on-going access to
technical personnel who are collaborating with our engineering team to continue improving upon the technology and its various
applications. The unit continues to operate and is used for in-field evaluations for research and development, as well as
to showcase our technology to potential customers.
|
|
●
|
Initial
Commercial Unit—250 kW Unit:
In June 2014, our first commercial EC250 Powerstation was installed at a landfill in
the Netherlands that is owned and operated by Attero, one of the leading waste management companies in the Netherlands. With
the exception of regular maintenance and in-warranty service related to turbine components, as well as down-time related to
Attero’s refurbishment efforts on the underlying landfill during 2015, this system has continued to operate since it
was commissioned.
|
|
●
|
Expansion
Beyond Landfill Market into Oil and Gas Market:
On September 9, 2014, we completed the first phase of a three phase commercial
project with a major oil and gas producer located in Canada. Our prototype unit located at UCI successfully oxidized waste
gases with an identical gas profile as waste gases currently being flared at petroleum production facilities in Alberta, Canada.
We are currently working with the customer for the second phase of the project, which we expect will be to install a 250 kW
commercial unit in a cold weather environment in Canada. Due to market conditions in the petroleum exploration industry and
resulting reduced capital spending, this customer has temporarily placed the second phase on hold, but based on discussions
with this customer, we expect the customer to proceed with the second phase over the next year.
|
|
●
|
First
Licensing Agreement:
On November 14, 2014, we entered into the CLA to develop and market Dresser-Rand’s KG2-3GEF
2 MW gas turbine coupled with our Power Oxidizer. The CLA and ongoing integration provides for a scale-up of our technology
into the larger utility grade sized turbines requested by our customers. Under the CLA, Dresser-Rand agreed to pay an initial
license fee of $1.6 million, which was initially placed in escrow, and to commercialize the technology through its sales and
distribution channels. In July 2015, we successfully completed the first of two technical milestones, which enabled Dresser-Rand
to begin commercialization of the KG2-3GEF/PO turbines.
|
|
●
|
Initial
Order—2 MW Unit into Distillery Market:
On January 12, 2015, Pacific Ethanol, Inc. publicly announced that it had
placed an order with Dresser-Rand that included two of Dresser-Rand’s KG2-3GEF/PO units. The electrical output of each
of these units was de-rated from 2.0 MW to 1.75 MW to allow for a portion of the generated heat to be used as steam, for a
total 3.5 MW cogeneration plant at a location in California. The order represents the first two commercial KG2 units that
are designed to include our Power Oxidizer units. In August 2015, after the completion of the first technical test, we received
a formal purchase order for $2.1 million from Dresser-Rand, for two Power Oxidizers in the larger 1.5–2MW power capacity.
The purchase order calls for an initial payment of 50% of the order value, or $1.05 million payable to us, with additional
progress payments made over time under the purchase order until delivery of the Power Oxidizer units. The purchase order also
requires us to create a $2.1 million performance security interest with an expected termination date of June 2017 by September
17, 2015, which date was extended until November 15, 2015. We satisfied the performance security requirement on November 2,
2015 and we received $2.0 million in cash from Dresser-Rand for the Pacific Ethanol units during 2015. The purchase order
calls for the delivery of the Power Oxidizers to Dresser-Rand for subsequent integration into Dresser-Rand’s KG2-3G/PO
Power-station, and represents the first commercial order of the system. In conjunction with the order from Dresser-Rand, we
also received the initial license payment from Dresser-Rand under the CLA. We delivered the units associated with this initial
order to the Stockton Biorefinery site owned by Pacific Ethanol in October 2016.
|
|
●
|
Completion
of Multi-Fuel Test Facility
: In April 2015, we commissioned our self-constructed MFTF located at our corporate headquarters
location in Irvine, CA. The MFTF will allow our development team to test, in a real world environment, different types and
concentrations of gases and to configure tests for different heat output scenarios. We used the MFTF extensively to conduct
the tests and analysis associated with the SSAT described below. We intend to use the MFTF in the future to test different
waste gases, turbine configurations, steam applications, and specific gas concentrations to both enhance our existing technology
as well as expand our potential addressable markets.
|
|
●
|
Completion
and Approval of SSAT
: On August 3, 2015, we publicly announced the successful completion of the SSAT. The SSAT was
a test conducted on the MFTF that involved verification of the heat output required by the KG2 unit but without the cost or
risk of damage to a Dresser-Rand turbine unit. We believe that the successful completion of the SSAT provided Dresser-Rand
with a significant level of assurance regarding the commercial viability of the Power Oxidizer technology, and we believe
that the successful SSAT should enable Dresser-Rand to advance from its current preliminary commercial discussions with prospective
customers to providing binding quotes and proposals and, ultimately, begin accepting additional binding purchase orders from
customers that are interested in purchasing Dresser- Rand’s KG2-3GEF/PO Powerstations.
|
|
●
|
Additional
250 kW Commercial Unit:
In May 2015, the Orange County Board of Supervisors approved a project that was awarded a research
grant from the California Energy Commission. This project is a collaboration between us and UCI, through UCI’s Advanced
Power & Energy Program, to install our EC250 Powerstation at the Santiago Canyon landfill in Orange County, California.
In August 2015, we received a purchase order for $900,000 for the EC250 Powerstation unit. In 2016, it was determined
that the Santiago Canyon landfill site did not have sufficient power infrastructure in situ. Alternative locations for the
EC250 Powerstation are currently being evaluated.
|
|
●
|
Top
Honors at Industry Conference
: In June 2015, our presentation at POWER-GEN Europe, which is the largest power industry
conference in Europe, won top honors. Our paper, “Extending Renewable Electricity for Decades at Closed Landfill Sites
with Gas Below 30% Methane” was selected as the best paper within the category of Renewable Energy Strategy, Business
& Integration from among the 122 submissions. 10,000 power executives, including 960 delegates from 103 countries, attended
the conference.
|
Over
the next two years, we expect to continue our product commercialization efforts with the following expected deliverables and projects:
|
●
|
Completion
of FSAT—2 MW Unit
: Under the CLA, the second technical test is FSAT, which is required after achievement of the
first technical milestone. The FSAT consists of the building and installation of a full prototype of a working 2 MW KG2 unit
at a site in Southern California, and then testing the prototype under different operating conditions for performance and
life cycle validation. We completed construction of the 2 MW Power Oxidizer in 2016 and began the field testing of the 2 MW
unit in the first half of 2016. In September 2016, the $1.6 million license fee payment was released from escrow, from which
we received $1.1 million in cash, representing the $1.6 million license fee net of $500,000 paid to Dresser-Rand for engineering
services. We substantially completed field testing in the fourth quarter of 2016 and are awaiting final testing reports, which
we expect later in the first quarter of 2017.
|
|
|
|
|
●
|
Fulfillment
and Delivery of Existing Customer Order Backlog of Approximately $4.6 Million:
As of February 7, 2017, and prior to recognition
of revenues associated with these orders, we had a backlog of approximately $3.0 million for our Power Oxidizers and approximately
$1.6 million of Dresser-Rand license fees. During 2016, we (i) assembled, shipped and installed the first two Power Oxidizers
for the two KG2 units sold by Dresser-Rand to Pacific Ethanol, and (ii) received the $1.6 million license fee payment from
Dresser-Rand that was previously paid into escrow. We are currently evaluating the revenue recognition on these orders in
conjunction with the FSAT testing process described above. We expect to commission the Pacific Ethanol units in the first
half of 2017. While we received payments on the EC250 Powerstation unit for which we received a purchase order in August 2015,
delivery of this unit (originally sourced to delivery at the Santiago Canyon landfill location) has been delayed pending a
change of the delivery location by the customer. We expect the unit to be installed at an alternative site in 2017.
|
|
●
|
Commercialization
of EC250 Powerstations and Additional KG2 Power Oxidizers:
We have a pipeline of additional opportunities through Dresser-Rand
for KG2 Power Oxidizers and directly sold units for our EC250 Powerstations. We expect to receive additional purchase
orders for these products in 2017.
|
|
●
|
New
Partnerships for 5.0 MW and Boiler Manufacturers, and Integration with Other Vertical Market Equipment Providers
: We are
in preliminary discussions with additional partners for a 5 MW Power Oxidizer and with boiler manufacturers that are interested
in our 250/333 kW and 2 MW Power Oxidizers. We are also in discussion with providers of third party services for equipment
such as industrial ovens, dryers, chillers, and anaerobic digesters which we believe will accelerate the sale of our products
by expanding the vertical market opportunities. We intend to sign definitive agreements with one or more of these partners
in 2017 for initial deliveries beginning in 2018.
|
Key
Parameters of Customer Value Proposition and Economic Payback
The
value proposition, as well as the economic payback, of our products is based on the following parameters:
|
(a)
|
The
industry in which the customer operates and the regulations and policies to which it is subject;
|
|
(b)
|
The
cost of energy and the cost of fuels in the geographic region where the customer’s industrial facilities are located;
and
|
|
(c)
|
The
strictness of the air quality standards in the geographic region in which the customer’s industrial facilities are located.
|
|
(d)
|
The
value to the customer of the residual industrial grade heat produced by our products.
|
The
importance of a company’s industry, as it relates to our value proposition, is based on the following:
|
●
|
The
volume of waste gas that is produced as a byproduct of the core industrial processes within the industry
: Industrial facilities
with higher volumes of waste gases can better justify deploying our 2 MW system, while industries with less waste gas would
be limited to deploying our smaller systems (250 kW or 333 kW). As is the case with most power generation equipment, due to
economies of scale, the economic payback on the larger 2 MW systems will usually be substantially better than the economic
payback on the smaller systems.
|
|
●
|
The
level of importance that the industry places on how they utilize or dispose of these waste gases
: This is often linked
to the environmental policies that are imposed on the industry. In many of our discussions with existing and prospective customers,
the economic payback is measured as a function of savings on cost of energy as well as the avoided cost of environmental compliance
(e.g., avoidance of fines imposed on industrial facilities that are not compliant with air quality standards, avoidance of
costs of operating and maintaining standard pollution destruction equipment, etc.). In some cases, we have observed the avoidance
of environmental compliance cost to represent as much as 20–30% of the aggregate economic benefits of our system. This
does not imply that the avoidance of environmental compliance costs are a necessary element for achieving an attractive return
on investment if a customer implements our system; in a number of cases the economic payback that is achievable through avoided
energy costs alone is high enough to justify the investment in our system.
|
|
●
|
The
relative importance of energy costs within the overall cost structure of the industrial facilities
: In certain industries,
such as alcohol distilleries, the energy costs, consisting of both purchased electricity and consumed natural gas to provide
heat or cooling, can be as high as 5–7% of the entire operating costs of a production facility. In other industries,
such as steel production, the energy costs often amount to an even higher percentage of the overall cost structure. Industries
in which energy costs represent a significant element of the overall cost structure will naturally be more sensitive to opportunities
that involve reducing energy costs, as well as deploying projects that enable their industrial facilities to hedge against
the potential of future increases in the cost of energy.
|
|
●
|
The
impact that pollution regulations have on our customers and potential customers in certain governmental jurisdictions
:
In certain governmental jurisdictions, such as in much of California, there are increasingly stringent pollution penalties,
controls, and restrictions which may limit industrial production that uses traditional combustion to generate industrial heat.
These regulations often limit the production of Nitrogen Oxide, which is a by-product of combustion chambers.
|
The
cost of energy paid by industrial facilities within any particular geographic region also plays a critical role in the economic
payback, and hence our value proposition. Usually, the most significant factor of the financial payback associated with an Ener-Core
Powerstation is the avoided cost of energy that an industrial facility would typically purchase from its local or regional utility,
and/or the additional revenue that an industrial facility can generate through selling the on-site power back to the local or
regional utility. The higher the cost of energy in a particular region, the higher the return on investment associated with an
Ener-Core Powerstation. The cost of energy consists both of the purchased or avoided electricity.
For
current and future projects, we target an internal rate of return of at least 15% for the customer, which includes only the value
of the electricity generated by our Powerstations. Not included in this return is the value of pollution abatement, which can
be substantial for certain customers in areas with high regulation of air pollution, and which is our largest competitive advantage
over traditional combustion-based turbines. This generally results in a payback period of less than 5 years, but varies based
on the price of electricity, installation costs, and any other customer-specific costs.
The
air quality standards that are legislated and enforced in any particular region can also play a significant role in the value
proposition of our solution and the calculation of the associated financial payback. In some regions of the world, such as California,
the New England states, Western Europe, northern Europe and Japan, the air quality standards that are imposed on industrial facilities
are rigorous and often difficult to meet in practical and economic ways. As a result, industrial facilities in a variety of industries
find themselves spending an increasing percentage of operating budgets on sophisticated emissions destruction (pollution abatement)
equipment, which often involves increased up-front costs as well as recurring costs on catalysts and other consumables, along
with on-going maintenance costs. In addition, the failure to comply with air quality standards can result in significant penalties
or fines. In most regions of the world, it is difficult to forecast the pace at which the air quality standards (and associated
penalties for non-compliance) will change, but we believe that the general view is that the costs associated with environmental
compliance will continue to increase over time. As a result, we believe that current and prospective customers consider, as part
of their overall investment decision, the near-term and long-term environmental compliance savings that can be achieved by installing
a Power Oxidizer.
Markets
We
see our total potential market consisting of industrial facilities with permanent waste gas emissions sufficient to operate our
units on a constant basis. We evaluate our potential markets in two methods, geographically and vertically. Our most significant
sales opportunities are those where a customer’s demand for power, heat energy, and pollution abatement intersect as presented
in Figure 3 below (opportunities not to scale).
Figure
3
We
believe the total addressable U.S. market size is at least $5 billion for our Power Oxidizer technology, based on our assumption
that our 333 kW Power Oxidizer is most appropriate for landfills and our 2 MW Power Oxidizer is most appropriate for our other
targeted markets. We also believe the total addressable market size in Europe, Japan and China provides us with potentially meaningful
opportunities.
Geographic
Target Markets
We
initially identified our geographic target markets to consist of North America, Europe, Japan and China with selective evaluations
of other regions on a case-by-case basis. While we intend to focus primarily on the North American and European geographic markets
over the next year, we intend to evaluate commercial opportunities in other geographic markets.
In
the United States, we are focused on opportunities where our low-quality fuels configuration and our ultra-low emissions configuration
provide competitive advantages, such as the South Coast Air Quality Management District, San Joaquin Air Pollution Control District,
and other areas in air quality nonattainment as defined by the federal Clean Air Act. We are also focused on specific states where
the wholesale electricity prices are the highest, as this typically results in the most attractive return on investment scenarios
for prospective customers. These states include California, New Jersey, New York, Maine, New Hampshire, Massachusetts, Connecticut,
Rhode Island and Vermont.
Internationally,
we have identified similar opportunities in Canada and western European countries with similar environmental and regulatory laws
as the United States, such as the Netherlands, Belgium, the United Kingdom, Germany, Italy, France, and Spain.
We
believe that Japan provides a near term market opportunity since it is highly industrialized and has a multitude of industrial
facilities that produce waste gases and could benefit from installing their own on-site source of power. Japan’s island
geography, air quality initiatives, and recent movement away from nuclear power all indicate that new technologies such as our
Power Oxidizers could be well received.
We
believe that our potential opportunities in China are substantial based solely on the quantity of waste gases produced by industrial
facilities. However, we have neither fully evaluated specific industries based in China, nor do we have the business partner relationships
typically required to successfully enter the Chinese market.
We
evaluate our market opportunities by performing feasibility studies, financial payback analyses and in some cases deploying pilot
projects for potential customers, prior to producing a proposal for a full-scale solution deployment. We see this information
as an integral part of our sales and marketing approach as each study provides our team with additional information on the wide
range of waste gases produced and allows our team to better evaluate the specific return on investment scenarios, sales opportunities
and overall value proposition that is most relevant to each geographic market.
Vertical
Markets
We
believe that our current products provide a superior value proposition for two customer types: (i) open and closed existing landfills,
and (ii) industrial facilities that could benefit from on-site combined heat/power, or CHP, generation coupled with waste gas
pollution abatement, or collectively CHP+A. In general, the projected economics seen to date indicate that sales into existing
landfill plants will primarily represent EC250 and EC333 sales opportunities and sales into other industrial facilities will typically
involve our larger products. We believe that our future steam product will primarily represent an attractive alternative to industrial
facilities that value on site steam production higher than on site electricity production. We also believe that larger sized Power
Oxidizer turbines of 5 MW and above, once developed, will likely be met with demand from large industrial facilities such as oil
and gas refineries and petrochemical plants. After we have integrated and demonstrated our 2 MW Power Oxidizer to be commercially
viable, we intend to increase the size of our Power Oxidizer and subsequently integrate it into larger turbines.
Landfills
When
solid waste is deposited in landfills, the organic materials within the waste decompose slowly over time, resulting in the generation
and emissions of methane-based waste gases. Historically, the quality of gases that has been emitted by landfills during their
open phase (i.e., while trash is still being added) has been high enough for the generation of power through the installation
and operation of reciprocating engines. However, the increasing prevalence of recycling and the diversion of organic materials
are resulting in a reduction in the quality of the gas that is emitted from newer landfills. In addition, as landfills reach their
maximum allowable size, they are eventually closed and deemed inactive. Once a landfill becomes inactive, and trash is no longer
being added, the quality of the emitted gas typically falls to levels that are well below the quality thresholds (~30% methane)
that are required as an inlet fuel for combustion-based power generating equipment such as reciprocating engines or standard gas
turbines. For this reason, the viable power generation phase of a landfill’s life-cycle is typically limited to the years
of operation when the landfill is active, and then for a few years after the landfill is closed. However, even after a landfill
is closed, methane gas continues to be emitted for an additional 50 to 70 years, just at lower concentration levels than required
to run combustion-based power generating equipment.
Our
technology enables operators of existing landfill projects that utilize reciprocating engines and gas turbines for the collection
and disposal of landfill-generated gases, or LFGs, to generate electricity beyond the normal operating range of their engines
and turbines. In newer landfills that begin their life with less organic material, and therefore produce less methane, our technology
also enables the generation of electricity where it might have been otherwise uneconomic to do so. Closed (inactive) landfills
continue to emit waste gases for 50 to 70 years after the closure of the landfill, but the predictable reduction in gas quality
makes it difficult (and in most cases, impossible) to generate energy from the waste gases, unless the waste gases are supplemented/enriched
with a premium fuel such as natural gas or propane in order to raise their energy density. In either case, our low-quality fuel
capability allows a greater percentage of the LFGs created from landfill-waste to be used for local electricity generation, as
can be seen in Figure 4.
Figure
4
Typical
gas emissions profile of a landfill throughout its entire life-cycle. The entire shaded area (yellow and green) represents the
Ener-Core Power Oxidizer’s operational range to use methane at varying percentage levels. The yellow area represents the
operational range of traditional combustion based turbines relating to landfill gas.
Utilizing
the market data that is available through the U.S. Environmental Protection Agency’s, or EPA, Landfill Methane Outreach
Program,” or LMOP, a voluntary assistance program that helps to reduce methane emissions from landfills by encouraging the
recovery and beneficial use of landfill gas as a renewable energy source, we have been able to compile the data shown in Figure
5 regarding the age of the current closed landfills in California.
Figure
5
Closed
California landfills as of March 2015, based on data provided by Landfill Methane Outreach Program (LMOP) available at www.epa.gov/lmop/.
Pollution
abatement technologies (thermal oxidizers) appear to be one of the few alternative technologies for these older landfill sites
once the hydrocarbon density in the LFG drops below the thresholds required by engines or other combustion technologies. Thermal
oxidizers eliminate or treat waste gases but do not generate power. Closed landfills represent a large opportunity for us. We
enable these older landfills to solve the pollution abatement problem and allows these sites to continue generating power (and
hence revenue) from the LFG for several decades after traditional power generation technologies (reciprocating engines and gas
turbines) are no longer able to operate due to the decrease in the quality of the gases.
Industrial
Target Markets (excluding landfills)
Most
industrial processes use heat energy in the form of heat, steam, or electricity for their operation. Many of these processes also
generate byproduct waste gases with many embedded contaminants and impurities that are then either vented directly into the atmosphere
or put through a “pollution abatement” or treatment process prior to release into the atmosphere. For industries where
pollution abatement is mandated by applicable air pollution regulations, the facility typically purchases abatement equipment
(scrubbers, thermal abatement, carbon absorber, etc.) separately from power production equipment, and such equipment destroys
the waste gases, but does not monetize them. Our Power Oxidizers provide both functions in one unit and typically use waste gases
as a partial or complete replacement of purchased commercial-grade gases. In applications where the waste gases have extremely
low usable hydrocarbon content (or relatively low volumes of waste gases), significant values may still exist resulting from the
coupling of power generation and pollution abatement that the Power Oxidizer provides, i.e., our CHP+A solution.
Figure
6
We
reviewed the industries where we believe the combination of pollution abatement requirements, power consumption requirements,
and the generation of waste gases provides the potential for superior economic returns with our products. Using these key attributes,
we have identified twelve targeted vertical markets, aside from landfill opportunities, in California that we believe may result
in sales. According to the EPA, these twelve markets represent in excess of 1,100 facilities in California and over 8,000 facilities
in the United States that we believe have the combination of attributes that may indicate a superior economic return from a Power
Oxidizer installation.
In
addition to landfill opportunities, we intend to first pursue the following six general vertical industrial markets, representing
nearly 5,000 potential installation sites across the US, as we believe they are the most likely to benefit from the Power Oxidizer
in its current sizes. We have begun to market to these six vertical industrial markets, primarily for those facilities located
in California, through direct contact from our sales department, tradeshow representation, and internet outreach. Each is discussed
in greater detail below:
|
●
|
Fuel-grade
ethanol and beverage ethanol/alcohol distilleries and related products production (>500 facilities throughout the U.S.)
|
|
●
|
Rendering
and animal processing byproducts (>600 facilities)
|
|
●
|
Wastewater
and sewage treatment (>3,500 facilities)
|
|
●
|
Coal
mines (>1,000 mines)
|
|
●
|
“High
tech” aerospace and defense instruments and materials; semiconductor and electronics manufacturing (>2,200 facilities)
|
|
●
|
Petroleum
and petrochemical storage, distillation and petroleum production (>600 facilities)
|
As
we continue to increase our pipeline of commercial opportunities with industrial facilities spanning across these vertical industrial
markets, we expect the majority of the opportunities to be in relation to the 2 MW (KG2) Power Oxidation systems, with the exception
of rendering opportunities, where we expect demand for both EC 250/333 units and KG2 units.
Fuel-grade
and beverage ethanol/alcohol distilleries and related products production
(NAICS Code 325193)
Ethanol
or beverage alcohol production represents over 500 facilities across the United States, including the fuel grade ethanol plant
in California that has purchased the first two KG2 units from Dresser-Rand. Both fuel grade and beverage alcohol distilleries
use electricity and steam and produce a steady stream of waste hydrocarbons that can be used with our Power Oxidizer to reduce
the amount of natural gas that is purchased as a fuel source, as well as reduce the amount of electricity purchased to run the
industrial plants. Although the details of Pacific Ethanol’s breakdown of savings are confidential, we believe that Pacific
Ethanol selected our Power Oxidizer solution based on an economic return that consisted of the avoidance of power purchases and
improved pollution abatement. In this regard, Pacific Ethanol has publicly stated that it expects to achieve annual savings of
$3-$4 million per year after the on-site combined heat and power plant becomes operational.
Rendering
and animal processing byproducts
(NAICS Codes 311111 and 311613)
Meat
rendering plants process animal byproduct materials for the production of tallow, grease and high-protein meat and bone meal used
primarily in pet food. Rendering operations produce Volatile Organic Compounds, or VOCs, as air pollutants. Although some greenhouse
gases are produced, the primary issues related to the emissions of VOCs is the foul odor nuisance when these facilities are in
proximity to residential areas.
Typically,
the emissions control technologies that are used for rendering plants are waste heat boilers (incinerators) and multi-stage wet
scrubbers. Boiler incinerators are a common technology because boilers can be used not only as odor control devices, but also
to generate steam for cooking and drying operations. The waste heat boilers convert the waste gases to steam by combusting the
waste gases, but this process often faces resistance from air quality authorities. Multi-stage wet scrubbers are equally as effective
as incineration for high intensity odor control, but they only serve to destroy the waste gas and do not actually convert it into
useful energy.
We
believe our Power Oxidizers provide a superior abatement function as compared to such emission control technologies since they
also provide power generation. We believe that the combination of abatement function and power generation results in a superior
economic alternative for many rendering plants, to which we are actively beginning to market our Powerstations.
Wastewater
and sewage treatment facilities, anaerobic digestion
(NAICS Codes 221310 and 221320)
Wastewater
and sewage treatment facilities use anaerobic digester units to treat raw sewage with both methane gas generation and water intensive
bio-solids by-products. Typically, the methane gas is eliminated by a thermal oxidizer and the bio-solids are either dried on-site
with an industrial dryer, or in certain cases, the water heavy bio-solids are transported to another facility, often long distances
from the treatment facility and which result in significant tipping fees and transportation costs to the facility which is often
a municipality.
We
believe our Power Oxidizers, coupled with an anaerobic digester, a turbine, and using residual heat for an industrial dryer represents
a significant positive economic solution by utilizing the waste methane to generate electricity and heat, allows for on-site drying
with significantly lower emissions compared to a combustion dryer, and eliminates costly trucking and tipping fees for bio-solids
that otherwise would have to transport these heavy waste products. We see significant sales opportunities for our solutions in
nearly all of the larger metropolitan areas in California and other US locations.
Coal
mine methane
(NAICS Code 2121
)
Coal
mine methane, or CMM, refers to methane released from the coal and surrounding rock strata due to mining activities. In underground
mines, ventilation air methane, or VAM, can create an explosive hazard to coal miners and modern mines use ventilation systems
to keep the methane content below the explosive limit of 5% methane and typically between 0.05% and 0.80%. These ventilation systems
consume power and are a significant source of energy costs for underground coal mines.
VAM
is widely found to make the greatest contribution to the emissions of coal mines, with EPA figures suggesting that over 50% of
global methane emissions from coal mining arise in this form. According to the World Coal Association, the total coal mine methane
emissions in 2010 was 584 million tons CO2-equivalent, of which coal mines in China represented 300 million tons, the U.S. represented
59 million tons, and the rest of the world represented 225 million tons.
We
are focused on working with the coal mining industry to deploy Power Oxidizers into the mining sector and believes that coal mining
VAM is feasible for power production and methane gas abatement for selected commercial opportunities in the near term. We are
evaluating opportunities in environments where there is a high cost of power coupled with a cost of methane abatement. We believe
that our commercial opportunities will increase for CMM as more stringent air quality standards, requirements, and penalties are
enacted. In particular, CMM represents a significant opportunity in China if new air quality standards are imposed by the Chinese
government.
Aerospace
and defense instruments and materials manufacturing
(NAICS Code 334511
), and semiconductor and electronics manufacturing
(NAICS Codes 334416, 334412 and 334417)
Manufacturers
in the aerospace and defense instruments and materials industry and the semiconductor and electronics industry represent in excess
of 2,200 facilities in the U.S. including nearly 600 in California. Many of these high tech manufacturers are well-capitalized
and often represent industries with an increased focus on being “carbon neutral” or “green friendly.”
The underlying economics are similar to the CHP and abatement economics of ethanol production as described above, namely the extraction
of heat energy from hydrocarbon byproduct gases, the elimination of other waste gases and the avoidance of other abatement costs.
To date, we have not had commercial success in the high-tech manufacturing market, but we have begun to market the solution to
these manufacturers, with positive reception from some of the manufacturers with which we have held discussions.
Petroleum
gas and related petrochemical production
(NAICS Code 32511
)
There
has been a strong, worldwide trend toward the reduction of venting, flaring, and waste of associated petroleum gas, also known
as flared gas, due to concerns about its contribution to global warming. Associated petroleum gas is a form of natural gas that
is commonly found within deposits of petroleum and is produced as an undesirable byproduct during the extraction of the petroleum.
Our technology not only destroys the harmful pollutants that reside within the associated petroleum gas, but it can also be installed
to produce on-site electricity and/or steam, creating significant cost savings for oil and gas producers. We see multiple opportunities
in the petroleum market sector, primarily in locations where low quality gas is permanently flared as unusable, such as tank farms,
or in locations using industrial steam to produce and distill petroleum related products.
In
September 2014, at the request of a major Canadian integrated oil company, in the first phase of a three phase commercial rollout,
we successfully demonstrated the ability of its full-scale EC250 to operate on an ultra-low energy density fuel (~50 BTU/scf)
similar in composition to the associated petroleum gases flared by many oil drilling sites around the world. The exhaust emissions
and energy production were measured and independently verified by UCI’s combustion laboratory, and the oil company that
retained us to perform the test deemed the demonstration to be successful enough to move to the next phase of its proposed commercial
rollout, which is expected to be a field trial of an EC250 unit. If the oil company deems the second phase of the rollout to be
satisfactory, the oil company’s technology development team has indicated to us that there would be sufficient environmental
and cost-savings advantages associated with our technology such that a large-scale, multi-year series of commercial installations
at multiple sites in Canada would likely receive support from the oil company’s senior management.
Other
vertical markets
We
are in the early stages of evaluating opportunities in the following industries. We expect to begin actively marketing to these
seven markets over the next year:
|
●
|
Biological
product (pharmaceutical) manufacturing (>400 facilities)
|
|
●
|
Asphalt
paving mixture and block manufacturing (>500 facilities)
|
|
●
|
Nitrogenous
fertilizer manufacturing (>400 facilities)
|
|
●
|
Foam
product manufacturing (>200 facilities)
|
|
●
|
Paper
mills (>400 facilities)
|
|
●
|
Commercial
printing (>2200 facilities)
|
|
●
|
Commercial
coatings and finishing (>50,000 facilities)
|
For
many of these opportunities, additional evaluation is required and our value proposition needs to be tailored to the market or
industry where the opportunity is classified to ensure that the specific facility could be a qualified candidate for our current
product line. For example, while there are over 50,000 commercial coating and finishing facilities, these facilities range in
size from small facilities like local painting shops that generate VOCs in very small volumes to large facilities like auto assembly
plants with multiple coating and painting facilities, each of which generates a significant amount of VOCs and represents a greater
commercial opportunity.
Research
and Development
Our
engineering team is led by a group of experienced mechanical, electrical and chemical engineers who have worked together on the
Power Oxidizer for the last seven years. Our engineers have worked in a number of larger firms, including Honeywell International,
Inc., General Motors Company, Inc., AlliedSignal, Inc., Capstone Turbine Corporation, ABB, General Electric Company, Underwriters
Laboratories Inc., and Solar Turbines Incorporated. Combined, they have decades of experience developing and commercializing a
number of gas turbines, reciprocating engines, and related products.
Since
2011, our research and development milestones include:
|
●
|
In
November 2011, SRI commissioned the first EC250 field test unit at the U.S. Army base at Fort Benning, Georgia. The project
was funded by the DoD Environmental Security Technology Certification Program, or ESTCP, which seeks innovative and cost-effective
technologies to address high-priority environmental and energy requirements for the DoD. As part of the ESTCP protocol, SRI
conducted independent verification tests in October 2012. Exhaust emission measurements were taken in accordance with standard
EPA reference methods. The EC250 emissions were far below the allowable NOx limits of the California Air Resources Board 2013
waste gas standards, which are considered to be among the strictest standards in the world.
|
|
●
|
In
June 2014, our first commercial EC250 Powerstation was installed at a landfill in the Netherlands that is owned and operated
by Attero, one of the leading waste management companies in the Netherlands. With the exception of regular maintenance and
in-warranty service related to turbine components, as well as down-time related to Attero’s refurbishment efforts on
the underlying landfill during 2015, this system has continued to operate since it was commissioned.
|
|
●
|
In
July 2015, we completed the installation of the MFTF located next to our corporate offices in Irvine, California. The MFTF
will become a critical element to our ongoing development initiatives, enabling our engineering team to continue to test a
wider range of low-quality gases that could be used to fuel our Power Oxidizers in the future, and also to experiment with
(and prove feasibility of) different sizes of future Power Oxidizer systems.
|
We
have made, and will continue to make, substantial investments in research and development. Research and development costs for
the nine months ended September 30, 2016 and 2015 and the years ended December 31, 2014 and 2015 were $2.9 million, $2.6 million,
$3.2 million and $3.4 million, respectively.
Intellectual
Property
Our
success depends in part upon our ability to obtain and maintain proprietary protection for our products and technologies. Our
goal is to develop a strong intellectual property portfolio that enables us to capitalize on the research and development that
we have performed to date and will perform in the future, particularly for each of the products in our development pipeline and
each of the products that we commercialize. We rely on a combination of patent, copyright, trademark and trade secret laws in
the United States and other countries to obtain and maintain our intellectual property. We protect our intellectual property by,
among other methods, filing patent applications with the U.S. Patent and Trademark Office and its foreign counterparts on inventions
that are important to the development and conduct of our business.
We
also rely on a combination of non-disclosure, confidentiality and other contractual restrictions to protect our technologies and
intellectual property. We require our employees and consultants to execute confidentiality agreements in connection with their
employment or consulting relationships with us. We also require them to agree to disclose and assign to us all inventions conceived
in connection with the relationship.
We
believe that Power Oxidation technology is a patent domain largely independent from combustion. Within the patent domain, the
technology has been described as “Gradual Oxidation,” as the patents were filed prior to our management’s decision
in late 2014 to change the process name to “Power Oxidation.” Our current patent grants and pending applications consist
of:
|
○
|
29
U.S. patents
|
|
○
|
10
non-U.S. patents
|
|
●
|
Pending
applications: 30
|
|
○
|
8
U.S. applications
|
|
○
|
22
non-U.S. applications
|
We
intend to continue to protect our Power Oxidation technology in current patent application filings and expect to file additional
patent applications for various implementations, markets and uses as we continue to develop our technology.
Global
Energy Market and Government Policies
As
most countries around the world continue to industrialize, the industrial plants/facilities representing a broad range of industries
result in a rapidly growing demand for more electricity and more on-site steam. In fact, there are currently approximately three
million industrial facilities around the world, and collectively they consume approximately $800 billion in energy costs in order
to operate their plants. These same industrial facilities, located all around the world and across a broad range of industries,
also represent about 36% of the world’s greenhouse gas emissions. These emissions have led to environmental concerns, political
legislation geared towards promoting renewable power and policy trends for eliminating harmful gases and waste products.
The
combination of these trends and challenges places us in a unique position to capitalize on a growing need for on-site power, steam
and heat, while at the same time productively utilizing the low-quality industrial gases that are rapidly becoming a significant
global concern.
Recent
international agreements, policy announcements, and environmental legislation, either already enacted or proposed, support the
continued commercialization and scale up of our Power Oxidizer technology. We believe that the capabilities of our technology
fit well within the global focus on all of the following:
|
●
|
Maximizing
methane usage from all sources to eliminate flared gas;
|
|
●
|
Industrial
waste gas destruction to prevent emissions of the waste gases into the atmosphere; and
|
|
●
|
Efficient
on-site energy generation, while minimizing emissions.
|
We
believe that our technology provides an attractive financial return on investment for industrial facilities in many regions of
the world, without any financial incentives that are typically necessary for renewable power projects. In addition, we are seeing
an increasing amount of significant new regulations, policies and international agreements being enacted globally that potentially
benefit our business and potentially accelerate the decision-making process made by companies that are considering the deployment
of our technology. Some of these regulations, policies and international agreements that we believe are the most pertinent to
our value proposition are listed below. While most of these policies are either non-binding or carry limited penalties, we believe
they represent the general direction of air quality standards for many geographic locations. Although such policies are generally
non-binding or carry limited penalties, we believe that some industries are moving to comply with such policies, which often takes
months or years to plan and implement. Companies that voluntarily comply with such policies often do so to generate positive public
relations and/or to avoid public backlash. As public pressure through news and social media streams to reduce air pollution intensifies,
we believe that some companies are beginning to voluntarily comply with these policies. We believe that such public pressure may
encourage potential customers to consider our product solutions, which they may not otherwise have considered.
Flaring
Reduction
|
●
|
Zero
Routine Flaring by 2030, endorsed by Russia, Norway, Angola, France, other countries and BP, Shell, Kuwait National Oil Company,
ENI, and other major oil companies
|
|
|
|
|
●
|
North
Dakota limiting flaring to 23% of all gas produced in 2015 with required reductions down to 10% of all gas produced by 2020.
|
Methane
Emissions Mitigation
|
●
|
In
March 2014, President Obama released a Strategy to Reduce Methane Emissions, which takes steps to further cut methane
emissions from landfills, coal mining, agriculture, and oil and gas systems.
|
|
|
|
|
●
|
In
January 2015, the White House announced a new goal to cut methane emissions from the oil and gas sector by 40-45% from 2012
levels by 2025.
|
Ozone
Pollution Reduction (NOx restrictions)
|
●
|
On
November 25, 2014, the EPA proposed to strengthen the National Ambient Air Quality Standards for ground-level ozone, based
on extensive scientific evidence about ozone’s effects on public health and welfare (reducing ozone required restricting
NOx emissions to low levels).
|
|
●
|
558
counties in the U.S. would exceed the lower 65 ppb proposed standard, while 358 counties in the U.S. would exceed the 70 ppb
proposed standard.
|
|
●
|
“A
Clean Air Programme for Europe” calls for action to control emissions of air polluting substances from combustion plants
with a rated thermal input between 1 and 50 MW (i.e., medium combustion plants), thereby completing the regulatory framework
for the combustion sector with a view of increasing the synergies between air pollution and climate change policies. Medium
combustion plants are used for a wide variety of applications (including electricity generation, domestic/residential heating
and cooling and providing heat/steam for industrial processes) and are an important source of emissions of sulfur dioxide,
nitrogen oxides and particulate matter. The approximate number of medium combustion plants in the European Union, or EU, is
142,986.
|
Carbon/Greenhouse
Gas Levies
|
●
|
Alberta’s
New Democratic Party government announced on June 25, 2015 a phased increase in the province’s carbon emissions levy
from C$15 ($12) per tonne this year (2015) to C$20 next year and C$30 by 2017.
|
|
|
|
|
●
|
California
and Quebec have announced the completion of their second joint carbon dioxide (CO2) allowance auction through a cap-and-trade
system. Despite geographical distance and economic differences, California and Quebec have worked to align their CO2 emissions
markets and policies. Previous auctions sold emissions allowances for electric generators and large industrial sources. The
most recent auction, held in February 2015, also included allowances for the transportation sector, covering wholesale gasoline
suppliers. The California and Quebec program is the first international carbon allowance program to be enacted at the subnational
level (i.e., between parts of two different countries). Similar programs in Europe were the first to establish markets across
several countries (the EU’s Emission Trading Scheme) and were also the first to cover certain transportation components.
|
|
|
|
|
●
|
Figure
7 below displays the 40 countries and more than 20 cities, states and provinces now using or planning to use a price on carbon
to bring down greenhouse gas emissions through emission trading systems or carbon credits or taxes. Altogether, the combined
value of the carbon credits, taxes, and ETS initiatives in operation today are valued at almost $50 billion, according to
the World Bank and Ecofys new Carbon Pricing Watch, which is an early brief previewing the annual State and Trends of Carbon
Pricing report.
|
Figure
7
The
regulations, policies and international agreements above are examples of the evolving policy landscape for global energy as well
as the pressures on industries to reduce their emissions. Our Power Oxidizer can enable many of the intensive industrial facilities
worldwide to comply and benefit from these changing environmental and energy policies. The Power Oxidizer utilizes polluting methane
and waste gases to efficiently produce the heat needed to generate energy (electricity and/or steam) on-site. This enables industrial
facilities to offset their purchases of utility power and fuels, while also destroying polluting gases and drastically reducing
their NOx emissions.
Current
and Future Efforts
Our
research and development efforts are currently focused on the following activities:
|
●
|
Commercializing
the 2 MW Power Oxidizer and integration with the Dresser-Rand KG2-3GEF turbine.
We are currently in a joint development
effort with Dresser-Rand on the KG2, which incorporates our Power Oxidation technology with Dresser-Rand’s KG2-3GEF
2 MW gas turbine. We have completed system layout and analytic models integrating our Power Oxidizer with this turbine, and
we have also utilized our MFTF to demonstrate our ability to produce the level of heat energy required to power a KG2 turbine.
|
|
|
|
|
●
|
Constructing
the first two commercial 2 MW Power Oxidizer units.
In 2016, we delivered to Dresser-Rand the first two commercial 2 MW
Power Oxidizer units to fulfill the Pacific Ethanol purchase order. The Power Oxidizer units were combined with the Dresser-Rand
KG/2 units and were installed at the customer site in December 2016.
|
|
|
|
|
●
|
Commercializing
and installing technology into vertical markets
. We are currently working to successfully commercialize and install our
technology into several of the five vertical industrial markets discussed under the subheading “Industrial Target Markets
—
CHP
and Abatement.” Thus far, we have successfully commercialized our technology into old, inactive landfills and have worked
with Dresser-Rand to commercialize our technology into a large fuel ethanol distillery. As we continue to evolve, we intend
to demonstrate the technical feasibility and economic value of deploying our technology into a variety of additional industries
that currently generate waste gases.
|
|
●
|
Developing
a Power Oxidizer for steam applications
. We are currently working to develop a low pressure Oxidizer to be coupled with
a steam boiler and commercialized within industrial facilities (across the same broad base of industries we already target)
in order to generate useful and valuable on-site steam from the “monetarily free” waste gases at lower pressure
levels.
|
|
●
|
Scaling
up to other large gas turbines.
We have already established close working relationships with several other gas turbine
manufacturers and large industrial partners to facilitate the potential development of additional systems.
|
|
●
|
Expanding
the global reach of our technology.
Further developing our technology to work with steam boilers will allow us to partner
with global manufacturers of industrial steam power generators and access new markets.
|
|
●
|
Continuing
the development of academic relationships.
Over the past five years, we have developed strong research relationships with
the University of Cincinnati and UCI, which led to the development of better analytical tools to simulate our Power Oxidation
process.
|
Figure
8
Suppliers
For
our Power Oxidizer units, our raw materials generally consist of readily available, pipes, tanks and machined metal products made
of steel and other readily available commercial metals. We also purchase an integrated controls system that is configured from
off-the-shelf units. For certain proprietary components, we use parts that are single-sourced from certain suppliers for machined
parts designed and built to our specifications. We expect to move away from single-sourced suppliers as our production levels
increase and with future modifications to our products.
For
the EC250 and EC333 units, we purchase gas turbines from a single supplier, FlexEnergy. The Power Oxidizers used in our KG2 units
are bundled with Dresser-Rand gas turbines as a single sourced supplier.
Environmental
Laws
We
have not incurred any expenses associated with compliance with environmental laws to date. Our customers, however, are subject
to federal, state, local and foreign environmental laws, regulations and policies governing, among other things, air quality and
emissions. As such, we may, in the future, incur material costs or liabilities in complying with such government regulations,
whether applicable to our customers’ use of our products, due to additional development costs or indemnity costs, or to
us directly. Further, as we expand our product line and pursue additional opportunities to deploy our Power Oxidizer in the field,
we may assume greater operational responsibility for certain deployment sites. In the event we take on such an operational role,
we may become subject to applicable air quality and other environmental rules and regulations, which would result in the incurrence
of compliance and permitting costs, among others.
Employees
As
of February 7, 2017, we have 13 full-time employees. None of our employees are covered by a collective bargaining agreement. We
believe our relationship with our employees is good. We also employ consultants, including technical advisors and other advisors,
on an as-needed basis to supplement existing staff.
Competition
The
target markets for the Power Oxidizer are highly developed and mature for solutions using combustion as a heat source but are
new and fairly undeveloped for applications of our Power Oxidizer technologies. If a site already has a high quality waste gas
with high enough energy density to generate power with this standard equipment, and the resulting emissions levels do not exceed
regulatory limits, then we deem such site to be outside of our target market.
Our
technology represents a value-added pre-process for power generation equipment such as gas turbines, reciprocating engines or
steam generation equipment such as steam boilers. We do not consider ourselves competitors with the providers of this equipment
but rather consider ourselves as complementary to such providers.
We
compete with existing co-generation solutions and other power generation solutions for our current and future customers. Those
existing solutions have typically more mature technology and have a lower equipment cost than our Power Oxidizer units. Our Power
Oxidizers are typically more expensive per kilowatt of power capacity when compared to the initial cost of equipment, and competing
products typically have lower upfront costs than our Power Oxidizers. However, we believe that in many situations, once the total
cost of a co-generation project including fuel costs and the value of pollution abatement is quantified, that our Power Oxidizers
provide a superior rate of return for our customers. Our Power Oxidizers often cost less than purchasing separately combustion-based
combined heat and power and additional pollution abatement equipment.
We
believe that there are very few, if any, companies that are actively pursuing the commercial utilization of oxidation technologies
for generation of on-site energy, particularly in light of the technology patents we hold. In addition to our efforts to replace
existing combustion technologies, we compete against other companies in two sectors, each with its distinct competitive landscape:
|
●
|
Low-quality
fuels
—Within applications where the gas source has an energy density (BTU/ft3) below the minimum level required
by reciprocating engines and standard gas turbines, we believe that our Power Oxidizer does not have a direct technological
or manufacturing competitor. In these situations, the prospective customer can elect to do nothing and allow low BTU gas to
simply be emitted into the atmosphere. Alternatively, the customer can purchase gas such as propane or natural gas, mix it
with the low BTU gas to make combustion feasible, and then flare the mixture. Because this alternative results in the destruction
of the low BTU gas instead of converting the gas into a form of energy that could be sold or monetized, we do not consider
it to be a direct form of competition.
|
|
●
|
Ultra-low
emissions
—Within applications where a customer is required to meet emissions regulations and controls limits, typically
by national, regional or local legislation, our systems compete with pollution control technologies, such as Selective Catalytic
Reduction, Dry-Low-NOx, or Dry-Low-Emissions systems, and in some cases, with low-emission flares and thermal oxidizers. As
many of our competitors are large, well-established companies, they derive advantages from production economies of scale,
worldwide presence, and greater resources, which they can devote to product development or promotion.
|
Although
we are occasionally compared to wind and solar power production, we do not consider existing renewable energy solutions to be
direct competitors. Existing renewable sources such as wind and solar are economically feasible in particular geographic locations,
whereas our solution is applicable to any area with a sufficient quantity of low quality gases. Our Power Oxidizers are able to
provide base-load power for more than 95% of the time, while typically wind and solar solutions provide intermittent power and
can only provide power for 20%–40% of the time. As a result, although the capital cost per kilowatt is similar, the availability
of the Power Oxidizer provides a significantly lower overall cost of power produced.
Legal
Proceedings
We
know of no material, existing or pending legal proceedings against our company, nor are we involved as a plaintiff in any material
proceeding or pending litigation. There are no proceedings in which any of our directors, officers or affiliates, or
any registered or beneficial stockholder, is an adverse party or has a material interest adverse to our interest.
MANAGEMENT
Executive
Officers and Directors
Our
directors and executive officers and their ages and positions as of February 7, 2017 are as follows:
Name
|
|
Age
|
|
Position(s)
|
Alain
J. Castro
|
|
47
|
|
Chief
Executive Officer and Director
|
Domonic
J. Carney
|
|
50
|
|
Chief
Financial Officer, Secretary and Treasurer
|
Douglas
A. Hamrin
|
|
46
|
|
Vice
President, Engineering
|
Michael
J. Hammons(3)
|
|
47
|
|
Director
|
Jeffrey
A. Horn(1)(2)
|
|
62
|
|
Director
|
Bennet
P. Tchaikovsky(1)
|
|
47
|
|
Director
|
Ian
Copeland(2)
|
|
54
|
|
Director
|
Stephen
Markscheid(1)(2)
|
|
62
|
|
Director
|
(1)
|
Member
of the Audit Committee
|
|
|
(2)
|
Member
of the Compensation Committee
|
|
|
(3)
|
Member
of the Nominating and Corporate Governance Committee
|
Executive
Officers
Alain
J. Castro,
Chief Executive Officer and Director
Mr.
Castro has been the Chief Executive Officer and a director of Ener-Core Power, Inc., our wholly owned subsidiary, since May 2013
and our Chief Executive Officer and director since the merger of Ener-Core Power, Inc. and Flex Merger Acquisition Sub, Inc. effective
as of July 1, 2013, or the Merger. He founded International Energy Ventures Limited, a United Kingdom-based investor of clean
tech companies and renewable energy projects, in May 2003, and remains a controlling investor. Between February 2008 and
June 2011, Mr. Castro served in various capacities (including president and a director) of the North and South America divisions
of Akuo Energy, an international developer and operator of renewable energy projects. Prior to his career in the renewable
energy sector, he was a partner at Ernst & Young Consulting (in the Mercosur region of Latin America), an international advisory
services firm. Mr. Castro participated in the Sloan Executive Masters Program at the London Business School and received
his B.S. in Industrial and Mechanical Engineering from the University of Texas. Mr. Castro brings to our board of directors experience
with clean tech companies and renewable energy projects, as well as previous executive-level experience.
Domonic
J. Carney, Chief Financial Officer, Secretary, Treasurer
Mr.
Carney was appointed as our Chief Financial Officer, Secretary and Treasurer in August 2014. Until his appointment, Mr. Carney
was an independent consultant providing finance, accounting and business strategy services. From March 30, 2012 to October 2012,
Mr. Carney served as the chief financial officer for T3 Motion, Inc. (TTTM.PK), an electric vehicle technology company. From March
2005 to February 2012, Mr. Carney served as Chief Financial Officer for Composite Technology Corporation (CPTC.OB), a manufacturer
of high efficiency carbon composite electric transmission conductors and renewable energy wind turbines. Mr. Carney has a Masters
in Accounting from Northeastern University and a Bachelor’s Degree in Economics from Dartmouth College.
Douglas
A. Hamrin, Vice President of Engineering
Mr.
Hamrin was appointed as an officer in March 2015. Since July 2013, Mr. Hamrin has been our Vice President of Engineering. From
May 2008 to December 2012, Mr. Hamrin served as Director of Thermal Oxidizer Development for Flex Energy. Prior to joining Flex
Energy, Mr. Hamrin held positions as Technical Manager, Applications and Principal Applications Engineer at Honeywell Turbo Technologies,
Director of the Fuel Systems Group at Capstone Turbine Corporation and Engineer at Generals Motors Powertrain Division. Mr. Hamrin
has an M.S. in Mechanical Engineering from the Massachusetts Institute of Technology and a BS in Mechanical Engineering from the
Illinois Institute of Technology.
Non-Employee
Directors
Michael
J. Hammons, Chairman of our Board of Directors, Director and Chairman of the Nominating and Corporate Governance Committee
Mr.
Hammons became Chairman of our board of directors as of the closing of the Merger in July 2013 and chairman of our Nominating
and Corporate Governance Committee in July 2015. Commencing with the inception of Ener-Core Power, Inc. until the closing of the
Merger, he served as its Chairman of the board of directors. From June 2009 to February 2014, Mr. Hammons was a partner at SAIL
Venture Partners II, LLC, an investor in energy and water technology companies, which was the management company and general partner
of SAIL Venture Partners II, LP. From September 2008 through March 2009, he was the chief executive officer of Vigilistics,
Inc., a Mission Viejo, California-based software company and, from August 2007 to May 2008, the Chief Executive Officer of Nexiant,
Inc., an Irvine, California-based provider of proprietary technology solutions for the maintenance, repair, and operations inventory
space. From 2011 until March 2015, Mr. Hammons served as chairman and director of the board of directors of Enerpulse Technologies,
Inc. Mr. Hammons received his B.S. in Industrial Engineering from California Polytechnic State University, San Luis Obispo, and
his M.B.A. from Harvard Business School. Mr. Hammons brings to our board of directors experience as a partner in SAIL Venture
Partners II, LLC, including with its investment portfolio, management expertise in respect of companies similarly situated, and
familiarity with us, both prior and subsequent to the spin-off, and served as Chairman of Ener-Core Power, Inc.’s board
prior to the closing of the Merger.
Jeffrey
A. Horn, Director
Mr.
Horn became one of our directors in May 2014. Mr. Horn’s career spanned over 34 years at Caterpillar Inc., including
most recently as Managing Director of Caterpillar Power Generation Systems in Houston beginning in January 2009, before retiring
in January 2012. Mr. Horn received his B.S. degree in Economics from the University of Wisconsin, Madison, in 1977. Mr. Horn
brings to our board of directors experience in the power equipment sector, and work experience in the mining industry, which is
a target market for our products.
Bennet
P. Tchaikovsky, Director and Chairman of the Audit Committee
Mr.
Tchaikovsky became one of our directors and chairman of our Audit Committee in November 2013. Since August 2014, Mr.
Tchaikovsky has been a full time Assistant Professor at Irvine Valley College where he teaches courses in financial and managerial
accounting. From April 2010 through August 2013, Mr. Tchaikovsky served as the Chief Financial Officer of VLOV Inc., a China-based
clothing designer and distributor that was also a U.S. publicly traded company. From September 2009 to July 2011, Mr. Tchaikovsky
served as Chief Financial Officer of China Jo-Jo Drugstores, Inc., a U.S. public company operating a chain of pharmacies in China,
where he also served as a director from August 2011 through January 2013. From May 2008 to April 2010, Mr. Tchaikovsky served
as the Chief Financial Officer of Skystar Bio-Pharmaceutical Company, a U.S. public company that manufactures and distributes
veterinary medicines and related products in China, which he performed on a part-time basis and assisted primarily with preparing
its financial statements and other financial reporting obligations. From March 2008 through November 2009, Mr. Tchaikovsky
was a director of Ever-Glory International Group, a U.S. public company and apparel manufacturer based in China, and served on
the audit committee as chairman and on the compensation committee as a member. From December 2008 through November 2009,
Mr. Tchaikovsky was a director of Sino Clean Energy, Inc., which was a U.S. public company that manufactured coal fuel substitute
in China, and served on the audit committee as chairman and on both the compensation and nominating committees as a member. None
of the foregoing companies is related to or affiliated with us. Mr. Tchaikovsky is a licensed Certified Public Accountant
and an active member of the California State Bar. He received a B.A. in Business Economics from the University of California
at Santa Barbara, and a J.D. from Southwestern University School of Law. Mr. Tchaikovsky brings to our board of directors
experience with U.S. public companies, along with a legal and accounting background.
Ian
C. Copeland, Director and Chairman of the Compensation Committee
Mr.
Copeland became one of our directors in December 2014 and chairman of our Compensation Committee in July 2015. Mr. Copeland
brings over 25 years of global experience in developing, financing and managing world-class projects and companies in the power,
rail, water and mining markets. Before retiring at the end of 2012, Mr. Copeland was a Senior Vice President of Bechtel Corporation.
During his 15-year tenure with Bechtel Corporation, he served in various capacities including President of the Fossil Power, Communications
and Renewable Power businesses and Managing Director of Bechtel Enterprises. Previously, Mr. Copeland held senior management positions
with Wärtsilä Corporation and Hannon Armstrong & Company. Mr. Copeland began his career with the utility consulting
practice of Booz Allen Hamilton after graduating from Rutgers University with degrees in physics and mechanical engineering. Mr.
Copeland brings to our board of directors his background in international business, including experience developing, financing,
and managing projects in the power and infrastructure markets.
Stephen
Markscheid, Director
Mr.
Markscheid became one of our directors on June 29, 2016. Mr. Markscheid brings over 30 years of corporate finance experience in
the United States, Asia and Europe, including experience in mergers and acquisitions, strategic investments, joint ventures and
new business development across industries in emerging markets. Mr. Markscheid has served as Chief Executive Officer of Synergenz
BioScience Inc. since 2007, head of international business for Mammoth Industries since 2013 and partner of Wilton Partners since
2014. He has also been an independent member of the boards of directors of CNinsure, Inc. since 2007, Jinko Solar, Inc. since
2009, China Integrated Energy Corporation since 2011, China Ming Yang Wind Power Group since 2011 and ChinaCast Education Corporation
since 2011. Mr. Markscheid was previously a representative of the US-China Business Council from 1978 to 1983, a vice president
of Chase Manhattan Bank from 1984 to 1988, a vice president of First Chicago Bank from 1988 to 1993, a case leader of Boston Consulting
Group from 1994 to 1997, a director of business development of GE Capital (Asia Pacific) from 1998 to 2001, a senior vice president
of GE Healthcare Financial Services from 2003 to 2006 and the chief executive officer of HuaMei Capital Company, Inc. from 2006
to 2007. Mr. Markscheid received his bachelor’s degree in East Asian studies from Princeton University in 1976, a master’s
degree in international affairs and economics from Johns Hopkins University (SAIS) in 1980 and an MBA from Columbia University
in 1991. The Board concluded that Mr. Markscheid’s extensive experience as an independent director and his substantial corporate
finance experience, particularly in Asia, made his appointment to the Board appropriate.
Family
Relationships
There
are no family relationships between or among any of the current directors, executive officers or persons nominated or charged
to become directors or executive officers. There are no family relationships among our officers and directors and those of our
subsidiaries and affiliated companies.
Board
Composition
Our
board of directors currently consists of six members. Our bylaws provide that our directors will hold office until their
successors have been duly elected and qualified. Our board of directors is responsible for the business and affairs of our
company and considers various matters that require its approval.
Our
common stock is currently quoted on the OTCQB Marketplace under the symbol “ENCR.” The OTCQB Marketplace does not
require issuers to comply with corporate governance listing standards that issuers listed on a national securities exchange, such
as the New York Stock Exchange and The NASDAQ Stock Market LLC, are required to comply with. However, as a matter of corporate
governance best practices, we have taken actions to improve our corporate governance, including establishing a board of directors
with a majority of directors who are “independent” (as discussed below), and a standing Audit Committee, Compensation
Committee and Nominating and Corporate Governance Committee. We have also adopted Corporate Governance Guidelines, a Code of Ethics,
an Insider Trading Policy and other similar corporate policies, which are available at http://ir.ener-core.com/governance-docs.
Director
Independence
Based
upon information submitted by Messrs. Hammons, Horn, Tchaikovsky, Copeland and Markscheid, our board of directors has determined
that each of them is “independent” for purposes of our Corporate Governance Guidelines, with reference to the relevant
rules of the national securities exchanges in the United States, although such definitions do not currently apply to us because
our securities are not listed on a national securities exchange. Mr. Castro is not an independent director. Under the Corporate
Governance Guidelines, no director will be considered “independent” unless our board of directors affirmatively determines
that the director has no direct or indirect material relationship with our company.
Code
of Ethics
Our
board of directors has adopted a Code of Ethics, which applies to all officers, directors and employees. Our Code of Ethics
is available on our website at http://ir.ener-core.com/governance-docs. The contents of our website are not part of this prospectus
and you should not consider the contents of our website in making an investment decision regarding our stock. We intend to disclose
any amendments to our Code of Ethics, or waivers of its requirements, on our website or in filings under the Exchange Act.
Board
Committees
Our
board of directors has three standing committees: the Audit Committee, the Compensation Committee and the Nominating and Corporate
Governance Committee. Below is a description of each committee as it is presently constituted. Our board of directors has
determined that each current member of each committee meets certain SEC rules and regulations regarding “independence,”
as well as “independence” under our Corporate Governance Guidelines, and that each member is free of any relationship
that would impair his individual exercise of independent judgment with regard to our company.
We
have made each of our committee charters available on our website at http://ir.ener-core.com/governance-docs.
Audit
Committee
The
Audit Committee currently consists of Messrs. Tchaikovsky (Chairman), Horn and Markscheid. The Audit Committee operates under
a written charter, which is available at http://ir.ener-core.com/governance-docs. The purpose of the Audit Committee is to oversee
the accounting and financial reporting processes of our company and the audits of our financial statements. In addition to other
powers and responsibilities, the Audit Committee (i) is directly responsible for the appointment, compensation, retention,
oversight and termination, if necessary, of the independent registered public accounting firm, (ii) reviews the independence and
quality control procedures of the independent registered public accounting firm, (iii) reviews and discusses the annual audited
financial statements with management and the independent registered public accounting firm, and (iv) reviews, and approves as
appropriate, all related party transactions. Our board of directors has determined that Mr. Tchaikovsky is an “audit committee
financial expert” as defined by the regulations promulgated by the SEC.
Compensation
Committee
The
Compensation Committee currently consists of Messrs. Copeland (Chairman), Horn and Markscheid. The Compensation Committee operates
under a written charter, which is available at http://ir.ener-core.com/governance-docs. The purpose of the Compensation Committee
is to discharge the board of directors’ responsibilities relating to compensation of our executives, to produce an annual
report on executive compensation for inclusion in our proxy materials and to review and discuss with management the Compensation
Discussion and Analysis to be included in the proxy materials in accordance with applicable rules and regulations. In addition
to other powers and responsibilities, the Compensation Committee shall (i) review our compensation philosophy, (ii) review and
approve the Chief Executive Officer’s compensation, (iii) review and approve, in consultation with the Chief Executive Officer,
all compensation for other officers, (iv) review and approve employment agreements and severance arrangements for the Chief Executive
Officer and our other officers and (v) prepare and approve the Compensation Committee report to be included in our annual proxy
statement.
Nominating
and Corporate Governance Committee
The
Nominating and Corporate Governance Committee currently consists solely of Mr. Hammons (Chairman). The Nominating and Corporate
Governance Committee operates under a written charter, which is available at http://ir.ener-core.com/governance-docs. The purpose
of the Nominating and Corporate Governance Committee is to assist our board of directors in identifying qualified candidates to
become members of the board of directors, selecting director nominees for election at the annual meeting of stockholders, selecting
candidates to fill any vacancies on the board of directors and overseeing the evaluation of the board of directors. In addition
to other powers and responsibilities, the Nominating and Corporate Governance Committee shall (i) prior to each annual meeting
of stockholders at which directors are to be elected, recommend director candidates to the board of directors for nomination by
the board of directors, (ii) after a vacancy arises on the board of directors or if a director advises of his or her resignation,
recommend director candidates to the board of directors to fill such vacancy, (iii) at least annually review the performance of
each current director and recommend to the board of directors whether such director should be nominated for an additional term,
(iv) assist the board of directors in its annual review of its performance and make appropriate recommendations to improve performance
and (v) make recommendations to the board of directors regarding its size and composition and composition of the committees.
Board
Leadership Structure and Role in Risk Oversight
Under
the Corporate Governance Guidelines, our board of directors is free to select the Chairman of the board of directors and the Chief
Executive Officer in a manner that it considers to be in our best interests at the time of selection. Currently, Mr. Castro serves
as Chief Executive Officer and as a member of the board of directors, and Mr. Hammons serves as Chairman of the board of directors.
We currently believe that this leadership structure is in our best interests and strikes an appropriate balance between our Chief
Executive Officer’s responsibility for our day-to-day management and the Chairman of the board of directors’ responsibility
to provide oversight, including setting the board of directors’ meeting agendas and presiding at executive sessions of the
independent directors. Mr. Castro provides a strong link between management and our board of directors, which we believe promotes
clear communication and enhances strategic planning and implementation of corporate strategies. Overall, we believe that having
our Chief Executive Officer also serve as a director helps provide strong, unified leadership for our management team. Additionally,
in addition to having a non-executive Chairman of the board of directors, four of our seven members of our board of directors
have been deemed to be “independent” by the board of directors, which we believe provides sufficient independent oversight
of our management. Because we have a non-executive Chairman of the board of directors, our board of directors has not designated
a lead independent director.
Our
board of directors, as a whole and also at the committee level, plays an active role overseeing the overall management of our
risks. Our Audit Committee reviews risks related to financial and operational items with our management and our independent registered
public accounting firm. Our board of directors is in regular contact with our Chief Executive Officer and Chief Financial Officer,
who report directly to the board of directors and who supervise day-to-day risk management.
EXECUTIVE
AND DIRECTOR COMPENSATION
Compensation
Discussion and Analysis
This
Compensation Discussion and Analysis describes the material elements of the compensation awarded to our current executive officers.
This compensation discussion focuses on the information contained in the following tables and related footnotes and narrative
for the last completed fiscal year.
Our
current executive compensation program may from time to time include the following principal components: (i) base salary;
(ii) stock incentive plan awards; (iii) discretionary annual cash bonuses; and (iv) perquisites and benefits.
Our
Compensation Philosophy and Objectives
Our
philosophy regarding compensation of our executive officers includes the following principles:
|
●
|
our
compensation program should reward the achievement of our strategic initiatives and short- and long-term operating and financial
goals;
|
|
|
|
|
●
|
compensation
should appropriately reflect differences in position and responsibility;
|
|
|
|
|
●
|
compensation
should be reasonable; and
|
|
|
|
|
●
|
the
compensation program should be understandable and transparent.
|
In
order to implement such compensation principles, we have developed the following objectives for our executive compensation program:
|
●
|
overall
compensation levels must be sufficiently competitive to attract and retain talented leaders and motivate those leaders to
achieve superior results;
|
|
|
|
|
●
|
a
portion of total compensation should be contingent on, and variable with, achievement of objective corporate performance goals,
and that portion should increase as an executive’s position and responsibility increases;
|
|
|
|
|
●
|
total
compensation should be higher for individuals with greater responsibility and greater ability to influence our achievement
of operating goals and strategic initiatives;
|
|
|
|
|
●
|
the
number of elements of our compensation program should be kept to a minimum, and those elements should be readily understandable
by and easily communicated to executives, stockholders, and others; and
|
|
|
|
|
●
|
executive
compensation should be set at responsible levels to promote a sense of fairness and equity among all employees and appropriate
stewardship of corporate resources among stockholders.
|
Determination
of Compensation Awards
The
Compensation Committee was created to be our primary authority to determine the compensation awards available to our executive
officers. Because there were no members of our Compensation Committee during fiscal year 2014, members of our board of directors
provided recommendations regarding the compensation of our executive officers and approved all executive compensation during 2014.
We formed our Compensation Committee in July 2015 and it engaged the services of a consultant to review a peer group of companies
in order to provide them with market data on the compensation of directors and officers of peer companies. There were no changes
to compensation in 2015 or 2016. For 2017, they plan to review the data and may modify the compensation of our directors and executive
officers in order to better align their compensation with our goals and objectives and ensure their compensation is competitive
in the marketplace.
Compensation
Benchmarking and Peer Group
We
did not rely on any consultants or utilize any peer company comparisons or benchmarking in setting executive compensation levels
for fiscal 2014. However, our management informally considered competitive market practices by reviewing publicly available information
relating to compensation of executive officers at other comparable companies in making its recommendations to our board of directors
regarding our executives’ compensation for fiscal 2014. In 2015, we took steps, including the engagement of a third party
consultant to establish peer company comparisons, to ensure that the Compensation Committee and/or board of directors has a comprehensive
picture of the compensation paid to our executives and with a goal toward total direct compensation for our executives that is
on par with the median total direct compensation paid to executives in peer companies if annually established target levels of
performance at our company and business segment levels are achieved. Our Compensation Committee intends to complete the evaluation
and to provide recommendations in the first quarter of 2017. We expect our recommendations for 2017 to include a better alignment
of management compensation with the achievement of key performance goal and objectives.
Elements
of Compensation
The
principal elements of our executive compensation are:
|
●
|
base
salary; and
|
|
|
|
|
●
|
stock
incentive plan awards.
|
While
base salary is generally included as an element of compensation of our executive officers in every year, the granting of stock
incentive awards, as well as bonuses and perquisites, is determined on a case-by-case basis. During the fiscal year ended December
31, 2016, our compensation program consisted solely of base salary. No stock options or cash incentive pay were granted or approved
in 2016. For fiscal 2017, we expect that our executive compensation will consist of base salary with additional incentive pay
to be determined by the Compensation Committee as described above.
Base
Salaries
Base
salary is used to recognize the experience, skills, knowledge and responsibilities required of our employees, including our named
executive officers. When establishing base salaries for 2016, subject to the provisions of each person’s employment agreement,
our board of directors and management considered a number of factors, including the financial condition of the company, the seniority
of the individual, the functional role of the position, the level of the individual’s responsibility, the ability to replace
the individual, the base salary of the individual at their prior employment and the number of well-qualified candidates to assume
the individual’s role. Generally, we believe that executive base salaries should be targeted near the median of the range
of salaries for executives in similar positions at comparable companies.
Discretionary
Annual Cash Bonuses
The
Compensation Committee has discretion to recommend and approve the annual cash bonus for our Chief Executive Officer and each
other named executive officer. Bonus awards generally will be based on our management’s recommendations and ultimately approved
by the Compensation Committee. There were no annual bonuses granted for 2016. Annual bonuses, when awarded, are intended to compensate
officers for individual performance, for our overall financial performance, and for achieving important operational and financial
milestones during the relevant fiscal year.
Stock
Incentive Plan Awards
Our
stock option plans, the 2013 Plan, which our board of directors adopted on July 1, 2013, and the 2015 Plan, which our board of
directors adopted on July 14, 2015, were designed to provide long-term incentives to our executives and other employees and award
recipients, and to increase stockholder value through competent, effective management. We believe that the ability to grant equity
awards as a component of compensation will provide us with an advantage in attracting qualified management and employees. Stock
option award decisions are evaluated on a case-by-case basis giving consideration to factors such as the recipient’s qualifications
and abilities, the nature of the recipient’s position, and the recipient’s ability to contribute to the development
and achievement of our business objectives.
Perquisites
and Other Compensation
Presently,
we do not include perquisites or other benefits as a part of executive compensation, though we may in the future include perquisites
and other benefits as an element of compensation from time to time on a discretionary basis.
Management’s
Role in the Compensation-Setting Process
Our
management plays an important role in our compensation-setting process. The most significant aspects of management’s role
are evaluating other executive officers’ performance, recommending business performance targets and objectives, and recommending
salary levels and option awards. Our management makes recommendations to our board of directors regarding our executives’
compensation packages. During this process, management may be asked to provide the board of directors with their evaluation of
the executive officers’ performance, the background information regarding our strategic financial and operational objectives,
and compensation recommendations as to the executive officers.
Summary
Compensation Table
The
following table sets forth information regarding compensation for each of our 2016 “named executive officers” for
SEC reporting purposes.
Name
and Principal Position
|
|
Year
|
|
Salary
($)
|
|
|
Bonus
($)
|
|
|
Option
Awards
($)(1)
|
|
|
All
Other Compensation
($)
|
|
|
Total
($)
|
|
Alain
J. Castro,
|
|
2016
|
|
|
200,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
200,000
|
|
Chief
Executive Officer(2)
|
|
2015
|
|
|
200,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
200,000
|
|
Boris
A. Maslov,
|
|
2016
|
|
|
225,000
|
|
|
|
|
|
|
|
—
|
|
|
|
—
|
|
|
|
225,000
|
|
President,
COO and CTO(3)
|
|
2015
|
|
|
225,000
|
|
|
|
|
|
|
|
—
|
|
|
|
—
|
|
|
|
225,000
|
|
Domonic
J. Carney,
|
|
2016
|
|
|
180,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
180,000
|
|
Secretary/Treasurer
Chief Financial Officer(4)
|
|
2015
|
|
|
180,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
180,000
|
|
Douglas
Hamrin
|
|
2016
|
|
|
180,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
180,000
|
|
Vice
President, Engineering(5)
|
|
2015
|
|
|
180,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
180,000
|
|
(1)
|
The
amounts shown in this column represent the aggregate grant date fair value of stock options granted in the year computed in
accordance with FASB ASC Topic 718. These amounts are not paid to or realized by the officer. We did not grant any option
awards to any executives during 2015 or 2016. See Note 12 of the notes to our audited consolidated financial statements for
a discussion of valuation assumptions made in determining the grant date fair value and compensation expense of our stock
options.
|
|
|
(2)
|
Mr.
Castro’s base salary was $200,000 per annum for 2016 and 2015.
|
|
|
(3)
|
Dr.
Maslov’s base salary was $225,000 per annum for 2016 and 2015. On February 1, 2017, we and Dr. Maslov mutually agreed
to terminate Dr. Maslov’s employment with the Company, effective as of January 31, 2017. In connection with his termination,
we and Dr. Maslov entered into a Separation Agreement and Mutual Release, pursuant to which Dr. Maslov is entitled to certain
severance benefits, and an Advisory Services Agreement, pursuant to which Dr. Maslov has agreed to provide to us certain advisory
services subsequent to his termination, as further described below under “Employment Agreements, Termination of Employment
and Change-in-Control Arrangements—Employment Agreements—Our Agreements with Dr. Maslov”.
|
|
|
(4)
|
Mr.
Carney’s base salary was $180,000 per annum for 2016 and 2015.
|
|
|
(5)
|
Mr.
Hamrin became our Vice President of Engineering effective March 15, 2015. His base salary was $180,000 per annum for 2016
and 2015.
|
Employment
Agreements, Termination of Employment and Change-in-Control Arrangements
Except
as described below, we currently have no employment agreements with any of our executive officers, nor any compensatory plans
or arrangements resulting from the resignation, retirement or any other termination of any of our executive officers, from a change-in-control,
or from a change in any executive officer’s responsibilities following a change-in-control.
Employment
Agreements
We
have entered into various employment and employment-related agreements with certain of our executive officers. Set forth below
is a summary of many of the material provisions of such agreements, which summaries do not purport to contain all of the material
terms and conditions of each such agreement. All share figures and exercise prices noted in these summaries are adjusted to give
effect to the 1-for-50 reverse split of our issued and outstanding common stock on July 8, 2015, retroactively, unless otherwise
noted.
Our
Agreements with Mr. Castro
:
We
employ Mr. Castro pursuant to an executive employment agreement, dated April 25, 2013, with Flex Power Generation, Inc., then
known as Ener-Core Power, Inc., for the position of Chief Executive Officer, which agreement we assumed as of the closing of the
Merger. Under the agreement, the term of his employment is one year, renewing automatically for successive one-year terms unless
either party gives the other party notice of non-renewal not less than 30 day prior to the end of the relevant term. We will pay
Mr. Castro a base salary of $200,000 per year that may be increased but not decreased by our board of directors in its sole discretion.
Mr. Castro is eligible (i) for an annual bonus and/or other annual incentive compensation in accordance with any applicable executive
bonus plan as our board of directors may adopt in its sole discretion, and (ii) to participate in our equity incentive plan or
incentive option plan, as applicable, with grants and vesting schedules as determined by the board of directors from time to time.
In connection with Mr. Castro’s participation in our voluntary wage reduction plan from May 1, 2014 to July 31, 2014, on
May 23, 2014, we entered into an amendment to the executive employment agreement with Mr. Castro, pursuant to which we issued
Mr. Castro an option to purchase up to 15 shares of our common stock (pre-split) in exchange for $1.00 (pre-split) that he voluntarily
forwent under the wage reduction plan. As a result, we entered into a stock option agreement with Mr. Castro on May 13, 2014,
pursuant to which we granted Mr. Castro an option to purchase 6,460 shares of our common stock at an exercise price of $24.00
per share. All the shares subject to Mr. Castro’s option vested immediately on the date of grant.
If
we terminate Mr. Castro’s services for cause (whether during or at the end of an employment year), then we are obligated
to pay the sum of (i) Mr. Castro’s salary and bonuses, if any, through the date of termination, (ii) any earned but
unused vacation time and paid time off (PTO), and (iii) any unreimbursed expenses. ”Cause” means his (A) willful dishonesty
or fraud with respect to our business affairs, (B) willful falsification of any employment or other of our records, (C) misappropriation
of or intentional damage to our business or property, including the improper use or disclosure of our confidential or proprietary
information, (D) conviction (including any plea of guilty or
nolo contendere
) of a felony or crime that involves moral
turpitude, (E) willful and continued failure to comply with our reasonable written directives after the respective executive’s
receipt of written notice from us of such refusal and a reasonable opportunity to cure, or (F) the misappropriation of any corporate
opportunity, or otherwise obtaining personal profit from any transaction which is adverse to our interests or to the benefits
to which we are entitled.
If
Mr. Castro’s services are terminated upon death or disability, we are obligated to pay to him or his estate (i) the same
economic benefits as if his services were terminated for cause and (ii) upon a determination by our board of directors in its
sole discretion, he or his estate may also be granted (A) additional vesting of then-unvested stock or stock options, (B) a proportional
amount of any earned and unpaid annual bonus based on his performance through the date of termination, and/or (C) severance payments.
”Disability” means the inability to perform one or more of the essential functions of the job due to physical or mental
impairment, with or without reasonable accommodation as required by law, for any period aggregating more than 120 days in any
365-consecutive day period.
If
we terminate Mr. Castro’s services for any other reason, then we are obligated to pay him (i) the same economic benefits
as if his services were terminated for cause, and (ii) monthly cash severance payments at his then-salary rate during the six-month
period immediately following the termination date, subject to earlier termination in the event that he obtains new employment
or engages (or assists any other person or entity to engage) in any activity competitive with our business. Further, if, during
the six-month period immediately preceding or following a Change of Control (as hereinafter defined) we terminate his employment
without Cause, then all of his then-unvested outstanding options will immediately vest. A “Change of Control” occurs
when (i) any person becomes the beneficial owner of our securities that then represents 50% or more of the total voting power
of our outstanding voting securities, unless such person was the beneficial owner of at least 20% of our voting power as of February
1, 2012, and does not become the beneficial owner of 80% or more of our voting power, (ii) we consummate the sale, exchange, lease,
or other disposition of all or substantially all of our assets to a person or group of related persons, (iii) we consummate a
merger, reorganization, recapitalization, consolidation, or similar transaction with any other corporation or other business entity,
in one transaction or a series of related transactions (except one in which (A) the holders of our voting securities outstanding
immediately before such transaction continue to hold at least 50% of the voting power in the surviving entity or (B) a transaction
in which a single party (or a group of affiliated parties) acquires our voting securities and the holders of our voting securities
immediately before the transaction do not dispose of a majority of their interests in us in connection with that transaction),
or (iii) we dissolve or liquidate.
Mr.
Castro may terminate his employment relationships with us at any time and for any reason. Such resignation will not become effective
until the earlier of (i) 90 days after the date the resignation notice is given to our board of directors or (ii) a date we specify.
If Mr. Castro chooses to do so, he has agreed to make himself available to us during the 30-day period following his termination,
without any compensation, (i) to facilitate an efficient transition of his job-related responsibilities and duties, and (ii) to
respond to questions from us regarding information and/or activities in which he had been engaged while employed by us.
During
Mr. Castro’s employment with us and for a period of the shorter of (i) 12 months after his termination or (ii) the number
of months we employed Mr. Castro, he is subject to restrictive covenants that provide he will not: (i) call on, solicit, divert,
interfere with or take away (or attempt to call on, solicit, divert, interfere with or take away) any of our projects, business,
clients, customers or prospects with whom or with which he had contact during his employment with us by promoting or selling services
or products that compete with us or our affiliates; or (ii) solicit, influence or induce (or attempt to solicit, influence or
induce) any employees as of his termination date with whom he had direct contact during his employment with us.
Mr.
Castro’s executive employment agreement also contains other restrictive covenants further prohibiting: (i) disparagement
of us or our affiliates during his employment and thereafter, and (ii) the use or disclosure of confidential business information
during or at any time after termination of his employment.
On
April 28, 2014, our board of directors approved the re-pricing and vesting schedules of outstanding stock options to purchase
an aggregate of 172,600 shares of our common stock previously granted to our officers, directors, employees and consultants. As
a result of this cancellation and reissuance of the options, we entered into a stock option cancellation agreement and concurrently
entered into new stock option agreements with each of the officers, directors, employees and consultants who held shares as of
that date, which included Mr. Castro. The number of underlying shares subject to each award remained unchanged as a result of
the re-pricing and vesting schedule change.
On
November 28, 2014, we entered into a stock option agreement with Mr. Castro, pursuant to which we granted him an option to purchase
up to 4,700 shares of our common stock, at an exercise price of $8.00 per share, the fair market value on the date that our board
of directors approved the grant. The options vest as follows: (i) 1/4 of the total number of shares subject to the award will
vest one year from the grant date, and (ii) 1/36 of the remaining number of shares subject to the award will vest on a monthly
basis thereafter.
Our
Agreements with Dr. Maslov
:
Until
January 31, 2017, we employed Dr. Maslov pursuant to an executive employment agreement, dated December 31, 2012, with Flex Power
Generation, Inc., as amended on May 23, 2014. On February 1, 2017, we and Dr. Maslov entered into a Separation Agreement and Mutual
Release, pursuant to which we and Dr. Maslov mutually agreed to terminate Dr. Maslov’s employment, as well as his positions
as President, Chief Operating Officer and Chief Technology Officer, along with any officer, director or employee positions with
our subsidiaries and affiliates, effective as of January 31, 2017. We and Dr. Maslov also entered into an Advisory Services Agreement,
effective as of January 31, 2017, pursuant to which Dr. Maslov agreed to provide to us certain advisory services, including, without
limitation, intellectual property consulting and product design, business development and general advisory services.
The
Separation Agreement and Mutual Release provides that Dr. Maslov will be entitled to the following severance benefits: a cash
payment of $90,000, to be paid in eighteen (18) equal semi-monthly installments commencing on February 15, 2017; payment for all
accrued but unused paid time off; payment of all salary earned and unpaid through January 31, 2017; and any pending reimbursement
expenses incurred prior to January 31, 2017. The Separation Agreement and Mutual Release further provides that Dr. Maslov is no
longer entitled to any other compensation set forth in his Employment Agreement, dated December 31, 2012, as amended on May 23,
2014, or pursuant to any of our bonus policies, including without limitation any bonus or incentive compensation. The Separation
Agreement and Mutual Release also includes, among other things, a release of all claims by Dr. Maslov and a release of claims
against Dr. Maslov by us.
The
term of the Advisory Services Agreement commenced on January 31, 2017 and will continue for one year, after which it will become
month-to-month at the mutual agreement of us and Dr. Maslov, unless otherwise terminated. The Advisory Services Agreement entitles
Dr. Maslov to a fee of $3,000 per month of service plus additional hourly compensation at a rate of $150 per hour worked in the
event Dr. Maslov works more than 30 hours in either of the first two months of the engagement, 50 hours of the first two months
combined or 20 hours in any month after the second month. Additionally, we agreed to pay certain of Dr. Maslov’s out-of-pocket
expenses during the course of his performance under the Advisory Services Agreement. The Advisory Services Agreement may not be
terminated by either party within the first 90 days, absent a material breach by us or Dr. Maslov. After 90 days, however, the
Advisory Services Agreement may be terminated at any time by either party without cause or further obligation. The Advisory Services
Agreement also imposes certain confidentiality and non-disclosure obligations on Dr. Maslov, provides for the assignment of all
proprietary information to us and includes mutual indemnification obligations.
Our
Agreements with Mr. Carney
:
Our
offer letter to Mr. Carney dated August 19, 2014 provided for an annual base salary of $180,000 and an option under the 2013 Plan
to purchase 30,000 shares of our common stock at an exercise price equal to the per share closing price on August 19, 2014, being
the fair market value on such date.
In
addition to the offer letter, we entered into an executive employment agreement with Mr. Carney, dated as of August 19, 2014,
for the position of Chief Financial Officer and Treasurer, which, in addition to his annual compensation as described in the offer
letter, provides that he is eligible to receive an annual bonus and other annual incentive compensation that our board of directors
may adopt, as well as benefits that we make available to other employees. We will also reimburse Mr. Carney for reasonable expenses
that he incurs in performing his duties.
If
we terminate Mr. Carney’s services for cause (whether during or at the end of an employment year), we are obligated to pay
him the sum of (i) his salary and bonuses, if any, through the date of termination, (ii) any earned but unused vacation time and
paid time off (PTO), and (iii) any unreimbursed expenses. ”Cause” means his (A) willful dishonesty or fraud with respect
to our business affairs, (B) willful falsification of any employment or other of our records, (C) misappropriation of or intentional
damage to our business or property, including the improper use or disclosure of our confidential or proprietary information, (D)
conviction (including any plea of guilty or
nolo contendere
) of a felony or crime that involves moral turpitude, (E) willful
and continued failure to comply with our reasonable written directives after his receipt of written notice from us of such refusal
and a reasonable opportunity to cure, or (F) the misappropriation of any corporate opportunity, or otherwise obtaining personal
profit from any transaction which is adverse to our interests or to the benefits to which we are entitled.
If
Mr. Carney’s services are terminated upon his death or disability, then (i) we are obligated to pay to him or his estate
the same economic benefits as if his services were terminated for cause and (ii) he or his estate may also be granted (A) additional
vesting of then-unvested stock or stock options, (B) a proportional amount of any earned and unpaid annual bonus based on his
performance through the date of termination, and/or (C) severance payments. ”Disability” means his inability to perform
one or more of the essential functions of his job due to his physical or mental impairment, with or without reasonable accommodation
as required by law, for any period aggregating more than 120 days in any 365-consecutive day period.
If
we terminate Mr. Carney’s services for any other reason, then we are obligated to pay him (i) the same economic benefits
as if his services were terminated for cause, (ii) monthly cash severance payments at his then-salary rate, and (iii) continuation
of our provided health insurance coverage, each to be paid during the six-month period immediately following the termination date,
subject to earlier termination in the event that he obtains new employment or engages (or assists any other person or entity to
engage) in any activity competitive with our business. Further, if during the six-month period immediately preceding or following
a Change of Control (as hereinafter defined), we terminate his employment without Cause, then all of his then-unvested outstanding
options will immediately vest. A “Change of Control” occurs when (i) any person becomes the beneficial owner of our
securities that then represents 50% or more of the total voting power of our outstanding voting securities, unless such person
was the beneficial owner of at least 20% of our voting power as of August 19, 2014, and does not become the beneficial owner of
80% or more of our voting power, (ii) we consummate the sale, exchange, lease, or other disposition of all or substantially all
of our assets to a person or group of related persons, (iii) we consummate a merger, reorganization, recapitalization, consolidation,
or similar transaction with any other corporation or other business entity, in one transaction or a series of related transactions
(except one in which (A) the holders of our voting securities outstanding immediately before such transaction continue to hold
at least 50% of the voting power in the surviving entity or (B) a transaction in which a single party (or a group of affiliated
parties) acquires our voting securities and the holders of our voting securities immediately before the transaction do not dispose
of a majority of their interests in us in connection with that transaction), or (iii) we dissolve or liquidate.
Mr.
Carney may terminate his employment relationship with us at any time and for any reason. Such resignation will not become effective
until the earlier of (i) 90 days after the date the resignation notice is given to our board of directors or (ii) a date we specify.
If Mr. Carney does so, he has agreed to make himself available to us during the 30-day period following his termination, without
any compensation (subject to exception): (i) to facilitate an efficient transition of his job-related responsibilities and duties
and (ii) to respond to questions from us regarding information and/or activities in which he had been engaged while employed by
us.
During
his employment with us and for a period of the shorter of (i) 12 months after his termination or (ii) the number of months we
employed Mr. Carney, Mr. Carney is subject to restrictive covenants that provide he will not: (i) call on, solicit, divert, interfere
with or take away (or attempt to call on, solicit, divert or interfere with or take away) any of our projects, business, clients,
customers or prospects with whom or with which Mr. Carney had contact during his employment with us by promoting or selling services
or products that compete with us or our affiliates; or (ii) solicit, influence or induce (or attempt to solicit, influence or
induce) any employees as of his termination date with whom Mr. Carney had direct contact during his employment with us.
The
executive employment agreement also contains other restrictive covenants further prohibiting: (a) disparagement of us or our affiliates
during his employment and thereafter, and (b) the use or disclosure of confidential business information during or at any time
after termination of his employment.
In
connection with the option granted under his executive employment agreement, we entered into a stock option agreement with Mr.
Carney, dated as of August 19, 2014. The agreement grants an option to purchase up to 30,000 shares of our common stock, at an
exercise price of $7.50 per share, the fair market value on the date that our board of directors approved the grant. The agreement
provides that the options vest as follows: (i) 1/8 of the total number of shares subject to the award will vest six months from
the grant date, (ii) 1/8 of the total number of shares subject to the award will vest one year from the grant date and (iii) 1/48
of the total number of shares subject to the award will vest on a monthly basis thereafter.
On
November 28, 2014, we entered into a stock option agreement with Mr. Carney granting him an option to purchase up to 4,700 shares
of our common stock at an exercise price of $8.00 per share, the fair market value on the date that our board of directors approved
the grant. The options vest as follows: (i) 1/4 of the total number of shares subject to the award will vest one year from the
grant date and (ii) 1/36 of the remaining number of shares subject to the award will vest on a monthly basis thereafter.
Our
Agreements with Mr. Hamrin
:
We
entered into an executive employment agreement with Mr. Hamrin, dated as of June 29, 2016, for the position of Vice President
of Engineering, which provides that he will receive an annual base salary of $180,000 and is eligible to receive an annual bonus
and/or other annual incentive compensation in accordance with any applicable executive bonus plan applicable to Mr. Hamrin as
may be adopted by the Board in its sole discretion. The executive employment agreement also provides that we will reimburse Mr.
Hamrin for reasonable expenses that he incurs in performing his duties. During the term of his employment, Mr. Hamrin will also
be entitled to up to 15 days of paid time off (“PTO”) annually (adjusted annually based on years of service with us)
and to participate in our benefit plans and programs. The initial term of the executive employment agreement is one year, which
may be automatically extended for successive one year terms unless terminated by either party upon at least 30 days prior notice.
If
we terminate Mr. Hamrin’s services for Cause (whether during or at the end of an employment year), we are obligated to pay
him the sum of (i) his salary and bonuses, if any, through the date of termination, (ii) any earned but unused vacation time/PTO,
and (iii) any unreimbursed expenses. “Cause” means his (A) willful dishonesty or fraud with respect to our business
affairs, (B) willful falsification of any employment or other of our records, (C) misappropriation of or intentional damage to
our business or property, including the improper use or disclosure of its confidential or proprietary information, (D) conviction
(including any plea of guilty or nolo contendere ) of a felony or crime that involves moral turpitude, (E) willful and continued
failure to comply with our reasonable written directives after his receipt of written notice from us of such refusal and a reasonable
opportunity to cure, or (F) the misappropriation of any corporate opportunity, or otherwise obtaining personal profit from any
transaction which is adverse to our interests or to the benefits to which we are entitled.
If
Mr. Hamrin’s services are terminated upon his death or disability, then (i) we are obligated to pay to him or his estate
the same economic benefits as if his services were terminated for Cause and (ii) he or his estate may also be granted (A) additional
vesting of then-unvested stock or stock options, (B) a proportional amount of any earned and unpaid annual bonus based on his
performance through the date of termination, and/or (C) severance payments. “Disability” means Mr. Hamrin’s
inability to perform one or more of the essential functions of his job due to his physical or mental impairment, with or without
reasonable accommodation as required by law, for any period aggregating more than 120 days in any 365-consecutive day period.
If
we terminate Mr. Hamrin’s services for any other reason, then we are obligated to pay him (i) the same economic benefits
as if his services were terminated for Cause, (ii) monthly cash severance payments at his then effective salary rate, and (iii)
continuation of our provided health insurance coverage, each to be paid during the six-month period immediately following the
termination date, subject to earlier termination in the event that he obtains new employment or engages (or assists any other
person or entity to engage) in any activity competitive with our business. Further, if during the six-month period immediately
preceding or following a Change of Control (as hereinafter defined), we terminate his employment without Cause, then all of his
then-unvested outstanding options will immediately vest. A “Change of Control” occurs when (i) any person becomes
the beneficial owner of securities that then represents 50% or more of the total voting power of our outstanding voting securities,
unless such person was the beneficial owner of at least 20% of its voting power as of the effective date of the Employment Agreement,
and does not become the beneficial owner of 80% or more of our voting power, (ii) we consummate the sale, exchange, lease, or
other disposition of all or substantially all of its assets to a person or group of related persons, (iii) we consummate a merger,
reorganization, recapitalization, consolidation, or similar transaction with any other corporation or other business entity, in
one transaction or a series of related transactions (except one in which (A) the holders of our voting securities outstanding
immediately before such transaction continue to hold at least 50% of the voting power in the surviving entity or (B) a transaction
in which a single party (or a group of affiliated parties) acquires our voting securities and the holders of our voting securities
immediately before the transaction do not dispose of a majority of their interests in connection with that transaction), or (iv)
we dissolve or liquidate.
Mr.
Hamrin may terminate his employment at any time and for any reason. Such resignation will not become effective until the earlier
of (i) 90 days after the date resignation notice is given to the Board or (ii) a date specified by us. If Mr. Hamrin terminates
his employment, he has agreed to make himself available to us during the 30-day period following his termination, without any
compensation (subject to exception): (i) to facilitate an efficient transition of his job-related responsibilities and duties
and (ii) to respond to questions regarding information and/or activities in which he had been engaged while employed by us.
During
his employment with us and for a designated period after his termination, Mr. Hamrin is subject to restrictive covenants that
provide he will not: (i) call on, solicit, divert, interfere with or take away (or attempt to call on, solicit, divert or interfere
with or take away) any of our projects, business, clients, customers or prospects with whom or with which Mr. Hamrin had contact
during his employment with us by promoting or selling services or products that compete with us or our affiliates; or (ii) solicit,
influence or induce (or attempt to solicit, influence or induce) any employees as of his termination date with whom Mr. Hamrin
had direct contact during his employment with us.
The
Employment Agreement also contains other restrictive covenants further prohibiting: (a) disparagement of us or our affiliates
during Mr. Hamrin’s employment and thereafter, (b) the improper solicitation of our customers following the expiration or
termination his employment with us and (c) the use or disclosure of confidential business information during or at any time after
termination of his employment.
Outstanding
Equity Awards at 2016 Fiscal Year-End
The
following disclosure reflects all outstanding equity awards at the end of our 2016 fiscal year for each named executive officer,
who served in such capacity as of December 31, 2016. All share figures and exercise prices noted in the following table and its
footnotes are adjusted to give effect to the 1-for-50 reverse split of our issued and outstanding common stock on July 8, 2015,
retroactively.
|
|
|
|
Option
Awards
|
|
|
|
|
|
|
|
Number
of securities underlying unexercised options (#)
|
|
|
|
|
|
|
Name
|
|
Grant
Date
|
|
Exercisable
|
|
|
Unexercisable
|
|
|
Option
Exercise
Price ($)
|
|
|
Option
Expiration Date (1)
|
Alain
Castro
|
|
4/28/14
|
|
|
38,939
|
(2)
|
|
|
4,061
|
|
|
|
17.50
|
|
|
4/28/20
|
|
|
5/13/14
|
|
|
6,460
|
(3)
|
|
|
—
|
|
|
|
24.00
|
|
|
5/13/20
|
|
|
11/28/14
|
|
|
2,448
|
(4)
|
|
|
2,252
|
|
|
|
8.00
|
|
|
11/28/20
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Boris
Maslov
|
|
4/28/14
|
|
|
14,489
|
(2)
|
|
|
1,511
|
|
|
|
17.50
|
|
|
4/28/20
|
|
|
5/13/14
|
|
|
1,514
|
(3)
|
|
|
—
|
|
|
|
24.00
|
|
|
5/13/20
|
|
|
11/28/14
|
|
|
2,448
|
(4)
|
|
|
2,252
|
|
|
|
8.00
|
|
|
11/28/20
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Domonic
J. Carney
|
|
8/19/14
|
|
|
17,500
|
(4)
|
|
|
12,500
|
|
|
|
7.50
|
|
|
8/19/20
|
|
|
11/28/14
|
|
|
2,448
|
(4)
|
|
|
2,252
|
|
|
|
8.00
|
|
|
11/28/20
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Douglas
A. Hamrin
|
|
4/28/14
|
|
|
14,489
|
(2)
|
|
|
1,511
|
|
|
|
17.50
|
|
|
4/28/20
|
|
|
5/1/14
|
|
|
948
|
(3)
|
|
|
—
|
|
|
|
24.00
|
|
|
5/13/20
|
|
|
10/3/14
|
|
|
5,625
|
(6)
|
|
|
4,375
|
|
|
|
12.50
|
|
|
7/1/23
|
(1)
|
All
options granted in 2014 to officers expire six years from the grant date except that Mr. Hamrin’s October 2014 grant
expires at the end of the option plan.
|
|
|
(2)
|
Options
vest as follows: (i) 15% on the April 28, 2014 grant date and (ii) the remainder in equal monthly amounts over 36 months thereafter.
All options may be exercised early for restricted shares that vest in accordance with the original option vesting schedule.
|
|
|
(3)
|
Options
vested 100% on the May 13, 2014 grant date.
|
|
|
(4)
|
Options
vest as follows: (i) 25% on November 28, 2015 and (ii) the remainder vest in equal monthly amounts over 36 months thereafter.
All options may be exercised early for restricted shares that vest in accordance with the original option vesting schedule.
|
|
|
(5)
|
Options
vest as follows: (i) 12.5% on February 19, 2015, (ii) 12.5% on August 19, 2015 and (iii) the remainder vest in equal monthly
amounts over 36 months thereafter. All options may be exercised early for restricted shares that vest in accordance with the
original option vesting schedule.
|
|
|
(6)
|
Options
vest as follows: (i) 25% on October 3, 2015 and ii) the remainder vest in equal monthly amounts over 36 months thereafter.
All options may be exercised early for restricted shares that vest in accordance with the original option vesting schedule.
|
Employee
Benefit Plans
2015
Omnibus Incentive Plan
Introduction
On
July 14, 2015, our board of directors adopted the 2015 Omnibus Incentive Award Plan, or the 2015 Plan. Our stockholders approved
the 2015 Plan at our 2015 Annual Meeting of Stockholders held on August 28, 2015. As a result, the 2015 Plan replaced the 2013
Plan, and no new awards will be granted under the 2013 Plan. Any awards outstanding under the 2013 Plan as of August 28, 2015
remain subject to, and underlying shares will be issued under, the 2013 Plan, and any shares subject to outstanding awards under
the 2013 Plan that subsequently cease to be subject to such awards (other than by reason of settlement of the awards in shares)
will automatically become available for issuance under the 2015 Plan.
On
August 22, 2016, our board of directors approved an amendment to the 2015 Plan to increase the number of shares of our common
stock subject to the 2015 Plan to 600,000 shares. Our stockholders approved the amendment to the 2015 Plan at our 2016 Annual
Meeting of Stockholders held on September 26, 2016.
The
principal features of the 2015 Plan are summarized below. This summary is qualified in its entirety by reference to the text of
the 2015 Plan, which is filed as an exhibit to the registration statement of which this prospectus is a part.
Share
reserve
We
have reserved 600,000 shares of our common stock for issuance under the 2015 Plan. In addition, any awards outstanding as of August
28, 2015 remain subject to and will be paid under the 2013 Plan and any shares then subject to outstanding awards under the 2013
Plan that subsequently expire, terminate or are surrendered or forfeited for any reason without issuance of shares will automatically
become available for issuance under the 2015 Plan. Up to 600,000 shares may be granted as incentive stock options under Code Section
422. The shares of common stock issuable under the 2015 Plan will consist of authorized and unissued shares, treasury shares or
shares purchased on the open market or otherwise.
If
any award is canceled, terminates, expires or lapses for any reason prior to the issuance of shares or if shares are issued under
the 2015 Plan and thereafter are forfeited to us, the shares subject to such awards and the forfeited shares will not count against
the aggregate number of shares of common stock available for grant under the 2015 Plan. In addition, the following items will
not count against the aggregate number of shares of common stock available for grant under the 2015 Plan: (1) the payment in cash
of dividends or dividend equivalents under any outstanding award, (2) any award that is settled in cash rather than by issuance
of shares of common stock, (3) shares surrendered or tendered in payment of the option price or purchase price of an award or
any taxes required to be withheld in respect of an award or (4) awards granted in assumption of or in substitution for awards
previously granted by an acquired company.
Administration
The
2015 Plan may be administered by our board of directors or the Compensation Committee. The Compensation Committee, in its discretion,
selects the individuals to whom awards may be granted, the time or times at which such awards are granted and the terms and conditions
of such awards.
Eligibility
Awards
may be granted under the 2015 Plan to officers, employees, directors, consultants and advisors of our company and its affiliates.
Incentive stock options may be granted only to employees of our company or its subsidiaries.
Awards
The
2015 Plan permits the granting of any or all of the following types of awards:
|
●
|
Stock
Options
. Stock options entitle the holder to purchase a specified number of shares of common stock at a specified price
(the exercise price), subject to the terms and conditions of the stock option grant. The Compensation Committee may grant
either incentive stock options, which must comply with Code Section 422, or nonqualified stock options. The Compensation Committee
sets exercise prices and terms and conditions, except that stock options must be granted with an exercise price not less than
100% of the fair market value of our common stock on the date of grant (excluding stock options granted in connection with
assuming or substituting stock options in acquisition transactions). Unless the Compensation Committee determines otherwise,
fair market value means, as of a given date, the closing price of our common stock. At the time of grant, the Compensation
Committee determines the terms and conditions of stock options, including the quantity, exercise price, vesting periods, term
(which cannot exceed 10 years) and other conditions on exercise.
|
|
●
|
Stock
Appreciation Rights
. The Compensation Committee may grant SARs, as a right in tandem with the number of shares underlying
stock options granted under the 2015 Plan or as a freestanding award. Upon exercise, SARs entitle the holder to receive payment
per share in stock or cash, or in a combination of stock and cash, equal to the excess of the share’s fair market value
on the date of exercise over the grant price of the SAR. The grant price of a tandem SAR is equal to the exercise price of
the related stock option and the grant price for a freestanding SAR is determined by the Compensation Committee in accordance
with the procedures described above for stock options. Exercise of a SAR issued in tandem with a stock option will reduce
the number of shares underlying the related stock option to the extent of the SAR exercised. The term of a freestanding SAR
cannot exceed 10 years, and the term of a tandem SAR cannot exceed the term of the related stock option.
|
|
●
|
Restricted
Stock, Restricted Stock Units and Other Stock-Based Awards
. The Compensation Committee may grant awards of restricted
stock, which are shares of common stock subject to specified restrictions, and restricted stock units, or RSUs, which represent
the right to receive shares of our common stock in the future. These awards may be made subject to repurchase, forfeiture
or vesting restrictions at the Compensation Committee’s discretion. The restrictions may be based on continuous service
with our company or the attainment of specified performance goals, as determined by the Compensation Committee. Stock units
may be paid in stock or cash or a combination of stock and cash, as determined by the Compensation Committee. The Compensation
Committee may also grant other types of equity or equity-based awards subject to the terms and conditions of the 2015 Plan
and any other terms and conditions determined by the Compensation Committee.
|
|
●
|
Performance
Awards
. The Compensation Committee may grant performance awards, which entitle participants to receive a payment from
us, the amount of which is based on the attainment of performance goals established by the Compensation Committee over a specified
award period. Performance awards may be denominated in shares of common stock or in cash, and may be paid in stock or cash
or a combination of stock and cash, as determined by the Compensation Committee. Cash-based performance awards include annual
incentive awards.
|
Awards
to Non-employee Directors
No
more than $500,000 may be granted in equity-based awards during any one year to a non-employee member of our board of directors,
based on the grant date fair value for accounting purposes in the case of stock options or SARs and based on the fair market value
of our common stock underlying the award on the grant date for other equity-based awards. This limit does not apply to shares
received by a non-employee director at his or her election in lieu of all or a portion of the director’s retainer for service
on our board of directors.
No
Repricing
Without
stockholder approval, the Compensation Committee is not authorized to (1) lower the exercise or grant price of a stock option
or SAR after it is granted, except in connection with certain adjustments to our corporate or capital structure permitted by the
2015 Plan, such as stock splits, (2) take any other action that is treated as a repricing under generally accepted accounting
principles or (3) cancel a stock option or SAR at a time when its exercise or grant price exceeds the fair market value of the
underlying stock, in exchange for cash, another stock option or SAR, restricted stock, RSUs or other equity award, unless the
cancellation and exchange occur in connection with a change in capitalization or other similar change.
Clawback
All
cash and equity awards granted under the 2015 Plan will be subject to all applicable laws regarding the recovery of erroneously
awarded compensation, any implementing rules and regulations under such laws, any policies adopted by us to implement such requirements,
and any other compensation recovery policies as may be adopted from time to time by us.
Change
in Control
Under
the 2015 Plan, in the event of a change in control (as defined in the 2015 Plan), outstanding awards will be treated in accordance
with the applicable transaction agreement. If no treatment is provided for in the transaction agreement, each award holder will
be entitled to receive the same consideration that stockholders receive in the change in control for each share of stock subject
to the award holder’s awards, upon the exercise, payment or transfer of the awards, but the awards will remain subject to
the same terms, conditions and performance criteria applicable to the awards before the change in control, unless otherwise determined
by the Compensation Committee. In connection with a change in control, outstanding stock options and SARs can be cancelled in
exchange for the excess of the per share consideration paid to stockholders in the transaction, minus the option or SARs exercise
price.
Subject
to the terms and conditions of the applicable award agreements, awards granted to non-employee directors will fully vest on an
accelerated basis, and any performance goals will be deemed to be satisfied at target. For awards granted to all other service
providers, vesting of awards will depend on whether the awards are assumed, converted or replaced by the resulting entity.
|
●
|
For
awards that are not assumed, converted or replaced, the awards will vest upon the change in control. For performance awards,
the amount vesting will be based on the greater of (1) achievement of all performance goals at the “target” level
or (2) the actual level of achievement of performance goals as of our fiscal quarter end preceding the change in control,
and will be prorated based on the portion of the performance period that had been completed through the date of the change
in control.
|
|
|
|
|
●
|
For
awards that are assumed, converted or replaced by the resulting entity, no automatic vesting will occur upon the change in
control. Instead, the awards, as adjusted in connection with the transaction, will continue to vest in accordance with their
terms and conditions. In addition, the awards will vest if the award recipient has a separation from service within two years
after the change in control by us other than for “cause” or by the award recipient for “good reason”
(each as defined in the applicable award agreement). For performance awards, the amount vesting will be based on the greater
of (1) achievement of all performance goals at the “target” level or (2) the actual level of achievement of performance
goals as of our fiscal quarter end preceding the change in control, and will be prorated based on the portion of the performance
period that had been completed through the date of the separation from service.
|
Amendment
and Termination of the 2015 Plan
Unless
earlier terminated by our board of directors, the 2015 Plan will terminate, and no further awards may be granted, 10 years after
the date on which it is approved by stockholders. Our board of directors may amend, suspend or terminate the 2015 Plan at any
time, except that, if required by applicable law, regulation or stock exchange rule, stockholder approval will be required for
any amendment. The amendment, suspension or termination of the 2015 Plan or the amendment of an outstanding award generally may
not, without a participant’s consent, materially impair the participant’s rights under an outstanding award.
2013
Equity Incentive Award Plan
Introduction
On
July 1, 2013, our board of directors adopted the 2013 Plan, which was subsequently approved by our stockholders. We subsequently
amended the 2013 Plan on August 23, 2013 and March 25, 2015. The 2013 Plan authorizes us to grant non-qualified stock options
and restricted stock purchase rights to purchase up to 420,000 shares of our common stock with vesting to employees (including
officers) and other service providers. To date, all issuances under the 2013 Equity Incentive Award Plan have been stock options.
No restricted shares have been issued under the 2013 Equity Incentive Award Plan. The 2013 Plan provides that it will expire after
10 years, unless sooner terminated by the provisions therein. On April 28, 2014, our board of directors approved a re-pricing
of all outstanding employee and non-employee director stock options outstanding under the 2013 Plan. We canceled options to purchase
172,600 shares of our common stock at exercise prices between $50.00 and $77.00 per share and replaced them with options to purchase
172,600 shares of our common stock at $17.50 per share. Our board of directors recently adopted the 2015 Plan and at the 2015
Annual Meeting of Stockholders held on August 28, 2015, our stockholders approved the 2015 Plan. Accordingly, we no longer will
make award grants under plans in existence prior to the 2015 Plan, including the 2013 Plan.
The
principal features of the 2013 Plan are summarized below. This summary is qualified in its entirety by reference to the text of
the 2013 Plan, which is filed as an exhibit to the registration statement of which this prospectus is a part.
Share
reserve
We
initially reserved 280,000 shares of our common stock for issuance under the 2013 Plan. On March 25, 2015, we increased the number
of shares of common stock available for issuance under the 2013 Plan from 280,000 to 420,000. If any option or stock purchase
rights granted under the 2013 Plan expire or become unexercisable without having been exercised in full, or are otherwise surrendered
pursuant to an option exchange program (whereby outstanding options are exchanged for options with a lower exercise price), the
unpurchased shares subject thereto become available for future grant or sale under the 2013 Plan, unless the 2013 Plan has been
terminated. Additionally, if shares of restricted stock granted under the 2013 Plan are repurchased us at their original purchase
price, such shares become available for future grant under the 2013 Plan.
Administration
Our
board of directors administers the 2013 Plan. Subject to the provisions of the 2013 Plan and, subject to the approval of any relevant
authorities, the administrator has the power to: (i) determine fair market value; (2) select the employees, directors or consultants
to whom options and/or stock purchase rights may be granted; (3) determine the number of shares subject to each award; (4) approve
the forms of agreements for use under the 2013 Plan; (5) determine the terms and conditions of options and stock purchase rights
granted under the 2013 Plan; (6) determine whether and when options may be settled in cash; (7) initiate an option exchange program;
(8) prescribe, amend and rescind rules and regulations relating to the 2013 Plan; (9) allow optionees to satisfy withholding tax
obligations by electing to direct us to withhold shares issuable upon exercise; and (10) construe and interpret the terms of the
2013 Plan and awards granted thereunder.
Eligibility.
Awards
may be granted under the 2013 Plan employees, directors or consultants. Incentive stock options may be granted only to employees
of our company or its subsidiaries.
Awards
The
2013 Plan provides that our board of directors, or a committee of directors appointed by the board of directors, may grant stock
options and stock purchase rights. Each award will be set forth in a separate agreement with the person receiving the award and
will indicate the type, terms and conditions of the award.
|
●
|
Incentive
Stock Options
. Incentive stock options are designed to qualify as an incentive stock option within the meaning of Code
Section 422. In the case of an incentive stock option granted to an individual who owns more than 10% of the total combined
voting power of all classes of our capital stock, the 2013 Plan provides that the exercise price must be at least 110% of
the fair market value of a share of common stock on the date of grant and must expire five years from the date of its grant.
|
|
●
|
Nonstatutory
Stock Options
. Nonstatutory stock options are options that are not intended to qualify as incentive stock options. To
the extent the aggregate fair market value of shares with respect to which incentive stock options are exercisable for the
first time by an optionee during any calendar year exceeds $100,000, such options are treated as nonstatutory stock options.
The 2013 Plan also provides that the exercise price of a nonstatutory stock option can be no less than 100% of the fair market
value of a share of common stock on the date of its grant.
|
|
|
|
|
●
|
Restricted
Stock
. Restricted stock are shares of common stock acquired pursuant to a grant of a stock purchase right. Stock purchase
rights may be issued alone, in addition to, or in tandem with other awards granted under the 2013 Plan and/or cash awards
made outside the 2013 Plan. Unless the administrator decides otherwise, the restricted stock purchase agreement governing
such grant will provide us a repurchase option exercisable upon the termination of the purchaser’s service with us for
any reason.
|
Amendment
and Termination of the 2013 Plan
Our
board of directors may amend, alter, suspend or terminate the 2013 Plan. However, we will obtain stockholder approval of any amendment
to the 2013 Plan to the extent necessary and desirable to comply with any applicable law, regulation or stock exchange rule. If
not terminated earlier by the board of directors or a committee thereof, the 2013 Plan will terminate on the tenth anniversary
of the date of its adoption by our board of directors, unless sooner terminated pursuant to the provisions thereof.
401(k)
Plan
We
maintain a defined contribution plan, or 401(k) Plan, for the benefit of employees. Participation in the 401(k) plan is at the
discretion of each employee and is subject to the rules and regulations of the Internal Revenue Service. The 401(k) Plan is administered
by the trustees of the 401(k) Plan consisting of our President and CFO. We have the option, but not the obligation, to provide
a matching contribution. To date, we have not made any matching contributions to the 401(k) Plan.
Limitation
of Liability and Indemnification Matters
Our
certificate of incorporation and our bylaws contain provisions indemnifying our directors and officers to the fullest extent permitted
by law. Additionally, we have entered into indemnification agreements with each of our directors that may, in some cases, be broader
than the specific indemnification provisions contained under Delaware law.
As
permitted by Delaware law, our certificate of incorporation will provide that no director will be liable to us or our stockholders
for monetary damages due to breach of certain fiduciary duties as a director. The effect of this provision is to restrict our
rights and the rights of our stockholders in derivative suits to recover monetary damages against a director due to breach of
certain fiduciary duties as a director, except that a director will be personally liable for:
|
●
|
any
breach of the director’s duty of loyalty to us or our stockholders;
|
|
●
|
acts
or omissions not in good faith or which involve intentional misconduct or a knowing violation of law;
|
|
●
|
the
payment of dividends or the redemption or purchase of stock in violation of Delaware law; or
|
|
●
|
any
transaction from which the director knowingly derived an improper personal benefit.
|
To
the extent that our directors, officers and controlling persons are indemnified under the provisions contained in our certificate
of incorporation, Delaware law, or contractual arrangements against liabilities arising under the Securities Act we have been
advised that in the opinion of the SEC such indemnification is against public policy as expressed in the Securities Act and is
therefore unenforceable.
Director
Compensation
The
following table provides 2016 compensation information for our non-employee directors:
Name
|
|
Fees Earned or Paid in Cash
($)
|
|
|
Stock
Awards
($)
|
|
|
Option
Awards
($)(2)
|
|
|
Total
($)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Michael J. Hammons(3)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Bennet P. Tchaikovsky(4)
|
|
|
40,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
40,000
|
|
Jeffrey Horn(5)
|
|
|
40,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
40,000
|
|
Ian Copeland(6)
|
|
|
40,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
40,000
|
|
Eric Helenek(7)
|
|
|
10,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
10,000
|
|
Stephen Markscheid (8)
|
|
|
20,000
|
|
|
|
—
|
|
|
|
20,830
|
|
|
|
40,830
|
|
(1)
|
All
share figures and exercise prices noted in the footnotes to this table are adjusted to give effect to the 1-for-50 reverse
split of our issued and outstanding common stock on July 8, 2015, retroactively.
|
(2)
|
The
amounts shown in this column represent the aggregate grant date fair value of stock options granted in the year computed in
accordance with FASB ASC Topic 718. These amounts are not paid to or realized by the Director. See Note 12 of the notes to
our audited consolidated financial statements for a discussion of valuation assumptions made in determining the grant date
fair value and compensation expense of our stock options.
|
|
|
(3)
|
Mr.
Hammons serves as our Chairman of our board of directors and has served as our Nominating and Corporate Governance Committee
Chairman since July 14, 2015. On November 28, 2014, we entered into a stock option agreement with Mr. Hammons dated as of
November 28, 2014 to purchase 6,000 shares of our common stock at an exercise price per share of $8.00. The agreement provides
for the option to vest as follows: (i) 1/2 of the total number of shares on the grant date, and (ii) 1/18 of the total number
of shares each month thereafter.
|
|
|
(4)
|
Mr.
Tchaikovsky has served as a Director and as our Audit Committee Chairman since November 2013. Beginning in April 2014, we
began to pay Mr. Tchaikovsky an annual fee of $40,000. On November 22, 2013, we issued Mr. Tchaikovsky an option to purchase
5,000 shares of our common stock at an exercise price per share of $76.00. On April 28, 2014, we cancelled these options and
issued Mr. Tchaikovsky an option to purchase 5,000 shares of our common stock at an exercise price per share of $17.50, with
15% of the grant vesting on the grant date and the remainder vesting over 36 months.
|
|
|
(5)
|
Mr.
Horn has served as a Director since May 2014 and is paid an annual fee of $40,000. On May 28, 2014, we issued Mr. Horn an
option to purchase 6,000 shares of our common stock at an exercise price per share of $22.00, vesting ratably over 36 months.
|
|
|
(6)
|
Mr.
Copeland has served as a Director since December 2014 and as our Compensation Committee Chairman since July 14, 2015 and is
paid an annual fee of $40,000. On November 28, 2014, we issued Mr. Copeland an option to purchase 6,000 shares of our common
stock at an exercise price per share of $8.00, vesting ratably over 36 months.
|
|
|
(7)
|
Mr.
Helenek served as a Director beginning May 2015 and was paid an annual fee of $40,000, which was prorated to $26,667 for his
service in 2015 and $10,000 for his service in 2016. On May 18, 2015, we issued Mr. Helenek an option to purchase 6,000 shares
of our common stock at an exercise price per share of $9.50, with 1/4 of the grant vesting on May 18, 2016 and 1/48 of the
grant vesting ratably each month thereafter. Mr. Helenek resigned from our board of directors effective March 30, 2016. Mr.
Helenek’s resignation from our board of directors was not the result of any disagreement with us on any matter relating
to our operations, policies or practices. Mr. Helenek’s option to purchase common stock did not vest and was forfeited
upon his resignation in 2016.
|
|
|
(8)
|
Mr.
Markscheid has served as a Director since June 2016 and was paid an annual fee of $40,000, which was prorated to $20,000 for
his service in 2016. On July 1, 2016, we issued Mr. Markscheid an option to purchase 6,000 shares of our common stock at an
exercise price per share of $4.31, with 1/4 of the grant vesting on June 30, 2017 and 1/48 of the grant vesting ratably each
month thereafter.
|
We
have the following agreements with our directors for their services on our board of directors. All share figures and exercise
prices for our common stock (but not the share and per share amounts for the common stock of Ener-Core Power, Inc.) noted in the
following summaries are adjusted to give effect to the 1-for-50 reverse split of our issued and outstanding common stock on July
8, 2015, retroactively:
Our
Agreement with Mr. Tchaikovsky:
On
November 22, 2013, Mr. Tchaikovsky accepted his appointment to our board of directors and as Chairman of our Audit Committee pursuant
to our offer letter dated November 10, 2013. The offer letter provides for the grant of an option under the 2013 Plan to purchase
5,000 shares of our common stock at an exercise price equal to the per share closing price on November 25, 2013 (as adjusted for
the 1-for-50 reverse split), being the fair market value on such date. In addition to the shares granted, the offer letter contemplates
an annual director’s fee of $40,000, subject to annual reviews by the Compensation Committee, approval by our board of directors
and approval of the stockholders as appropriate. We also agreed to reimburse Mr. Tchaikovsky for reasonable travel expenses incurred
to attend board of directors meetings, and to indemnify him in his capacity as a director to the fullest extent permissible.
In
connection with the option granted under the offer letter, we entered into a stock option agreement with Mr. Tchaikovsky, dated
as of November 25, 2013, pursuant to which we granted Mr. Tchaikovsky an option to purchase 5,000 shares of our common stock.
The agreement provides that the option vests as follows: (i) 1/4 of the total number of shares subject to the award will vest
one year from the grant date, and (ii) 1/48 of the total number of shares subject to the award will vest on a monthly basis thereafter.
Our
Agreement with Mr. Horn:
On
May 28, 2014, Mr. Horn accepted his appointment to our board of directors pursuant to our offer letter dated May 19, 2014. The
offer letter provides for the grant of an option under the 2013 Plan to purchase 6,000 shares of our common stock at an exercise
price equal to the per share closing price on May 28, 2014 (as adjusted for the 1-for-50 reverse split), the fair market value
on such date. In addition to the shares granted, the offer letter contemplates an annual director’s fee of $40,000 payable
monthly, although such fee is not guaranteed. We also agreed to reimburse Mr. Horn for reasonable travel expenses incurred to
attend board of directors meetings, and to indemnify him in his capacity as a director to the fullest extent permissible.
In
connection with the option granted under the offer letter, we entered into a stock option agreement with Mr. Horn, dated as of
May 28, 2014, pursuant to which we granted Mr. Horn an option to purchase 6,000 shares of our common stock, at an exercise price
of $22.00 per share, the fair market value on the date our board of directors approved the grant. The agreement provides for 1/36
of the total number of shares subject to the award to vest each month beginning June 28, 2014.
Our
Agreement with Mr. Copeland:
On
December 1, 2014, Mr. Copeland accepted his appointment to our board of directors pursuant to our offer letter dated November
24, 2014. The offer letter provides for the grant of an option under the 2013 Plan to purchase 6,000 shares of our common stock
at an exercise price equal to the per share closing price on November 28, 2014 (as adjusted for the 1-for-50 reverse split), the
fair market value on such date. In addition to the shares granted, the offer letter contemplates an annual director’s fee
of $40,000, payable monthly, although such fee is not guaranteed. We also agreed to reimburse Mr. Copeland for reasonable travel
expenses incurred to attend board of directors meetings, and to indemnify him in his capacity as a director to the fullest extent
permissible.
In
connection with the option granted under the offer letter, we entered into a stock option agreement with Mr. Copeland, dated as
of November 28, 2014, pursuant to which we granted Mr. Copeland an option to purchase 6,000 shares of our common stock, at an
exercise price of $8.00 per share, the fair market value on the date our board of directors approved the grant. The agreement
provides for 1/36 of the total number of shares subject to the award to vest each month beginning January 1, 2015.
Our
Agreement with Mr. Hammons:
As
compensation for his services as a director and Chairman of our board of directors, on November 28, 2014, the board of directors
granted Mr. Hammons an option under the 2013 Plan to purchase 6,000 shares of our common stock, at an exercise price equal to
the per share closing price on November 28, 2014, the fair market value on such date. Immediately thereafter, we entered into
a stock option agreement with Mr. Hammons, dated November 28, 2014, granting Mr. Hammons an option to purchase 6,000 shares of
our common stock, at an exercise price of $8.00 per share, the fair market value on the date our board of directors approved the
grant. The agreement provides that the option vests as follows: (i) 1/2 of the total number of shares subject to the award will
vest one year from the grant date, and (ii) 1/18 of the remaining number of shares subject to the award will vest on a monthly
basis thereafter, beginning January 1, 2015.
Our
Agreement with Mr. Helenek:
On
May 18, 2015, Mr. Helenek accepted his appointment to our board of directors pursuant to our offer letter of the same date. The
offer letter provides for the grant of an option under the 2013 Plan to purchase 6,000 shares of our common stock at an exercise
price equal to the per share closing price on May 18, 2015, the fair market value on such date. In addition to the shares granted,
the offer letter contemplates an annual director’s fee of $40,000 payable monthly, although such fee is not guaranteed.
We also agreed to reimburse Mr. Helenek for reasonable travel expenses incurred to attend board of directors meetings, and to
indemnify him in his capacity as a director to the fullest extent permissible.
In
connection with the option granted under the offer letter, we entered into a stock option agreement with Mr. Helenek, dated as
of May 18, 2015, granting Mr. Helenek an option to purchase 6,000 shares of our common stock at an exercise price of $9.50 per
share, the fair market value on the date our board of directors approved the grant. The agreement provides that the option vests
as follows: (i) 1/4 of the total number of shares subject to the award will vest one year from the grant date, and (ii) 1/36 of
the remaining number of shares subject to the award will vest on a monthly basis thereafter. Mr. Helenek resigned from our board
of directors effective March 30, 2016. None of the options granted were vested upon his resignation. Mr. Helenek’s resignation
from our board of directors was not the result of any disagreement with us on any matter relating to our operations, policies
or practices.
Our
Agreement with Mr. Markscheid:
Effective
as of June 29, 2016, the Board appointed Stephen Markscheid to fill a vacancy on the Board, which Mr. Markscheid accepted pursuant
to an offer letter dated as of June 29, 2016, which provides for the grant of an option under the 2015 Plan, effective July 1,
2016, to purchase 6,000 shares of our common stock at an exercise price of $4.31 per share. In addition to the shares granted,
the offer letter contemplates an annual director’s fee of $40,000 payable in monthly installments, although such fee is
not guaranteed. We also agreed to reimburse Mr. Markscheid for reasonable travel expenses incurred to attend Board meetings, and
to indemnify him in his capacity as a director to the fullest extent permissible.
In
connection with the above-described option grant, we and Mr. Markscheid entered into a stock option agreement in the form provided
by the 2015 Plan, which provides for 1/4 of the total number of shares to vest after twelve months and 1/48 of the total number
of shares to vest each month commencing each month thereafter. The options granted will become fully vested and exercisable immediately
prior to, and contingent upon, a “Change in Control” (as defined in the 2015 Plan).
CERTAIN
RELATIONSHIPS AND RELATED PARTY TRANSACTIONS
Other
than compensation arrangements, we describe below transactions and series of similar transactions, since January 1, 2014, to which
we were a party, in which:
|
●
|
The
amounts involved exceeded or will exceed the lesser of $120,000 or one percent (1%) of our average total assets at year end
for the last two completed fiscal years; and
|
|
●
|
Any
of our directors, executive officers, or holders of more than 5% of our capital stock, or any member of the immediate family
of, or person sharing the household with, any of the foregoing persons, who had or will have a direct or indirect material
interest.
|
All
share and per share amounts applicable to our common stock from transactions that occurred subsequent to the July 1, 2013 reverse
merger in the following summaries of related party transactions have been adjusted to reflect the 1-for-50 reverse split of our
issued and outstanding common stock on July 8, 2015, retroactively. The share and per share amounts related to transactions undertaken
by our wholly-owned predecessor subsidiary, Ener-Core Power, Inc. (a private entity prior to the July 1, 2013 reverse merger),
have not been adjusted to account for the 1-for-50 reverse split of our issued and outstanding common stock on July 8, 2015 and
are presented as the transactions originally occurred.
September
2014 Private Placement
On
September 22, 2014, we sold and issued 26,666,658 shares (adjusted to approximately 533,334 shares post-split) of our common stock
to 36 accredited investors at $0.15 per share (adjusted to $7.50 per share post-split), referred to as the September 2014 PIPE.
The following officers and directors participated in the September 2014 PIPE, in which they purchased the number of shares listed
adjacent to their name and waived their right to register their shares under the Registration Rights Agreement in connection with
that offering.
Name
|
|
Position with Company
|
|
Number
of
Shares
Purchased
in
September
2014
Private
Placement
|
|
|
Number
of
Shares
Purchased,
As Adjusted
for 1-for-50
Reverse
Split
|
|
|
Aggregate
Purchase
Price
($)
|
|
Alain J. Castro
|
|
Director and Chief Executive Officer
|
|
|
333,333
|
|
|
|
6,667
|
|
|
|
49,999.95
|
|
Domonic J. Carney
|
|
Treasurer and Chief Financial Officer
|
|
|
333,340
|
|
|
|
6,667
|
|
|
|
50,001.00
|
|
Michael J. Hammons
|
|
Director
|
|
|
66,667
|
|
|
|
1,334
|
|
|
|
10,000.05
|
|
Christopher J. Brown
|
|
Director
|
|
|
146,667
|
|
|
|
2,934
|
|
|
|
22,000.05
|
|
Jeffrey A. Horn
|
|
Director
|
|
|
66,667
|
|
|
|
1,334
|
|
|
|
10,000.05
|
|
December
2016 Financing
On
December 2, 2016, we sold and issued to 21 accredited investors unregistered convertible senior secured promissory notes with
an aggregate principal amount of approximately $3.7 million and five-year warrants to purchase an aggregate of 1,498,622 shares
of our common stock at an exercise price of $3.00 per share with aggregate net proceeds to us after a ten percent original issue
discount and placement agent fee of approximately $3.0 million, referred to as the December 2016 Financing. The following officers
and directors participated in the December 2016 Financing, in which they purchased the number of securities listed adjacent to
their name.
Name
|
|
Position
with Company
|
|
Principal
Amount of Notes
Purchased
in
December
2016 Financing
($)
|
|
|
Number
of
Shares
Underlying
Warrants Purchase in December 2016 Financing
(#)
|
|
|
Aggregate
Purchase
Price
($)
|
|
Alain
J. Castro
|
|
Director
and Chief Executive Officer
|
|
|
28,000.00
|
|
|
|
11,200
|
|
|
|
25,200.00
|
|
Stephen
Markscheid
|
|
Director
|
|
|
20,000.00
|
|
|
|
8,000
|
|
|
|
18,000.00
|
|
Indemnification
Agreements
Our
certificate of incorporation and our bylaws require us to indemnify our directors to the fullest extent permitted by Delaware
law. In addition, we have entered indemnification agreements with each of our directors and officers. For more information regarding
these agreements, see “Executive and Director Compensation—Limitation of Liability and Indemnification Matters.”
Policies
and Procedures for Related Party Transactions
Although
our board of directors has not adopted a written policy or procedure for the review, approval and ratification of related person
transactions, the charter of the Audit Committee provides that the Audit Committee is responsible for reviewing and approving,
on an ongoing basis, any proposed transaction with any related person for which disclosure and/or approval is required under applicable
law, including pursuant to rules promulgated by the SEC. Currently, this review and approval requirement applies to any transaction
to which we will be a party, in which the amount involved exceeds $120,000, and in which any of the following persons will have
a direct or indirect material interest: (a) any of our directors or executive officers; (b) any director nominee; (c) any security
holder who is known to us to own, of record or beneficially, five percent or greater of any class of our voting securities; or
(d) any member of the immediate family (as defined in Item 404 of Regulation S-K) of any of the persons described in the foregoing
clauses (a)–(c).
In
the event that management becomes aware of any related party transaction, management will present information regarding such transaction
to the Audit Committee for review and approval. In addition, the Audit Committee periodically reviews and considers with management
the disclosure requirements relating to transactions with related persons and the potential existence of any such transaction.
PRINCIPAL
STOCKHOLDERS
The
following table sets forth information with respect to the beneficial ownership of our common stock as of February 7, 2017 for:
(i) each person known by us to own beneficially more than 5% of our common stock; (ii) each of our directors; (iii) each
of our named executive officers; and (iv) all of our directors and executive officers as a group, as adjusted to give effect to
the 1-for-50 reverse split of our issued and outstanding common stock on July 8, 2015, retroactively.
Except
as indicated by the footnotes below, we believe, based on the information furnished to us, that the beneficial owners named in
the table below have sole voting and investment power with respect to all shares of our common stock that they beneficially own,
subject to applicable community property laws.
Applicable
percentage ownership is based on 3,844,660 shares of common stock outstanding as of February 7, 2017.
In
computing the number of shares of common stock beneficially owned by a person and the percentage ownership of that person, we
deemed outstanding shares of common stock subject to options or warrants held by that person that are currently exercisable or
exercisable within 60 days of February 7, 2017. We did not deem those shares outstanding, however, for the purpose of computing
the percentage ownership of any other person.
Name and Address of Beneficial Owner(1)
|
|
Shares of Common Stock
Beneficially Owned
|
|
|
Percent of Common
Stock Beneficially Owned
|
|
Alain J. Castro(2)
|
|
|
80,753
|
|
|
|
2.06
|
%
|
Boris A. Maslov(3)
|
|
|
18,927
|
|
|
|
*
|
|
Domonic J. Carney(4)
|
|
|
29,784
|
|
|
|
*
|
|
Michael J. Hammons(5)
|
|
|
7,334
|
|
|
|
*
|
|
Bennet P. Tchaikovsky(6)
|
|
|
4,882
|
|
|
|
*
|
|
Jeff Horn(7)
|
|
|
6,834
|
|
|
|
*
|
|
Ian Copeland(8)
|
|
|
5,500
|
|
|
|
*
|
|
Stephen Markscheid(9)
|
|
|
16,000
|
|
|
|
*
|
|
Douglas A. Hamrin(10)
|
|
|
28,370
|
|
|
|
*
|
|
All directors and executive officers as a group (9 persons)(11)
|
|
|
198,384
|
|
|
|
5.16
|
%
|
|
|
|
|
|
|
|
|
|
Five Percent Beneficial Owners:
|
|
|
|
|
|
|
|
|
SAIL Exit Partners, LLC(12)
|
|
|
586,005
|
|
|
|
15.24
|
%
|
SAIL Pre-Exit Acceleration Fund, LP(13)
|
|
|
5,232
|
|
|
|
*
|
|
Jeneration Capital Master Fund(14)
|
|
|
375,000
|
|
|
|
9.45
|
%
|
Like Capital Limited(15)
|
|
|
696,056
|
|
|
|
18.10
|
%
|
*
Less than 1%
(1)
|
Unless
otherwise noted, the business address for each holder is c/o Ener-Core, Inc., 9400 Toledo Way, Irvine, California 92618.
|
|
|
(2)
|
Consists
of 6,667 shares purchased on September 22, 2014 in conjunction with our September 2014 PIPE transaction, 500 shares purchased
from Dr. Maslov, 51,186 shares of common stock underlying options that are exercisable within 60 days of February 7, 2017,
11,200 shares of common stock underlying a warrant that is exercisable within 60 days of February 7, 2017 and 11,200 shares
of common stock underlying a convertible note that is convertible within 60 days of February 7, 2017. Does not include 2,974
shares of common stock underlying options that are not exercisable within 60 days of February 7, 2017. These stock options
were granted to Mr. Castro on April 15, 2014, May 13, 2014 and November 28, 2014.
|
|
|
(3)
|
Consists
of 18,927 shares of common stock underlying options that are exercisable within 60 days of February 7, 2017. These stock options
were granted to Dr. Maslov on April 15, 2014, May 13, 2014 and November 28, 2014. On February 1, 2017, we and Dr. Maslov
mutually agreed to terminate Dr. Maslov’s employment with the Company, effective as of January 31, 2017. The unvested
portion of all previously granted stock options lapsed upon Dr. Maslov’s termination.
|
|
|
(4)
|
Consists
of 4,000 shares of common stock issued to Charles Schwab & Co. Inc. FBO Domonic Carney IRA and 2,667 shares issued to
Charles Schwab & Co. Inc. FBO Domonic Carney Roth IRA, as to which Mr. Carney holds voting and investment power. These
shares were issued in conjunction with the September 2014 PIPE. Consists of 1,000 shares of common stock purchased from Dr.
Maslov on May 8, 2015. Consists of 22,117 shares of common stock underlying options that are exercisable within 60 days of
February 7, 2017. Does not include 12,583 shares of common stock underlying options that are not exercisable within 60 days
of February 7, 2017. These stock options were granted to Mr. Carney on August 19, 2014 and November 28, 2014.
|
|
|
(5)
|
Consists
of the 1,334 shares issued in conjunction with the September 2014 PIPE and 6,000 shares of common stock underlying options
that are exercisable within 60 days of February 7, 2017. These stock options were granted to Mr. Hammons on November 28, 2014.
Mr. Hammons’ business address is 1567 Buckeye Court, San Luis Obispo, CA 93401.
|
|
|
(6)
|
Consists
of 4,882 shares of common stock underlying options that are exercisable within 60 days of February 7, 2017. Does not include
118 shares of common stock underlying options that are not exercisable within 60 days of February 7, 2017. These stock options
were granted to Mr. Tchaikovsky on April 15, 2014. Mr. Tchaikovsky’s business address is 6571 Morningside Drive, Huntington
Beach, California 92648.
|
|
|
(7)
|
Consists
of the 1,334 shares issued to Mr. Horn in conjunction with the September 2014 PIPE. Also consists of 5,500 shares of common
stock underlying options that are exercisable within 60 days of February 7, 2017. Does not include 500 shares of common stock
underlying options that are not exercisable within 60 days of February 7, 2017. These stock options were granted to Mr. Horn
on May 28, 2014. Mr. Horn’s business address is 703 Hollybriar Lane, Naples, Florida 34108.
|
|
|
(8)
|
Consists
of 1,000 shares of common stock purchased from Dr. Maslov on May 8, 2015. Consists of 4,500 shares of common stock underlying
options that are exercisable within 60 days of February 7, 2017. Does not include 1,500 shares of common stock underlying
options that are not exercisable within 60 days of February 7, 2017. These stock options were granted to Mr. Copeland on November
28, 2014. Mr. Copeland’s business address is 13007 Mimosa Farm Court, Rockville, Maryland 20850.
|
|
|
(9)
|
Consists
of 8,000 shares of common stock underlying a warrant that is exercisable within 60 days of February 7, 2017 and 8,000 shares
of common stock underlying a convertible note that is convertible within 60 days of February 7, 2017. Does not include 6,000
shares of common stock underlying options that are not exercisable within 60 days of February 7, 2017. These stock options
were granted to Mr. Markscheid on June 29, 2016. Mr. Markscheid’s business address is 419 Washington Avenue, Wilmette,
Illinois 60091.
|
|
|
(10)
|
Consists
of 5,550 shares of common stock. Consists of 22,820 shares of common stock underlying options that are exercisable within
60 days of February 7, 2017. Does not include 4,128 shares of common stock underlying options that are not exercisable within
60 days of February 7, 2017. These stock options were granted to Mr. Hamrin on April 15, 2014, May 13, 2014 and October 3,
2014.
|
|
|
(11)
|
Includes
136,883 shares of common stock underlying options that are exercisable within 60 days of February 7, 2017.
|
|
|
(12)
|
F.
Henry Habicht II and Walter L. Schindler are the managers of SAIL Exit Partners, LLC and are deemed to have shared voting
and investment power with respect to the shares of common stock owned by SAIL Exit Partners, LLC. SAIL Exit Partners, LLC’s
business address is 3161 Michelson Drive, Suite 750, Irvine, California 92612.
|
|
|
(13)
|
SAIL
Capital Partners, LLC is the general partner and management company of SAIL Pre-Exit Acceleration Fund, LP. F. Henry Habicht
II and Walter L. Schindler are the managing partners of SAIL Capital Partners, LLC and are deemed to have shared voting and
investment power with respect to the shares of common stock owned by SAIL Pre-Exit Acceleration Fund, LP. SAIL Capital Partners,
LLC’s business address is 3161 Michelson Drive, Suite 750, Irvine, California 92612.
|
|
|
(14)
|
Consists
of 250,000 shares of common stock and 125,000 shares of common stock issuable upon exercise of the December 2015 Warrant,
which is exercisable within 60 days of February 7, 2017. These reported securities are subject to a 9.99% beneficial ownership
limitation, as set forth in the December 2015 Warrant. As such, Jeneration Capital Master Fund cannot exercise the December
2015 Warrant if Jeneration Capital Master Fund would beneficially own, after such exercise, more than 9.99% of the outstanding
shares of our common stock. The percentage set forth in the table above assumes that the exercise of the December 2015 Warrant
is subject to such 9.99% limitation. Jeneration Capital Management serves as the investment manager of Jeneration Capital
Master Fund and may be deemed to have beneficial ownership of the shares of common stock and shares of common stock underlying
the December 2015 Warrant (subject to the 9.99% beneficial ownership limitation) owned by Jeneration Capital Master Fund.
Jimmy Ching-Hsin Chang is the principal of Jeneration Capital Management and may be deemed to have beneficial ownership of
the shares of common stock and shares of common stock underlying the December 2015 Warrant (subject to the 9.99% beneficial
ownership limitation) owned by Jeneration Capital Master Fund. Mr. Chang disclaims any beneficial ownership of any such shares
of our common stock. Jeneration Capital Master Fund’s business address is c/o Jeneration Capital Advisors (Hong Kong)
Limited, 20/F, One IFC, 1 Harbour View Street, Central, Hong Kong.
|
|
|
(15)
|
Like
Capital Limited is wholly-owned by Ethnocentric Investment Limited, a BVI company, or EIC, and EIC is wholly-owned by Capital
VC Limited, a company incorporated in Cayman Islands. Ma Chi Wing Wendy is the Managing Director of Like Capital Limited and
may be deemed to have sole voting and investment power with respect to the shares of common stock owned by Like Capital Limited.
Ma Chi Wing Wendy disclaims any beneficial ownership of any such shares of our common stock. The business address of Like
Capital Limited is New World Tower 1, 23
rd
Floor, 18 Queens Road Central, Hong Kong.
|
To
our knowledge, none of our directors, officers or affiliates, or any 5% or greater stockholder of our company, or any associate
or any such directors, officers or affiliates, is a party that is adverse to us in any material legal proceeding.
DESCRIPTION OF CAPITAL STOCK
Our authorized capital stock
consists of 250,000,000 shares, of which 200,000,000 shares will be designated as common stock with a par value of $0.0001 per
share and of which 50,000,000 shares will be designated as preferred stock with a par value of $0.0001 per share. As of February
7, 2017, there were 3,844,660 shares of common stock outstanding, held by 129 stockholders of record, and no shares of preferred
stock outstanding. The following description of our capital stock is subject to, and qualified in its entirety by, the provisions
of our certificate of incorporation and bylaws, which are included as exhibits to the registration statement of which this prospectus
is a part, and by the provisions of applicable law.
Common Stock
The holders of our common stock
are entitled to one vote for each share held of record upon such matters and in such manner as may be provided by law. Under the
Delaware General Corporation Law and our bylaws, our board of directors may declare and pay dividends upon shares of our capital
stock out of legally available funds, subject to any restrictions in our certificate of incorporation. In the event we liquidate,
dissolve, or wind up, the holders of our common stock are entitled under the Delaware General Corporation Law to share ratably
in all assets remaining after payment of liabilities and liquidation preferences of any outstanding shares of the preferred stock.
Holders of our common stock have no preemptive rights or rights to convert their common stock into any other securities. There
are no redemption or sinking fund provisions applicable to our common stock. All outstanding shares of our common stock are fully
paid and non-assessable. The rights, preferences and privileges of holders of common stock are subject to and may be adversely
affected by the rights of the holders of shares of any series of preferred stock that we may designate and issue in the future.
Preferred Stock
Our board of directors has the
authority to issue undesignated preferred stock in one or more series and to determine the powers, preferences and rights and
the qualifications, limitations or restrictions granted to or imposed upon any wholly unissued series of undesignated preferred
stock and to fix the number of shares constituting any series and the designation of the series, without any further vote or action
by our stockholders. The issuance of preferred stock, while providing desirable flexibility in connection with possible acquisitions
and other corporate purposes, could have the effect of making it more difficult for a third party to acquire, or of discouraging
a third party from attempting to acquire, a majority of our outstanding voting stock. We have no present plans to issue any shares
of preferred stock.
Options
As of February 7, 2017, we
had outstanding options to purchase an aggregate of 270,197 shares of our common stock, with a weighted-average exercise price
of $13.73 per share.
Warrants
As of February 7, 2017, we
had outstanding warrants to purchase an aggregate of 5,421,381 shares of our common stock, with a weighted-average exercise price
of $3.73 per share, which includes the shares of common stock issuable upon exercise of the warrants registered hereby.
Registration Rights
After the closing of this offering,
the holders of warrants exercisable for up to 38,464 shares of our common stock, will be entitled to certain rights with respect
to the registration of such shares under the Securities Act, as described below. The registration of shares of common stock as
a result of the following rights being exercised would enable holders to trade these shares without restriction under the Securities
Act when the applicable registration statement is declared effective.
On December 30, 2015 and in
connection with the December 2015 Purchase Agreement, we entered into the December 2015 Registration Rights Agreement with the
December 2015 Investors. Pursuant to the December 2015 Registration Rights Agreement, we are required to file one or more registration
statements with the SEC to register for resale by the December 2015 Investors the shares of our common stock sold in the December
2015 Equity Financing and the shares of our common stock issuable upon exercise of the December 2015 Warrants. Pursuant to the
terms of the December 2015 Registration Rights Agreement, we are registering 937,500 shares of our common stock under the Securities
Act, which includes the 625,000 shares of common stock sold in the December 2015 Equity Financing and 312,500 shares of common
stock issuable upon exercise of the December 2015 Warrants. All 937,500 shares of common stock are being offered for resale pursuant
to this prospectus.
On September 1, 2016, pursuant
to the September 2016 Purchase Agreement, each investor in the September 2016 Financing has the right to request that we register
the shares issuable upon conversion of such investor’s Convertible Unsecured Note and the September 2016 Warrant Shares
(including the shares issuable upon exercise of such investor’s Unsecured Note Additional Warrants, if any) on the same
terms set forth in any registration rights agreement entered into by us on the earlier of (i) the conversion of at least fifty
percent (50%) of the then outstanding (A) principal, (B) accrued and unpaid interest with respect to such principal and (C) accrued
and unpaid late charges, if any, with respect to such principal and interest, under our then outstanding senior secured notes,
issued pursuant to (x) that certain securities purchase agreement, dated as of April 22, 2015 by and among us and the investors
listed on the signature pages thereto, as amended from time to time, and (y) that certain securities purchase agreement, dated
as of May 7, 2015 by and among us and the investors listed on the signature pages thereto, as amended from time to time, or (ii)
the consummation of a private offering of our securities resulting in gross proceeds, inclusive of proceeds received pursuant
to the September 2016 Purchase Agreement, to us of at least $4,000,000. The December 2016 Financing (as defined below) satisfied
the latter condition and, as such, we registered 812,499 shares of our common stock under the Securities Act, which includes 500,000
shares issuable upon conversion of the Convertible Unsecured Notes, 124,999 September 2016 Warrant Shares and 187,500 shares issuable
upon exercise of the Unsecured Note Additional Warrants outstanding as of such date. On January 17, 2017, we filed a registration
statement to register for resale all 812,499 shares of common stock. The registration statement, as amended, became effective
on January 23, 2017.
On November 23, 2016 and in
connection with the November 2016 Purchase Agreement, we entered into the December 2016 Registration Rights Agreement. Pursuant
to the December 2016 Registration Rights Agreement, we are required to file one or more registration statements with the SEC to
register for resale by the investors in the December 2016 Financing the shares of our common stock issuable upon conversion such
investor’s December 2016 Note and the December 2016 Financing Warrant Shares. Pursuant to the terms of the December 2016
Registration Rights Agreement, we registered 2,109,246 shares of our common stock under the Securities Act, which includes 1,054,624
shares of common stock issuable upon conversion of certain December 2016 Notes and 1,054,622 December 2016 Financing Warrant Shares.
On January 17, 2017, we filed a registration statement to register for resale all 2,109,246 shares of common stock. The registration
statement, as amended, became effective on January 23, 2017. At the request of a holder of a December 2016 Note, we did not register
for resale pursuant to such registration statement 444,000 shares of common stock issuable upon conversion of such holder’s
December 2016 Note and 444,000 December 2016 Financing Warrant Shares issuable upon exercise of such holder’s December 2016
Financing Warrant.
We also agreed to register
under the Securities Act the shares of common stock issuable upon exercise of the December 2015 Warrants, February 2016 Warrants,
March 2016 Warrants and December 2016 Additional Warrants. As such, we registered 1,806,218 shares of our common stock under the
Securities Act, which includes 32,000 shares of common stock issuable upon exercise of certain December 2015 Warrants, 32,000
shares of common stock issuable upon exercise of certain February 2016 Warrants, 320,000 shares of common stock issuable upon
exercise of certain March 2016 Warrants and 1,422,218 shares of common stock issuable upon exercise of certain December 2016 Additional
Warrants. On January 17, 2017, we filed a registration statement to register for resale all 1,806,218 shares of common stock.
The registration statement, as amended, became effective on January 23, 2017. At the request of certain holders of the December
2015 Warrants, February 2016 Warrants, March 2016 Warrants and December 2016 Additional Warrants, we did not register for resale
pursuant to such registration statement 18,000 shares of common stock issuable upon conversion of such holders’ December
2015 Warrants, 18,000 shares of common stock issuable upon conversion of such holders’ February 2016 Warrants, 180,000 shares
of common stock issuable upon conversion of such holders’ March 2016 Warrants and 799,999 shares of common stock issuable
upon conversion of such holders’ December 2016 Additional Warrants.
Preemptive or Similar Rights
Pursuant to warrant exchange agreements,
or the Exchange Agreements, we executed in April 2015 with five accredited investors who had previously purchased senior secured
convertible promissory notes in April 2014, or the April 2014 Investors, we granted the April 2014 Investors a right of first
refusal to participate in any future sale of our equity or equity equivalent securities on a pro rata basis up to 50% of the securities
offered in such sale, subject to certain conditions. In the event such a sale involves a registered underwritten public offering
of our common stock and the offering price per share in such offering is more than 85% of the closing sale price of our common
stock on the date of pricing of such offering, the April 2014 Investors’ participation right is limited to 20% of the offered
securities. The Exchange Agreements provide that the April 2014 Investors possessed such participation right until April 16, 2016.
Piggyback Registration Rights
If we propose to register the
offer and sale of our common stock under the Securities Act, in connection with the public offering of such common stock, pursuant
to the terms of warrants to purchase up to 38,464 shares of our common stock issued in December 2014, we must use our best commercial
efforts to include the shares underlying such warrants in the next available registration we file, unless the inclusion of such
warrants in such registration statement would cause us undue harm or is otherwise prohibited by securities laws, rules or regulations.
Expenses
Ordinarily, other than stock transfer
taxes and all discounts, commissions or other amounts payable to underwriters or brokers, we will be required to pay all expenses
incurred by us related to any registration effected pursuant to the exercise of the above registration rights. These expenses
may include all qualification fees, printers’ and accounting fees, fees and disbursements of our counsel, blue sky fees
and expenses and the reasonable fees and disbursements of a counsel for the selling holders of registrable securities.
Anti-Takeover Provision
Provisions of Delaware law and
our certificate of incorporation and bylaws could make our acquisition by means of a tender offer, a proxy contest or otherwise,
and the removal of incumbent officers and directors, more difficult. These provisions are expected to discourage types of coercive
takeover practices and inadequate takeover bids and to encourage persons seeking to acquire control to first negotiate with us.
We believe that the benefits of increased protection of our potential ability to negotiate with the proponent of an unfriendly
or unsolicited proposal to acquire or restructure us outweighs the disadvantages of discouraging proposals, including proposals
that are priced above the then current market value of our common stock, because, among other things, negotiation of these proposals
could result in an improvement of their terms.
Delaware Anti-Takeover Law
If we list our common stock on
a national securities exchange, we will be subject to Section 203 of the Delaware General Corporation Law, or Section 203. Section
203 generally prohibits a public Delaware corporation from engaging in a “business combination” with an “interested
stockholder” for a period of three years after the date of the transaction in which the person became an interested stockholder,
unless:
|
●
|
prior
to the date of the transaction, the board of directors of the corporation approved either the business combination or the
transaction which resulted in the stockholder becoming an interested stockholder;
|
|
●
|
upon
consummation of the transaction that resulted in the stockholder becoming an interested stockholder, the interested stockholder
owned at least 85% of the voting stock of the corporation outstanding at the time the transaction commenced, excluding specified
shares; or
|
|
●
|
at
or subsequent to the date of the transaction, the business combination is approved by the board of directors and authorized
at an annual or special meeting of stockholders, and not by written consent, by the affirmative vote of at least 66
2
/
3
%
of the outstanding voting stock which is not owned by the interested stockholder.
|
Section 203 defines a “business
combination” to include:
|
●
|
any
merger or consolidation involving the corporation and the interested stockholder;
|
|
●
|
any
sale, lease, exchange, mortgage, pledge, transfer or other disposition of 10% or more of the assets of the corporation to
or with the interested stockholder;
|
|
●
|
subject
to exceptions, any transaction that results in the issuance or transfer by the corporation of any stock of the corporation
to the interested stockholder;
|
|
●
|
subject
to exceptions, any transaction involving the corporation that has the effect of increasing the proportionate share of the
stock of any class or series of the corporation beneficially owned by the interested stockholder; or
|
|
●
|
the
receipt by the interested stockholder of the benefit of any loans, advances, guarantees, pledges or other financial benefits
provided by or through the corporation.
|
In general, Section 203 defines
an “interested stockholder” as any person that is:
|
●
|
the
owner of 15% or more of the outstanding voting stock of the corporation;
|
|
●
|
an
affiliate or associate of the corporation who was the owner of 15% or more of the outstanding voting stock of the corporation
at any time within three years immediately prior to the relevant date; or
|
|
●
|
the
affiliates and associates of the above.
|
Under specific circumstances,
Section 203 makes it more difficult for an “interested stockholder” to effect various business combinations with a
corporation for a three-year period, although the stockholders may, by adopting an amendment to the corporation’s certificate
of incorporation or bylaws, elect not to be governed by this section, effective 12 months after adoption.
Our certificate of incorporation
and bylaws do not exclude us from the restrictions of Section 203. We anticipate that the provisions of Section 203 might encourage
companies interested in acquiring us to negotiate in advance with our board of directors since the stockholder approval requirement
would be avoided if a majority of the directors then in office approve either the business combination or the transaction that
resulted in the stockholder becoming an interested stockholder.
Certificate of Incorporation and Bylaws
Our certificate of incorporation
and our bylaws contain provisions that could have the effect of discouraging potential acquisition proposals or tender offers
or delaying or preventing a change of control of our company. In particular, our certificate of incorporation and bylaws, as applicable,
among other things:
|
●
|
provide
that special meetings of the stockholders may be called only by the chairman of our board of directors, Chief Executive Officer
or our board of directors pursuant to a resolution adopted by a majority of the total number of authorized directors and shall
be held at such place, on such date and at such time as our board of directors determines;
|
|
●
|
establish
procedures with respect to stockholder proposals and stockholder nominations, including requiring that advance notice of a
stockholder’s proposal or director nominee must be delivered to, or mailed and received by, the Secretary of the corporation
at our principal executive offices not less than sixty (60) days nor more than one ninety (90) days prior to the first anniversary
of the preceding year’s annual meeting;
provided, however
, that in the event the date of the annual meeting
is more than thirty (30) days before or more than seventy (70) days after such anniversary date, notice by the stockholder
to be timely must be so delivered not earlier than the ninetieth (90th) day nor later than the later of (i) the sixtieth (60th)
day prior to such annual meeting or (ii) the tenth (10th) day following the day on which public announcement of the date of
such meeting is first made by the corporation. Additionally, there are specific disclosure requirements which much be set
forth in a stockholder’s notice regarding nominees for directors;
|
|
●
|
do
not include a provision for cumulative voting in the election of directors. Were cumulative voting permitted, a minority stockholder
holding a sufficient number of shares may be able to ensure the election of one or more directors. The absence of cumulative
voting may have the effect of limiting the ability of minority stockholders to effect changes in our board of directors and,
as a result, may have the effect of deterring a hostile takeover or delaying or preventing changes in control or management
of our company;
|
|
●
|
provide
that vacancies on our board of directors may be filled by a majority vote of the remaining directors, even though less than
a quorum of the board of directors, unless the board of directors determines by resolution to allow such vacancy to be filled
by stockholder vote;
|
|
●
|
require
that a vote of the stockholders to amend various provisions of our certificate of incorporation and bylaws, including provisions
relating to the items below, requires the vote of holders of 66⅔% of the voting power of the outstanding voting power,
voting together as a single class:
|
|
●
|
the
frequency of the annual meeting and the annual election of directors at such meeting;
|
|
|
|
|
●
|
timely
notice of the annual meeting to stockholders;
|
|
|
|
|
●
|
stockholder
nominations and proposals;
|
|
|
|
|
●
|
the
number of directors on our board of directors;
|
|
|
|
|
●
|
election,
tenure and qualification of directors;
|
|
|
|
|
●
|
vacancies
on our board of directors; and
|
|
|
|
|
●
|
amendments
to the bylaws by the stockholders;
|
|
|
|
|
●
|
no
action may be effected by our stockholders by written consent, but must be effected at a duly-called annual or special meeting;
and
|
|
●
|
allow
us to issue without stockholder approval up to 50,000,000 shares of undesignated preferred stock with rights senior to those
of the common stock and that otherwise could adversely affect the rights and powers, including voting rights, of the holders
of common stock. In some circumstances, this issuance could have the effect of decreasing the market price of the common stock
as well as having the anti-takeover effect discussed above.
|
These provisions are intended
to enhance the likelihood of continuity and stability in the composition of our board of directors and in the policies formulated
by them and to discourage certain types of transactions that may involve an actual or threatened change of control of our company.
These provisions are designed to reduce our vulnerability to an unsolicited acquisition proposal and to discourage certain tactics
that may be used in proxy fights. However, these provisions could have the effect of discouraging others from making tender offers
for our shares that could result from actual or rumored takeover attempts. These provisions also may have the effect of preventing
changes in our management.
Exclusive Forum
Our certificate of incorporation
provides that the Court of Chancery of the State of Delaware will be the exclusive forum for any and all “internal corporate
claims.” “Internal corporate claims” means claims, including claims in the right of our company, that are based
upon a violation of a duty by a current or former director or officer or stockholder in such capacity or as to which Title 8 of
the Delaware Code confers jurisdiction upon the Court of Chancery.
Exchange Listing
Our shares of common stock are
currently quoted on the OTCQB Marketplace under the symbol “ENCR.”
Transfer Agent and Registrar
The transfer agent and registrar
for our common stock is VStock Transfer, LLC. The transfer agent and registrar’s address is 18 Lafayette Place, Woodmere,
New York 11598.
LEGAL MATTERS
The validity of the common stock
offered by this prospectus will be passed upon for us by K&L Gates LLP, Irvine, California.
EXPERTS
The consolidated financial
statements of Ener-Core, Inc. as of December 31, 2015 and 2014 and for each of the years in the two-year period ended December
31, 2015 have been audited by SingerLewak LLP, an independent registered public accounting firm, as stated in their report thereon
which report expresses an unqualified opinion and includes an explanatory paragraph relating to Company’s ability to continue
as a going concern, and included in this Prospectus and Registration Statement in reliance upon such report and upon the authority
of such firm as experts in accounting and auditing.
INFORMATION INCORPORATED BY
REFERENCE
We will disclose important information
to you by referring you to documents that we will file with the SEC in the future. The information in documents that we file later
with the SEC will automatically update and supersede information in this prospectus. We incorporate by reference any future filings
made by us with the SEC under Section 13(a), 13(c), 14 or 15(d) or the Exchange Act until we close this offering.
Any statement contained in a document
incorporated or deemed to be incorporated by reference in this prospectus is modified or superseded for purposes of the prospectus
to the extent that a statement contained in this prospectus or in any other subsequently filed document which also is or is deemed
to be incorporated by reference herein modifies or supersedes such statement. Any statement so modified or superseded does not,
except as so modified or superseded, constitute a part of this prospectus. No document, report or exhibit (or portion of any of
the foregoing) or any other information that we have “furnished” to the SEC pursuant to the Exchange Act shall be
incorporated by reference into this prospectus.
You may request a copy of these
filings, at no cost, by written or oral request made to us at the following address or telephone number:
Ener-Core, Inc.
9400 Toledo Way
Irvine California 92618
(949) 616-3300
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the SEC a
registration statement on Form S-1 under the Securities Act with respect to the securities offered in this prospectus. This prospectus,
filed as part of the registration statement, does not contain all of the information set forth in the registration statement and
its exhibits and schedules, portions of which have been omitted as permitted by the rules and regulations of the SEC. For further
information about us and our securities, we refer you to the registration statement and to its exhibits and schedules. Statements
in this prospectus about the contents of any contract, agreement or other document are not necessarily complete and, in each instance,
we refer you to the copy of such contract, agreement or document filed as an exhibit to the registration statement, with each
such statement being qualified in all respects by reference to the document to which it refers. Anyone may inspect and copy the
registration statement and its exhibits and schedules at the Public Reference Room the SEC maintains at 100 F Street, NE, Washington,
D.C. 20549. You may obtain further information about the operation of the SEC’s Public Reference Room by calling the SEC
at 1-800-SEC-0330. You may also inspect the registration statement and its exhibits and schedules and other information without
charge at the website maintained by the SEC. The address of this site is
www.sec.gov
.
We also file periodic reports,
proxy statements and other information with the SEC. These reports, proxy statements and other information will be available for
inspection and copying at the public reference room and website of the SEC referred to above. We also maintain a website at
www.ener-core.com
,
by which you may access these materials free of charge as soon as reasonably practicable after they are electronically filed with,
or furnished to, the SEC. The information that is contained on, or that may be accessed through, our website is not a part of
this prospectus. We have included our website in this prospectus solely as an inactive textual reference.
ENER-CORE, INC.
Index
to Financial Statements
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
Ener-Core, Inc.
Irvine, California
We have audited the accompanying consolidated balance sheets of Ener-Core, Inc. and subsidiary (collectively, the “Company”)
as of December 31, 2015 and 2014, and the related consolidated statements of operations, stockholders’ equity (deficit)
and cash flows for the years then ended. These financial statements are the responsibility of the Company’s management.
Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are
free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control
over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing
audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness
of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting
principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial
position of the Company as of December 31, 2015 and 2014, and the results of its operations and its cash flows for the years then
ended in conformity with U.S. generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed
in Note 1 to the financial statements, the Company has suffered recurring losses from operations, its total liabilities exceed
its total assets, and it has a stockholders’ deficit at year end. This raises substantial doubt about the Company’s
ability to continue as a going concern. Management’s plans in regard to these matters also are described in Note 1. The
financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/ SingerLewak LLP
Los Angeles, California
April 14, 2016
Ener-Core,
Inc.
Consolidated Balance Sheets
|
|
December
31,
2015
|
|
|
December 31,
2014
|
|
|
|
|
|
|
|
|
Assets
|
Current assets:
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
2,605,000
|
|
|
$
|
2,176,000
|
|
Restricted cash
|
|
|
200,000
|
|
|
|
50,000
|
|
Accounts receivable, net
|
|
|
—
|
|
|
|
107,000
|
|
Inventory
|
|
|
747,000
|
|
|
|
53,000
|
|
Prepaid expenses
and other current assets
|
|
|
408,000
|
|
|
|
91,000
|
|
Total current assets
|
|
|
3,960,000
|
|
|
|
2,477,000
|
|
Property and equipment, net
|
|
|
3,426,000
|
|
|
|
755,000
|
|
Intangibles, net
|
|
|
28,000
|
|
|
|
34,000
|
|
Deposits and other long term assets
|
|
|
143,000
|
|
|
|
27,000
|
|
Total assets
|
|
$
|
7,557,000
|
|
|
$
|
3,293,000
|
|
Liabilities and stockholders’
equity (deficit)
|
|
|
|
|
|
|
|
|
Current liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
|
1,631,000
|
|
|
|
612,000
|
|
Accrued expenses
|
|
|
657,000
|
|
|
|
456,000
|
|
Deferred revenues and customer advances
|
|
|
2,847,000
|
|
|
|
—
|
|
Accrued contract loss
|
|
|
600,000
|
|
|
|
—
|
|
Accrued warranty expense
|
|
|
—
|
|
|
|
242,000
|
|
Derivative liabilities
|
|
|
2,510,000
|
|
|
|
402,000
|
|
Convertible secured notes payable, net
of discounts
|
|
|
4,110,000
|
|
|
|
—
|
|
Capital leases
payable—short term
|
|
|
26,000
|
|
|
|
19,000
|
|
Total current
liabilities
|
|
|
12,379,000
|
|
|
|
1,731,000
|
|
|
|
|
|
|
|
|
|
|
Long term liabilities:
|
|
|
|
|
|
|
|
|
Capital lease payable—long term
|
|
|
14,000
|
|
|
|
30,000
|
|
Deposits
|
|
|
8,000
|
|
|
|
23,000
|
|
Total liabilities
|
|
|
12,401,000
|
|
|
|
1,784,000
|
|
Commitments and contingencies (Note
16)
|
|
|
|
|
|
|
|
|
Stockholders’ equity (deficit):
|
|
|
|
|
|
|
|
|
Preferred stock, $0.0001 par value;
authorized 50,000,000 shares; no shares outstanding at December 31, 2015 and December 31, 2014
|
|
|
—
|
|
|
|
—
|
|
Common stock, $0.0001 par value; authorized
200,000,000 shares; 3,089,160 and 2,282,120 shares outstanding at December 31, 2015 and December 31, 2014, respectively
|
|
|
—
|
|
|
|
—
|
|
Additional paid-in capital
|
|
|
26,302,000
|
|
|
|
19,548,000
|
|
Accumulated deficit
|
|
|
(31,146,000
|
)
|
|
|
(18,039,000
|
)
|
Total stockholders’
equity (deficit)
|
|
|
(4,844,000
|
)
|
|
|
1,509,000
|
|
Total liabilities
and stockholders’ equity (deficit)
|
|
$
|
7,557,000
|
|
|
$
|
3,293,000
|
|
See accompanying notes to consolidated
financial statements.
Ener-Core,
Inc.
Consolidated Statements of
Operations
|
|
Year
Ended
December 31,
|
|
|
Year
Ended
December 31,
|
|
|
|
2015
|
|
|
2014
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
—
|
|
|
$
|
868,000
|
|
Cost of goods sold
|
|
|
600,000
|
|
|
|
1,170,000
|
|
Gross profit (loss)
|
|
|
(600,000
|
)
|
|
|
(302,000
|
)
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
Selling, general, and administrative
|
|
|
5,197,000
|
|
|
|
5,449,000
|
|
Research and development
|
|
|
3,412,000
|
|
|
|
3,156,000
|
|
Total operating expenses
|
|
|
8,609,000
|
|
|
|
8,605,000
|
|
Operating loss
|
|
|
(9,209,000
|
)
|
|
|
(8,907,000
|
)
|
|
|
|
|
|
|
|
|
|
Other income (expenses):
|
|
|
|
|
|
|
|
|
Interest income
|
|
|
2,000
|
|
|
|
1,000
|
|
Loss on debt conversion
|
|
|
—
|
|
|
|
(2,414,000
|
)
|
Loss on exchange of warrants
|
|
|
(279,000
|
)
|
|
|
—
|
|
Loss on debt extinguishment
|
|
|
(707,000
|
)
|
|
|
—
|
|
Gain (loss) on revaluation of derivative liabilities, net
|
|
|
(198,000
|
)
|
|
|
1,574,000
|
|
Interest expense
|
|
|
(2,716,000
|
)
|
|
|
(787,000
|
)
|
Total other income
(expenses), net
|
|
|
(3,898,000
|
)
|
|
|
(1,626,000
|
)
|
Loss before provision for income taxes
|
|
|
(13,107,000
|
)
|
|
|
(10,533,000
|
)
|
Provision for income taxes
|
|
|
—
|
|
|
|
1,000
|
|
Net loss
|
|
$
|
(13,107,000
|
)
|
|
$
|
(10,534,000
|
)
|
|
|
|
|
|
|
|
|
|
Loss per share—basic
and diluted
|
|
$
|
(5.45
|
)
|
|
$
|
(6.17
|
)
|
Weighted average
common shares—basic and diluted
|
|
|
2,405,147
|
|
|
|
1,707,620
|
|
See accompanying notes to consolidated
financial statements.
Ener-Core,
Inc.
Consolidated Statements of
Stockholders’ Equity (Deficit)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
Common stock
|
|
|
Preferred Stock
|
|
|
Additional
paid-in
|
|
|
Accumulated
|
|
|
Stockholders’
Equity
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Shares
|
|
|
Amount
|
|
|
capital
|
|
|
Deficit
|
|
|
(Deficit)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at January 1, 2014
|
|
|
1,451,080
|
|
|
$
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
|
$
|
8,952,000
|
|
|
$
|
(7,505,000
|
)
|
|
$
|
1,447,000
|
|
Issuance of common stock to settle convertible debt
|
|
|
271,100
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
2,711,000
|
|
|
|
—
|
|
|
|
2,711,000
|
|
Issuance of common stock for cash, net of offering costs
of $156,000
|
|
|
533,340
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
3,844,000
|
|
|
|
—
|
|
|
|
3,844,000
|
|
Shares issued for financing costs
|
|
|
20,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Issuance of warrants for services
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
180,000
|
|
|
|
—
|
|
|
|
180,000
|
|
Issuance of warrants for fees related to convertible
debt offering
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
155,000
|
|
|
|
—
|
|
|
|
155,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance of common stock and warrants for legal settlement
|
|
|
8,440
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
246,000
|
|
|
|
—
|
|
|
|
246,000
|
|
Stock-based compensation expense
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
3,460,000
|
|
|
|
—
|
|
|
|
3,460,000
|
|
Repurchase of non-vested restricted shares
|
|
|
(1,840
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(10,534,000
|
)
|
|
|
(10,534,000
|
)
|
Balances at December 31, 2014
|
|
|
2,282,120
|
|
|
$
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
|
$
|
19,548,000
|
|
|
$
|
(18,039,000
|
)
|
|
$
|
1,509,000
|
|
Issuance of common stock for warrant exchange
|
|
|
73,747
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
885,000
|
|
|
|
—
|
|
|
|
885,000
|
|
Issuance of whole shares in lieu of fractional shares
– reverse split
|
|
|
293
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Issuance of warrants for bank fees
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
246,000
|
|
|
|
—
|
|
|
|
246,000
|
|
Issuance of common stock for cash, net of offering costs
|
|
|
733,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1,984,000
|
|
|
|
—
|
|
|
|
1,984,000
|
|
Issuance of warrants in in conjunction with 2015 Notes
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
2,154,000
|
|
|
|
—
|
|
|
|
2,154,000
|
|
Stock-based compensation expense
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1,485,000
|
|
|
|
—
|
|
|
|
1,485,000
|
|
Net loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(13,107,000
|
)
|
|
|
(13,107,000
|
)
|
Balances at December 31, 2015
|
|
|
3,089,160
|
|
|
$
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
|
$
|
26,302,000
|
|
|
$
|
(31,146,000
|
)
|
|
$
|
(4,844,000
|
)
|
See accompanying notes to consolidated
financial statements.
Ener-Core,
Inc.
Consolidated Statements of
Cash Flows
|
|
Year
Ended
December 31,
2015
|
|
|
Year
Ended
December 31,
2014
|
|
Cash flows used in operating activities:
|
|
|
|
|
|
|
Net loss
|
|
$
|
(13,107,000
|
)
|
|
$
|
(10,534,000
|
)
|
Adjustments to reconcile net loss to net cash used in operating
activities:
|
|
|
|
|
|
|
|
|
Amortization of debt discount and deferred
financing fees
|
|
|
2,247,000
|
|
|
|
720,000
|
|
Loss on debt conversion
|
|
|
—
|
|
|
|
2,414,000
|
|
Loss on extinguishment of senior notes
|
|
|
707,000
|
|
|
|
—
|
|
Loss on exchange of warrants for common
stock
|
|
|
279,000
|
|
|
|
—
|
|
(Gain)/Loss on change in fair value of
derivative liability
|
|
|
198,000
|
|
|
|
(1,574,000
|
)
|
Depreciation and amortization
|
|
|
402,000
|
|
|
|
233,000
|
|
Stock-based compensation
|
|
|
1,485,000
|
|
|
|
3,460,000
|
|
Provision for contract loss
|
|
|
600,000
|
|
|
|
—
|
|
Provision for bad debt expense
|
|
|
50,000
|
|
|
|
—
|
|
Warranty expense
|
|
|
—
|
|
|
|
220,000
|
|
Warrants issued for services
|
|
|
—
|
|
|
|
180,000
|
|
Common stock and warrants issued for
legal settlement
|
|
|
—
|
|
|
|
246,000
|
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
Accounts and other receivables
|
|
|
57,000
|
|
|
|
(91,000
|
)
|
Inventory
|
|
|
(694,000
|
)
|
|
|
(24,000
|
)
|
|
|
|
|
|
|
|
|
|
Costs in excess of billings on uncompleted contracts
|
|
|
—
|
|
|
|
(801,000
|
)
|
Prepaid expenses and other current assets
|
|
|
(202,000
|
)
|
|
|
(45,000
|
)
|
Deposit
|
|
|
—
|
|
|
|
1,000
|
|
Restricted cash
|
|
|
(150,000
|
)
|
|
|
—
|
|
Accounts payable and accrued expenses
|
|
|
914,000
|
|
|
|
214,000
|
|
Accrued interest
|
|
|
50,000
|
|
|
|
20,000
|
|
Deferred revenue
|
|
|
2,847,000
|
|
|
|
(701,000
|
)
|
Payments on contract loss
|
|
|
—
|
|
|
|
(79,000
|
)
|
Net cash used in operating activities
|
|
|
(4,317,000
|
)
|
|
|
(4,539,000
|
)
|
Cash flows used in investing activities:
|
|
|
|
|
|
|
|
|
Purchase of property and equipment
|
|
|
(3,057,000
|
)
|
|
|
(188,000
|
)
|
Net cash used in investing activities
|
|
|
(3,057,000
|
)
|
|
|
(188,000
|
)
|
Cash flows from financing activities:
|
|
|
|
|
|
|
|
|
Proceeds from convertible notes payable
|
|
|
5,000,000
|
|
|
|
3,757,000
|
|
Offering costs – convertible notes payable
|
|
|
(303,000
|
)
|
|
|
—
|
|
Payments on convertible notes payable
|
|
|
(19,000
|
)
|
|
|
(1,883,000
|
)
|
Repayment of capital leases payable
|
|
|
(19,000
|
)
|
|
|
(16,000
|
)
|
Proceeds from issuance of common stock,
net of costs of $185,000
|
|
|
3,125,000
|
|
|
|
3,844,000
|
|
Net cash provided by financing activities
|
|
|
7,803,000
|
|
|
|
5,702,000
|
|
Net increase in cash and cash equivalents
|
|
|
429,000
|
|
|
|
975,000
|
|
Cash and cash equivalents at beginning
of period
|
|
|
2,176,000
|
|
|
|
1,201,000
|
|
Cash and cash equivalents at end of
period
|
|
$
|
2,605,000
|
|
|
$
|
2,176,000
|
|
See accompanying notes to consolidated
financial statements.
Ener-Core, Inc.
Consolidated Statements of
Cash Flows (continued)
|
|
Year
ended
December
31,
|
|
|
|
2015
|
|
|
2014
|
|
Supplemental disclosure of cash flow information:
|
|
|
|
|
|
|
Cash paid during the period for:
|
|
|
|
|
|
|
Income
taxes
|
|
$
|
—
|
|
|
$
|
1,000
|
|
Interest
|
|
$
|
351,000
|
|
|
$
|
68,000
|
|
Supplemental disclosure of non-cash activities:
|
|
|
|
|
|
|
|
|
Equipment purchased
under capital leases
|
|
$
|
14,000
|
|
|
$
|
29,000
|
|
Debt discount and
derivative liabilities recorded upon issuance of warrants and convertible secured notes
|
|
$
|
2,750,000
|
|
|
$
|
2,078,000
|
|
Debt discount and
derivative liabilities recorded for amendments of senior notes
|
|
$
|
791,000
|
|
|
$
|
—
|
|
Original issue discount
of convertible secured note issued
|
|
$
|
—
|
|
|
$
|
572,000
|
|
Issuance of common
stock in exchange for warrants
|
|
$
|
885,000
|
|
|
$
|
—
|
|
Issuance of warrants
for bank fees
|
|
$
|
246,000
|
|
|
$
|
—
|
|
Debt discount and
accrued broker fees upon issuance of convertible secured note
|
|
$
|
—
|
|
|
$
|
186,000
|
|
Debt discount for
warrants issued for broker fee in convertible secured note
|
|
$
|
—
|
|
|
$
|
155,000
|
|
Warranty liability
recorded for product commissioned
|
|
$
|
—
|
|
|
$
|
242,000
|
|
Conversion of convertible
notes and accrued interest into common stock
|
|
$
|
—
|
|
|
$
|
2,711,000
|
|
Issuance of warrants
for services
|
|
$
|
—
|
|
|
$
|
180,000
|
|
Issuance of common
stock for placement fees
|
|
$
|
—
|
|
|
$
|
150,000
|
|
Issuance of warrants
for placement fees
|
|
$
|
—
|
|
|
$
|
296,000
|
|
Issuance of warrants
for legal settlement
|
|
$
|
—
|
|
|
$
|
246,000
|
|
See accompanying notes to consolidated
financial statements.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
Note 1—Description of Business
Organization
Ener-Core, Inc. (the “Company”, “we”,
“us”, “our”), a Delaware corporation, was formed on April 29, 2010 as Inventtech, Inc. On July
1, 2013, we acquired our wholly owned subsidiary, Ener-Core Power, Inc., (formerly Flex Power Generation, Inc.), a Delaware corporation. The
stockholders of Ener-Core Power, Inc. are now our stockholders and the management of Ener-Core Power, Inc. is now our management. The
acquisition was treated as a “reverse merger” and our financial statements are those of Ener-Core Power, Inc. All
equity amounts presented have been retroactively restated to reflect the reverse merger as if it had occurred on November 12,
2012.
Effective as of September 3, 2015, we changed our
state of incorporation from the State of Nevada to the State of Delaware (the “Reincorporation”), pursuant to a plan
of conversion dated September 2, 2015, following approval by our stockholders of the Reincorporation at our 2015 Annual Meeting
of Stockholders held on August 28, 2015. As a Delaware corporation following the Reincorporation, we are deemed to be the same
continuing entity as the Nevada corporation prior to the Reincorporation, and as such continue to possess all of the rights, privileges
and powers and all of the debts, liabilities and obligations of the prior Nevada corporation. Upon effectiveness of the Reincorporation,
all of the issued and outstanding shares of common stock of the Nevada corporation automatically converted into issued and outstanding
shares of common stock of the Delaware corporation without any action on the part of our stockholders. Concurrent with the Reincorporation,
on September 3, 2015 our authorized shares increased to 250,000,000 shares of stock consisting of 200,000,000 authorized shares
of common stock and 50,000,000 authorized shares of preferred stock.
Reverse Merger
We entered into an Agreement and Plan of Merger (the
“Merger Agreement”) with Ener-Core Power, Inc. and Flex Merger Acquisition Sub, Inc., a Delaware corporation and our
wholly owned subsidiary (“Merger Sub”), pursuant to which the Merger Sub merged with and into Ener-Core Power, Inc.,
with Ener-Core Power, Inc. as the surviving entity (the “Merger”). Prior to the Merger, we were a public reporting
“shell company,” as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended. The Merger
Agreement was approved by the boards of directors of each of the parties to the Merger Agreement. In April 2013, the pre-merger
public shell company effected a 30-for-1 forward split of its common stock. All share amounts have been retroactively restated
to reflect the effect of the stock split.
As provided in the Contribution Agreement dated November
12, 2012 (the “Contribution Agreement”) by and among FlexEnergy, Inc. (“FlexEnergy”), FlexEnergy Energy
Systems, Inc. (“FEES”), and Ener-Core Power, Inc., Ener-Core Power, Inc. was spun-off from FlexEnergy as a separate
corporation. As a part of that transaction, Ener-Core Power, Inc. received all assets (including intellectual property)
and certain liabilities pertaining to the Power Oxidizer business carved out of FlexEnergy. The owners of FlexEnergy
did not distribute ownership of Ener-Core Power, Inc. pro rata. The assets and liabilities were transferred to us and
recorded at their historical carrying amounts since the transaction was a transfer of net assets between entities under common
control.
On July 1, 2013, Ener-Core Power, Inc. completed the
Merger with us. Upon completion of the Merger, we, immediately became a public company. The Merger was accounted
for as a “reverse merger” and recapitalization. As part of the Merger, 2,410,400 shares of outstanding common stock
of the pre-merger public shell company were cancelled. This cancellation has been retroactively accounted for as of the
inception of Ener-Core Power, Inc. on November 12, 2012. Accordingly, Ener-Core Power, Inc. was deemed to be the accounting acquirer
in the transaction and, consequently, the transaction was treated as a recapitalization of Ener-Core Power, Inc. Accordingly,
the assets and liabilities and the historical operations that are reflected in the financial statements are those of Ener-Core
Power, Inc. and are recorded at the historical cost basis of Ener-Core Power, Inc. Our assets, liabilities and results
of operations were de minimis at the time of the Merger.
Reverse Stock Split
The board of directors of the Company approved a reverse
stock split of the Company’s authorized, issued and outstanding shares of common stock, par value $0.0001 per share, as
well as the Company’s authorized shares of preferred stock, par value $0.0001 per share, of which no shares are issued and
outstanding (together, the “Stock”), at a ratio of 1-for-50 (the “Reverse Stock Split”). The Reverse Stock
Split became effective on July 8, 2015 (the “Effective Date”). As a result of the Reverse Stock Split, the authorized
preferred stock decreased to 1,000,000 shares and the authorized common stock decreased to 4,000,000 shares. Both the preferred
stock and common stock par value remained at $0.0001 per share. The number of authorized shares subsequently increased to 200,000,000
authorized shares of common stock and 50,000,000 authorized shares of preferred stock on September 3, 2015 with the Company’s
reincorporation in Delaware, as described above.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
On the Effective Date, the total number of shares
of common stock held by each stockholder of the Company were converted automatically into the number of shares of common stock
equal to: (i) the number of issued and outstanding shares of common stock held by each such stockholder immediately prior to the
Reverse Stock Split divided by (ii) 50. The Company issued one whole share of the post-Reverse Stock Split common stock to any
stockholder who otherwise would have received a fractional share as a result of the Reverse Stock Split, determined at the beneficial
owner level by share certificate. As a result, no fractional shares were issued in connection with the Reverse Stock Split and
no cash or other consideration will be paid in connection with any fractional shares that would otherwise have resulted from the
Reverse Stock Split. The Reverse Stock Split also affected all outstanding options and warrants by dividing each option or warrant
outstanding by 50, rounded up to the nearest option or warrant, and multiplying the exercise price by 50 for each option or warrant
outstanding.
Description of the Business
We design, develop, and manufacture products based
on proprietary technologies that aim to expand the operating range of gaseous fuel while improving emissions, which technologies
we refer to collectively as “Power Oxidation” or “Power Oxidizer” (previously called “Gradual Oxidation”
and “Gradual Oxidizer,” respectively, in our prior public disclosures). Our products aim to expand power generation
into previously uneconomical markets while, at the same time, reduce gaseous emissions from industrial processes that contribute
to air pollution and climate change. The Power Oxidizer integrates with a gas turbine and generator to create a Powerstation.
Our product, the EC250, is a complete system consisting
of our designed and patented Power Oxidizer, integrated with a gas turbine and generator. The EC250 has been designed to operate
on fuels from 100% combustible gas down to concentrations of 5% or less combustible gas content. The EC250 has applications in
landfill, oil production, coal mining, and other operations, and offers our customers two distinct value propositions: the destruction
of low quality waste gases with no harmful emissions and the generation of energy from a renewable fuel source.
We are currently developing our second commercial
product, the Ener-Core Powerstation KG2-3G/GO (“KG2”), which will combine our Power Oxidizer with a two megawatt gas
turbine developed by Dresser-Rand a.s., a subsidiary of Dresser-Rand Group Inc. (“Dresser-Rand”). We have completed
system layout and analytic models integrating our Power Oxidizer with the turbine and are constructing a full prototype KG2 unit.
We expect to field test units in 2016, with initial commercial shipments shortly thereafter.
We sell our products directly and through distributors
in two countries, the United States and Netherlands.
Going Concern
Our consolidated financial statements are prepared
using the accrual method of accounting in accordance with accounting principles generally accepted in the United States of America
(“GAAP”) and have been prepared on a going concern basis, which contemplates the realization of assets and settlement
of liabilities in the normal course of business. Since our inception, we have made a substantial investment in research and development
to develop the Power Oxidizer, have successfully deployed an EC250 field test unit at the U.S. Army base at Fort Benning, Georgia,
and installed and commissioned our first commercial unit in the Netherlands in the second quarter of 2014. In November 2014, we
signed a Commercial License Agreement with Dresser-Rand (as amended, the “CLA”) to incorporate our Power Oxidizer
into Dresser-Rand’s 1.75MW turbine. In August 2015, the CLA became a mutually binding agreement due to the satisfaction
of certain binding conditions contained in the CLA.
Ener-Core,
Inc.
Notes to Consolidated
Financial Statements (continued)
We have sustained recurring net losses and negative
cash flows since inception and have not yet established an ongoing source of revenues sufficient to cover our operating costs
and allow us to continue as a going concern. Despite a capital raise of approximately $4.0 million in September 2014 and
further capital raises of $5.8 million in April and May 2015, and $2.5 million in December 2015, we expect to require additional
sources of capital to support the Company’s growth initiatives. We must secure additional funding to continue as a going
concern and execute our business plan.
Management’s plan is to obtain capital sufficient
to meet our operating expenses by seeking additional equity and/or debt financing. The cash and cash equivalents balance (excluding
restricted cash) on December 31, 2014 and December 31, 2015, was approximately $2.2 million and $2.8 million, respectively.
We raised a total of $5.8 million of debt and equity
capital in April and May 2015, as described in Notes 9 and 12 below, and $2.5 million of equity capital in December 2015 and we
expect that the $2.8 million of cash as of December 31, 2015, receipts on customer billings, and the anticipated net proceeds
from the proposed registered offering will continue to fund our working capital needs, general corporate purposes, and related
obligations into 2016 at our current spending levels. However, we expect to require significantly more cash for working capital
and as financial security to support our growth initiatives.
We will pursue raising additional equity and/or debt
financing to fund our operations and product development. If future funds are raised through issuance of stock or debt,
these securities could have rights, privileges, or preferences senior to those of our common stock and debt covenants that could
impose restrictions on our operations. Any equity or convertible debt financing will likely result in additional dilution to our
current stockholders. We cannot make any assurances that any additional financing, including the proposed registered
offering, will be completed on a timely basis, on acceptable terms or at all. Our inability to successfully raise
capital in a timely manner will adversely impact our ability to continue as a going concern. If our business fails or we are unable
to raise capital on a timely basis, our investors may face a complete loss of their investment.
The accompanying consolidated financial statements
do not give effect to any adjustments that might be necessary if we were unable to meet our obligations or continue operations
as a going concern.
Note 2—Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements
include our accounts and our wholly-owned subsidiary, Ener-Core Power, Inc. All significant intercompany transactions
and accounts have been eliminated in consolidation. All monetary amounts are rounded to the nearest $000, except certain per share
amounts.
The accompanying financial statements have been prepared in accordance
with GAAP.
Reclassifications
Certain amounts in the 2014 consolidated financial
statements have been reclassified to conform to the current year presentation. These reclassifications have no effect on previously
reported net loss.
Segments
We operate in one segment. Except for one consultant operating
in Europe, all of our operations are located domestically.
Ener-Core,
Inc.
Notes to Consolidated
Financial Statements (continued)
Use of Estimates
The preparation of financial statements in conformity
with 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 expenses during
the reporting period. Significant items subject to such estimates and assumptions include but are not limited to: collectability
of receivables; the valuation of certain assets, useful lives, and carrying amounts of property and equipment, equity instruments
and share-based compensation; provision for contract losses; valuation allowances for deferred income tax assets; valuation of
derivative liabilities; and exposure to warranty and other contingent liabilities. We base our estimates on historical experience
and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis
for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual
results may differ from these estimates.
Foreign Currency Adjustments
Our functional currency for all operations worldwide
is the U.S. dollar. Nonmonetary assets and liabilities are translated at historical rates and monetary assets and liabilities
are translated at exchange rates in effect at the end of the year. Income statement accounts are translated at average rates for
the year. At December 31, 2015 and 2014, we did not hold any foreign currency asset or liability amounts. Gains and losses resulting
from foreign currency transactions are reported as other income in the period they occurred.
Concentrations of Credit Risk
Cash and Cash Equivalents
We maintain our non-interest bearing transactional
cash accounts at financial institutions for which the Federal Deposit Insurance Corporation (“FDIC”) provides insurance
coverage of up to $250,000. For interest bearing cash accounts, from time to time, balances exceed the amount insured by the FDIC.
We have not experienced any losses in such accounts and believe we are not exposed to any significant credit risk related to these
deposits. At December 31, 2015, we had $2.5 million cash in excess of the FDIC limit.
We consider all highly liquid investments available
for current use with an initial maturity of three months or less and are not restricted to be cash equivalents. We invest our
cash in short-term money market accounts.
Restricted Cash
Collateral Account
Under a credit card processing agreement with a financial
institution that was entered in 2013, we are required to maintain funds on deposit with the financial institution as collateral.
The amount of the deposit, which is at the discretion of the financial institution, was $50,000 on December 31, 2015 and 2014.
Dresser-Rand Escrow Account
Under the CLA, prepaid license fee payments of $400,000
per quarter are to be paid by Dresser-Rand into an escrow account with a financial institution beginning August, 2015. Dresser-Rand
is allowed to withdraw up to $125,000 per quarter from this escrow account for qualified engineering expenses incurred by Dresser-Rand
under the terms and conditions of the CLA. Dresser-Rand funded $400,000 in August 2015 and withdrew $125,000 in August 2015. The
balance in the escrow account was $150,000 and $0 on and December 31, 2015 and 2014 respectively. The Company is allowed to withdraw
funds from the escrow account after completion of additional technical milestones, expected to be completed in the first half
of 2016. See also Note 8—Deferred Revenues and Customer Advances.
Accounts Receivable
Our accounts receivable are typically from credit
worthy customers or, for international customers are supported by guarantees or letters of credit. For those customers to whom
we extend credit, we perform periodic evaluations of them and maintain allowances for potential credit losses as deemed necessary.
We generally do not require collateral to secure accounts receivable. We have a policy of reserving for uncollectible accounts
based on our best estimate of the amount of probable credit losses in existing accounts receivable. We periodically review our
accounts receivable to determine whether an allowance is necessary based on an analysis of past due accounts and other factors
that may indicate that the realization of an account may be in doubt. Account balances deemed to be uncollectible are charged
to the allowance after all means of collection have been exhausted and the potential for recovery is considered remote.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
As of December 31, 2015 and December 31, 2014, two
customers and one customer, respectively, accounted for 100% of net accounts receivable.
Accounts Payable
As of December 31, 2015 and December 31, 2014, five
and six vendors, respectively, collectively accounted for approximately 50% and 54% of our total accounts payable.
Inventory
Inventory, which consists of raw materials, is stated
at the lower of cost or net realizable value, with cost being determined by the average-cost method, which approximates the first-in,
first-out method. At each balance sheet date, we evaluate our ending inventory for excess quantities and obsolescence. This evaluation
primarily includes an analysis of forecasted demand in relation to the inventory on hand, among consideration of other factors.
Based upon the evaluation, provisions are made to reduce excess or obsolete inventories to their estimated net realizable values.
Once established, write-downs are considered permanent adjustments to the cost basis of the respective inventories. At December
31, 2015 and 2014, we did not have a reserve for slow-moving or obsolete inventory.
Property and Equipment
Property and equipment are stated at cost, and are
being depreciated using the straight-line method over the estimated useful lives of the related assets, ranging from three to
ten years. Maintenance and repairs that do not improve or extend the lives of the respective assets are expensed. At the time
property and equipment are retired or otherwise disposed of, the cost and related accumulated depreciation accounts are relieved
of the applicable amounts. Gains or losses from retirements or sales are reflected in the consolidated statements of operations.
Deposits
Deposits primarily consist of amounts incurred or
paid in advance of the receipt of fixed assets or are deposits for rent and insurance.
Accrued Warranties
Accrued warranties represent the estimated costs that
will be incurred during the warranty period of our products. We make an estimate of expected costs that will be incurred by us
during the warranty period and charge that expense to the consolidated statement of operations at the date of sale. We also reevaluate
the estimate at each balance sheet date and if the estimate is changed, the effect is reflected in the consolidated statement
of operations. We made our initial commercial sale to Efficient Energy Conversion TurboMachinery, B.V. (“EECT”) in
the second quarter of 2014 with a six month warranty and later extended that warranty at our discretion. There was no warranty
for the unit shipped to the Fort Benning site. We expect that most terms our future warranty period to be one to two years depending
on the warranties provided and the products sold. Accrued warranties for expected expenditures within the next year are classified
as current liabilities and as non-current liabilities for expected expenditures for time periods beyond one year.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Deferred Rent
We record deferred rent expense, which represents
the temporary differences between the reporting of rental expense on the financial statements and the actual amounts remitted
to the landlord. The deferred rent portion of lease agreements are leasing inducements provided by the landlord. Also, tenant
improvement allowances provided are recorded as a deferred rent liability and recognized ratably as a reduction to rent expense
over the lease term.
Intangible Assets
Our intangible assets represent intellectual property
acquired during the reverse merger. We amortize our intangible assets with finite lives over their estimated useful lives.
Impairment of Long-Lived Assets
We account for our long-lived assets in accordance
with the accounting standards which require that long-lived assets be reviewed for impairment whenever events or changes in circumstances
indicate that the historical carrying value of an asset may no longer be appropriate. We consider the carrying value of assets
may not be recoverable based upon our review of the following events or changes in circumstances: the asset’s ability to
continue to generate income from operations and positive cash flow in future periods; loss of legal ownership or title to the
assets; significant changes in our strategic business objectives and utilization of the asset; or significant negative industry
or economic trends. An impairment loss would be recognized when estimated future cash flows expected to result from the use of
the asset are less than its carrying amount. As of December 31, 2015 and 2014, we do not believe there have been any impairments
of our long-lived assets. There can be no assurance, however, that market conditions will not change or demand for our products
will continue, which could result in impairment of long-lived assets in the future.
Fair Value of Financial Instruments
Our financial instruments consist primarily of cash
and cash equivalents, restricted cash, accounts receivable, accounts payable, derivative liabilities, secured notes payable and
related debt discounts and capital lease liabilities. Fair value estimates discussed herein are based upon certain market assumptions
and pertinent information available to management as of December 31, 2015 and 2014. The carrying amounts of short-term financial
instruments are reasonable estimates of their fair values due to their short-term nature or proximity to market rates for similar
items.
We determine the fair value of our financial instruments
based on a three-level hierarchy established for fair value measurements under which these assets and liabilities must be grouped,
based on significant levels of observable or unobservable inputs. Observable inputs reflect market data obtained from independent
sources, while unobservable inputs reflect management’s market assumptions. This hierarchy requires the use of observable
market data when available. These two types of inputs have created the following fair-value hierarchy:
|
●
|
Level
1: Valuations based on unadjusted quoted prices in active markets that are accessible at the measurement date for identical,
unrestricted assets or liabilities. Currently, we classify our cash and cash equivalents as Level 1 financial instruments.
|
|
|
|
|
●
|
Level
2: Valuations based on observable inputs (other than Level 1 prices), such as quoted prices for similar assets at the measurement
date quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially
the full term of the asset or liability. We do not currently have any accounts under Level 2.
|
|
|
|
|
●
|
Level
3: Valuations based on inputs that require inputs that are both significant to the fair value measurement and unobservable
and involve management judgment (i.e., supported by little or no market activity). Currently, we classify our warrants and
conversion options accounted for as derivative liabilities as Level 3 financial instruments.
|
If the inputs used to measure fair value fall in different
levels of the fair value hierarchy, a financial security’s hierarchy level is based upon the lowest level of input that
is significant to the fair value measurement.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Derivative Financial Instruments
The Company issues derivative financial instruments
in conjunction with its debt and equity offerings and to provide additional incentive to investors and placement agents. The Company
uses derivative financial instruments in order to obtain the lowest cash cost-source of funds. Derivative liabilities are recognized
in the consolidated balance sheets at fair value based on the criteria specified in Financial Accounting Standards Board (“FASB”)
Accounting Standards Codification (“ASC”) topic 815-40 “
Derivatives and Hedging—Contracts in Entity’s
own Equity
.” The estimated fair value of the derivative liabilities is calculated using either the Black-Scholes-Merton
or Monte Carlo simulation model method.
The Company issued detachable common stock warrants
and convertible secured notes payable with conversion features in April 2014 and issued detachable common stock warrants and secured
debt with a partial conversion feature in April and May 2015 and amended existing debt to add a conversion feature in December
2015. These embedded derivatives and detachable warrants were evaluated under ASC topic 815-40. We determined that the warrants
and embedded conversion feature for the April 2014 issuance and the conversion feature for the 2015 issuances should be accounted
for as derivative liabilities. We determined that the detachable warrants associated with the 2015 issuance should not be accounted
for as derivative liabilities. Warrants and the debt conversion features determined to be derivative liabilities were bifurcated
from the debt host and are classified as liabilities on the consolidated balance sheet. Warrants not determined to be derivative
liabilities were recorded to debt discount and paid in capital. The Company records the warrants and embedded derivative liabilities
at fair value and adjusts the carrying value of the common stock warrants and embedded derivatives to their estimated fair value
at each reporting date with the increases or decreases in the fair value of such warrants and derivatives at each reporting date,
recorded as a gain or (loss) in the consolidated statements of operations. The 2015 detachable warrants determined not to be derivative
liabilities were recorded to debt discount with a corresponding entry to paid-in capital.
Revenue Recognition
We generate revenue from the sale of our clean power energy systems and from consulting services. Revenue is recognized when there
is persuasive evidence of an arrangement, product delivery and acceptance have occurred, the sales price is fixed or determinable
and collectability of the resulting receivable is reasonably assured. Amounts billed to clients for shipping and handling are
classified as sales of product with related costs incurred included in cost of sales.
Provisions for discounts and rebates to customers,
estimated returns and allowances, and other adjustments are provided for in the same period the related revenue is recorded. We
defer any revenue for which the services have not been performed or are subject to refund until such time that we and our customer
jointly determine that the services have been performed or no refund will be required.
Revenues under long-term construction contracts are
generally recognized using the completed-contract method of accounting. Long-term construction-type contracts for which reasonably
dependable estimates cannot be made or for which inherent hazards make estimates difficult are accounted for under the completed-contract
method. Revenues under the completed-contract method are recognized upon substantial completion—that is acceptance by the
customer, compliance with performance specifications demonstrated in a factory acceptance test or similar event. Accordingly,
during the period of contract performance, billings and costs are accumulated on the balance sheet, but no profit or income is
recorded before completion or substantial completion of the work. Anticipated losses on contracts are recognized in full in the
period in which losses become probable and estimable. Changes in estimate of profit or loss on contracts are included in earnings
on a cumulative basis in the period the estimate is changed. As of December 31, 2015 and December 31, 2014, we had $600,000 and
no provision for contract losses respectively.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Research and Development Costs
Research and development costs are expensed as incurred. Research
and development costs were $3,412,000 and $3,156,000 for the years ended December 31, 2015 and 2014, respectively.
Share-Based Compensation
We maintain an equity incentive plan and record expenses
attributable to the awards granted under the equity incentive plan. We amortize share-based compensation from the date of grant
on a weighted average basis over the requisite service (vesting) period for the entire award.
We account for equity instruments issued to consultants
and vendors in exchange for goods and services at fair value. The measurement date for the fair value of the equity instruments
issued is determined at the earlier of (i) the date at which a commitment for performance by the consultant or vendor is reached
or (ii) the date at which the consultant’s or vendor’s performance is complete. In the case of equity instruments
issued to consultants, the fair value of the equity instrument is recognized over the term of the consulting agreement.
In accordance with the accounting standards, an asset
acquired in exchange for the issuance of fully vested, non-forfeitable equity instruments should not be presented or classified
as an offset to equity on the grantor’s balance sheet once the equity instrument is granted for accounting purposes. Accordingly,
we record the fair value of the fully vested, non-forfeitable common stock issued for future consulting services as prepaid expense
in our consolidated balance sheets.
Income Taxes
We account for income taxes under the provisions of
the accounting standards. Under the accounting standards, deferred tax assets and liabilities are recognized for the expected
future tax benefits or consequences attributable to temporary 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 years in which those temporary differences are expected to be recovered or
settled. A valuation allowance is provided for significant deferred tax assets when it is more likely than not that such
asset will not be realized through future operations. Our deferred tax assets and liabilities are primarily related to our Net
Operating Losses and timing differences between book and tax accounting for depreciation and our net deferred tax assets were
fully reserved as of December 31, 2015 and December 31, 2014.
The accounting guidance for uncertainty in income
taxes provides that a tax benefit from an uncertain tax position may be recognized when it is more likely than not that the position
will be sustained upon examination, including resolutions of any related appeals or litigation processes, based on the technical
merits. We recognize any uncertain income tax positions on income tax returns at the largest amount that is more-likely-than-not
to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it
has less than a 50% likelihood of being sustained. As of December 31, 2015 and 2014 and there were no unrecognized tax
benefits included in the consolidated balance sheets that would, if recognized, affect the effective tax rate. Our practice
is to recognize interest and/or penalties related to income tax matters in income tax expense. We had no accrual for interest
or penalties on our consolidated balance sheets at December 31, 2015 and 2014 and have not recognized interest and/or penalties
in the consolidated statements of operations for the years ended December 31, 2015 or 2014.
We are subject to taxation in the U.S. and various
state and foreign jurisdictions.
We do not foresee material changes to our gross uncertain
income tax position liability within the next twelve months.
Earnings (Loss) per Share
Basic loss per share is computed by dividing net loss
attributable to common stockholders by the weighted average number of common shares assumed to be outstanding during the period
of computation. Diluted loss per share is computed similar to basic loss per share except that the denominator is increased
to include the number of additional common shares that would have been outstanding if the potential shares had been issued and
if the additional common shares were dilutive. Approximately 1,084,000 and 462,000 shares of common stock issuable
upon full exercise of all options and warrants at December 31, 2015 and 2014, respectively and all shares potentially issuable
in the future under the terms of the Secured Notes Payable were excluded from the computation of diluted loss per share due to
the anti-dilutive effect on the net loss per share.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
All share and per share amounts in the table below
have been adjusted to reflect the 1-for-50 reverse split of our issued and outstanding common stock on July 8, 2015, retroactively.
|
|
Year
ended
December 31,
2015
|
|
|
Year
ended December 31,
2014
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(13,107,000
|
)
|
|
$
|
(10,534,000
|
)
|
Weighted average number of common shares outstanding:
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
|
2,405,147
|
|
|
|
1,707,620
|
|
Net loss attributable to common stockholders per share:
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
$
|
(5.45
|
)
|
|
$
|
(6.17
|
)
|
Comprehensive Income (Loss)
We have no items of other comprehensive income (loss)
in any period presented. Therefore, net loss as presented in our Consolidated Statements of Operations equals comprehensive loss.
Recently Issued Accounting Pronouncements
In May, 2014, the FASB issued Accounting Standards
Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”). ASU 2014-09
provides a framework for addressing revenue recognition issues and, upon its effective date, replaces almost all existing revenue
recognition guidance, including industry-specific guidance, in current U.S. generally accepted accounting principles. ASU 2014-09
is effective beginning with the calendar year ended December 31, 2017. The Company has not yet assessed the impact ASU 2014-09
will have upon adoption on its financial position, results of operations or cash flows.
In August 2014, the FASB issued ASU 2014-15, Presentation
of Financial Statements—Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to
Continue as a Going Concern. ASU 2014-15 requires that an entity’s management evaluate whether there are conditions or events,
considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within
one year after the date that the financial statements are issued. Substantial doubt about an entity’s ability to continue
as a going concern exists when relevant conditions and events, considered in the aggregate, indicate that it is probable that
the entity will be unable to meet its obligations as they become due within one year after the date that the financial statements
are issued. Certain disclosures are necessary in the footnotes to the financial statements in the event that conditions or events
raise substantial doubt about an entity’s ability to continue as a going concern. ASU 2014-15 is effective for the annual
period ending after December 15, 2016, and for annual periods and interim periods thereafter and early application is permitted.
The Company has not yet assessed the impact ASU 2014-15 will have upon adoption.
In November 2014, the FASB issued ASU 2014-16—Derivatives
and Hedging: Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share is More Akin
to Debt or to Equity. ASU 2014-16 clarifies how current GAAP should be interpreted in evaluating the economic characteristics
and risks of a host contract in a hybrid financial instrument that is issued in the form of a share. ASU 2014-16 became effective
for the interim and annual periods beginning after December 15, 2015. The Company has not yet assessed the impact ASU 2014-16
will have upon adoption.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
In April 2015, the FASB issued ASU 2015-03, Interest—Imputation of
Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. ASU 2015-03 simplifies the presentation of debt
issuance costs by requiring that debt issuance costs related to a recognized debt liability be presented in the balance sheet
as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement
guidance for debt issuance costs are not affected by the amendments in this update. ASU 2015-03 became effective for public business
entities for financial statements issued for fiscal years beginning after December 15, 2015 and interim periods within those fiscal
years and early application is permitted. The Company elected to adopt ASU 2015-03 beginning with the interim period ended June
30, 2015. There was no impact to any prior periods presented as a result of adopting ASU 2015-03.
In July 2015, the FASB issued ASU 2015-11, Inventory
(Topic 330): Simplifying the Measurement of Inventory. ASU 2015-11 requires that entities measure inventory at the lower of cost
and net realizable value. ASU 2015-11 is effective for fiscal years beginning after December 15, 2016, including interim periods
within those fiscal years and early application is permitted. The Company has not yet assessed the impact ASU 2015-11 will have
upon adoption.
In November 2015, the FASB issued ASU 2015-17, Income
Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes. ASU 2015-17 requires that entities’ deferred tax liabilities
and assets be classified as noncurrent in a classified statement of financial position. ASU 2015-17 is effective for fiscal years
beginning after December 15, 2017 and interim periods within annual periods beginning after December 15, 2018. The Company has
not yet assessed the impact ASU 2015-17 will have upon adoption.
February 2016 the FASB issued ASU 2016-2, Leases (Topic 842). ASU 2016-2
affects any entity entering into a lease and changes the accounting for operating leases to require companies to record an operating
lease liability and a corresponding right-of-use lease asset, with limited exceptions. ASU 2016-2 is effective for fiscal years
beginning after December 15, 2019 and interim periods with annual periods beginning after December 15, 2010. Early adoption is
allowed. The Company has not yet assessed the impact ASU 2016-2 will have upon adoption.
Note 3—Inventory
Inventory consists of Power Oxidizer parts used interchangeably
as raw materials and as spare parts for the EC250 units installed to date and the KG2 and EC 250 units on order. Inventory totaled
$747,000 and $53,000 as of December 31, 2015 and December 31, 2014, respectively. The Company had no inventory reserve during
2015 or 2014.
Note 4—Prepaid expenses and other current assets
Prepaid expenses and other current assets consisted
of the following:
|
|
December 31,
2015
|
|
|
December 31,
2014
|
|
Prepaid rent
|
|
$
|
27,000
|
|
|
$
|
27,000
|
|
Prepaid insurance
|
|
|
40,000
|
|
|
|
31,000
|
|
Prepaid other
|
|
|
140,000
|
|
|
|
13,000
|
|
Prepaid professional fees
|
|
|
—
|
|
|
|
20,000
|
|
Current portion – deferred
financing fees for LOC
|
|
|
228,000
|
|
|
|
—
|
|
Total
|
|
$
|
408,000
|
|
|
$
|
46,000
|
|
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Note 5—Property and Equipment, Net
Property and equipment, net consisted of the following:
|
|
December 31,
2015
|
|
|
December 31,
2014
|
|
Machinery and equipment
|
|
$
|
4,042,000
|
|
|
$
|
1,013,000
|
|
Office furniture and fixtures
|
|
|
217,000
|
|
|
|
198,000
|
|
Computer equipment and software
|
|
|
169,000
|
|
|
|
149,000
|
|
Total cost
|
|
|
4,428,000
|
|
|
|
1,360,000
|
|
Less accumulated depreciation
|
|
|
(1,002,000
|
)
|
|
|
(605,000
|
)
|
Net
|
|
$
|
3,426,000
|
|
|
$
|
755,000
|
|
Assets recorded under capital leases and included
in property and equipment in our balance sheets consist of the following:
|
|
December 31,
2015
|
|
|
December 31,
2014
|
|
Machinery and equipment
|
|
$
|
27,000
|
|
|
$
|
27,000
|
|
Computer equipment and software
|
|
|
46,000
|
|
|
|
46,000
|
|
Total assets under capital lease
|
|
|
73,000
|
|
|
|
73,000
|
|
Less accumulated amortization
|
|
|
(46,000
|
)
|
|
|
(21,000
|
)
|
Net assets under capital lease
|
|
$
|
27,000
|
|
|
$
|
52,000
|
|
Depreciation expense for the year ended December 31:
|
|
2015
|
|
|
2014
|
|
Research and development
|
|
$
|
286,000
|
|
|
$
|
120,000
|
|
General and administrative
|
|
|
116,000
|
|
|
|
113,000
|
|
|
|
$
|
402,000
|
|
|
$
|
233,000
|
|
Amortization of assets under capital lease was $25,000
and $20,000 for the years ended December 31, 2015 and 2014, respectively.
Note 6—Intangibles, Net
Intangibles, net consisted of the following:
|
|
December 31,
2015
|
|
|
December 31,
2014
|
|
Patents
|
|
$
|
80,000
|
|
|
$
|
80,000
|
|
Less accumulated amortization
|
|
|
(53,000
|
)
|
|
|
(46,000
|
)
|
Net
|
|
$
|
27,000
|
|
|
$
|
34,000
|
|
This intangible asset is amortized over its remaining
life. Amortization expense related to this intangible asset was $7,000 and $7,000 for the years ended December 31,
2015 and 2014, respectively.
Amortization expense on intangible assets for the
year ended December 31, 2016 and for each of the three succeeding years is $7,000 per year.
We continue to invest in our intellectually property
portfolio and are actively filing for patent protection for our technology in both the United States and abroad. The costs,
including legal, associated with compiling and filing patent applications are expensed in selling, general and administrative
expenses as incurred.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Note 7—Accrued Expenses
Accrued expenses consisted of the following:
|
|
December 31,
2015
|
|
|
December 31,
2014
|
|
|
|
|
|
|
|
|
Accrued professional fees
|
|
$
|
205,000
|
|
|
$
|
267,000
|
|
Accrued vacation & paid time off
|
|
|
333,000
|
|
|
|
92,000
|
|
Accrued expense reports
|
|
|
46,000
|
|
|
|
—
|
|
Accrued board of directors fees
|
|
|
13,000
|
|
|
|
13,000
|
|
Accrued interest
|
|
|
50,000
|
|
|
|
—
|
|
Accrued other
|
|
|
10,000
|
|
|
|
49,000
|
|
Accrued liabilities owed by Parent—reimbursable
under Contribution Agreement
|
|
|
—
|
|
|
|
35,000
|
|
Total accrued expenses
|
|
$
|
657,000
|
|
|
$
|
456,000
|
|
Note 8—Deferred revenues and customer advances
Deferred revenues and customer advances consist of
balances billed on existing customer contracts for which the revenue cycle is not complete. Customer advances on equipment sales
represent down payments and progress payments under the terms and conditions of equipment sales of our Power Oxidizer and Powerstation
units. Prepaid license fees represent payments of license fees by Dresser-Rand into an escrow account. Deferred revenues and customer
advances consisted of the following:
|
|
December 31,
2015
|
|
|
December 31,
2014
|
|
|
|
|
|
|
|
|
Customer advances on equipment sales
|
|
$
|
2,572,000
|
|
|
$
|
—
|
|
Prepaid license fees
|
|
|
275,000
|
|
|
|
—
|
|
Total Deferred revenues and customer
advances
|
|
$
|
2,847,000
|
|
|
$
|
—
|
|
Note 9—Secured Notes Payable
Secured Notes
During the year ended December 31, 2015, the Company
sold senior secured promissory notes with an aggregate principal amount of $5.0 million (the “Notes”) in two separate
tranches. Other than the issuance date and the term of the respective notes and warrants issued, the notes and warrants were identical
for both tranches. On April 23, 2015, the Company closed the first tranche representing $3.1 million in aggregate principal amount
of Notes issued in a private placement to seven institutional investors and on May 7, 2015 the Company closed the second tranche,
representing $1.9 million in aggregate principal amount of Notes to four institutional investors. The Company received total gross
proceeds of $5.0 million, less transaction expenses of $0.3 million consisting of legal costs and placement agent fees. The Company
agreed to pay the placement agent 5% of the aggregate principal amount of the Notes, which was paid at the closing date of the
second tranche. The Company plans to continue to use the proceeds from the Notes offering for general corporate purposes.
The Notes bear interest at a rate of 12% per
year, payable monthly, and are set to mature on the two-year anniversary of the issuance dates of the Secured Notes on April 23,
2017 and May 7, 2017 for the first and second tranches, respectively. The Notes have a limited conversion feature. At the discretion
of each investor, at issuance, 50% of the principal balance of the Notes, later amended to be 100% of the Notes may be exchanged
for shares of the Company’s common stock if the Company consummates a registered underwritten public offering of equity
securities with aggregate gross offering proceeds of at least $10 million (the “Qualified Public Offering”). The conversion
period begins on the date of the consummation of the Qualified Public Offering and ends thirty days after the consummation of
the Qualified Public Offering (the “Conversion Period”). The conversion price is the price per share of common stock
sold in the Qualified Public Offering. The Notes may be repaid by the Company at any time except during a Conversion Period and
unless the Notes are in default.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
The Notes are secured by substantially all assets
of the Company and provides for specified events of default, including: i) failure to pay principal and interest when due, and
ii) failure to effectuate a reverse stock split on or prior to the three-month anniversary of the first tranche of Notes. In addition,
the Company must consummate a Qualified Public Offering on or prior to the six-month anniversary of the first tranche of Notes.
Any event of default may be waived by the holders of at least a majority of the aggregate principal amount of Notes, which must
include a specified holder under specified circumstances. Upon the occurrence of an event of default, the interest rate immediately
increases to 18% per annum and the Notes become convertible at a price per share equal to 85% of the average of the five lowest
volume weighted average prices of the Company’s common stock during a 15 consecutive trading day period immediately prior
to the applicable conversion date.
The Notes were issued with detachable warrants to
purchase 219,785 shares of the Company’s common stock, exercisable for five years with an exercise price of $12.50 per share.
The Company valued the warrants issued using the Black-Scholes option model at a combined $2,139,000 using an exercise price of
$12.50 per share, a grant date fair value of $11.00–$11.25 per share, a risk free rate of 0.87%–1.02%, a five-year
life, and a volatility of 78%–83% for the April 23, 2015 and May 7, 2015 warrant valuations. The Company evaluated the accounting
of the detachable warrants and determined that the warrants should not be accounted for as derivative liabilities.
The Company valued the initial 50% conversion embedded
conversion feature using the Black Scholes option model at a combined $611,000 representing an option to convert $2,500,000 of
debt at market prices until 30 days following the deadline of the Qualified Public Offering covenant using an exercise price and
grant date fair value of $11.00–$11.25 per share, a risk free rate of 0.23%–0.25%, a seven-month life, and a volatility
of 138%–148%. The Company evaluated the accounting of the embedded conversion feature and determined that they should be
accounted for as derivative liabilities.
On December 30, 2015 the Company and the note holders
amended the terms of the Notes to allow for the remaining 50% to be converted. The Company valued the additional 50% conversion
embedded conversion feature using the Black Scholes option model at a combined $609,000 representing an option to convert $2,500,000
of debt at market prices until 30 days following the deadline of the Qualified Public Offering covenant using an exercise price
and grant date fair value of $4.45 per share, a risk free rate of 0.48%, a four-month life, and a volatility of 107%. The Company
evaluated the accounting of the embedded conversion feature and determined that they should be accounted for as derivative liabilities.
Each holder may require us to redeem the Notes at
a price equal to 115% of the sum of portion of the principal to be redeemed plus accrued and unpaid interest thereon and any accrued
and unpaid late charges, if any, with respect to such principal and interest (the “Conversion Amount”) being redeemed
(a) upon our default under the Notes, or (b) if we enter into a merger or consolidation, or sell or assign all or substantially
all of our assets. In addition, at any time from and after the date that is the eighteen-month anniversary of the original issuance
date of the Notes, each holder shall have the right, in its sole and absolute discretion, at any time or times, to require that
we redeem all or any portion of the Conversion Amount of its Note then outstanding at a price equal to 100% of the Conversion
Amount of the portion of the Note being redeemed.
At any time after the issuance of the Notes, other
than (i) at any time during which an event of default has occurred and is continuing or (ii) from the time we publicly announce
a Qualified Public Offering through and including the date that is thirty days immediately following the consummation of such
Qualified Public Offering, we have the right to redeem all or any portion of the Conversion Amount then remaining under the Notes,
or a Company Optional Redemption; provided, that the aggregate Conversion Amount under Notes being redeemed shall be at least
$500,000, or such lesser amount that is then outstanding under the Notes. The conversion price for such Company Optional Redemption
shall be a price equal to 100% of the Conversion Amount of the Notes being redeemed.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
The Notes were initially recorded net of a discount
of $2,750,000, reflecting the fair value of the warrants and embedded conversion feature derivatives within the Notes on
the issuance date and $303,000 of offering costs, representing cash placement fees and legal expenses. Both the $2,750,000 debt
discount and the $303,000 of offering costs will be amortized through interest expense on the consolidated statements of operations,
using the effective interest method, over the expected term of the Notes.
Effective as of October 22, 2015, the Company executed
a Second Amendment to Securities Purchase Agreement dated April 22, 2015, and a First Amendment to Securities Purchase Agreement
dated May 7, 2015 (collectively, the “October Amendments”), each with certain investors holding the requisite number
of conversion shares and warrant shares underlying the notes and warrants issued in April 2015 and May 2015 pursuant to the referenced
purchase agreements. The October Amendments extend the deadline to November 30, 2015 for the Company’s consummation of a
firm commitment underwritten public offering registered under the Securities Act of 1933, as amended (the “Securities Act”),
with aggregate gross proceeds to the Company equal to or in excess of $10,000,000, and related listing of its common stock on
a national securities exchange.
Effective as of November 24, 2015, the Company executed
a Third Amendment to the Securities Purchase Agreement dated April 22, 2015, and a Second Amendment to Securities Purchase Agreement
dated May 7, 2015 (collectively, the “November Amendments”, each with certain investors holding the requisite number
of conversion shares and warrant shares underlying the notes and warrants issued in April 2015 and May 2015 pursuant to the referenced
purchase agreements. The November Amendments further extend the deadline to December 31, 2015 for the Company’s consummation
of a firm commitment underwritten public offering registered under the Securities Act with aggregate gross proceeds to the Company
equal to or in excess of $10,000,000, and related listing of its common stock on a national securities exchange.
Effective as of December 30, 2015, the Company executed
a Fourth Amendment to Securities Purchase Agreement dated April 22, 2015, and a Third Amendment to Securities Purchase Agreement
dated May 7, 2015 (collectively, the “December Amendments”), each with certain investors holding the requisite number
of conversion shares and warrant shares underlying the notes and warrants issued in April 2015 and May 2015 pursuant to the referenced
purchase agreements. The December Amendments (i) extend the deadline to March 31, 2016 for the Company’s consummation of
a firm commitment underwritten public offering registered under the Securities Act and related listing of its Common Stock on
a national securities exchange, (ii) provide for the issuance of additional five-year warrants (the “Additional Warrants”),
exercisable for ten shares of Common Stock per $1,000 of outstanding principal of the 2015 Notes (defined below) held by each
buyer pursuant to the April 2015 and May 2015 purchase agreements, each with an exercise price of $12.50 per share, subject to
adjustment as set forth within the warrants, issuable in tranches triggered by certain Company actions as set forth in the December
Amendments and (iii) authorize the Company, prior to January 31, 2016, to issue to one or more investors up to an aggregate of
$1,000,000 principal amount of senior secured notes, on the terms and subject to the restrictions set forth in the December Amendments.
An initial tranche of 50,000 Additional Warrants became issuable and were issued in conjunction with the execution of the December
Amendments.
The December Amendments also amended the terms of
the Notes to allow for the remaining 50% to be converted under the same terms as the original 50% as described above. The modification
for the additional conversion feature was accounted for as a debt extinguishment. The Company accelerated the original debt discount
to other expense – debt extinguishment and recorded additional debt discounts consisting of the $609,000 for the fair value
of the beneficial conversion feature and $182,000 for the fair value of the Additional Warrants issued.
On March 31, 2016, the Company executed amendments
to the April 22, 2015, and May 7, 2015 Note Agreements and related Securities Purchase Agreements (collectively, the “March
Amendments”), each with certain investors holding the requisite number of conversion shares and warrant shares underlying
the notes and warrants issued in April 2015 and May 2015 pursuant to the referenced purchase agreements. The March Amendments
(i) remove the requirement that the Company consummate a “Qualified Public Offering”; (ii) extend the deadline for
the Company to commence trading on a Qualified Eligible Market (as defined in the March Amendments) to no later than April 14,
2016; provided that if the Company consummates a private offering of its securities resulting in gross proceeds to the Company
of at least $3,000,000 after March 31, 2016 and prior to or on April 14, 2016 (a “Qualified Private Offering”), such
deadline shall be automatically extended to October 15, 2016; (iii) provide for the issuance of the Additional Warrants, exercisable
for ten shares of the Company’s common stock per $100 of outstanding principal of the 2015 Notes held by each buyer pursuant
to the April 2015 and May 2015 Securities Purchase Agreements, each with an exercise price of $5.00 per share, subject to adjustment
as set forth within the warrants; and (iv) add an additional covenant on behalf of the Company that, on or prior to April 14,
2016, it will cause its net monthly cash flow directly associated with the CLA, taken together with its monthly capital expenditure
spending associated with the CLA, and excluding expenditures associated with the Full-Scale Acceptance Test (“FSAT”)
requirements defined in the CLA, to be neutral or positive, which may be accomplished by re-negotiation or termination of such
CLA.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Notes payable consisted of the following as of December 31, 2015:
|
|
Notes
|
|
|
Debt
Discount
|
|
|
Offering
Costs
|
|
|
Net
Total
|
|
Original Value
|
|
$
|
5,000,000
|
|
|
$
|
(2,750,000
|
)
|
|
|
(303,000
|
)
|
|
$
|
1,947,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of debt discount and
deferred financing costs
|
|
|
—
|
|
|
|
2,043,000
|
|
|
|
204,000
|
|
|
|
2,247,000
|
|
Acceleration of debt discount—extinguishment
|
|
|
—
|
|
|
|
707,000
|
|
|
|
—
|
|
|
|
707,000
|
|
Additional debt discount—modification
|
|
|
—
|
|
|
|
(791,000
|
)
|
|
|
—
|
|
|
|
(791,000
|
)
|
Ending balance—December 31, 2015
|
|
|
5,000,000
|
|
|
|
(791,000
|
)
|
|
|
(99,000
|
)
|
|
|
4,110,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less: Current Portion
|
|
|
(5,000,000
|
)
|
|
|
791,000
|
|
|
|
99,000
|
|
|
|
(4,110,000
|
)
|
Long Term Portion
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
Derivative Liabilities
We evaluate any freestanding financial instruments
or embedded features that have the characteristics of a derivative, and to any freestanding financial instruments that are potentially
settled in an entity’s own common stock to determine if they are indexed to an entity’s own stock. During 2015, we
determined that the issuance of the 2015 Notes in April and May 2015 contained an embedded note conversion feature that is required
to be accounted for as a derivative. In December 2015, we modified the conversion feature which gave rise to additional derivative
liabilities and issued warrants to the debt holders that allowed for price reset provisions. The inclusion of the price reset
provisions required treatment of the warrants issued to the debt holders as derivative liabilities and an increase in debt discount
for the initial value of the derivative liability. Also in December 2015, we issued 312,500 warrants to the investors in the December
2015 equity offering. The warrants carry limited price reset provisions, until the earlier of June 30, 2016 or upon the registration
of the December 2015 equity securities. We recorded the fair value of the warrants issued as a derivative liability with a corresponding
decrease in additional paid in capital. After the price reset provisions lapse, the fair value of the warrants, marked to market
value on the date of the provision lapse, will be adjusted to additional paid in capital.
Derivative liabilities consisted of the following:
|
|
Warrants
Liability
|
|
|
Embedded
Note
Conversion
Feature
|
|
|
Total
|
|
Value as of December 31, 2014
|
|
$
|
402,000
|
|
|
$
|
—
|
|
|
$
|
402,000
|
|
Adjustment to fair value—warrants
|
|
|
205,000
|
|
|
|
—
|
|
|
|
205,000
|
|
Exchange of warrants for common stock—April
2, 2015
|
|
$
|
(607,000
|
)
|
|
$
|
—
|
|
|
$
|
(607,000
|
)
|
Issuance of Notes in April/May 2015
|
|
|
—
|
|
|
|
611,000
|
|
|
|
611,000
|
|
Additional conversion feature added
December 2015
|
|
|
—
|
|
|
|
609,000
|
|
|
|
609,000
|
|
Additional Warrants issued for debt
amendment
|
|
|
182,000
|
|
|
|
—
|
|
|
|
182,000
|
|
Warrants issued pursuant to PIPE transaction
|
|
|
1,115,000
|
|
|
|
—
|
|
|
|
1,115,000
|
|
Adjustment to fair value—conversion
features
|
|
|
—
|
|
|
|
(7,000
|
)
|
|
|
(7,000
|
)
|
Ending balance—December 31, 2015
|
|
$
|
1,297,000
|
|
|
$
|
1,213,000
|
|
|
$
|
2,510,000
|
|
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Warrant Liability:
We issued warrants for the purchase of up to 81,942
shares of our common stock in conjunction with our April 2014 convertible notes offering. During 2014, the convertible notes were
either redeemed or converted into common stock of the Company. The warrants that were issued with the April 2014 convertible notes
were not issued with the intent of effectively hedging any future cash flow, fair value of any asset, liability or any net investment
in a foreign operation. The warrants do not qualify for hedge accounting, and as such, all future changes in the fair value of
these warrants will be recognized currently in earnings until such time as the warrants are exercised or expire. These warrants
do not trade in an active securities market, and as such, we estimate the fair value of these warrants and embedded conversion
features using the Binomial pricing model using the following assumptions:
|
|
2015
|
|
Annual dividend yield
|
|
|
—
|
|
Expected life (years)
|
|
|
4.04
|
|
Risk-free interest rate
|
|
|
0.99
|
%
|
Expected volatility
|
|
|
134
|
%
|
Expected volatility is based primarily on historical
volatility of us and our peer group. Historical volatility was computed using weekly pricing observations for us and daily pricing
observations for our peer group for recent periods that correspond to the expected term. We believe this method produces an estimate
that is representative of our expectations of future volatility over the expected term of these warrants.
We currently have no reason to believe future volatility
over the expected remaining life of these warrants is likely to differ materially from historical volatility. The expected life
is based on the remaining term of the warrants. The risk-free interest rate is based on one-year to five-year U.S. Treasury securities
consistent with the remaining term of the warrants.
On April 2, 2015, we entered into a warrant exchange
agreement with five institutional investors as describe in Notes 11 and 12 below. As a result of this exchange, we marked the
warrants to market on April 2, 2015 and exchanged 81,942 warrants for 73,747 shares of common stock. The shares of common stock
were issued to the investors on April 17, 2015. We incurred a loss of $279,000 as a result of the exchange, recorded in other
expense in the consolidated statement of operations.
Embedded conversion feature liability:
The Notes were issued with a feature that allows for
up to 50% of the principal to be converted into our common stock. On December 30, 2015, the terms of the Notes were amended to
allow the remaining 50% of the principal to be convertible into our common stock. We determined that these embedded conversion
features should be accounted for as derivatives. The grant date fair value of the embedded derivatives, which requires bifurcation
from the Notes described above, were recorded within short-term liabilities on the consolidated balance sheet. The embedded derivatives
relate to the conversion option, redemption in the case of an event of default and redemption in the case of a change in control
features of the convertible secured note. The embedded derivatives will be marked to market quarterly, with any change recorded
as an adjustment to the carrying value of these liabilities and the gain or (loss) on warrants and derivatives liabilities recorded
in the consolidated statements of operations. The fair value of embedded derivatives from the issuance date to December 31, 2015
declined by $7,000. Accordingly, this amount was recorded as a gain on derivative liabilities in the consolidated statements of
operations. The embedded derivatives were valued using Black-Scholes option pricing model where the exercise price was equal to
the market price on the valuation date and the following assumptions:
|
|
2015
|
|
Annual dividend yield
|
|
|
—
|
|
Expected life (years)
|
|
|
0.1-0.6 years
|
|
Risk-free interest rate
|
|
|
0.22-0.48
|
%
|
Expected volatility
|
|
|
107–148
|
%
|
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Expected volatility is based primarily on historical
volatility of us and our peer group. Historical volatility was computed using weekly pricing observations for us and daily pricing
observations for our peer group for recent periods that correspond to the expected term. We believe this method produces an estimate
that is representative of our expectations of future volatility over the expected term of these warrants.
We currently have no reason to believe future volatility
over the expected remaining life of these embedded derivatives is likely to differ materially from historical volatility. The
expected life is based on the remaining term of the conversion option. The risk-free interest rate is based on the U.S. Treasury
securities consistent with the remaining term of the embedded derivatives.
Note 10—Fair Value Measurements and Disclosures
Fair value is defined as the price that would be received
upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement
date and in the principal or most advantageous market for that asset or liability. The fair value should be calculated based on
assumptions that market participants would use in pricing the asset or liability, not on assumptions specific to the entity. In
addition, the fair value of liabilities should include consideration of non-performance risk, including the Company's own credit
risk.
Inputs used in measuring fair value are prioritized
into a three-level hierarchy based on whether the inputs to those measurements are observable or unobservable. Observable inputs
reflect market data obtained from independent sources, while unobservable inputs reflect the Company's market assumptions. The
fair-value hierarchy requires the use of observable market data when available and consists of the following levels:
|
●
|
Level
1—Quoted prices for identical instruments in active markets;
|
|
●
|
Level
2—Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets
that are not active; and model-derived valuations in which all significant inputs are observable in active markets; and
|
|
●
|
Level
3—Valuations derived from valuation techniques in which one or more significant inputs are unobservable.
|
The following tables present information on the Company’s financial
instruments:
|
|
Fair
Value
|
|
|
Level
1
|
|
|
Level
2
|
|
|
Level
3
|
|
Cash and cash equivalents, including restricted
cash
|
|
$
|
2,805,000
|
|
|
$
|
2,805,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Derivative liabilities—warrants
|
|
$
|
1,297,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,297,000
|
|
Embedded note conversion feature
|
|
$
|
1,213,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,213,000
|
|
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Note 11—Capital Leases Payable
Capital Leases Payable
Capital leases payable consisted of the following:
|
|
December
31,
2015
|
|
|
December 31,
2014
|
|
|
|
|
|
|
|
|
Capital
lease payable to De Lange Landon secured by forklift, 10.0% interest, due on October 1, 2018, monthly payment of $452.
|
|
$
|
13,000
|
|
|
$
|
17,000
|
|
Capital lease payable
to Dell Computers secured by computer equipment, 15.09% interest, due on November 16, 2016, monthly payment of $592.
|
|
|
6,000
|
|
|
|
12,000
|
|
Capital lease payable
to Dell Computers secured by computer equipment, 15.09% interest, due on December 15, 2016, monthly payment of $590.
|
|
|
6,000
|
|
|
|
12,000
|
|
Capital lease payable
to Dell Computers secured by computer equipment, 15.09% interest, due on January 3, 2017, monthly payment of $405.
|
|
|
5,000
|
|
|
|
8,000
|
|
Capital
lease payable to Dell Computers secured by computer equipment, 15.09% interest, due on January 3, 2017, monthly payment of
$394.
|
|
|
10,000
|
|
|
|
—
|
|
Total
capital leases
|
|
|
40,000
|
|
|
|
49,000
|
|
Less:
current portion
|
|
|
(26,000
|
)
|
|
|
(19,000
|
)
|
Long-term
portion of capital leases
|
|
$
|
14,000
|
|
|
$
|
30,000
|
|
The future minimum lease payments required under the
capital leases and the present value of the net minimum lease payments as of December 31, 2015, are as follows:
|
|
Year
Ending December 31
|
|
|
Amount
|
|
|
|
2016
|
|
|
28,000
|
|
|
|
2017
|
|
|
12,000
|
|
|
|
2018
|
|
|
5,000
|
|
Net minimum lease payments
|
|
|
|
|
45,000
|
|
Less: Amount representing interest
|
|
|
|
|
(3,000)
|
|
Less: Taxes
|
|
|
|
|
(1,000)
|
|
Present value of net minimum lease payments
|
|
|
|
|
40,000
|
|
Less: Current maturities of capital
lease payables
|
|
|
|
|
(26,000)
|
|
Long-term capital lease payables
|
|
|
|
$
|
14,000
|
|
Note 12—Equity
On April 2, 2015, the Company entered into exchange
agreements with the holders of all of the warrants issued in connection with the convertible notes offering in April 2014. As
of March 31, 2015, the warrants were carried as derivative liabilities. On April 16, 2015, the exchange transaction was completed,
with the Company issuing 73,747 shares of common stock (the “Exchange Shares”) in exchange for the return and cancellation
of all of the warrants exercisable for up to an aggregate 81,942 shares of the common stock. The Exchange Shares were subject
to a lock-up agreement that prohibited any sale or transfer (subject to certain limited exceptions) of the Exchange Shares until
the earlier of June 1, 2015 or the first date that the weighted average price of the common stock equaled or exceeded $0.30 (as
adjusted for any stock split, stock dividend, stock combination, reclassification or similar transaction occurring after the closing
of the exchange transaction) for each of ten (10) consecutive trading days. The value of the Exchange Shares issued on the date
of the exchange was $885,000. Prior to the exchange, we marked the warrants to market and recorded an additional loss on adjustment
of derivative liabilities to reflect the market value of the warrants as of the date of the exchange. The $279,000 difference
between the market value of the shares issued, valued at the closing market price on April 2, 2015, and the value of the warrants
was recorded as a loss on exchange of warrants, represented in other expense on the consolidated statement of operations.
In May 2015, we issued 108,000 shares of common stock
to 30 accredited investors and received gross proceeds of $810,000 in cash. We paid placement fees and legal costs of $70,000
in cash, and we issued warrants to purchase 5,514 shares of the Company at an exercise price of $12.50 per share to the placement
agent. The warrants expire in May 2020.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
In December 2015, we issued 312,500 units to 11 accredited
investors and received gross proceeds of $2,500,000 in cash. Each unit consisted of two shares of common stock and one five year
warrant to purchase one share of common stock at an exercise price of $5.00 per share. If the Company issues additional shares
of common stock at a price per share less than $4.00, the investors have certain rights to receive additional shares of common
stock and to have their warrant exercise price reduced. This right terminates at the earlier of six months from the December 31,
2015 issuance date or 30 days after the effectiveness of a registration statement for the resale of all common stock issued and
underlying the warrants issued in the December 2015 offering. We paid placement fees and legal costs of $115,000 in cash for this
transaction.
We evaluated the warrants issued with the price reset
right provisions and determined that the warrants should be recorded as a derivative liability. We recorded the fair value of
the warrants issued as a derivative liability with a corresponding decrease in additional paid in capital. The warrants were valued
using the Black-Scholes option pricing model at $1,115,000 on the issuance date and recorded as a derivative liability and a reduction
in paid in capital. After the price reset provisions lapse, the fair value of the warrants, marked to market value on the date
of the provision lapse, will be adjusted to additional paid in capital.
Reverse Stock Split
The board of directors of the Company approved the
Reverse Stock Split, at a ratio of 1-for-50, effective as of the Effective Date. As a result of the Reverse Stock Split, the authorized
preferred stock decreased to 1,000,000 shares and the authorized common stock decreased to 4,000,000 shares. Both the preferred
stock and the common stock par value remained at $0.0001 per share. On September 3, 2015, as a result of the Company’s adoption
of a new certificate of incorporation in conjunction with its conversion to a Delaware corporation, the authorized preferred shares
increased to 50,000,000 shares and the authorized common shares increased to 200,000,000 shares.
On the Effective Date, the total number of shares
of common stock held by each stockholder of the Company were converted automatically into the number of shares of common stock
equal to: (i) the number of issued and outstanding shares of common stock held by each such stockholder immediately prior to the
Reverse Stock Split divided by (ii) 50. The Company issued one whole share of the post-Reverse Stock Split common stock to any
stockholder who otherwise would have received a fractional share as a result of the Reverse Stock Split, determined at the beneficial
owner level by share certificate. As a result, no fractional shares were issued in connection with the Reverse Stock Split and
no cash or other consideration will be paid in connection with any fractional shares that would otherwise have resulted from the
Reverse Stock Split. The Reverse Stock Split also affected all outstanding options and warrants by dividing each option or warrant
outstanding by 50, rounded up to the nearest option or warrant, and multiplying the exercise price by 50 for each option or warrant
outstanding.
The number of shares of common stock outstanding immediately
prior to the Reverse Stock Split was 123,193,755, and on the Effective Date, there were 2,463,919 shares of common stock outstanding.
On July 15, 2015, the Company issued 241 additional shares of common stock to reflect the rounding up of fractional shares outstanding
on the Effective Date. The number of shares underlying outstanding warrants and options immediately prior to the Reverse Stock
Split was 16,951,674 and 15,423,051, respectively, and the number of shares underlying outstanding warrants and options after
the Reverse Stock Split was 339,043 and 308,464, respectively. As a result of the Reverse Stock Split, the weighted average exercise
price of the outstanding warrants increased from $0.36 per share to $17.81 per share and the weighted average exercise price of
the outstanding options increased from $0.27 per share to $13.61 per share.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Note 13—Stock Options and Warrants
Stock options
On July 1, 2013, our board of directors adopted and
approved the 2013 Equity Incentive Plan (the “2013 Plan”) and amended the 2013 Plan on March 24, 2015 to increase
the number of shares available for issuance. The 2013 Plan authorizes us to grant non-qualified stock options and restricted
stock purchase rights to purchase up to 420,000 shares of our common stock with vesting to employees (including officers) and
other service providers. With the approval of the 2015 Plan described below, as of August 29, 2015, no shares of our common
stock were available for issuance under the 2013 Plan.
On July 15, 2015, our board of directors approved
the 2015 Omnibus Incentive Plan (the “2015 Plan”), which was approved by our stockholders on August 28, 2015. The
2015 Plan authorizes us to grant up to 300,000 shares of our common stock and is intended to replace the 2013 Equity Incentive
Plan. If the 2015 Plan is approved by our stockholders, no additional grants will be made under the 2013 Plan.
The 2015 Plan permits the granting of any or all of
the following types of awards: incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock,
restricted stock units, other stock-based awards, and performance awards payable in a combination of cash and company shares.
There were no awards granted under the 2015 plan as of December 31, 2015.
The 2015 Plan has the following limitations:
|
●
|
Limitation
on terms of stock options and stock appreciation rights
. The maximum term of each stock option and stock appreciation
right (SAR) is 10 years.
|
|
●
|
No
repricing or grant of discounted stock options
. The 2015 Plan does not permit the repricing of options or SARs either
by amending an existing award or by substituting a new award at a lower price without stockholder approval. The 2015 Plan
prohibits the granting of stock options or SARs with an exercise price less than the fair market value of our common stock
on the date of grant.
|
|
●
|
Clawback
.
Awards granted under the 2015 Plan are subject to any then current compensation recovery or clawback policy of the Company
that applies to awards under the 2015 Plan and all applicable laws requiring the clawback of compensation.
|
|
●
|
Double-trigger
acceleration
. Acceleration of the vesting of awards that are assumed or replaced by the resulting entity after a change
in control is not permitted unless an employee’s employment is also terminated by the Company without cause or by the
employee with good reason within two years of the change in control.
|
|
●
|
Code
Section 162(m) Eligibility
. The 2015 Plan provides flexibility to grant awards that qualify as “performance-based”
compensation under Internal Revenue Code Section 162(m).
|
|
●
|
Dividends
.
Dividends or dividend equivalents on stock options, SARs or unearned performance shares under the 2015 Plan will not be paid.
|
At December 31, 2015, total unrecognized deferred
stock compensation expected to be recognized over the remaining weighted-average vesting periods of 1.0 years for outstanding
grants was $2.2 million.
The fair value of option awards is estimated on the
grant date using the Black-Scholes option valuation model.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Estimates of fair value are not intended to predict
actual future events or the value ultimately realized by employees who receive equity awards, and subsequent events are not indicative
of the reasonableness of the original estimates of fair value made by us. The following table presents the weighted-average
grant date assumptions used to estimate the fair value of options and stock appreciation rights granted.
|
|
December 31,
2015
|
|
|
|
|
|
Expected
volatility
|
|
|
100-150
|
%
|
Dividend yield
|
|
|
0.00
|
%
|
Risk-free interest
rate
|
|
|
1.10–2.15
|
%
|
Expected life
(in years)
|
|
|
3.0-6.8
|
|
Expected volatility represents the estimated volatility
of the shares over the expected life of the options. We have estimated the expected volatility based on the weighted-average
historical volatilities of a pool of public companies that are comparable to Ener-Core.
We use an expected dividend yield of zero since no
dividends are expected to be paid. The risk-free interest rate for periods within the expected life of the option is
derived from the U.S. treasury interest rates in effect at the date of grant. The expected option life represents the
period of time the option is expected to be outstanding. The simplified method is used to estimate the term since we
do not have sufficient exercise history to calculate the expected life of the options.
Stock-based compensation expense is recorded only
for those awards expected to vest. Currently, the forfeiture rate is zero. The rate is adjusted if actual forfeitures
differ from the estimates in order to recognize compensation cost only for those awards that actually vest. If factors
change and different assumptions are employed in future periods, the share-based compensation expense may differ from that recognized
in previous periods.
Stock-based award activity was as follows:
|
|
|
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
|
|
|
Weighted-
|
|
|
Average
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Remaining
|
|
|
Aggregate
|
|
|
|
|
|
|
Exercise
|
|
|
Contractual
|
|
|
Intrinsic
|
|
|
|
Options
|
|
|
Price
|
|
|
Life
|
|
|
Value
|
|
Balance, December 31, 2014
|
|
|
267,257
|
|
|
$
|
15.00
|
|
|
|
6.51
|
|
|
$
|
47,000
|
|
Forfeited during 2015
|
|
|
(21,033
|
)
|
|
|
17.00
|
|
|
|
—
|
|
|
|
—
|
|
Granted during 2015
|
|
|
62,240
|
|
|
|
8.30
|
|
|
|
—
|
|
|
|
—
|
|
Balance, December 31, 2015
|
|
|
308,464
|
|
|
$
|
13.61
|
|
|
|
6.07
|
|
|
$
|
—
|
|
Exercisable on December 31, 2015
|
|
|
151,576
|
|
|
$
|
15.38
|
|
|
|
5.38
|
|
|
$
|
—
|
|
The options granted have a contract term ranging between
three and ten years. Options granted typically vest over a four year period, with 25% vesting after one year and the remainder
ratably over the remaining three years.
The following table summarizes information about stock options outstanding
and exercisable at December 31, 2015:
|
|
Options
Outstanding
|
|
|
Options
Exercisable
|
|
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Weighted-
|
|
|
|
|
|
Weighted-
|
|
|
|
Number
|
|
|
Remaining
|
|
|
Average
|
|
|
Number
|
|
|
Average
|
|
Exercise
|
|
of
|
|
|
Contractual
|
|
|
Exercise
|
|
|
of
|
|
|
Exercise
|
|
Prices
|
|
Shares
|
|
|
Life
|
|
|
Price
|
|
|
Shares
|
|
|
Price
|
|
|
|
|
|
|
|
(In
years)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$0–$10.00
|
|
|
118,840
|
|
|
|
7.74
|
|
|
$
|
7.74
|
|
|
|
38,884
|
|
|
$
|
7.71
|
|
$10.01–$15.00
|
|
|
34,888
|
|
|
|
7.87
|
|
|
$
|
12.50
|
|
|
|
11,520
|
|
|
$
|
12.50
|
|
$15.01–$20.00
|
|
|
132,178
|
|
|
|
4.25
|
|
|
$
|
17.50
|
|
|
|
82,235
|
|
|
$
|
17.50
|
|
$20.01–$25.00
|
|
|
22,558
|
|
|
|
4.96
|
|
|
$
|
23.47
|
|
|
|
18,937
|
|
|
$
|
23.67
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
308,464
|
|
|
|
6.07
|
|
|
$
|
13.61
|
|
|
|
151,576
|
|
|
$
|
15.38
|
|
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Restricted stock represents stock purchased by employees
prior to July 1, 2013 for which the Company has a right to repurchase. The repurchase rights lapse over time until December 31,
2015 at which time all restricted shares are vested. Restricted stock activity for the year ended December, 2015 was as follows:
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
|
Grant
|
|
|
|
Shares
|
|
|
Price
|
|
Unvested Balance, December 31, 2014
|
|
|
15,720
|
|
|
$
|
0.05
|
|
Repurchase of unvested restricted shares
|
|
|
—
|
|
|
|
—
|
|
Vested
|
|
|
(15,720
|
)
|
|
$
|
0.05
|
|
Unvested Balance, December 31, 2015
|
|
|
—
|
|
|
$
|
—
|
|
Stock based compensation expense consisted of the following:
|
|
Year
ended
December 31
|
|
|
|
2015
|
|
|
2014
|
|
Research and development
|
|
$
|
583,000
|
|
|
$
|
1,435,000
|
|
General and administrative
|
|
|
902,000
|
|
|
|
2,025,000
|
|
Total
|
|
$
|
1,485,000
|
|
|
$
|
3,460,000
|
|
Warrants
From time to time, we issue warrants to purchase shares
of our common stock to investors, note holders and to non-employees for services rendered or to be rendered in the future. The
following table represents the activity for warrants outstanding, exchanged, and issued for the year ending December 31, 2015.
Balance outstanding at December 31, 2014
|
|
|
195,686
|
|
|
$
|
26.94
|
|
Exchanged for Common Stock
|
|
|
(81,942
|
)
|
|
|
5.50
|
|
Issued for 2015 Notes and 2015 Notes Amendments
|
|
|
269,785
|
|
|
|
12.50
|
|
Issued for services
|
|
|
5,514
|
|
|
|
12.50
|
|
Issued for letter of credit guarantee
|
|
|
74,000
|
|
|
|
12.50
|
|
Issued pursuant to PIPE investment
|
|
|
312,500
|
|
|
|
12.50
|
|
Balance outstanding at December 31, 2015
|
|
|
775,543
|
|
|
$
|
12.04
|
|
For the outstanding warrants exercisable for 775,543
shares of our common stock at December 31, 2015, the weighted average exercise price per share was $12.04 and the weighted average
remaining life was 4.59 years. The warrants outstanding as of December 31, 2015 had no intrinsic value.
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
Warrants outstanding as of December 31, 2015 consist
of:
|
|
Issue
Date
|
|
Expiry
Date
|
|
Number
of
Warrants
|
|
|
Exercise Price
per Share
|
|
2013 Services Warrants—July
|
|
Jul-13
|
|
Jul-18
|
|
|
9,494
|
|
|
$
|
37.50
|
|
2013 Services Warrants—August
|
|
Aug-13
|
|
Aug-18
|
|
|
729
|
|
|
|
37.50
|
|
2013 Services Warrants—November
|
|
Nov-13
|
|
Nov-18
|
|
|
2,400
|
|
|
|
50.00
|
|
2014 Services Warrants—April(1)
|
|
Apr-14
|
|
Apr-19
|
|
|
13,657
|
|
|
|
39.00
|
|
2014 Services Warrants—September(2)
|
|
Aug-14
|
|
Aug-19
|
|
|
16,000
|
|
|
|
25.00
|
|
2014 PIPE Warrants—September(3)
|
|
Sept-14
|
|
Sept-18
|
|
|
26,500
|
|
|
|
25.00
|
|
2014 Services Warrants—November(4)
|
|
Nov-14
|
|
Nov-18
|
|
|
6,500
|
|
|
|
25.00
|
|
2014 Settlement Warrants—December(5)
|
|
Dec-14
|
|
Dec-19
|
|
|
38,464
|
|
|
|
25.00
|
|
2015 Notes Warrants(6)
|
|
Apr/May-15
|
|
Apr/May-20
|
|
|
219,785
|
|
|
|
12.50
|
|
2015 Services Warrants—May(7)
|
|
May-15
|
|
May-20
|
|
|
5,514
|
|
|
|
12.50
|
|
2015 LOC Guarantee Warrants – November (8)
|
|
Nov-15
|
|
Nov-20
|
|
|
74,000
|
|
|
|
15.00
|
|
2015 Debt Amendment Warrants – December (9)
|
|
Dec-15
|
|
Dec-20
|
|
|
50,000
|
|
|
|
12.50
|
|
2015 PIPE Warrants – December (10)
|
|
Dec-15
|
|
Dec-20
|
|
|
312,500
|
|
|
|
5.00
|
|
Balance outstanding at December 31, 2015
|
|
|
|
|
|
|
775,543
|
|
|
$
|
12.04
|
|
Warrants exercisable at December 31, 2015
|
|
|
|
|
|
|
701,543
|
|
|
$
|
11.73
|
|
(1)
|
The
2014 Services Warrants—April were issued for fees incurred in conjunction with the issuance of convertible notes in
2014. The warrants were valued on the issuance date at $11.50 per share in conjunction with the valuation approach used for
the initial valuation of the warrants issued in connection with the convertible notes issued in 2014.
|
|
|
(2)
|
The
2014 Services Warrants—September were issued to a consultant in exchange for advisory services with no readily available
fair value. The warrants were originally issued at $39.00 per share and had a one-time price reset provision to the exercise
price of the warrants issued to investors in the convertible notes offering in April 2014 if the exercise price of such convertible
notes warrants changed prior to September 30, 2014. On September 22, 2014, the exercise price was changed to $25.00 per share.
There are no further exercise price changes for this warrant series. The warrants were valued using the Black-Scholes option
pricing model at $131,000 on the issuance date with an additional $6,000 recorded to expense on September 22, 2014 to reflect
the change in fair value resulting from the exercise price change.
|
|
|
(3)
|
On
September 22, 2014 the Company issued 26,500 warrants with an exercise price of $25.00 per share in conjunction with placement
agent services for the Company’s September 2014 private equity placement. The warrants were valued using the Black-Scholes
option pricing model at $296,000 on the issuance date.
|
|
|
(4)
|
On
November 26, 2014, the Company issued 6,500 warrants with an exercise price of $25.00 per share for compensation for investor
relations services provided. The warrants were valued using the Black-Scholes option pricing model at $43,000 on the issuance
date.
|
|
|
(5)
|
On
December 1, 2014, the Company issued 19,232 warrants with an exercise price of $39.00 per share and on December 15, 2014 issued
19,232 warrants with an exercise price of $25.00 per share to settle potential legal disputes resulting from claims made by
the investors in the November 2013 private equity placement. The warrants issued on December 1, 2014 were issued concurrent
with the issuance of 8,462 shares of the Company’s common stock in partial settlement of the potential legal disputes
arising from claims by two investors. The Company settled all remaining potential legal disputes with all of the remaining
investors in the November 2013 private placement on December 15, 2014 by issuing the second tranche of warrants and setting
the exercise price of each warrant series issued at $25.00 with no further reset provisions. The combined issuance of
the warrants and expense resulting from any price changes were valued using the Black-Scholes option pricing model at $246,000
and expensed to general and administrative expense.
|
|
|
(6)
|
On
April 23, 2015 the Company issued warrants exercisable for up to 136,267 shares of our common stock and on May 7, 2015 the
Company issued warrants exercisable for 83,518 shares of our common stock, each with an exercise price of $12.50 per share
in conjunction with the 2015 Notes described in Note 9. The warrants were valued using the Black-Scholes option pricing model
at $2,139,000 on the issuance date.
|
|
|
(7)
|
On
May 7, 2015 the Company issued warrants exercisable for 5,514 shares of our common stock with an exercise price of $12.50
per share in conjunction with placement agent services for the Company’s May 2015 private equity placement. The warrants
were valued using the Black-Scholes option pricing model at $56,000 on the issuance date.
|
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
(8)
|
On
November 2, 2015 the Company issued warrants exercisable for up to 74,000 shares of our common stock with an exercise price
of $15.00 per share in conjunction with the LOC guarantee described in Note 16. The warrants were valued using
the Black-Scholes option pricing model at $246,000 on the issuance date. The warrants are exercisable beginning
on November 1, 2016.
|
|
|
(9)
|
On
December 30, 2015 the Company issued warrants exercisable for up to 50,000 shares of our common stock with an initial exercise
price of $12.50 per share in conjunction with the amendment to the 2015 Notes on December 30, 2015, described in Note 9. The
warrants were valued using the Black-Scholes option pricing model at $182,000 on the issuance date and were recorded as a
derivative liability and additional debt discount. In the event that the Company issues additional common stock
derivative securities at a price per share less than the exercise price, the Company is obligated to reduce the exercise price
of the December Debt Amendment Warrants to a price per share equal to the newly issued shares or derivative common stock securities.
|
|
|
(10)
|
On
December 31, 2015 the Company issued warrants exercisable for up to 312,500 shares of our common stock with an initial exercise
price of $5.00 per share in conjunction with the December private equity placement amendment described in Note 12. If
the Company issues common share derivative securities at a price per share less than $5.00 per share, the Company is obligated
to reduce the exercise price of the December PIPE warrants to a price per share equal to the newly issued shares or derivative
common stock securities. This price protection clause expires at the earlier of June 30, 2016 or if the PIPE shares
and underlying warrants are registered for resale. The warrants were valued using the Black-Scholes option pricing
model at $1,115,000 on the issuance date and recorded as a derivative liability and a reduction in paid in capital.
|
Note 14—Income Taxes
Income tax provision for the year ended December 31,
2015 and the year ended December 31, 2014 consists of the following:
|
|
Year
Ended December 31,
2015
|
|
|
Year
Ended December 31,
2014
|
|
Current income tax expense:
|
|
|
|
|
|
|
Federal
|
|
$
|
—
|
|
|
$
|
—
|
|
State
|
|
|
1,000
|
|
|
|
1,000
|
|
Total
|
|
$
|
1,000
|
|
|
$
|
1,000
|
|
Deferred income tax expense:
|
|
|
|
|
|
|
|
|
Federal
|
|
|
—
|
|
|
|
—
|
|
State
|
|
|
—
|
|
|
|
—
|
|
Total
|
|
$
|
—
|
|
|
$
|
—
|
|
Provision for income taxes
|
|
$
|
1,000
|
|
|
$
|
1,000
|
|
Due to net losses, effective tax rate for the periods presented was 0%.
Deferred income tax assets and liabilities are recorded
for differences between the financial statement and tax basis of the assets and liabilities that will result in taxable or deductible
amounts in the future based on enacted laws and rates applicable to the periods in which the differences are expected to affect
taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected
to be realized. The valuation allowance increased by $ 4.8 million from December 31, 2014 to December 31, 2015.
|
|
December 31,
2015
|
|
|
December 31,
2014
|
|
Deferred tax assets:
|
|
|
|
|
|
|
Net operating loss carry-forward
|
|
$
|
13,070,000
|
|
|
|
8,276,000
|
|
Valuation allowance
|
|
|
(13,070,000
|
)
|
|
|
(8,276,000
|
)
|
Net deferred tax assets
|
|
$
|
—
|
|
|
$
|
—
|
|
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
A significant component of our deferred tax assets
consisted of net operating loss carry-forwards. We have evaluated the available evidence supporting the realization
of our deferred tax assets, including the amount and timing of future taxable income, and have determined it is more likely than
not that the assets will not be fully realized and a full valuation allowance is necessary as of December 31, 2015 and 2014. As
of December 31, 2015, we have federal and state net operating loss carry-forwards of approximately $21.6 million and $21 million,
respectively, which expire through 2032. The utilization of net operating loss carry-forwards may be subject to limitations
under provision of the Internal Revenue Code Section 382 and similar state provisions.
We follow ASC 740 related to accounting for uncertain
tax positions, which prescribes a recognition threshold and measurement process for recording in the financial statements, uncertain
tax positions taken or expected to be taken in a tax return. Under this provision, the impact of an uncertain income
tax position on the income tax return must be recognized at the largest amount that is more-likely-than-not to be sustained upon
audit by the relevant taxing authority. Tax benefits of an uncertain tax position will not be recognized if it has less than a
50% likelihood of being sustained based on technical merits. We did not have any uncertain income tax position as of
December 31, 2015 and 2014.
Note 15—Related Party Transactions
There were no related party transactions for the years ended December 31,
2015 or 2014.
Note 16—Commitments and Contingencies
We may become a party to litigation in the normal
course of business. We accrue for open claims based on our historical experience and available insurance coverage.
In the opinion of management, there are no legal matters involving us that would have a material adverse effect upon our financial
condition, results of operations or cash flows.
Warranties
Our warranty policy generally provides coverage for
components of the Power Oxidizer that we produce. Typically, the coverage period is one calendar year from the date of commissioning. Provisions
for estimated expenses related to product warranties are made at the time products are commissioned. These estimates are established
using available information on the nature, frequency, and average cost of claims. Revision to the reserves for estimated product
warranties is made when necessary, based on changes in these factors. Management actively studies trends of claims and takes action
to improve product quality and minimize claims.
The following table presents the changes in the product
warranty accrual included in accrued expenses in the accompanying consolidated balance sheets for the nine months ended December
31, 2015:
|
|
2015
|
|
Beginning balance, January 1, 2015
|
|
$
|
242,000
|
|
Charged to cost of revenues
|
|
|
—
|
|
Usage
|
|
|
(242,000
|
)
|
|
|
|
|
|
Ending balance, December 31, 2015
|
|
$
|
—
|
|
Standby Letter of Credit
Pursuant to the terms of the CLA, the Company is required
to provide a backstop security of $2.1 million to secure performance of certain obligations under the CLA (the “BSS”).
Effective November 2, 2015, the Company executed that certain Backstop Security Support Agreement (the “Support Agreement”),
pursuant to which an investor agreed to provide the Company with financial and other assistance (including the provision of sufficient
and adequate collateral) as necessary in order for the Company to obtain a $2.1 million letter of credit acceptable to Dresser-Rand
as the BSS and with an expiration date of June 30, 2017 (“Letter of Credit”). If the investor is required to make
any payments on the Letter of Credit, subject to the terms of the Intercreditor Agreement (as defined below), the Company shall
reimburse the investor the full amount of any such payment. Such payment obligation is secured by a pledge of certain collateral
of the Company pursuant to a Security Agreement dated November 2, 2015 (“Security Agreement”), and the security interest
in favor of and the payment obligations to the investor are subject to the terms of that certain Subordination and Intercreditor
Agreement executed concurrently with the Support Agreement and Security Agreement (the “Intercreditor Agreement”)
by and among the investor, the Company and the collateral agent pursuant to the senior secured notes issued by the Company in
April and May 2015 (the “2015 Notes”).
Ener-Core, Inc.
Notes to Consolidated Financial Statements
(continued)
The term of the Company’s obligations under
the Support Agreement (the “Term”) commenced on November 2, 2015, the issuance date of the Letter of Credit, and will
terminate on the earliest of: (a) replacement of the Letter of Credit with an alternative BSS in favor of Dresser-Rand, (b) Dresser-Rand
eliminating the BSS requirement under the CLA, or (c) the last day of the twenty-fourth calendar month following the commencement
of the Term. In consideration of the investor’s support commitment, the Company paid the investor a one-time fee equal to
4% of the amount of the Letter of Credit and is obligated to pay a monthly fee equal to 1% of the amount of the Letter of Credit
for the first twelve months. If the Support Agreement has not terminated after the initial twelve months, the Company will pay
another one-time fee equal to 4% of the amount of the Letter of Credit, and a monthly fee equal to 2% of the amount of the Letter
of Credit for up to another twelve months.
The Company also issued the investor a five-year warrant
to purchase 74,000 shares of the Company’s common stock, at an exercise price of $15.00/share, subject to adjustment for
stock splits or other similar changes to the Company’s capital structure, which will become exercisable on the one-year
anniversary of the first day of the Term (the “Warrant”). See also Note 12.
The Company recorded deferred financing fees consisting
of the following:
|
|
Net Total
|
|
Cash fees and legal costs
|
|
$
|
132,000
|
|
Warrants issued
|
|
|
246,000
|
|
Total deferred financing fees
|
|
|
378,000
|
|
Amortization – 2015
|
|
|
(34,000
|
)
|
Net deferred financing fees, December
31, 2015
|
|
|
344,000
|
|
|
|
|
|
|
Less: Current Portion
|
|
|
(228,000
|
)
|
Long Term Portion
|
|
$
|
116,000
|
|
Product Liability
With respect to product liability claims involving
our products, we believe that any judgment against us for actual damages will be adequately covered by our recorded accruals and,
where applicable, excess liability insurance coverage.
Lease
We lease our office facility, research and development
facility and certain equipment under operating leases, which for the most part, are renewable. Certain leases also provide
that we pay insurance and taxes.
Future minimum rental payments under operating leases
that have initial noncancellable lease terms in excess of one year as of December 31, 2015 are as follows:
Year Ending December 31, 2016
|
|
|
315,000
|
|
|
|
$
|
315,000
|
|
Minimum rent payments under operating leases are recognized
on a straight-line basis over the term of the lease. Rent expense, net of sublease income, was $316,000 and $211,000 for
the years ended December 31, 2015 and 2014, respectively.
Our current headquarters is located at 9400 Toledo
Way, Irvine, California 92618. The property consists of a mixed use commercial office, production, and warehouse facility
of 32,649 square feet. Effective August 1, 2014, we assumed this lease. The lease has a remaining term of
12 months and expires December 31, 2016. The monthly base rent is $26,825.
In addition, we lease space from the Regents of the
University of California, Irvine, for the installation and demonstration of the EC250 equipment. The lease expired on January
1, 2015 and reverted to a month-to-month lease with a monthly payment of $7,780.
Note 17—Subsequent Events
Warrant Issuance
On February 2, 2016, the Company issued 50,000 Additional
Warrants to the existing senior noteholders under the terms of the December 2015 amendments to the 2015 Notes.
March 2016 Amendment to 2015 Notes
On March 31, 2016, the Company executed amendments
to the April 22, 2015, and May 7, 2015 Note Agreements and related Securities Purchase Agreements (collectively, the “March
Amendments”), each with certain investors holding the requisite number of conversion shares and warrant shares underlying
the notes and warrants issued in April 2015 and May 2015 pursuant to the referenced purchase agreements. The March Amendments
(i) remove the requirement that the Company consummate a “Qualified Public Offering”; (ii) extend the deadline for
the Company to commence trading on a Qualified Eligible Market (as defined in the March Amendments) to no later than April 14,
2016; provided that if the Company consummates a private offering of its securities resulting in gross proceeds to the Company
of at least $3,000,000 after March 31, 2016 and prior to or on April 14, 2016 (a “Qualified Private Offering”), such
deadline shall be automatically extended to October 15, 2016; (iii) provide for the issuance of the Additional Warrants, exercisable
for ten shares of the Company’s common stock per $100 of outstanding principal of the 2015 Notes held by each buyer pursuant
to the April 2015 and May 2015 Securities Purchase Agreements, each with an exercise price of $5.00 per share, subject to adjustment
as set forth within the warrants; and (iv) add an additional covenant on behalf of the Company that, on or prior to April 14,
2016, it will cause its net monthly cash flow directly associated with the CLA, taken together with its monthly capital expenditure
spending associated with the CLA, and excluding expenditures associated with the FSAT requirements defined in the CLA, to be neutral
or positive, which may be accomplished by re-negotiation or termination of such CLA.
Stock Purchase Agreement
On April 11, 2016, the Company entered into a stock
purchase agreement dated April 11, 2016, pursuant to which it issued to an accredited investor an aggregate of 696,056 shares
of the Company’s common stock in exchange for gross proceeds of approximately $3.0 million (the “April 2016 Private
Placement”). The closing of the April 2016 Private Placement satisfies the Qualified Private Offering requirement described
in the March Amendments described above under “March 2016 Amendment to 2015 Notes”.
Ener-Core,
Inc.
Condensed Consolidated Balance
Sheets
|
|
September 30,
2016
|
|
|
December 31,
2015
|
|
|
|
(unaudited)
|
|
|
|
|
Assets
|
|
|
|
|
|
|
Current assets:
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
620,000
|
|
|
$
|
2,605,000
|
|
Restricted cash
|
|
|
50,000
|
|
|
|
200,000
|
|
Accounts receivable
|
|
|
57,000
|
|
|
|
—
|
|
Inventory
|
|
|
2,538,000
|
|
|
|
747,000
|
|
Prepaid expenses
and other current assets
|
|
|
484,000
|
|
|
|
408,000
|
|
Total current assets
|
|
$
|
3,749,000
|
|
|
$
|
3,960,000
|
|
Property and equipment, net
|
|
|
3,372,000
|
|
|
|
3,426,000
|
|
Intangibles, net
|
|
|
22,000
|
|
|
|
28,000
|
|
Deposits and other
long term assets
|
|
|
28,000
|
|
|
|
143,000
|
|
Total assets
|
|
$
|
7,171,000
|
|
|
$
|
7,557,000
|
|
Liabilities and
stockholders’ (deficit)
|
|
|
|
|
|
|
|
|
Current liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
2,147,000
|
|
|
$
|
1,629,000
|
|
Accrued expenses
|
|
|
710,000
|
|
|
|
657,000
|
|
Deferred revenues and customer advances
|
|
|
3,796,000
|
|
|
|
2,847,000
|
|
Accrued contract loss
|
|
|
600,000
|
|
|
|
600,000
|
|
Derivative liabilities
|
|
|
1,023,000
|
|
|
|
2,510,000
|
|
Convertible secured notes payable, net
of discounts
|
|
|
4,519,000
|
|
|
|
4,110,000
|
|
Convertible unsecured notes payable,
net of discounts
|
|
|
725,000
|
|
|
|
—
|
|
Capital leases
payable
|
|
|
20,000
|
|
|
|
26,000
|
|
Total current
liabilities
|
|
$
|
13,540,000
|
|
|
$
|
12,379,000
|
|
Long term liabilities:
|
|
|
|
|
|
|
|
|
Deposits
|
|
|
—
|
|
|
|
8,000
|
|
Capital leases
payable
|
|
|
—
|
|
|
|
14,000
|
|
Total liabilities
|
|
$
|
13,540,000
|
|
|
$
|
12,401,000
|
|
Commitments and
contingencies (Note 12)
|
|
|
|
|
|
|
|
|
Stockholders’
equity (deficit):
|
|
|
|
|
|
|
|
|
Preferred stock, $0.0001 par value.
Authorized 50,000,000 shares; no shares issued and outstanding at September 30, 2016 and December 31, 2015
|
|
$
|
—
|
|
|
$
|
—
|
|
Common stock, $0.0001
par value. Authorized 200,000,000 shares; 3,785,216 and 3,089,160 shares issued and outstanding at September 30, 2016 and
December 31, 2015, respectively
|
|
|
—
|
|
|
|
—
|
|
Additional paid-in capital
|
|
|
32,408,000
|
|
|
|
26,302,000
|
|
Accumulated deficit
|
|
|
(38,777,000
|
)
|
|
|
(31,146,000
|
)
|
Total stockholders’
equity (deficit)
|
|
$
|
(6,369,000
|
)
|
|
$
|
(4,844,000
|
)
|
Total liabilities
and stockholders’ equity (deficit)
|
|
$
|
7,171,000
|
|
|
$
|
7,557,000
|
|
See accompanying notes to condensed
consolidated financial statements.
Ener-Core, Inc.
Condensed Consolidated Statements of Operations
(unaudited)
|
|
Three
Months Ended
September
30,
|
|
|
Nine
Months Ended
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Cost of goods sold:
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Gross profit
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling, general, and administrative
|
|
|
941,000
|
|
|
|
1,165,000
|
|
|
|
3,255,000
|
|
|
|
3,475,000
|
|
Research and development
|
|
|
1,170,000
|
|
|
|
928,000
|
|
|
|
2,871,000
|
|
|
|
2,636,000
|
|
Total operating expenses
|
|
|
2,111,000
|
|
|
|
2,093,000
|
|
|
|
6,126,000
|
|
|
|
6,111,000
|
|
Operating loss
|
|
|
(2,111,000
|
)
|
|
|
(2,093,000
|
)
|
|
|
(6,126,000
|
)
|
|
|
(6,111,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expenses):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
(246,000
|
)
|
|
|
(150,000
|
)
|
|
|
(985,000
|
)
|
|
|
(257,000
|
)
|
Amortization of debt discount
|
|
|
(809,000
|
)
|
|
|
(1,117,000
|
)
|
|
|
(2,209,000
|
)
|
|
|
(1,921,000
|
)
|
Loss on exchange of warrants
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(279,000
|
)
|
Loss on modification of convertible debt
|
|
|
—
|
|
|
|
—
|
|
|
|
(1,429,000
|
)
|
|
|
—
|
|
Gain (loss) on valuation of derivative
liabilities
|
|
|
1,570,000
|
|
|
|
50,000
|
|
|
|
3,124,000
|
|
|
|
(33,000
|
)
|
Total other income (expenses), net
|
|
|
515,000
|
|
|
|
(1,217,000
|
)
|
|
|
(1,499,000
|
)
|
|
|
(2,490,000
|
)
|
Loss before provision for income taxes
|
|
|
(1,596,000
|
)
|
|
|
(3,310,000
|
)
|
|
|
(7,625,000
|
)
|
|
|
(8,601,000
|
)
|
Provision for income taxes
|
|
|
—
|
|
|
|
—
|
|
|
|
3,000
|
|
|
|
—
|
|
Net loss
|
|
$
|
(1,596,000
|
)
|
|
$
|
(3,310,000
|
)
|
|
$
|
(7,628,000
|
)
|
|
$
|
(8,601,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss per share—basic and diluted
|
|
$
|
(0.42
|
)
|
|
$
|
(1.34
|
)
|
|
$
|
(2.12
|
)
|
|
$
|
(3.61
|
)
|
Weighted average common shares—basic
and diluted
|
|
|
3,785,216
|
|
|
|
2,464,100
|
|
|
|
3,591,233
|
|
|
|
2,385,500
|
|
See accompanying notes to condensed
consolidated financial statements.
Ener-Core,
Inc.
Condensed Consolidated Statements
of Cash Flows
|
|
Nine
Months Ended
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
Cash flows used in operating activities:
|
|
|
|
|
|
|
Net loss
|
|
$
|
(7,628,000
|
)
|
|
$
|
(8,601,000
|
)
|
Adjustments to reconcile net loss to net cash used in operating
activities:
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
398,000
|
|
|
|
276,000
|
|
Impairment of fixed assets
|
|
|
318,000
|
|
|
|
—
|
|
Amortization of debt discount and deferred financing fees
|
|
|
2,483,000
|
|
|
|
1,921,000
|
|
(Gain) loss on revaluation of derivative liabilities
|
|
|
(3,124,000
|
)
|
|
|
33,000
|
|
Stock-based compensation
|
|
|
1,027,000
|
|
|
|
1,113,000
|
|
Loss on modification of convertible debt
|
|
|
1,429,000
|
|
|
|
—
|
|
Loss on exchange of warrants for common stock
|
|
|
—
|
|
|
|
279,000
|
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
Accounts and other receivables
|
|
|
(57,000
|
)
|
|
|
3,000
|
|
Restricted cash
|
|
|
150,000
|
|
|
|
(275,000
|
)
|
Inventory
|
|
|
(1,791,000
|
)
|
|
|
(80,000
|
)
|
Prepaid expenses and other current assets
|
|
|
(136,000
|
)
|
|
|
(36,000
|
)
|
Deferred revenue
|
|
|
949,000
|
|
|
|
808,000
|
|
Accounts payable and other current
liabilities
|
|
|
559,000
|
|
|
|
13,000
|
|
Net cash used in operating activities
|
|
$
|
(5,423,000
|
)
|
|
$
|
(4,546,000
|
)
|
Cash flows used in investing activities:
|
|
|
|
|
|
|
|
|
Purchases of property and equipment
|
|
|
(655,000
|
)
|
|
|
(1,830,000
|
)
|
Net cash used in investing activities
|
|
$
|
(655,000
|
)
|
|
$
|
(1,830,000
|
)
|
Cash flows from financing activities:
|
|
|
|
|
|
|
|
|
Proceeds from issuance of common stock, net
|
|
|
2,883,000
|
|
|
|
741,000
|
|
Proceeds from note payable, net
|
|
|
1,230,000
|
|
|
|
4,669,000
|
|
Repayment of capital leases payable
|
|
|
(20,000
|
)
|
|
|
(13,000
|
)
|
Net cash provided by financing activities
|
|
$
|
4,093,000
|
|
|
$
|
5,397,000
|
|
Net increase (decrease) in cash and cash equivalents
|
|
|
(1,985,000
|
)
|
|
|
(979,000
|
)
|
Cash and cash equivalents at beginning
of period
|
|
|
2,605,000
|
|
|
|
2,176,000
|
|
Cash and cash equivalents at end of
period
|
|
$
|
620,000
|
|
|
$
|
1,197,000
|
|
See accompanying notes to condensed
consolidated financial statements.
Ener-Core, Inc.
Condensed Consolidated Statements
of Cash Flows (continued)
(unaudited)
|
|
Nine
Months Ended
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
Supplemental disclosure
of cash flow information:
|
|
|
|
|
|
|
Cash paid during the period for:
|
|
|
|
|
|
|
Income
taxes
|
|
$
|
—
|
|
|
$
|
—
|
|
Interest
|
|
$
|
639,000
|
|
|
$
|
205,000
|
|
Supplemental disclosure
of non-cash activities:
|
|
|
|
|
|
|
|
|
Capital
leases for purchase of equipment
|
|
$
|
2,000
|
|
|
$
|
10,000
|
|
Debt
discount and derivative liabilities recorded upon issuance of warrants and convertible secured notes
|
|
$
|
—
|
|
|
$
|
2,750,000
|
|
Common
stock issued in exchange for warrant cancellation
|
|
$
|
—
|
|
|
$
|
885,000
|
|
Debt
discount and derivative liabilities recorded for amendments of notes
|
|
$
|
1,497,000
|
|
|
$
|
—
|
|
Debt
discount and derivative liabilities recorded for amendments of warrants
|
|
$
|
148,000
|
|
|
|
—
|
|
Reclassification
of warrants previously recorded as derivative liabilities to paid-in capital
|
|
$
|
1,719,000
|
|
|
$
|
—
|
|
Debt
discount recorded for amendments of warrants
|
|
$
|
206,000
|
|
|
|
—
|
|
Debt
discount and derivative liabilities recorded upon issuance convertible unsecured notes
|
|
$
|
282,000
|
|
|
$
|
—
|
|
Debt
discount recorded for detachable warrants issued with unsecured notes
|
|
$
|
271,000
|
|
|
|
—
|
|
See accompanying notes to condensed
consolidated financial statements.
Ener-Core,
Inc.
Notes to Condensed Consolidated
Financial Statements
(unaudited)
Note 1—Organization
Organization
Ener-Core, Inc. (the “Company”, “we”,
“us”, “our”), a Delaware corporation, was formed on April 29, 2010 as Inventtech, Inc. On July
1, 2013, we acquired our wholly owned subsidiary, Ener-Core Power, Inc., (formerly Flex Power Generation, Inc.), a Delaware corporation. The
stockholders of Ener-Core Power, Inc. are now our stockholders and the management of Ener-Core Power, Inc. is now our management. The
acquisition was treated as a “reverse merger” and our financial statements are those of Ener-Core Power, Inc. All
equity amounts presented have been retroactively restated to reflect the reverse merger as if it had occurred on November 12,
2012.
Effective as of September 3, 2015, we changed our
state of incorporation from the State of Nevada to the State of Delaware (the “Reincorporation”), pursuant to a plan
of conversion dated September 2, 2015, following approval by our stockholders of the Reincorporation at our 2015 Annual Meeting
of Stockholders held on August 28, 2015. As a Delaware corporation following the Reincorporation, we are deemed to be the same
continuing entity as the Nevada corporation prior to the Reincorporation, and as such continue to possess all of the rights, privileges
and powers and all of the debts, liabilities and obligations of the prior Nevada corporation. Upon effectiveness of the Reincorporation,
all of the issued and outstanding shares of common stock of the Nevada corporation automatically converted into issued and outstanding
shares of common stock of the Delaware corporation without any action on the part of our stockholders. Concurrent with the Reincorporation,
on September 3, 2015 our authorized shares increased to 250,000,000 shares of stock consisting of 200,000,000 authorized shares
of common stock and 50,000,000 authorized shares of preferred stock.
Reverse Merger
We entered into an Agreement and Plan of Merger (the
“Merger Agreement”) with Ener-Core Power, Inc. and Flex Merger Acquisition Sub, Inc., a Delaware corporation and our
wholly owned subsidiary (“Merger Sub”), pursuant to which the Merger Sub merged with and into Ener-Core Power, Inc.,
with Ener-Core Power, Inc. as the surviving entity (the “Merger”). Prior to the Merger, we were a public reporting
“shell company,” as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended. The Merger
Agreement was approved by the boards of directors of each of the parties to the Merger Agreement. In April 2013, the pre-merger
public shell company effected a 30-for-1 forward split of its common stock. All share amounts have been retroactively restated
to reflect the effect of the stock split.
As provided in the Contribution Agreement dated November
12, 2012 (the “Contribution Agreement”) by and among FlexEnergy, Inc. (“FlexEnergy”), FlexEnergy Energy
Systems, Inc. (“FEES”), and Ener-Core Power, Inc., Ener-Core Power, Inc. was spun-off from FlexEnergy as a separate
corporation. As a part of that transaction, Ener-Core Power, Inc. received all assets (including intellectual property)
and certain liabilities pertaining to the Power Oxidizer business carved out of FlexEnergy. The owners of FlexEnergy
did not distribute ownership of Ener-Core Power, Inc. pro rata. The assets and liabilities were transferred to us and
recorded at their historical carrying amounts since the transaction was a transfer of net assets between entities under common
control.
On July 1, 2013, Ener-Core Power, Inc. completed the
Merger with us. Upon completion of the Merger, we immediately became a public company. The Merger was accounted
for as a “reverse merger” and recapitalization. As part of the Merger, 2,410,400 shares of outstanding common stock
of the pre-merger public shell company were cancelled. This cancellation has been retroactively accounted for as of the
inception of Ener-Core Power, Inc. on November 12, 2012. Accordingly, Ener-Core Power, Inc. was deemed to be the accounting acquirer
in the transaction and, consequently, the transaction was treated as a recapitalization of Ener-Core Power, Inc. Accordingly,
the assets and liabilities and the historical operations that are reflected in the financial statements are those of Ener-Core
Power, Inc. and are recorded at the historical cost basis of Ener-Core Power, Inc. Our assets, liabilities and results
of operations were de minimis at the time of the Merger.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Reverse Stock Split
The board of directors of the Company approved a reverse
stock split of the Company’s authorized, issued and outstanding shares of common stock, par value $0.0001 per share, as
well as the Company’s authorized shares of preferred stock, par value $0.0001 per share, of which no shares are issued and
outstanding (together, the “Stock”), at a ratio of 1-for-50 (the “Reverse Stock Split”). The Reverse Stock
Split became effective on July 8, 2015 (the “Effective Date”). As a result of the Reverse Stock Split, the authorized
preferred stock decreased to 1,000,000 shares and the authorized common stock decreased to 4,000,000 shares. Both the preferred
stock and common stock par value remained at $0.0001 per share. The number of authorized shares subsequently increased to 200,000,000
authorized shares of common stock and 50,000,000 authorized shares of preferred stock on September 3, 2015 with the Company’s
reincorporation in Delaware, as described above.
On the Effective Date, the total number of shares
of common stock held by each stockholder of the Company were converted automatically into the number of shares of common stock
equal to: (i) the number of issued and outstanding shares of common stock held by each such stockholder immediately prior to the
Reverse Stock Split divided by (ii) 50. The Company issued one whole share of the post-Reverse Stock Split common stock to any
stockholder who otherwise would have received a fractional share as a result of the Reverse Stock Split, determined at the beneficial
owner level by share certificate. As a result, no fractional shares were issued in connection with the Reverse Stock Split and
no cash or other consideration will be paid in connection with any fractional shares that would otherwise have resulted from the
Reverse Stock Split. The Reverse Stock Split also affected all outstanding options and warrants by dividing each option or warrant
outstanding by 50, rounded up to the nearest option or warrant, and multiplying the exercise price by 50 for each option or warrant
outstanding.
Description of the Business
We design, develop, and manufacture products based
on proprietary technologies that aim to expand the operating range of gaseous fuel while improving emissions, which technologies
we refer to collectively as “Power Oxidation” or “Power Oxidizer”. Our products aim to expand power generation
into previously uneconomical markets while, at the same time, reduce gaseous emissions from industrial processes that contribute
to air pollution and climate change. The Power Oxidizer integrates with a gas turbine and generator to create a Powerstation.
Our products, the EC250 and the Ener-Core Powerstation
KG2-3G/GO (“KG2”), are complete systems consisting of our designed and patented Power Oxidizer, integrated with a
gas turbine and generator. Our Power Oxidizers have been designed to operate on fuels from 100% combustible gas down to concentrations
of 5% or less combustible gas content. Our Powerstation products have applications in landfills, distilleries, wastewater treatment
plants, as well as numerous industrial processes, and offers our customers two distinct value propositions: the destruction of
low quality waste gases with no harmful emissions and the generation of energy from a renewable and low-cost fuel source.
We have deployed the EC250 product commercially in
landfill applications are currently developing our second commercial product, the KG2 Powerstation, or KG2, which will combine
our Power Oxidizer with a two megawatt gas turbine developed by Dresser-Rand a.s., a subsidiary of Dresser-Rand Group Inc. (“Dresser-Rand”).
In 2015, we completed system layout and analytic models integrating our Power Oxidizer with the turbine and, to date in 2016,
we have constructed a fully operational KG2 unit to be used in final technical tests expected to be completed in the fourth quarter
of 2016, after which time we expect that the initial KG2 unit will be sold. We received an order for the first two commercial
KG2 units, which we delivered in October 2016. On June 29, 2016, we entered into a Commercial License and Manufacturing Agreement
with Dresser-Rand (the “CMLA”), which will become effective upon the successful completion of the technical test and
which will transition the KG2 manufacturing to Dresser-Rand. Once effective, each KG2 unit sold will generate for us a non-refundable
license fee. Until the test is successfully completed, our existing CLA (as defined below) remains in effect.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
We sell our EC250 product directly and through distributors
in two countries, the United States and Netherlands, and sell the KG2 product directly and through Dresser-Rand’s commercial
sales team.
Going Concern
Our consolidated financial statements are prepared
using the accrual method of accounting in accordance with accounting principles generally accepted in the United States of America
(“GAAP”) and have been prepared on a going concern basis, which contemplates the realization of assets and settlement
of liabilities in the normal course of business. Since our inception, we have made a substantial investment in research and development
to develop the Power Oxidizer, have successfully deployed an EC250 field test unit at the U.S. Army base at Fort Benning, Georgia,
and installed and commissioned our first commercial unit in the Netherlands in the second quarter of 2014. In November 2014, we
signed a Commercial License Agreement with Dresser-Rand (as amended, the “CLA”) to incorporate our Power Oxidizer
into Dresser-Rand’s 1.75MW turbine. In August 2015, the CLA became a mutually binding agreement due to the satisfaction
of certain binding conditions contained in the CLA. On June 29, 2016 we signed the CMLA. The CMLA becomes binding and will supersede
the CLA after the satisfaction of the final technical milestone under the CLA, which we expect to occur in the fourth quarter
of 2016.
We have sustained recurring net losses and negative
cash flows since inception and have not yet established an ongoing source of revenues sufficient to cover our operating costs
and allow us to continue as a going concern. Despite capital raises of $2.5 million in December 2015, $3.0 million in April
2016, and $1.25 million in September 2016, we expect to require additional sources of capital to support the Company’s growth
initiatives. We must secure additional funding to continue as a going concern and execute our business plan.
Management’s plan is to obtain capital sufficient
to meet our operating expenses by seeking additional equity and/or debt financing. The cash and cash equivalents balance (excluding
restricted cash) on September 30, 2016 and December 31, 2015 was approximately $0.6 million and $2.6 million, respectively. In
April 2016, management began taking steps to reduce our operational cash burn through a combination of staff reductions and reductions
of outside service providers. We expect to implement additional cost savings through reduced overhead costs later in 2016 as well
as reduced non-recurring costs and capital expenditures related to our efforts to develop the 2MW KG2 Powerstation. We expect
that the $0.6 million of cash and cash equivalents as of September 30, 2016 and receipts on customer billings will continue to
fund our working capital needs, general corporate purposes, and related obligations into the fourth quarter of 2016 at our reduced
spending levels. However, we expect to require significantly more cash for working capital and as financial security to support
our growth initiatives beginning in the fourth quarter of 2016 and beyond.
We will pursue raising additional equity and/or debt
financing to fund our operations and product development. If future funds are raised through issuance of stock or debt,
these securities could have rights, privileges, or preferences senior to those of our common stock and debt covenants that could
impose restrictions on our operations. Any equity or convertible debt financing will likely result in additional dilution to our
current stockholders. We cannot make any assurances that any additional financing, including the proposed registered
offering, will be completed on a timely basis, on acceptable terms or at all. Our inability to successfully raise
capital in a timely manner will adversely impact our ability to continue as a going concern. If our business fails or we are unable
to raise capital on a timely basis, our investors may face a complete loss of their investment.
The accompanying consolidated financial statements
do not give effect to any adjustments that might be necessary if we were unable to meet our obligations or continue operations
as a going concern.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Note 2—Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements
include our accounts and our wholly-owned subsidiary, Ener-Core Power, Inc. All significant intercompany transactions
and accounts have been eliminated in consolidation. All monetary amounts are rounded to the nearest $000, except certain per share
amounts.
The accompanying financial statements have been prepared in accordance
with GAAP.
Reclassifications
Certain amounts in the 2015 consolidated condensed
financial statements have been reclassified to conform to the current year presentation. These reclassifications have no effect
on previously reported net loss.
Segments
We operate in one segment. All of our operations are
located domestically.
Use of Estimates
The preparation of financial statements in conformity
with 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 expenses during
the reporting period. Significant items subject to such estimates and assumptions include but are not limited to: collectability
of receivables; the valuation of certain assets, useful lives, and carrying amounts of property and equipment, equity instruments
and share-based compensation; provision for contract losses; valuation allowances for deferred income tax assets; valuation of
derivative liabilities; and exposure to warranty and other contingent liabilities. We base our estimates on historical experience
and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis
for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual
results may differ from these estimates.
Foreign Currency Adjustments
Our functional currency for all operations worldwide
is the U.S. dollar. Nonmonetary assets and liabilities are translated at historical rates and monetary assets and liabilities
are translated at exchange rates in effect at the end of the year. Income statement accounts are translated at average rates for
the year. At September 30, 2016 and December 31, 2015, we did not hold any foreign currency asset or liability amounts. Gains
and losses resulting from foreign currency transactions are reported as other income in the period they occurred.
Concentrations of Credit Risk
Cash and Cash Equivalents
We maintain our non-interest bearing transactional
cash accounts at financial institutions for which the Federal Deposit Insurance Corporation (“FDIC”) provides insurance
coverage of up to $250,000. For interest bearing cash accounts, from time to time, balances exceed the amount insured by the FDIC.
We have not experienced any losses in such accounts and believe we are not exposed to any significant credit risk related to these
deposits. At September 30, 2016, we had $200,000 in deficit of the FDIC limit.
We consider all highly liquid investments available
for current use with an initial maturity of three months or less and are not restricted to be cash equivalents. We invest our
cash in short-term money market accounts.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Restricted Cash
Collateral Account
Under a credit card processing agreement with a financial
institution that was entered in 2013, we are required to maintain funds on deposit with the financial institution as collateral.
The amount of the deposit, which is at the discretion of the financial institution, was $50,000 on September 30, 2016 and December
31, 2015.
Dresser-Rand Escrow Account
Under the CLA, prepaid license fee payments of $400,000
per quarter were paid by Dresser-Rand into an escrow account with a financial institution beginning in August 2015. Dresser-Rand
withdrew up to $125,000 per quarter from this escrow account for qualified engineering expenses incurred by Dresser-Rand under
the terms and conditions of the CLA. Through September 26, 2016, Dresser-Rand funded $1,600,000 and withdrew $500,000. On September
26, 2016 substantially all of the remaining $1,100,000 was released to the Company from the escrow account and, in October 2016,
the escrow account was closed. The balance in the escrow account was $5,000 and $150,000 on September 30, 2016 and December 31,
2015, respectively. See also Note 7—Deferred Revenues and Customer Advances.
Accounts Receivable
Our accounts receivable are typically from credit
worthy customers or, for international customers are supported by guarantees or letters of credit. For those customers to whom
we extend credit, we perform periodic evaluations of them and maintain allowances for potential credit losses as deemed necessary.
We generally do not require collateral to secure accounts receivable. We have a policy of reserving for uncollectible accounts
based on our best estimate of the amount of probable credit losses in existing accounts receivable. We periodically review our
accounts receivable to determine whether an allowance is necessary based on an analysis of past due accounts and other factors
that may indicate that the realization of an account may be in doubt. Account balances deemed to be uncollectible are charged
to the allowance after all means of collection have been exhausted and the potential for recovery is considered remote. As of
September 30, 2016, one customer accounted for all of our accounts receivable.
Accounts Payable
As of September 30, 2016 and December 31, 2015, three
and five vendors, respectively, collectively accounted for approximately 45% and 50% of our total accounts payable.
Inventory
Inventory, which consists of raw materials inventory
consisting of Power Oxidizer parts and sub-assemblies of parts recorded as work-in-progress inventory, is stated at the lower
of cost or net realizable value, with cost being determined by the average-cost method, which approximates the first-in, first-out
method. At each balance sheet date, we evaluate our ending inventory for excess quantities and obsolescence. This evaluation primarily
includes an analysis of forecasted demand in relation to the inventory on hand, among consideration of other factors. Based upon
the evaluation, provisions are made to reduce excess or obsolete inventories to their estimated net realizable values. Once established,
write-downs are considered permanent adjustments to the cost basis of the respective inventories. At September 30, 2016 and December
31, 2015, we did not have a reserve for slow-moving or obsolete inventory.
Property and Equipment
Property and equipment are stated at cost, and are
being depreciated using the straight-line method over the estimated useful lives of the related assets, ranging from three to
ten years. Maintenance and repairs that do not improve or extend the lives of the respective assets are expensed. At the time
property and equipment are retired or otherwise disposed of, the cost and related accumulated depreciation accounts are relieved
of the applicable amounts. Gains or losses from retirements or sales are reflected in the consolidated statements of operations.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Deposits
Deposits primarily consist of amounts incurred or
paid in advance of the receipt of fixed assets or are deposits for rent and insurance.
Accrued Warranties
Accrued warranties represent the estimated costs that
will be incurred during the warranty period of our products. We make an estimate of expected costs that will be incurred by us
during the warranty period and charge that expense to the consolidated statement of operations at the date of sale. We also reevaluate
the estimate at each balance sheet date and if the estimate is changed, the effect is reflected in the consolidated statement
of operations. We had no warranty accrual at December 31, 2015 or September 30, 2016. We expect that most terms for future warranties
of our Powerstations and Oxidizers will be one to two years depending on the warranties provided and the products sold. Accrued
warranties for expected expenditures within one year are classified as current liabilities and as non-current liabilities for
expected expenditures for time periods beyond one year.
Deferred Rent
We record deferred rent expense, included in accrued
expenses, which represents the temporary differences between the reporting of rental expense on the financial statements and the
actual amounts remitted to the landlord. The deferred rent portion of lease agreements are leasing inducements provided by the
landlord. Also, tenant improvement allowances provided are recorded as a deferred rent liability and recognized ratably as a reduction
to rent expense over the lease term. As of September 30, 2016 we had $4,000 of deferred rent, recorded in accrued expenses.
Intangible Assets
Our intangible assets represent intellectual property
acquired during the reverse merger. We amortize our intangible assets with finite lives over their estimated useful lives.
Impairment of Long-Lived Assets
We account for our long-lived assets in accordance
with the accounting standards which require that long-lived assets be reviewed for impairment whenever events or changes in circumstances
indicate that the historical carrying value of an asset may no longer be appropriate. We consider the carrying value of assets
may not be recoverable based upon its review of the following events or changes in circumstances: the asset’s ability to
continue to generate income from operations and positive cash flow in future periods; loss of legal ownership or title to the
assets; significant changes in our strategic business objectives and utilization of the asset; or significant negative industry
or economic trends. An impairment loss would be recognized when estimated future cash flows expected to result from the use of
the asset are less than its carrying amount. As of September 30, 2016 and December 31, 2015, we do not believe there have been
any impairments of our long-lived assets. There can be no assurance, however, that market conditions will not change or demand
for our products will continue, which could result in impairment of long-lived assets in the future.
Fair Value of Financial Instruments
Our financial instruments consist primarily of cash
and cash equivalents, restricted cash, accounts receivable, accounts payable, convertible notes, derivative liabilities, and capital
lease liabilities. Fair value estimates discussed herein are based upon certain market assumptions and pertinent information available
to management as of September 30, 2016 and December 31, 2015. The carrying amounts of short-term financial instruments are reasonable
estimates of their fair values due to their short-term nature or proximity to market rates for similar items.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
We determine the fair value of our financial instruments
based on a three-level hierarchy established for fair value measurements under which these assets and liabilities must be grouped,
based on significant levels of observable or unobservable inputs. Observable inputs reflect market data obtained from independent
sources, while unobservable inputs reflect management’s market assumptions. This hierarchy requires the use of observable
market data when available. These two types of inputs have created the following fair-value hierarchy:
|
●
|
Level
1: Valuations based on unadjusted quoted prices in active markets that are accessible at the measurement date for identical,
unrestricted assets or liabilities. Currently, we classify our cash and cash equivalents as Level 1 financial instruments.
|
|
|
|
|
●
|
Level
2: Valuations based on observable inputs (other than Level 1 prices), such as quoted prices for similar assets at the measurement
date quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially
the full term of the asset or liability. We do not currently have any accounts under Level 2.
|
|
|
|
|
●
|
Level
3: Valuations based on inputs that require inputs that are both significant to the fair value measurement and unobservable
and involve management judgment (i.e., supported by little or no market activity). Currently, we classify our warrants and
conversion options accounted for as derivative liabilities as Level 3 financial instruments.
|
If the inputs used to measure fair value fall in different
levels of the fair value hierarchy, a financial security’s hierarchy level is based upon the lowest level of input that
is significant to the fair value measurement.
Derivative Financial Instruments
We issue derivative financial instruments in conjunction
with its debt and equity offerings and to provide additional incentive to investors and placement agents. The Company uses derivative
financial instruments in order to obtain the lowest cash cost-source of funds. Derivative liabilities are recognized in the consolidated
balance sheets at fair value based on the criteria specified in Financial Accounting Standards Board (“FASB”) Accounting
Standards Codification (“ASC”) topic 815-40 “
Derivatives and Hedging—Contracts in Entity’s own
Equity
.” The estimated fair value of the derivative liabilities is calculated using either the Black-Scholes-Merton
or Monte Carlo simulation model method.
The Company issued detachable common stock warrants
and secured debt with a conversion feature in April and May 2015 and again in September 2016. We amended our existing debt to
add a conversion feature in December 2015. The Company issued additional common stock warrants with price reset provisions in
December 2015, February 2016, and March 2016. These embedded derivatives and detachable warrants were evaluated under ASC topic
815-40. We determined that the warrants and embedded conversion feature for the April 2014 issuance, the conversion feature for
the 2015 issuances, the conversion feature for the 2016 issuance, and the warrants issued with price reset provisions should be
accounted for as derivative liabilities. In August, 2016 all warrants issued that were previously determined to be accounted for
as derivative liabilities were amended and we determined that after giving rise to the amendments, that the warrants were no longer
required to be accounted for as derivative liabilities. We determined that the detachable warrants associated with the 2015 issuance
on the issuance date and the detachable warrants associated with the 2016 issuance on the issuance date should not be accounted
for as derivative liabilities. Warrants and the debt conversion features determined to be derivative liabilities were bifurcated
from the debt host and are classified as liabilities on the consolidated balance sheet. Warrants not determined to be derivative
liabilities were recorded to debt discount and paid-in capital. The Company records the warrants and embedded derivative liabilities
at fair value and adjusts the carrying value of the common stock warrants and embedded derivatives to their estimated fair value
at each reporting date with the increases or decreases in the fair value of such warrants and derivatives at each reporting date,
recorded as a gain or (loss) in the consolidated statements of operations. The 2015 detachable warrants determined not to be derivative
liabilities were recorded to debt discount with a corresponding entry to paid-in capital. The warrants amended in 2016 where the
accounting was changed to eliminate derivative liability treatment were marked to market immediately prior to the amendment and
the fair value was reclassified on the amendment date from derivative liabilities to paid in capital.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Revenue Recognition
We generate revenue from the sale of our clean power
energy systems and from consulting services. Revenue is recognized when there is persuasive evidence of an arrangement, product
delivery and acceptance have occurred, the sales price is fixed or determinable and collectability of the resulting receivable
is reasonable assured. Amounts billed to clients for shipping and handling are classified as sales of product with related costs
incurred included in cost of sales.
Provisions for discounts and rebates to customers,
estimated returns and allowances, and other adjustments are provided for in the same period the related revenue is recorded. We
defer any revenue for which the services have not been performed or are subject to refund until such time that we and our customer
jointly determine that the services have been performed or no refund will be required.
Revenues under long-term construction contracts are
generally recognized using the completed-contract method of accounting. Long-term construction-type contracts for which reasonably
dependable estimates cannot be made or for which inherent hazards make estimates difficult are accounted for under the completed-contract
method. Revenues under the completed-contract method are recognized upon substantial completion—that is acceptance by the
customer, compliance with performance specifications demonstrated in a factory acceptance test or similar event. Accordingly,
during the period of contract performance, billings and costs are accumulated on the balance sheet, but no profit or income is
recorded before completion or substantial completion of the work. Anticipated losses on contracts are recognized in full in the
period in which losses become probable and estimable. Changes in estimate of profit or loss on contracts are included in earnings
on a cumulative basis in the period the estimate is changed. As of September 30, 2016 and December 31, 2015, we had a $600,000
provision for contract losses for both periods presented.
Research and Development Costs
Research and development costs are expensed as incurred. Research
and development costs were $1,170,000 and $928,000 for the three months ended September 30, 2016 and 2015, respectively, and were
$2,871,000 and $2,636,000 for the nine months ended September 30, 2016 and 2015, respectively.
Share-Based Compensation
We maintain an equity incentive plan and record expenses
attributable to the awards granted under the equity incentive plan. We amortize share-based compensation from the date of grant
on a weighted average basis over the requisite service (vesting) period for the entire award.
We account for equity instruments issued to consultants
and vendors in exchange for goods and services at fair value. The measurement date for the fair value of the equity instruments
issued is determined at the earlier of (i) the date at which a commitment for performance by the consultant or vendor is reached
or (ii) the date at which the consultant’s or vendor’s performance is complete. In the case of equity instruments
issued to consultants, the fair value of the equity instrument is recognized over the term of the consulting agreement.
In accordance with the accounting standards, an asset
acquired in exchange for the issuance of fully vested, non-forfeitable equity instruments should not be presented or classified
as an offset to equity on the grantor’s balance sheet once the equity instrument is granted for accounting purposes. Accordingly,
we record the fair value of the fully vested, non-forfeitable common stock issued for future consulting services as prepaid expense
in our consolidated balance sheets.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Income Taxes
We account for income taxes under FASB ASC 740 “Income
Taxes.” Under the asset and liability method of FASB ASC 740, deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial statements 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 years in which those temporary differences are expected to be recovered or settled. Under FASB ASC 740,
the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period the enactment
occurs. A valuation allowance is provided for certain deferred tax assets if it is more likely than not that we will not realize
tax assets through future operations.
Earnings (Loss) per Share
Basic loss per share is computed by dividing net loss
attributable to common stockholders by the weighted average number of common shares assumed to be outstanding during the period
of computation. Diluted loss per share is computed similar to basic loss per share except that the denominator is increased
to include the number of additional common shares that would have been outstanding if the potential shares had been issued and
if the additional common shares were dilutive.
The following approximate share amounts were excluded
from the computation of diluted loss per share due to the anti-dilutive effect on net loss per share:
|
|
September 30,
2016
|
|
|
September 30,
2015
|
|
Shares issuable for exercise of options and
warrants
|
|
|
1,600,000
|
|
|
|
500,000
|
|
Full conversion of convertible
senior secured and unsecured notes
|
|
|
1,500,000
|
|
|
|
—
|
|
Total
|
|
|
3,100,000
|
|
|
|
500,000
|
|
All share and per share amounts in the table below
have been adjusted to reflect the 1-for-50 reverse split of our issued and outstanding common stock on July 8, 2015, retroactively.
|
|
Three
Months Ended
September
30,
|
|
|
Nine
Months Ended
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
Net loss
|
|
$
|
(1,596,000
|
)
|
|
$
|
(3,310,000
|
)
|
|
$
|
(7,628,000
|
)
|
|
$
|
(8,601,000
|
)
|
Weighted average number of common shares outstanding:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
|
3,785,216
|
|
|
|
2,464,100
|
|
|
|
3,591,233
|
|
|
|
2,385,500
|
|
Net loss attributable to common stockholders per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
$
|
(0.42
|
)
|
|
$
|
(1.34
|
)
|
|
$
|
(2.12
|
)
|
|
$
|
(3.61
|
)
|
Comprehensive Income (Loss)
We have no items of other comprehensive income (loss)
in any period presented. Therefore, net loss as presented in our Consolidated Statements of Operations equals comprehensive loss.
Recently Issued Accounting Pronouncements
In May 2014, the FASB issued Accounting Standards
Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”). In April 2016,
the FASB issued Accounting Standards Update (“ASU”) 2016-10, Revenue from Contracts with Customers: Identifying Performance
Obligations and Licensing (“ASU 2016-10”). ASU 2014-09, with additional guidance and clarification from ASU 2016-10,
provides a framework for addressing revenue recognition issues and, upon its effective date, replaces almost all existing revenue
recognition guidance, including industry-specific guidance, in current U.S. generally accepted accounting principles. ASU 2016-10
provides additional guidance specific to licensing and royalty revenue recognition. ASU 2014-09 is effective beginning with the
calendar year ended December 31, 2017. The Company has not yet assessed the impact ASU 2014-09 will have upon adoption on its
financial position, results of operations or cash flows.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
In August 2014, the FASB issued ASU 2014-15, Presentation
of Financial Statements—Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to
Continue as a Going Concern. ASU 2014-15 requires that an entity’s management evaluate whether there are conditions or events,
considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within
one year after the date that the financial statements are issued. Substantial doubt about an entity’s ability to continue
as a going concern exists when relevant conditions and events, considered in the aggregate, indicate that it is probable that
the entity will be unable to meet its obligations as they become due within one year after the date that the financial statements
are issued. Certain disclosures are necessary in the footnotes to the financial statements in the event that conditions or events
raise substantial doubt about an entity’s ability to continue as a going concern. ASU 2014-15 is effective for the annual
period ending after December 15, 2016, and for annual periods and interim periods thereafter and early application is permitted.
The Company has not yet assessed the impact ASU 2014-15 will have upon adoption.
In November 2014, the FASB issued ASU 2014-16—Derivatives
and Hedging: Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share is More Akin
to Debt or to Equity. ASU 2014-16 clarifies how current GAAP should be interpreted in evaluating the economic characteristics
and risks of a host contract in a hybrid financial instrument that is issued in the form of a share. ASU 2014-16 became effective
for the interim and annual periods beginning after December 15, 2015. There was no impact to any prior periods presented as a
result of adopting ASU 2014-16.
In July 2015, the FASB issued ASU 2015-11, Inventory
(Topic 330): Simplifying the Measurement of Inventory. ASU 2015-11 requires that entities measure inventory at the lower of cost
and net realizable value. ASU 2015-11 is effective for fiscal years beginning after December 15, 2016, including interim periods
within those fiscal years and early application is permitted. The Company has not yet assessed the impact ASU 2015-11 will have
upon adoption.
In November 2015, the FASB issued ASU 2015-17, Income
Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes. ASU 2015-17 requires that entities’ deferred tax liabilities
and assets be classified as noncurrent in a classified statement of financial position. ASU 2015-17 is effective for fiscal years
beginning after December 15, 2017 and interim periods within annual periods beginning after December 15, 2018. The Company has
not yet assessed the impact ASU 2015-17 will have upon adoption.
In February 2016, the FASB issued ASU 2016-2, Leases
(Topic 842). ASU 2016-2 affects any entity entering into a lease and changes the accounting for operating leases to require companies
to record an operating lease liability and a corresponding right-of-use lease asset, with limited exceptions. ASU 2016-2 is effective
for fiscal years beginning after December 15, 2018. Early adoption is allowed. We have not yet assessed the impact ASU 2016-2
will have upon adoption.
Note 3—Inventory
Inventory primarily consists of Powerstation parts
used as raw materials for the Company’s EC250 and KG2 orders. Work-in-progress inventory consists of Powerstation parts
and employee and contract labor assembly costs for Powerstation sub-assemblies. Sub-assemblies and parts are typically shipped
to end customer locations and assembled on-site. Completed Powerstations awaiting final installation and commissioning would be
carried as finished goods. There were no finished goods inventory at either September 30, 2016 or December 31, 2015. Inventories
consist of:
|
|
September 30,
2016
(unaudited)
|
|
|
December 31,
2015
|
|
Raw material and spare parts
|
|
$
|
1,003,000
|
|
|
$
|
724,000
|
|
Work-in-progress
|
|
|
1,535,000
|
|
|
|
23,000
|
|
Total
|
|
$
|
2,538,000
|
|
|
$
|
747,000
|
|
The Company had no inventory reserve during 2016 or
2015.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Note 4—Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consisted
of the following:
|
|
September 30,
2016
(unaudited)
|
|
|
December 31,
2015
|
|
Prepaid rent
|
|
$
|
27,000
|
|
|
$
|
27,000
|
|
Prepaid insurance
|
|
|
39,000
|
|
|
|
40,000
|
|
Prepaid other
|
|
|
104,000
|
|
|
|
140,000
|
|
Current portion—deferred
financing fees for LOC
|
|
|
314,000
|
|
|
|
228,000
|
|
Total
|
|
$
|
484,000
|
|
|
$
|
408,000
|
|
Note 5—Property and Equipment, Net
Property and equipment, net consisted of the following:
|
|
September 30,
2016
(unaudited)
|
|
|
December 31,
2015
|
|
Machinery and equipment
|
|
$
|
4,373,000
|
|
|
$
|
4,042,000
|
|
Office furniture and fixtures
|
|
|
217,000
|
|
|
|
217,000
|
|
Computer equipment and software
|
|
|
176,000
|
|
|
|
169,000
|
|
Total cost
|
|
|
4,766,000
|
|
|
|
4,428,000
|
|
Less accumulated depreciation
|
|
|
(1,394,000
|
)
|
|
|
(1,002,000
|
)
|
Net
|
|
$
|
3,372,000
|
|
|
$
|
3,426,000
|
|
Assets recorded under capital leases and included in property and equipment
in our balance sheets consist of the following:
|
|
September 30,
2016
(unaudited)
|
|
|
December 31,
2015
|
|
Machinery and equipment
|
|
$
|
27,000
|
|
|
$
|
27,000
|
|
Computer equipment and software
|
|
|
60,000
|
|
|
|
46,000
|
|
Total assets under capital lease
|
|
|
87,000
|
|
|
|
73,000
|
|
Less accumulated amortization
|
|
|
(65,000
|
)
|
|
|
(46,000
|
)
|
Net assets under capital lease
|
|
$
|
22,000
|
|
|
$
|
27,000
|
|
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Depreciation expense for the three and nine months
ended September 30, 2016 and 2015 consisted of the following:
|
|
Three
Months Ended
September
30,
|
|
|
Nine
Months Ended
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
Research and development
|
|
$
|
102,000
|
|
|
$
|
90,000
|
|
|
$
|
304,000
|
|
|
$
|
189,000
|
|
General and administrative
|
|
|
29,000
|
|
|
|
29,000
|
|
|
|
88,000
|
|
|
|
87,000
|
|
|
|
$
|
131,000
|
|
|
$
|
119,000
|
|
|
$
|
392,000
|
|
|
$
|
276,000
|
|
Depreciation of assets under capital lease was $6,000
and $6,000 for the three months ended September 30, 2016 and 2015, respectively, and $18,000 and $13,000 for the nine months ended
September 30, 2016 and 2015, respectively.
Note 6—Accrued Expenses
Accrued expenses consisted of the following:
|
|
September 30,
2016
(unaudited)
|
|
|
December 31,
2015
|
|
|
|
|
|
|
|
|
Accrued professional fees
|
|
$
|
156,000
|
|
|
$
|
205,000
|
|
Accrued vacation and paid time off
|
|
|
353,000
|
|
|
|
333,000
|
|
Accrued expense reports
|
|
|
5,000
|
|
|
|
46,000
|
|
Accrued board of directors fees
|
|
|
120,000
|
|
|
|
13,000
|
|
Accrued interest
|
|
|
63,000
|
|
|
|
50,000
|
|
Accrued other
|
|
|
13,000
|
|
|
|
10,000
|
|
Total accrued expenses
|
|
$
|
710,000
|
|
|
$
|
657,000
|
|
Note 7—Deferred Revenues and Customer Advances
Deferred revenues and customer advances consist of
balances billed on existing customer contracts for which the revenue cycle is not complete. Customer advances on equipment sales
represent down payments and progress payments under the terms and conditions of equipment sales of our Power Oxidizer and Powerstation
units. Prepaid license fees represent payments of license fees by Dresser-Rand into an escrow account. Deferred revenues and customer
advances consisted of the following:
|
|
September 30,
2016
(unaudited)
|
|
|
December 31,
2015
|
|
|
|
|
|
|
|
|
Customer advances on equipment sales
|
|
$
|
2,696,000
|
|
|
$
|
2,572,000
|
|
Prepaid license fees
|
|
|
1,100,000
|
|
|
|
275,000
|
|
Total deferred revenues and customer
advances
|
|
$
|
3,796,000
|
|
|
$
|
2,847,000
|
|
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Note 8—Convertible 2015 Notes Payable
Convertible 2015 Notes payable consisted of the following as of September
30, 2016 (unaudited):
|
|
Notes
|
|
|
Debt
Discount
|
|
|
Offering
Costs
|
|
|
Net
Total
|
|
Ending balance—December 31, 2015
|
|
$
|
5,000,000
|
|
|
$
|
(791,000
|
)
|
|
$
|
(99,000
|
)
|
|
$
|
4,110,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of debt discount and
deferred financing costs
|
|
|
—
|
|
|
|
2,186,000
|
|
|
|
74,000
|
|
|
|
2,260,000
|
|
Additional debt discount—March
warrants
|
|
|
—
|
|
|
|
(1,497,000
|
)
|
|
|
—
|
|
|
|
(1,497,000
|
)
|
Additional debt discount—February
warrants
|
|
|
—
|
|
|
|
(148,000
|
)
|
|
|
—
|
|
|
|
(148,000
|
)
|
Additional debt discount—warrant
modification
|
|
|
—
|
|
|
|
(206,000
|
)
|
|
|
—
|
|
|
|
(206,000
|
)
|
Ending balance—September 30, 2016
|
|
|
5,000,000
|
|
|
|
(456,000
|
)
|
|
|
(25,000
|
)
|
|
|
4,519,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less: Current Portion
|
|
$
|
(5,000,000
|
)
|
|
$
|
456,000
|
|
|
$
|
25,000
|
|
|
$
|
(4,519,000
|
)
|
Long Term Portion
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
2015 Notes
During the year ended December 31, 2015, the Company
sold senior secured promissory notes with an aggregate principal amount of $5.0 million (the “2015 Notes”) in two
separate tranches. The two tranches of the 2015 Notes were identical, other than the issuance date and the term of the respective
Note tranches and the term of the related detachable warrants, described in greater detail below. On April 23, 2015, the Company
closed the first tranche representing $3.1 million in aggregate principal amount of 2015 Notes issued in a private placement to
seven institutional investors and on May 7, 2015 the Company closed the second tranche, representing $1.9 million in aggregate
principal amount of 2015 Notes to four institutional investors. The Company received total gross proceeds of $5.0 million, less
transaction expenses of $0.3 million consisting of legal costs and placement agent fees.
The 2015 Notes bear interest at a rate of 12% per
year, payable monthly, and are set to mature on the two-year anniversary of the issuance dates of the 2015 Notes on April 23,
2017 and May 7, 2017 for the first and second tranches, respectively. Upon issuance of the 2015 Notes, each investor, at its discretion,
was entitled to convert up to 50% of the balance outstanding under the 2015 Notes. Upon the execution of the December Amendments
(as defined below), however, each investor became entitled to fully convert 100% of the balance outstanding under the 2015 Notes
may be into shares of the Company’s common stock. The 2015 Notes may be repaid by the Company at any time unless the 2015
Notes are in default.
The 2015 Notes are secured by substantially all assets
of the Company and provide for specified events of default, including: (i) failure to pay principal and interest when due, and
(ii) failure to effectuate a reverse stock split on or prior to the three-month anniversary of the first tranche of 2015 Notes,
which the Company effectuated in July 2015. The 2015 Notes previously required the Company to consummate a Qualified Public Offering
on or prior to the six-month anniversary of the first tranche of 2015 Notes. This default condition, however, was amended as described
in greater detail below. Any event of default may be waived by the holders of at least a majority of the aggregate principal amount
of 2015 Notes, which must include a specified holder under specified circumstances. Upon the occurrence of an event of default,
the interest rate immediately increases to 18% per annum and the 2015 Notes become convertible at a price per share equal to 85%
of the average of the five lowest volume weighted average prices of the Company’s common stock during a 15 consecutive trading
day period immediately prior to the applicable conversion date.
Each holder may require us to redeem the 2015 Notes
at a price equal to 115% of the sum of portion of the principal to be redeemed plus accrued and unpaid interest thereon and any
accrued and unpaid late charges, if any, with respect to such principal and interest (the “Conversion Amount”) being
redeemed (a) upon our default under the Sen2015 ior Notes, or (b) if we enter into a merger or consolidation, or sell or assign
all or substantially all of our assets. In addition, at any time from and after the date that is the eighteen-month anniversary
of the original issuance date of the 2015 Notes, each holder has the right, in its sole and absolute discretion, at any time or
times, to require that we redeem all or any portion of the Conversion Amount of its 2015 Note then outstanding at a price equal
to 100% of the Conversion Amount of the portion of the 2015 Note being redeemed.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
At any time after the issuance of the 2015 Notes,
other than (i) at any time during which an event of default has occurred and is continuing or (ii) from the time we publicly announce
a Qualified Public Offering through and including the date that is thirty days immediately following the consummation of such
Qualified Public Offering, we have the right to redeem all or any portion of the Conversion Amount then remaining under the 2015
Notes, (a “Company Optional Redemption”); provided, that the aggregate Conversion Amount under 2015 Notes being redeemed
must be at least $500,000, or such lesser amount that is then outstanding under the 2015 Notes. The conversion price for such
Company Optional Redemption would be a price equal to 100% of the Conversion Amount of the 2015 Notes being redeemed.
The 2015 Notes were originally issued with detachable
warrants to purchase 219,785 shares of the Company’s common stock, exercisable for five years with an exercise price of
$12.50 per share (the “April and May Warrants”). In August 2016, the Company adjusted the exercise price of such April
and May Warrants to $4.00 per share. The Company evaluated the accounting of the April and May Warrants and determined that such
warrants should not be accounted for as derivative liabilities.
Between May 2015 and September 2016, the Company and
certain investors holding the requisite number of conversion shares and warrant shares underlying the 2015 Notes and April and
May Warrants executed several amendments to the Securities Purchase Agreements dated April 22, 2015 and May 7, 2015, respectively,
related to the extension or modification of the debt covenants.
Effective as of December 30, 2015, the Company executed
a Fourth Amendment to Securities Purchase Agreement dated April 22, 2015, and a Third Amendment to Securities Purchase Agreement
dated May 7, 2015 (collectively, the “December Amendments”), each with certain investors holding the requisite number
of conversion shares and warrant shares underlying the 2015 Notes and April and May Warrants pursuant to the referenced Securities
Purchase Agreements. The December Amendments (i) extended the deadline to March 31, 2016 for the Company’s consummation
of a firm commitment underwritten public offering registered under the Securities Act and related listing of its Common Stock
on a national securities exchange, (ii) provided for the issuance of additional five-year warrants (the “Additional Warrants”),
exercisable for ten shares of Common Stock per $1,000 of outstanding principal of the 2015 Notes held by each buyer pursuant to
the April 2015 and May 2015 Securities Purchase Agreements, each with an exercise price of $12.50 per share, subject to adjustment
as set forth within the Additional Warrants, issuable in tranches triggered by certain Company actions as set forth in the December
Amendments and (iii) authorized the Company, prior to January 31, 2016, to issue to one or more investors up to an aggregate of
$1,000,000 principal amount of senior secured notes, on the terms and subject to the restrictions set forth in the December Amendments.
An initial tranche of Additional Warrants to purchase up to 50,000 shares of the Company’s common stock were issued in conjunction
with the execution of the December Amendments (the “December Warrants”).
The December Amendments also amended the terms of
the 2015 Notes to allow for 100% of the balance outstanding under the 2015 Notes to be converted into shares of the Company’s
common stock. The modification for the additional conversion feature was accounted for as a debt extinguishment. The Company accelerated
the original debt discount to “other expense—debt extinguishment” and recorded additional debt discounts consisting
of $609,000 for the fair value of the beneficial conversion feature and $182,000 for the fair value of the December Warrants issued.
On February 2, 2016, due to the Company’s failure to conclude its public offering, the Company issued Additional Warrants
to purchase an aggregate of up to 50,000 shares of the Company’s common stock on the same terms as the December Warrants
(the “February Warrants”).
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
On March 31, 2016, the Company executed amendments
to the 2015 Notes and related Securities Purchase Agreements (collectively, the “March Amendments”), each with certain
investors holding the requisite number of conversion shares and warrant shares underlying the 2015 Notes and April and May Warrants
pursuant to the referenced Securities Purchase Agreements. The March Amendments (i) removed the requirement that the Company consummate
a “Qualified Public Offering”; (ii) extended the deadline for the Company to commence trading on a Qualified Eligible
Market (as defined in the March Amendments) to no later than April 14, 2016; provided that if the Company consummated a private
offering of its securities resulting in gross proceeds to the Company of at least $3,000,000 after March 31, 2016 and prior to
or on April 14, 2016 (a “Qualified Private Offering”), such deadline would be automatically extended to October 15,
2016; (iii) provided for the issuance of warrants to purchase up to 500,000 shares of the Company’s common stock, each with
an exercise price of $5.00 per share, subject to adjustment as set forth within the warrants (the “March Warrants”);
and (iv) added an additional covenant on behalf of the Company that, on or prior to April 14, 2016, it would cause its net monthly
cash flow directly associated with the CLA, taken together with its monthly capital expenditure spending associated with the CLA,
and excluding expenditures associated with the FSAT requirements defined in the CLA, to be neutral or positive, to be accomplished
by re-negotiation or termination of such CLA. On April 11, 2016, we consummated a $3 million private offering and thereby
satisfied condition (ii) above. On March 31, 2016 we issued the March Warrants, as described in Note 12, and we remained in compliance
with the net monthly cash flow covenant listed in (iv) above during all relevant times. On June 29, 2016, we signed the CMLA,
which will replace the CLA upon the successful completion of the technical tests associated with the KG2. Additionally, upon execution
of the September Amendments (as defined below), the monthly cash flow covenant listed in (iv) above was removed. In connection
with the issuance of the March Warrants, the exercise price of the December Warrants and February Warrants was reduced to $5.00
per share.
The Company evaluated the February Warrants and the
March Warrants and determined that both issuances should be accounted for as derivative liabilities on the date of issuance. The
Company recorded an additional $148,000 of debt discount upon the issuance of the February Warrants and $1,497,000 of debt discount
upon the issuance of the March Warrants. The December 31, 2015 debt discount and the additional discounts recorded
in February 2016 and March 2016 are amortized over the expected remaining life of the debt.
On August 24, 2016, the April and May Warrants, December
Warrants, February Warrants, and March Warrants were all amended to (i) reduce the exercise price of such warrants to $4.00 per
share and (ii) remove the net cash settlement option which had given rise to derivative accounting. The warrants accounted for
as derivative liabilities were marked to market at the $5.00 exercise price immediately prior to the amendment with any change
in value recorded to income. The warrants with price adjustment from $12.50 per share to $4.00 per share were not previously accounted
for as derivative liabilities. The foregoing warrants were then revalued with an amended exercise price of $4.00 and the difference
in fair value resulting from an exercise price reduction of $12.50 per share to $4.00 per share, in the case of the April and
May Warrants, and from $5.00 per share to $4.00 per share, in the case of the December Warrants, February Warrants and March Warrants,
was recorded as an additional debt discount of $206,000, which will be amortized over the expected remaining life of the 2015
Notes.
Effective as of September 1, 2016, the Company executed
amendments to the 2015 Notes and related Securities Purchase Agreements (collectively, the “September Amendments”),
which are binding upon all of the 2015 Notes. The September Amendments (i) extend the deadline for the Company to commence trading
on a Qualified Eligible Market (as defined in the September Amendments) to no later than December 31, 2016; (ii) provide that
the Company may, on or prior to September 1, 2016, issue to one or more investors up to an aggregate of $1,500,000 principal amount
of one-year term unsecured notes, as described in Note 9 below, and related warrants, and approve the forms of agreements to be
executed in connection with the issuance of such unsecured notes and warrants; (iii) remove the covenant on behalf of the Company
related to net monthly cash flow directly associated with the CLA, as described above; (iv) extend the earliest date on which
the holders of the 2015 Notes may require the Company to redeem all or any portion of such 2015 Notes until December 31, 2016;
and (v) extend the deadline for the Company to consummate a Further Private Offering (as defined in the 2015 Notes) to December
31, 2016. Effective as of October 21, 2016, the Company executed amendments to the 2015 Notes to clarify and conform the terms
of such 2015 Notes to the terms of previous amendments to such 2015 Notes and the related Securities Purchase Agreements.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Derivative Liabilities
We evaluate any freestanding financial instruments
or embedded features that have the characteristics of a derivative, and to any freestanding financial instruments that are potentially
settled in an entity’s own common stock to determine if they are indexed to an entity’s own stock. During the fiscal
year ended December 31, 2015, we determined that the issuance of the 2015 Notes contained an embedded note conversion feature
that is required to be accounted for as a derivative. In December 2015, we modified the conversion feature which gave rise to
additional derivative liabilities and issued to the debt holders the December Warrants that included a price reset provision and
net cash settlement option. The inclusion of the price reset provision and contingent net cash settlement provision required us
to treat the December Warrants as derivative liabilities and increase the debt discount for the initial value of the derivative
liability. Also, in December 2015, we issued warrants to purchase an aggregate of up to 312,500 shares of the Company’s
common stock to the investors in the December 2015 equity offering (the “December Offering Warrants”). The December
Offering Warrants include limited price reset and net cash settlement provisions, until the earlier of June 30, 2016 or upon the
registration of the December 2015 equity securities. This price protection clause expired on June 30, 2016. We recorded the fair
value of the December Offering Warrants issued as a derivative liability with a corresponding decrease in additional paid-in capital.
In the first quarter of 2016, we issued the February Warrants and March Warrants to the holders of the 2015 Notes in exchange
for the waiver of certain debt covenants. The February Warrants and March Warrants were in substantially identical form to the
December Offering Warrants and December Warrants. We recorded the fair value of the February Warrants and March Warrants issued
as a derivative liability with a corresponding increase in debt discount. In September 2016 we issued convertible unsecured notes
with an embedded conversion feature that is required to be accounted for as a derivative. In August 2016 we amended the terms
of all warrants accounted for as derivatives to eliminate the potential net settlement and price adjustment provisions which gave
rise to derivative accounting treatment. We marked the warrants to market immediately prior to the amendment and reclassified
the remaining fair value to paid in capital.
The embedded conversion features and common stock
purchase warrants do not trade in an active securities market, and as such, we estimate the fair value of these warrants and embedded
conversion features using the Black-Scholes pricing model using the following assumptions:
|
|
2016
|
|
Annual
dividend yield
|
|
|
—
|
|
Expected life
(years)
|
|
|
0.1–5 years
|
|
Risk-free interest
rate
|
|
|
0.5–0.9
|
%
|
Expected volatility
|
|
|
98–107
|
%
|
Expected volatility is based primarily on historical
volatility of us and our peer group. Historical volatility was computed using weekly pricing observations for us and daily pricing
observations for our peer group for recent periods that correspond to the expected term. We believe this method produces an estimate
that is representative of our expectations of future volatility over the expected term of these warrants.
We currently have no reason to believe future volatility
over the expected remaining life of these warrants is likely to differ materially from historical volatility. The expected life
is based on the remaining term of the warrants. The risk-free interest rate is based on one-year to five-year U.S. Treasury securities
consistent with the remaining term of the warrants.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Derivative liabilities consisted of the following (unaudited):
|
|
Warrants
Liability
|
|
|
Embedded
Note
Conversion
Feature
|
|
|
Total
|
|
Value as of December 31, 2015
|
|
$
|
1,297,000
|
|
|
$
|
1,213,000
|
|
|
$
|
2,510,000
|
|
Adjustment to fair value
|
|
|
(1,223,000
|
)
|
|
|
(1,901,000
|
)
|
|
|
(3,124,000
|
)
|
Additional Warrants issued for debt amendment
|
|
|
1,645,000
|
|
|
|
—
|
|
|
|
1,645,000
|
|
Modification of Conversion Feature—debt amendment
|
|
|
—
|
|
|
|
1,429,000
|
|
|
|
1,429,000
|
|
Warrant amendment—August 24, 2016
|
|
|
(1,719,000
|
)
|
|
|
—
|
|
|
|
(1,719,000
|
)
|
Issuance of Convertible Unsecured
Notes—September 1, 2016
|
|
|
—
|
|
|
|
282,000
|
|
|
|
282,000
|
|
Ending balance—September 30, 2016
|
|
$
|
—
|
|
|
$
|
1,023,000
|
|
|
$
|
1,023,000
|
|
On August 24, 2016, we amended the terms of all warrants
that had been previously accounted for as derivative liabilities. The amendments reduced the exercise price of each warrant series
to $4.00 per share and removed net cash settlement language, and any price reset provisions had since lapsed. After the execution
of the amendments, we determined that the December Offering Warrants, December Warrants, February Warrants and March Warrants
were no longer required to be accounted for as derivative liabilities. We marked each warrant to market immediately prior to the
execution of the amendments and reduced the derivative liability associated with each warrant to zero with a corresponding increase
to paid-in capital.
On September 1, 2016 we issued $1,250,000 of convertible
unsecured notes (the “Convertible Unsecured Notes”), as described in Note 9. The Convertible Unsecured Notes include
an embedded conversion feature that is required to be accounted for as a derivative valued at $282,000 on the date of issuance.
As of September 30, 2016, the embedded conversion feature attributable to the Convertible Unsecured Notes was valued at $266,000
and the embedded conversion feature attributable to the Convertible Unsecured was valued at $757,000.
Note 9—Convertible Unsecured Notes
Convertible Unsecured Notes payable consisted of the following as of September
30, 2016 (unaudited):
|
|
Notes
|
|
|
Debt
Discount
|
|
|
Offering
Costs
|
|
|
Net
Total
|
|
September 1, 2016
|
|
$
|
1,250,000
|
|
|
$
|
(553,000
|
)
|
|
$
|
(20,000
|
)
|
|
$
|
677,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of debt discount and
deferred financing costs
|
|
|
—
|
|
|
|
46,000
|
|
|
|
2,000
|
|
|
|
48,000
|
|
Ending balance—September 30, 2016
|
|
|
1,250,000
|
|
|
|
(507,000
|
)
|
|
|
(18,000
|
)
|
|
|
725,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less: Current Portion
|
|
$
|
(1,250,000
|
)
|
|
$
|
507,000
|
|
|
$
|
18,000
|
|
|
$
|
(725,000
|
)
|
Long Term Portion
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
On September 1, 2016, we entered into a securities
purchase agreement and related note agreements and warrant agreements whereby we issued the Convertible Unsecured Notes and detachable
five-year warrants to purchase an aggregate of 124,999 shares of the Company’s common stock at an exercise price of $4.00
per share (the “September 2016 Financing”). The Company received total gross proceeds of $1,250,000, less transaction
expenses of $20,000 consisting of legal costs for net proceeds of $1,230,000.
The Convertible Unsecured Notes bear interest at a
rate of 12% per annum and mature on September 1, 2017. The Convertible Unsecured Notes are subordinate to the 2015 Notes described
in Note 8. The Convertible Unsecured Notes are convertible at the option of the holder into common stock at an initial exercise
price of $4.31 and will automatically convert into shares of common stock in the event of a conversion of at least 50% of the
then outstanding (i) principal, (ii) accrued and unpaid interest with respect to such principal and (iii) accrued and unpaid late
charges, if any, with respect to such principal and interest, under the 2015 Notes. Upon the conversion of 50% or more of the
2015 Notes at a price per share less than $4.31, the conversion price of the Convertible Unsecured Notes will be reduced to the
effective conversion price of the 2015 Notes. The Convertible Unsecured Notes also contain a blocker provision that prevents the
Company from effecting a conversion in the event that the holder, together with certain affiliated parties, would beneficially
own in excess of 9.99% of the shares of common stock outstanding immediately after giving effect to such conversion. At any time
after the issuance date of the Convertible Unsecured Notes, the Company may, at its option, redeem all or any portion of the then
outstanding principal and accrued and unpaid interest with respect to such principal (the “Company Optional Redemption Amount”),
at 100% of such aggregate amount; provided, however, that the Company may not redeem all or any portion of the Company Optional
Redemption Amount so long as any of the 2015 Notes remain outstanding without the prior written consent of the collateral agent
with respect to such 2015 Notes and certain investors holding the requisite number of conversion shares and warrant shares underlying
the 2015 Notes and April and May Warrants.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
The Company evaluated the accounting of the detachable
warrants and determined that the warrants should not be accounted for as derivative liabilities. The Company valued the warrants
using the Black-Scholes Option pricing model at $271,000. The Company evaluated the conversion feature and determined that it
should be accounted for as a derivative liability due to the potential variability of the conversion feature which is linked to
the conversion of the Convertible 2015 Notes Payable. The conversion feature was valued using the Black-Scholes Option pricing
model at $282,000 and will be marked to market each reporting period beginning with the quarter ending September 30, 2016. See
also the discussion of derivative liabilities in Note 8 above.
The securities purchase agreement calls for the issuance
of additional five-year warrants to purchase an aggregate of 62,500 shares at an exercise price of $4.00 per share on each of
the 61st, 91st, 121st and 151st days after the closing of the September 2016 Financing (each, an “Additional Warrant Date”),
but only in the event the Company has not consummated a further financing consisting of the issuance of common stock and warrants
for aggregate gross proceeds of at least $3,000,000 prior to such respective Additional Warrant Date. As of November 1, 2016,
the 61
st
day following the closing of the September 2016 Financing, the Company had not consummated a further financing
and, as a result, issued warrants to purchase an aggregate of 62,500 shares of the Company’s common stock.
Note 10—Fair Value Measurements and Disclosures
Fair value is defined as the price that would be received
upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement
date and in the principal or most advantageous market for that asset or liability. The fair value should be calculated based on
assumptions that market participants would use in pricing the asset or liability, not on assumptions specific to the entity. In
addition, the fair value of liabilities should include consideration of non-performance risk, including the Company's own credit
risk.
Inputs used in measuring fair value are prioritized
into a three-level hierarchy based on whether the inputs to those measurements are observable or unobservable. Observable inputs
reflect market data obtained from independent sources, while unobservable inputs reflect the Company's market assumptions. The
fair-value hierarchy requires the use of observable market data when available and consists of the following levels:
|
●
|
Level
1—Quoted prices for identical instruments in active markets;
|
|
●
|
Level
2—Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets
that are not active; and model-derived valuations in which all significant inputs are observable in active markets; and
|
|
●
|
Level
3—Valuations derived from valuation techniques in which one or more significant inputs are unobservable.
|
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
The following tables present information on the Company’s financial
instruments (unaudited):
|
|
Fair Value
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
Cash and cash equivalents, including restricted cash
|
|
$
|
670,000
|
|
|
$
|
670,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Embedded note conversion features
|
|
$
|
1,023,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,023,000
|
|
The following table provides the activity of the Level 3 financial instruments
from December 31, 2015 to September 30, 2016:
|
|
Warrants
Liability
|
|
|
Embedded
Note
Conversion
Feature
|
|
|
Total
|
|
Value as of December 31, 2015
|
|
$
|
1,297,000
|
|
|
$
|
1,213,000
|
|
|
$
|
2,510,000
|
|
Adjustment to fair value
|
|
|
(1,223,000
|
)
|
|
|
(1,901,000
|
)
|
|
|
(3,124,000
|
)
|
Additional Warrants issued for debt amendment
|
|
|
1,645,000
|
|
|
|
—
|
|
|
|
1,645,000
|
|
Modification of Conversion Feature—debt amendment
|
|
|
—
|
|
|
|
1,429,000
|
|
|
|
1,429,000
|
|
Warrant amendment—August 24, 2016
|
|
|
(1,719,000
|
)
|
|
|
—
|
|
|
|
(1,719,000
|
)
|
Issuance of Convertible Unsecured
Notes—September 1, 2016
|
|
|
—
|
|
|
|
282,000
|
|
|
|
282,000
|
|
Ending balance—September 30, 2016
|
|
$
|
—
|
|
|
$
|
1,023,000
|
|
|
$
|
1,023,000
|
|
Note 11—Capital Leases Payable
Capital Leases Payable
Capital leases payable consisted of the following:
|
|
September 30,
2016
(unaudited)
|
|
|
December 31,
2015
|
|
|
|
|
|
|
|
|
Capital
lease payable to De Lange Landon secured by forklift, 10.0% interest, due on October 1, 2018, monthly payment of $452.
|
|
$
|
10,000
|
|
|
$
|
13,000
|
|
Capital lease payable
to Dell Computers secured by computer equipment, 15.09% interest, due on November 16, 2016, monthly payment of $592.
|
|
|
1,000
|
|
|
|
6,000
|
|
Capital lease payable
to Dell Computers secured by computer equipment, 15.09% interest, due on December 15, 2016, monthly payment of $590.
|
|
|
2,000
|
|
|
|
6,000
|
|
Capital lease payable
to Dell Computers secured by computer equipment, 15.09% interest, due on January 3, 2017, monthly payment of $390.
|
|
|
2,000
|
|
|
|
5,000
|
|
Capital
lease payable to Dell Computers secured by computer equipment, 15.09% interest, due on January 3, 2017, monthly payment of
$394.
|
|
|
6,000
|
|
|
|
10,000
|
|
Total
capital leases
|
|
$
|
21,000
|
|
|
$
|
40,000
|
|
Less:
current portion
|
|
|
(21,000
|
)
|
|
|
(26,000
|
)
|
Long-term
portion of capital leases
|
|
$
|
—
|
|
|
$
|
14,000
|
|
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
The future minimum lease payments required under the
capital leases and the present value of the net minimum lease payments as of September 30, 2016, are as follows:
|
|
Year
Ending December 31,
|
|
|
Amount
|
|
|
|
2016
|
|
$
|
7,000
|
|
|
|
2017
|
|
|
10,000
|
|
|
|
2018
|
|
|
6,000
|
|
Net
minimum lease payments
|
|
|
|
$
|
23,000
|
|
Less:
Amount representing interest
|
|
|
|
|
(1,000
|
)
|
Less:
Taxes
|
|
|
|
|
(1,000
|
)
|
Present
value of net minimum lease payments
|
|
|
|
$
|
21,000
|
|
Less:
Current maturities of capital lease payables
|
|
|
|
|
(21,000
|
)
|
Long-term
capital lease payables
|
|
|
|
$
|
—
|
|
Note 12—Equity, Stock Options and Warrants
On April 11, 2016, we entered into a stock purchase
agreement dated April 11, 2016, pursuant to which we issued to an accredited investor an aggregate of 696,056 shares of our common
stock in exchange for gross proceeds of approximately $3.0 million (the “April 2016 Private Placement”). The closing
of the April 2016 Private Placement satisfied the Qualified Private Offering requirement in the March Amendments described below
under “March 2016 Amendment to 2015 Notes”.
Stock Options
On July 1, 2013, our board of directors adopted and
approved the 2013 Equity Incentive Plan (the “2013 Plan”) and amended the 2013 Plan on March 24, 2015 to increase
the number of shares available for issuance. The 2013 Plan authorizes us to grant non-qualified stock options and restricted
stock purchase rights to purchase up to 420,000 shares of our common stock with vesting to employees (including officers) and
other service providers. With the approval of the 2015 Plan, described below, as of August 29, 2015, no shares of our common
stock were available for issuance under the 2013 Plan.
On July 15, 2015, our board of directors approved
the 2015 Omnibus Incentive Plan (the “2015 Plan”), which was approved by our stockholders on August 28, 2015. Upon
adoption, the 2015 Plan authorized us to grant up to 300,000 shares of our common stock and replaced the 2013 Equity Incentive
Plan. As a result of the approval of the 2015 Plan, no additional grants will be made under the 2013 Plan. On August 22, 2016,
our board of directors approved an amendment to the 2015 Plan to increase the total authorized pool available under the 2015 Plan
to 600,000 shares of our common stock, subject to automatic increase for any shares subject to outstanding awards under the 2013
Plan that are subsequently canceled or expire. Our stockholders approved the foregoing amendment on September 26, 2016. As of
September 30, 2016 594,000 shares of our common stock were available for issuance under the 2015 Plan.
The 2015 Plan permits the granting of any or all of
the following types of awards: incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock,
restricted stock units, other stock-based awards, and performance awards payable in a combination of cash and company shares.
There were no awards granted under the 2015 Plan as of September 30, 2016.
The 2015 Plan has the following limitations:
|
●
|
Limitation
on terms of stock options and stock appreciation rights
. The maximum term of each stock option and stock appreciation
right (SAR) is 10 years.
|
|
●
|
No
repricing or grant of discounted stock options
. The 2015 Plan does not permit the repricing of options or SARs either
by amending an existing award or by substituting a new award at a lower price without stockholder approval. The 2015 Plan
prohibits the granting of stock options or SARs with an exercise price less than the fair market value of our common stock
on the date of grant.
|
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
|
●
|
Clawback
.
Awards granted under the 2015 Plan are subject to any then current compensation recovery or clawback policy of the Company
that applies to awards under the 2015 Plan and all applicable laws requiring the clawback of compensation.
|
|
●
|
Double-trigger
acceleration
. Acceleration of the vesting of awards that are assumed or replaced by the resulting entity after a change
in control is not permitted unless an employee’s employment is also terminated by the Company without cause or by the
employee with good reason within two years of the change in control.
|
|
●
|
Code
Section 162(m) Eligibility
. The 2015 Plan provides flexibility to grant awards that qualify as “performance-based”
compensation under Internal Revenue Code Section 162(m).
|
|
●
|
Dividends
.
Dividends or dividend equivalents on stock options, SARs or unearned performance shares under the 2015 Plan will not be paid.
|
At September 30, 2016, total unrecognized deferred
stock compensation expected to be recognized over the remaining weighted-average vesting periods of 0.6 years for outstanding
grants was $1.0 million.
The fair value of option awards is estimated on the
grant date using the Black-Scholes option valuation model.
Estimates of fair value are not intended to predict
actual future events or the value ultimately realized by employees who receive equity awards, and subsequent events are not indicative
of the reasonableness of the original estimates of fair value made by us.
Stock-based compensation expense is recorded only
for those awards expected to vest. Currently, the forfeiture rate used to calculate stock-based compensation expense is
zero which approximates the effective actual forfeiture rate. The rate is adjusted if actual forfeitures differ from the estimates
in order to recognize compensation cost only for those awards that actually vest. If factors change and different assumptions
are employed in future periods, the share-based compensation expense may differ from that recognized in previous periods.
Stock-based award activity was as follows:
|
|
|
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
|
|
|
Weighted-
|
|
|
Average
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Remaining
|
|
|
Aggregate
|
|
|
|
|
|
|
Exercise
|
|
|
Contractual
|
|
|
Intrinsic
|
|
|
|
Options
|
|
|
Price
|
|
|
Life
|
|
|
Value
|
|
Balance, December 31, 2015
|
|
|
308,464
|
|
|
$
|
13.61
|
|
|
|
6.07
|
|
|
$
|
—
|
|
Forfeited during 2016
|
|
|
(40,914
|
)
|
|
|
11.69
|
|
|
|
—
|
|
|
|
—
|
|
Granted during 2016
|
|
|
6,000
|
|
|
|
4.31
|
|
|
|
9.75
|
|
|
|
—
|
|
Balance, September 30, 2016
|
|
|
273,550
|
|
|
$
|
13.70
|
|
|
|
5.27
|
|
|
$
|
—
|
|
Exercisable on September 30, 2016
|
|
|
192,394
|
|
|
$
|
15.00
|
|
|
|
5.19
|
|
|
$
|
—
|
|
The options granted have a contract term ranging between
three and ten years. Options granted typically vest over a four year period, with 25% vesting after one year and the remainder
ratably over the remaining three years.
Of our options outstanding, 267,550 were outstanding
and 192,394 exercisable under the 2013 Plan and 6,000 were outstanding with none exercisable under the 2015 Plan on September
30, 2016.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
The following table summarizes information about stock options outstanding
and exercisable at September 30, 2016:
|
|
Options
Outstanding
|
|
|
Options
Exercisable
|
|
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Weighted-
|
|
|
|
|
|
Weighted-
|
|
|
|
Number
|
|
|
Remaining
|
|
|
Average
|
|
|
Number
|
|
|
Average
|
|
Exercise
|
|
of
|
|
|
Contractual
|
|
|
Exercise
|
|
|
of
|
|
|
Exercise
|
|
Prices
|
|
Shares
|
|
|
Life
|
|
|
Price
|
|
|
Shares
|
|
|
Price
|
|
|
|
|
|
|
|
(In
years)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$0–$10.00
|
|
|
99,840
|
|
|
|
7.04
|
|
|
$
|
7.46
|
|
|
|
50,771
|
|
|
$
|
7.68
|
|
$10.01–$15.00
|
|
|
31,100
|
|
|
|
7.16
|
|
|
$
|
12.50
|
|
|
|
18,730
|
|
|
$
|
12.50
|
|
$15.01–$20.00
|
|
|
122,766
|
|
|
|
3.50
|
|
|
$
|
17.50
|
|
|
|
104,381
|
|
|
$
|
17.50
|
|
$20.01–$25.00
|
|
|
19,844
|
|
|
|
4.30
|
|
|
$
|
23.40
|
|
|
|
18,512
|
|
|
$
|
23.58
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
273,550
|
|
|
|
5.27
|
|
|
$
|
13.70
|
|
|
|
192,394
|
|
|
$
|
15.00
|
|
Stock based compensation expense consisted of the following:
|
|
Three
Months Ended
September
30,
|
|
|
Nine
Months Ended
September
30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
Research and development
|
|
$
|
113,000
|
|
|
$
|
148,000
|
|
|
$
|
423,000
|
|
|
$
|
443,000
|
|
General and administrative
|
|
|
187,000
|
|
|
|
224,000
|
|
|
|
604,000
|
|
|
|
670,000
|
|
|
|
$
|
300,000
|
|
|
$
|
372,000
|
|
|
$
|
1,027,000
|
|
|
$
|
1,113,000
|
|
Warrants
From time to time, we issue warrants to purchase shares
of our common stock to investors, note holders and to non-employees for services rendered or to be rendered in the future.
February 2016 Additional Warrants
On February 2, 2016, the Company issued Additional
Warrants to purchase an aggregate of 50,000 shares of the Company’s common stock to existing noteholders under the terms
of the December Amendments.
March 2016 Amendment to 2015 Notes
On March 31, 2016, the Company executed the March
Amendments with certain investors holding the requisite number of conversion shares and warrant shares underlying the 2015 Notes
and April and May Warrants pursuant to the related Securities Purchase Agreements. The March Amendments, described above in Note
8, provided for the issuance of the March Warrants, exercisable for ten shares of the Company’s common stock per $100 of
outstanding principal of the 2015 Notes held by each buyer pursuant to the April 2015 and May 2015 Securities Purchase Agreements,
each with an exercise price of $5.00 per share, subject to adjustment as set forth within the warrants. March Warrants to purchase
an aggregate of 500,000 shares of the Company’s common stock were issued to the holders of the 2015 Notes on March 31, 2016.
On August 24, 2016, the March Warrants were amended to reduce the exercise price to $4.00 per share, as described below.
August 2016 Warrant Amendments
On August 24, 2016 the Company executed amendments
to the April and May Warrants, December Warrants, December Offering Warrants, February Warrants and March Warrants, as indicated
in the table below. The amendments reduced the exercise price of the warrants to $4.00 per share and removed all remaining net
cash settlement provisions in each warrant. For the warrants accounted for as derivative liabilities, the Company marked the warrants
to market immediately prior to the change in the strike price to a value of $1,719,000. The removal of the warrant agreement provisions
that required derivative accounting resulted in a reclassification of $1,719,000 from derivative liabilities to Paid-in Capital.
The reduction in exercise price to $4.00 resulted in an additional discount to the 2015 Notes of $206,000 which will be amortized
to interest expense over the expected remaining life of the 2015 Notes.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Warrants outstanding as of September 30, 2016 consist
of:
|
|
Issue
Date
|
|
Expiry
Date
|
|
Number
of
Warrants
|
|
|
Exercise Price
per Share
|
|
2013 Services Warrants—July
|
|
Jul-13
|
|
Jul-18
|
|
|
9,494
|
|
|
$
|
37.50
|
|
2013 Services Warrants—August
|
|
Aug-13
|
|
Aug-18
|
|
|
729
|
|
|
|
37.50
|
|
2013 Services Warrants—November
|
|
Nov-13
|
|
Nov-18
|
|
|
2,400
|
|
|
|
50.00
|
|
2014 Services Warrants—April(1)
|
|
Apr-14
|
|
Apr-19
|
|
|
13,657
|
|
|
|
39.00
|
|
2014 Services Warrants—September(2)
|
|
Aug-14
|
|
Aug-19
|
|
|
16,000
|
|
|
|
25.00
|
|
2014 PIPE Warrants—September(3)
|
|
Sept-14
|
|
Sept-18
|
|
|
26,500
|
|
|
|
25.00
|
|
2014 Services Warrants—November(4)
|
|
Nov-14
|
|
Nov-18
|
|
|
6,500
|
|
|
|
25.00
|
|
2014 Settlement Warrants—December(5)
|
|
Dec-14
|
|
Dec-19
|
|
|
38,464
|
|
|
|
25.00
|
|
2015 Notes Warrants(6) (14)
|
|
Apr/May-15
|
|
Apr/May-20
|
|
|
219,785
|
|
|
|
4.00
|
|
2015 Services Warrants—May(7)
|
|
May-15
|
|
May-20
|
|
|
5,514
|
|
|
|
12.50
|
|
2015 LOC Guarantee Warrants—November (8)
|
|
Nov-15
|
|
Nov-20
|
|
|
74,000
|
|
|
|
15.00
|
|
2015 Debt Amendment Warrants—December (9), (15)
|
|
Dec-15
|
|
Dec-20
|
|
|
50,000
|
|
|
|
4.00
|
|
2015 PIPE Warrants—December (10), (15)
|
|
Dec-15
|
|
Dec-20
|
|
|
312,500
|
|
|
|
4.00
|
|
2016 Debt Amendment Warrants—February (11), (15)
|
|
Feb-16
|
|
Feb-21
|
|
|
50,000
|
|
|
|
4.00
|
|
2016 Debt Amendment Warrants—March (12), (15)
|
|
Mar-16
|
|
Mar-21
|
|
|
500,000
|
|
|
|
4.00
|
|
2016 Junior Debt Warrants (13)
|
|
Sep-16
|
|
Aug-21
|
|
|
124,999
|
|
|
|
4.00
|
|
Balance outstanding at September 30, 2016
|
|
|
|
|
|
|
1,450,542
|
|
|
$
|
6.50
|
|
Warrants exercisable at September 30, 2016
|
|
|
|
|
|
|
1,376,542
|
|
|
$
|
6.04
|
|
(1)
|
The
2014 Services Warrants—April were issued for fees incurred in conjunction with the issuance of convertible notes in
2014. The warrants were valued on the issuance date at $11.50 per share in conjunction with the valuation approach used for
the initial valuation of the warrants issued in connection with the convertible notes issued in 2014.
|
|
|
(2)
|
The
2014 Services Warrants—September were issued to a consultant in exchange for advisory services with no readily available
fair value. The warrants were originally issued at $39.00 per share and had a one-time price reset provision to the exercise
price of the warrants issued to investors in the convertible notes offering in April 2014 if the exercise price of such convertible
notes warrants changed prior to September 30, 2014. On September 22, 2014, the exercise price was changed to $25.00 per share.
There are no further exercise price changes for this warrant series. The warrants were valued using the Black-Scholes option
pricing model at $131,000 on the issuance date with an additional $6,000 recorded to expense on September 22, 2014 to reflect
the change in fair value resulting from the exercise price change.
|
|
|
(3)
|
On
September 22, 2014, the Company issued 26,500 warrants with an exercise price of $25.00 per share in conjunction with placement
agent services for the Company’s September 2014 private equity placement. The warrants were valued using the Black-Scholes
option pricing model at $296,000 on the issuance date.
|
|
|
(4)
|
On
November 26, 2014, the Company issued 6,500 warrants with an exercise price of $25.00 per share for compensation for investor
relations services provided. The warrants were valued using the Black-Scholes option pricing model at $43,000 on the issuance
date.
|
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
(5)
|
On
December 1, 2014, the Company issued 19,232 warrants with an exercise price of $39.00 per share and on December 15, 2014 issued
19,232 warrants with an exercise price of $25.00 per share to settle potential legal disputes resulting from claims made by
the investors in the November 2013 private equity placement. The warrants issued on December 1, 2014 were issued concurrent
with the issuance of 8,462 shares of the Company’s common stock in partial settlement of the potential legal disputes
arising from claims by two investors. The Company settled all remaining potential legal disputes with all of the remaining
investors in the November 2013 private placement on December 15, 2014 by issuing the second tranche of warrants and setting
the exercise price of each warrant series issued at $25.00 with no further reset provisions. The combined issuance of
the warrants and expense resulting from any price changes were valued using the Black-Scholes option pricing model at $246,000
and expensed to general and administrative expense.
|
|
|
(6)
|
On
April 23, 2015, the Company issued warrants exercisable for up to 136,267 shares of our common stock and on May 7, 2015 the
Company issued warrants exercisable for 83,518 shares of our common stock, each with an exercise price of $12.50 per share
in conjunction with the Notes described in Note 8. The warrants were valued using the Black-Scholes option pricing model at
$2,139,000 on the issuance date. On August 24, 2016, the exercise price of the warrants was reduced to $4.00 per share.
|
|
|
(7)
|
On
May 7, 2015, the Company issued warrants exercisable for 5,514 shares of our common stock with an exercise price of $12.50
per share in conjunction with placement agent services for the Company’s May 2015 private equity placement. The warrants
were valued using the Black-Scholes option pricing model at $56,000 on the issuance date. On August 24, 2016, the exercise
price of the warrants was reduced to $4.00 per share.
|
|
|
(8)
|
On
November 2, 2015, the Company issued warrants exercisable for up to 74,000 shares of our common stock with an exercise price
of $15.00 per share in conjunction with the LOC guarantee described in Note 16. The warrants were valued using
the Black-Scholes option pricing model at $246,000 on the issuance date. The warrants are exercisable beginning
on November 1, 2016.
|
|
|
(9)
|
On
December 30, 2015, the Company issued warrants exercisable for up to 50,000 shares of our common stock with an initial exercise
price of $12.50 per share in conjunction with the December 30, 2015 Notes amendment described in Note 8. In the
event that the Company issues additional common stock derivative securities at a price per share less than the exercise price,
the Company is obligated to reduce the exercise price of the December Debt Amendment Warrants to a price per share equal to
the newly issued shares or derivative common stock securities. On March 31, 2016, concurrent with the issuance
of the additional debt amendment warrants, the exercise price was reduced to $5.00 per share. On August 24, 2016, the exercise
price of the warrants was reduced to $4.00 per share.
|
|
|
(10)
|
On
December 31, 2015, the Company issued warrants exercisable for up to 312,500 shares of our common stock with an initial exercise
price of $5.00 per share in conjunction with the December private equity placement (the “December PIPE”). The
warrants provide that if, prior to the earlier of June 30, 2016 or thirty days after the date on which the December PIPE shares
and underlying warrants are registered for resale, the Company issued common share derivative securities at a price per share
less than $5.00 per share, the Company was obligated to reduce the exercise price of the December PIPE warrants to a price
per share equal to the newly issued shares or derivative common stock securities. This price protection clause
expired on June 30, 2016. On August 24, 2016, the exercise price of the warrants was reduced to $4.00 per share.
|
|
|
(11)
|
On
February 2, 2016, the Company issued warrants exercisable for up to 50,000 shares of our common stock with an initial exercise
price of $12.50 per share in conjunction with the December 30, 2015 Notes amendment described in Note 8. The warrants
were valued using the Black-Scholes option pricing model at $148,000 on the issuance date and were recorded as a derivative
liability and additional debt discount. The warrants provided that, in the event that the Company issued additional
common stock derivative securities at a price per share less than the exercise price, the Company was obligated to reduce
the exercise price of the February Debt Amendment Warrants to a price per share equal to the newly issued shares or derivative
common stock securities. On March 31, 2016, concurrent with the issuance of the additional debt amendment warrants, the exercise
price was reduced to $5.00 per share. This price protection clause expired on June 30, 2016. On August 24, 2016, the exercise
price of the warrants was reduced to $4.00 per share.
|
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
(12)
|
On
March 31, 2016, the Company issued warrants exercisable for up to 500,000 shares of our common stock with an initial exercise
price of $5.00 per share in conjunction with the December 30, 2015 Notes amendment described in Note 8. The warrants
were valued using the Black-Scholes option pricing model at $1,497,000 on the issuance date and were recorded as a derivative
liability and additional debt discount. The warrants provided that , in the event that the Company issued additional
common stock derivative securities at a price per share less than the exercise price, the Company was obligated to reduce
the exercise price of the March Debt Amendment Warrants to a price per share equal to the newly issued shares or derivative
common stock securities. This price protection clause expired on June 30, 2016. On August 24, 2016, the exercise price of
the warrants was reduced to $4.00 per share.
|
|
|
(13)
|
On
September 1, 2016, the Company issued warrants exercisable for up to 124,999 shares of our common stock with an initial exercise
price of $4.00 per share in conjunction with Unsecured Convertible Notes as described in Note 9 above. The warrants were
valued using the Black-Scholes option pricing model at $271,000 on the issuance date and were recorded a debt discount.
|
|
|
(14)
|
Warrant
exercise price was reduced from $12.50 to $4.00 per share on August 24, 2016.
|
|
|
(15)
|
Warrant
exercise price was reduced from $5.00 to $4.00 per share on August 24, 2016 and the warrant agreement was amended to remove
all provisions that had previously required derivative liability accounting treatment.
|
Note 13—Commitments and Contingencies
We may become a party to litigation in the normal
course of business. We accrue for open claims based on our historical experience and available insurance coverage. In the opinion
of management, there are no legal matters involving us that would have a material adverse effect upon our financial condition,
results of operations or cash flows.
Lease
We lease our office facility, research and development
facility and equipment under operating leases, which for the most part, are renewable. The leases also provide that we pay
insurance and taxes.
Future minimum rental payments under operating leases
that have initial noncancelable lease terms in excess of one year as of September 30, 2016 are as follows:
Nine months ending September 30, 2016
|
|
$
|
79,000
|
|
Minimum rent payments under operating leases are recognized
on a straight-line basis over the term of the lease. Rent expense, net of sublease income, was $79,000 and $233,000 for three
and nine months ended September 30, 2015, respectively, and $79,000 and $236,000 for the three and nine months ended September
30, 2016, respectively.
Ener-Core,
Inc.
Notes to Condensed
Consolidated Financial Statements (continued)
(unaudited)
Our current headquarters is located at 9400 Toledo
Way, Irvine, California 92618. The property consists of a mixed use commercial office, production, and warehouse facility
of 32,649 square feet and expires December 31, 2016. The monthly expense rent is $26,825.
In addition, we lease space from the Regents of the
University of California, Irvine, for the installation and demonstration of the EC250 equipment. The lease expired on January
1, 2015 and reverted to a month-to-month lease with a monthly payment of $7,780. The university will provide certain goods and
services including certain research and development services.
Standby Letter of Credit
Pursuant to the terms of the CLA, the Company is required
to provide a backstop security of $2.1 million to secure performance of certain obligations under the CLA (the “BSS”).
Effective November 2, 2015, the Company executed that certain Backstop Security Support Agreement (the “Support Agreement”),
pursuant to which an investor agreed to provide the Company with financial and other assistance (including the provision of sufficient
and adequate collateral) as necessary in order for the Company to obtain a $2.1 million letter of credit acceptable to Dresser-Rand
as the BSS and with an expiration date of June 30, 2017 (“Letter of Credit”). If the investor is required to make
any payments on the Letter of Credit, subject to the terms of the Intercreditor Agreement (as defined below), the Company must
reimburse the investor the full amount of any such payment. Such payment obligation is secured by a pledge of certain collateral
of the Company pursuant to a Security Agreement dated November 2, 2015 (“Security Agreement”), and the security interest
in favor of and the payment obligations to the investor are subject to the terms of that certain Subordination and Intercreditor
Agreement executed concurrently with the Support Agreement and Security Agreement (the “Intercreditor Agreement”)
by and among the investor, the Company and the collateral agent pursuant to the 2015 Notes.
The term of the Company’s obligations under
the Support Agreement (the “Term”) commenced on November 2, 2015, the issuance date of the Letter of Credit, and will
terminate on the earliest of: (a) replacement of the Letter of Credit with an alternative BSS in favor of Dresser-Rand, (b) Dresser-Rand
eliminating the BSS requirement under the CLA, or (c) the last day of the twenty-fourth calendar month following the commencement
of the Term. In consideration of the investor’s support commitment, the Company paid the investor a one-time fee equal to
4% of the amount of the Letter of Credit and is obligated to pay a monthly fee equal to 1% of the amount of the Letter of Credit
for the first twelve months. If the Support Agreement has not terminated after the initial twelve months, the Company will pay
another one-time fee equal to 4% of the amount of the Letter of Credit, and a monthly fee equal to 2% of the amount of the Letter
of Credit for up to another twelve months.
Note 14—Subsequent Events
None.
Up
to 937,500 Shares of Common Stock
Ener-Core,
Inc.
PROSPECTUS
, 2017
PART
II
INFORMATION
NOT REQUIRED IN PROSPECTUS
Item
13.
|
Other
Expenses of Issuance and Distribution.
|
The
following table sets forth all costs and expenses incurred in connection with the offering described in this registration statement,
all of which will be paid by us, other than any underwriting discounts and commissions payable by the selling stockholders in
connection with any sale and distribution of the securities being registered. All amounts shown are estimates except for the SEC
registration fee.
|
|
Amount
|
|
Securities
and Exchange Commission Registration Fee
|
|
$
|
395
|
|
Printing
Expenses
|
|
|
1,000
|
|
Legal
Fees and Expenses
|
|
|
40,000
|
|
Accounting
Fees and Expenses
|
|
|
5,000
|
|
Transfer
Agent and Registrar Fees and Expenses
|
|
|
2,000
|
|
Miscellaneous
Expenses
|
|
|
1,605
|
|
Total
|
|
$
|
50,000
|
|
Item
14.
|
Indemnification
of Directors and Officers.
|
Section
102 of the General Corporation Law of the State of Delaware permits a corporation to eliminate the personal liability of directors
of a corporation to the corporation or its stockholders for monetary damages for a breach of fiduciary duty as a director, except
for breaches of the director’s duty of loyalty to the corporation or its stockholders, acts or omissions not in good faith
or which involve intentional misconduct or a knowing violation of a law, authorizations of the payments of a dividend or approval
of a stock repurchase or redemption in violation of Delaware corporate law or for any transactions from which the director derived
an improper personal benefit. Our certificate of incorporation provides that no director will be liable to us or our stockholders
for monetary damages for breach of fiduciary duties as a director, subject to the same exceptions as described above. We have
entered into indemnification agreements with each of our directors which may, in some cases, be broader than the specific indemnification
provisions contained under Delaware law. We also expect to maintain standard insurance policies that provide coverage (1) to our
directors and officers against loss arising from claims made by reason of breach of duty or other wrongful act and (2) to us with
respect to indemnification payments we may make to such officers and directors.
Section
145 of the General Corporation Law of the State of Delaware provides that a corporation has the power to indemnify a director,
officer, employee, or agent of the corporation and certain other persons serving at the request of the corporation in related
capacities against expenses (including attorneys’ fees), judgments, fines and amounts paid in settlements actually and reasonably
incurred by the person in connection with a threatened, pending, or completed action, suit or proceeding to which he or she is
or is threatened to be made a party by reason of such position, if such person acted in good faith and in a manner he or she reasonably
believed to be in or not opposed to the best interests of the corporation, and, in any criminal action or proceeding, had no reasonable
cause to believe his or her conduct was unlawful, except that, in the case of actions brought by or in the right of the corporation,
indemnification is limited to expenses (including attorneys’ fees) actually and reasonably incurred by the person in connection
with defense or settlement of such action or suit and no indemnification shall be made with respect to any claim, issue, or matter
as to which such person shall have been adjudged to be liable to the corporation unless and only to the extent that the Court
of Chancery or other adjudicating court determines that, despite the adjudication of liability but in view of all of the circumstances
of the case, such person is fairly and reasonably entitled to indemnity for such expenses which the Court of Chancery or such
other court shall deem proper. In addition, to the extent that a present or former director or officer of a corporation has been
successful on the merits or otherwise in defense of any action, suit, or proceeding described above (or claim, issue, or matter
therein), such person shall be indemnified against expenses (including attorneys’ fees) actually and reasonably incurred
by such person in connection therewith. Expenses (including attorneys’ fees) incurred by an officer or director in defending
any civil, criminal, administrative, or investigative action, suit, or proceeding may be advanced by the corporation upon receipt
of an undertaking by such person to repay such amount if it is ultimately determined that such person is not entitled to indemnification
by the corporation under Section 145 of the General Corporation Law of the State of Delaware.
Our
certificate of incorporation provides that we will, to the fullest extent permitted by law, indemnify any person made or threatened
to be made a party to an action or proceeding by reason of the fact that he or she (or his or her testators or intestate) is or
was our director or officer or serves or served at any other corporation, partnership, joint venture, trust or other enterprise
in a similar capacity or as an employee or agent at our request, including service with respect to employee benefit plans maintained
or sponsored by us, against expenses (including attorneys’), judgments, fines, penalties and amounts paid in settlement
incurred in connection with the investigation, preparation to defend, or defense of such action, suit, proceeding, or claim. However,
we are not required to indemnify or advance expenses in connection with any action, suit, proceeding, claim, or counterclaim initiated
by us or on behalf of us. Our bylaws provide that we will indemnify and hold harmless each person who was or is a party or threatened
to be made a party to any action, suit, or proceeding by reason of the fact that he or she is or was our director or officer,
or is or was serving at our request in a similar capacity of another corporation, partnership, joint venture, trust or other enterprise,
including service with respect to employee benefit plans (whether the basis of such action, suit, or proceeding is an action in
an official capacity as a director or officer or in any other capacity while serving as a director of officer) to the fullest
extent authorized by the Delaware General Corporation Law against all expense, liability and loss (including attorneys’
fees, judgments, fines, ERISA excise taxes, or penalties and amounts paid in settlement) reasonably incurred or suffered by such
person in connection with such action, suit or proceeding, and this indemnification continues after such person has ceased to
be an officer or director and inures to the benefit of such person’s heirs, executors and administrators. The indemnification
rights also include the right generally to be advanced expenses, subject to any undertaking required under Delaware General Corporation
Law, and the right generally to recover expenses to enforce an indemnification claim or to defend specified suits with respect
to advances of indemnification expenses.
Item
15.
|
Recent
Sales of Unregistered Securities.
|
Set
forth below is information regarding securities sold and issued by us within the last three years that were not registered under
the Securities Act, as well as the consideration received by us for such securities and information relating to the section of
the Securities Act, or rule of the Securities and Exchange Commission, under which exemption from registration was claimed.
All
share figures and exercise prices noted in this Item 15 are adjusted to give effect to the 1-for-50 reverse split of our issued
and outstanding common stock on July 8, 2015, retroactively, unless otherwise noted.
|
(a)
|
Issuances
of Capital Stock and Warrants to Purchase Capital Stock
|
On
March 3, 2014, we issued a warrant for the purchase of up to 48,000 shares of our common stock to a placement agent as consideration
for services rendered in connection with our private placement transaction in November 2013. The warrant has an exercise price
of $50.00 and expires November 17, 2018.
On
April 16, 2014, we issued $4,600,000 of convertible secured promissory notes (“Secured Notes”) to five institutional
investors in a private placement transaction and detachable warrants for the purchase of up to an aggregate 81,941 shares of our
common stock to the investors. The warrants initially had an exercise price of $39.00 per share and expire five years from issuance.
On September 18, 2014, the warrant exercise price was reduced to $25.00 per share. On March 23, 2015, the warrant exercise price
was reduced further to $5.50 per share. The Secured Notes and related detachable warrants are governed by a Securities Purchase
Agreement, dated as of April 15, 2014. We received gross cash proceeds of $4,600,000.
On
August 15, 2014, we issued an aggregate of 271,098 shares of our common stock to the holders of the Secured Notes upon the conversion
of $2,711,000 of Secured Notes held by such investors.
On
September 22, 2014, we sold and issued an aggregate of 533,334 shares of our common stock to 36 accredited investors at $7.50
per share in a private placement transaction. We received net cash proceeds of $3,844,000, consisting of $4,000,000 in gross proceeds
reduced by $156,000 in cash offering costs, consisting of cash placement fees of $73,000 and legal fees of $32,000. In addition
to the cash offering costs, we also issued to two placement agents: (1) 20,000 restricted shares of our common stock valued at
$150,000, in lieu of cash offering costs; and (2) warrants for the purchase of up to an aggregate of 26,500 shares of our
common stock at an exercise price of $25.00 per share. The warrants issued for placement agent fees are exercisable for a period
of four years after their issuance dates.
In
November 2014, we issued warrants to two accredited investors for the purchase of up to an aggregate of 6,500 shares of common
stock at an exercise price of $25.00 per share. The warrants were issued for compensation for investor relations services.
In
December 2014, we issued an aggregate of 8,462 shares of common stock and warrants for the purchase of up to an aggregate of 38,462
shares of our common stock to settle in full a legal claim made by two investors.
On
April 16, 2015, we issued an aggregate of 73,747 shares of our common stock to five accredited investors pursuant to warrant exchange
agreements by which such investors surrendered for cancellation warrants previously received in April 2014 for the purchase of
up to an aggregate of 81,491 shares of our common stock.
On
April 23, 2015, we issued convertible senior secured promissory notes with an aggregate principal amount of $3,100,000 and warrants
to purchase up to an aggregate of 136,267 shares of our common stock to seven accredited investors. We received gross cash proceeds
of $3,100,000 and paid $175,000 in placement and legal fees upon closing. The warrants have an exercise price of $12.50 per share
and expire five years from issuance.
On
May 1, 2015, we issued an aggregate of 108,000 shares of our common stock to 30 accredited investors at $7.50 per share in a private
placement transaction. We received gross cash proceeds of approximately $810,000 and paid placement fees consisting of: (1) $64,000
in cash and (2) warrants for the purchase of up to an aggregate of 5,514 shares of our common stock at an exercise price of $12.50
per share. The warrants issued for placement agent fees are exercisable for a period of five years after their issuance dates.
On
May 9, 2015, we issued convertible senior secured promissory notes with an aggregate principal amount of $1,900,000 and warrants
to purchase up to an aggregate of 83,518 shares of our common stock to four accredited investors. We received gross cash proceeds
of $1,900,000. The warrants have an exercise price of $12.50 per share and expire five years from issuance.
On
November 2, 2015, we issued a warrant to purchase 74,000 shares of our common stock, subject to adjustment for stock splits or
other similar changes to our capital structure. The warrant has an exercise price of $15.00 per share, becomes exercisable on
November 2, 2016 and expires on November 2, 2021.
On
December 30, 2015, we issued warrants to purchase an aggregate of 50,000 shares of our common stock, subject to adjustment for
stock splits or other similar changes to our capital structure, to 11 accredited investors. The warrants had an exercise price
of $12.50 per share upon issuance, are immediately exercisable and expire on December 30, 2020. In connection with the March 31,
2016 warrant issuance described below, the exercise price was adjusted to $5.00 per share.
On
December 31, 2015, we issued an aggregate of 625,000 shares of our common stock at $4.00 per share and warrants to purchase an
aggregate of 312,500 shares of our common stock, to 11 accredited investors in a private placement transaction. The warrants have
an exercise price of $5.00 per share, are immediately exercisable and expire on December 31, 2020. We received gross cash proceeds
of approximately $2,500,000 and paid placement fees consisting of $75,000.
On
February 3, 2016, we issued warrants to purchase an aggregate of 50,000 shares of our common stock, subject to adjustment for
stock splits or other similar changes to our capital structure, to 11 accredited investors. The warrants had an exercise price
of $12.50 per share upon issuance, are immediately exercisable and expire on February 3, 2021. In connection with the March 31,
2016 warrant issuance described below, the exercise price was adjusted to $5.00 per share.
On
March 31, 2016, we issued warrants to purchase an aggregate of 500,000 shares of our common stock, subject to adjustment for stock
splits or other similar changes to our capital structure, subject to adjustment for stock splits or other similar changes to our
capital structure, to 11 accredited investors. The warrants have an exercise price of $5.00 per share, are immediately exercisable
and expire on March 31, 2021.
On
April 11, 2016, we issued an aggregate of 696,056 shares of our common stock at $4.31 per share to an accredited investor in a
private placement transaction. We received gross cash proceeds of approximately $3,000,000.
On
September 1, 2016, we issued convertible unsecured promissory notes with an aggregate principal amount of $1,250,000 and warrants
to purchase up to an aggregate of 124,999 shares of our common stock to five accredited investors. We received gross cash proceeds
of $1,250,000. The warrants have an exercise price of $3.00 per share and expire on September 1, 2021.
On
November 1, 2016, we issued warrants to purchase an aggregate of 62,500 shares of our common stock, subject to adjustment for
stock splits or other similar changes to our capital structure, to five accredited investors. The warrants have an exercise price
of $3.00 per share, are immediately exercisable and expire on November 1, 2021.
On
December 1, 2016, we issued warrants to purchase an aggregate of 62,500 shares of our common stock, subject to adjustment for
stock splits or other similar changes to our capital structure, to five accredited investors. The warrants have an exercise price
of $3.00 per share, are immediately exercisable and expire on December 1, 2021.
On
December 2, 2016, we issued convertible senior secured promissory notes with an aggregate principal amount of $3,558,000 and warrants
to purchase up to an aggregate of 1,423,200 shares of our common stock to 15 accredited investors. We received gross cash proceeds
of $3,202,200. The warrants have an exercise price of $3.00 per share and expire on December 2, 2021.
On
December 2, 2016, we and certain required holders amended and restated our outstanding convertible senior secured promissory notes
originally issued on April 23, 2015 and May 9, 2015, respectively. We did not receive any cash proceeds in connection therewith.
On
December 13, 2016, we issued 44,444 shares of our common stock to an accredited investor upon conversion by such investor of an
outstanding convertible senior secured promissory note originally issued on May 9, 2015 at a conversion price of $2.50 per share.
On
December 20, 2016, we issued convertible senior secured promissory notes with an aggregate principal amount of $188,555.55 and
warrants to purchase up to an aggregate of 75,422 shares of our common stock to six accredited investors. We received gross cash
proceeds of $169,700. The warrants have an exercise price of $3.00 per share and expire on December 20, 2021.
On
December 31, 2016, we issued warrants to purchase an aggregate of 62,500 shares of our common stock, subject to adjustment for
stock splits or other similar changes to our capital structure, to five accredited investors. The warrants have an exercise price
of $3.00 per share, are immediately exercisable and expire on December 31, 2021.
On
January 30, 2017, we issued warrants to purchase an aggregate of 62,500 shares of our common stock, subject to adjustment for
stock splits or other similar changes to our capital structure, to five accredited investors. The warrants have an exercise price
of $3.00 per share, are immediately exercisable and expire on January 30, 2022.
On
February 6, 2017, we issued 10,000 shares of our common stock to an accredited investor upon partial conversion by such investor
of an outstanding convertible senior secured promissory note originally issued on May 9, 2015 at a conversion price of $2.50 per
share.
On
February 7, 2017, we issued 5,000 shares of our common stock to an accredited investor upon partial conversion by such investor
of an outstanding convertible senior secured promissory note originally issued on April 23, 2015 at a conversion price of $2.50
per share.
On February 14, 2017, we issued 4,000 shares of our common stock to an accredited investor upon partial conversion by such
investor of an outstanding convertible senior secured promissory note originally issued on April 23, 2015 at a conversion
price of $2.50 per share.
No
underwriters were involved in the foregoing sales of securities. The securities described in this section (a) of Item 15 were
issued to investors in reliance upon the exemption from the registration requirements of the Securities Act, as set forth in Section
3(a)(9) and/or Section 4(a)(2) under the Securities Act and Regulation D promulgated thereunder relative to transactions by an
issuer not involving any public offering, to the extent an exemption from such registration was required. All purchasers described
above represented to us in connection with their purchase that they were accredited investors and were acquiring the shares for
their own account for investment purposes only and not with a view to, or for sale in connection with, any distribution thereof
and that they could bear the risks of the investment and could hold the securities for an indefinite period of time. The purchasers
received written disclosures that the securities had not been registered under the Securities Act and that any resale must be
made pursuant to a registration statement or an available exemption from such registration. We did not engage in any general solicitation
or advertising in connection with the foregoing issuances.
|
(b)
|
Plan-Related
Issuances of Stock Options and Restricted Stock
|
In
the last three years, we have granted stock options to certain of our employees, consultants and directors in connection with
services provided to us by such persons to purchase an aggregate of 360,145 shares of common stock with exercise prices ranging
from $4.31 per share to $24.00 per share, and a weighted average exercise price of $13.95 per share. In April 2014, we cancelled
options to purchase 172,200 shares at exercise prices between $50.00 and $76.50, originally granted between July 1, 2013 and November
30, 2013, and issued options to purchase 172,200 shares of common stock with an exercise price of $17.50 per share. Excluding
the cancelled options to purchase 172,200 shares of common stock, in the last three years, we have granted to certain of our employees,
consultants and directors, in connection with services provided by such persons to us, options to purchase an aggregate of 185,945
shares of common stock with exercise prices ranging from $4.31 per share to $24.00 per share, and a weighted average exercise
price of $10.62 per share.
In
the last three years, we have issued and sold 64,415 shares of common stock upon exercises of options granted under our incentive
plans at prices ranging from $0.30 per share to $0.45 per share, and a weighted average exercise price of $0.44 per share.
The
stock options and the common stock issuable upon the exercise of such options as described in this section (b) of Item 15 were
issued pursuant to written compensatory plans or arrangements in reliance on the exemption from the registration requirements
of the Securities Act provided by Rule 701 promulgated under the Securities Act and/or the exemption set forth in Section 4(a)(2)
under the Securities Act and Regulation D promulgated thereunder relative to transactions by an issuer not involving any public
offering. All recipients either received adequate information about us or had access, through employment or other relationships,
to such information.
All
of the foregoing securities are deemed restricted securities for purposes of the Securities Act. All certificates representing
the issued shares of capital stock described in this Item 15 included appropriate legends setting forth that the securities had
not been registered and the applicable restrictions on transfer.
Item
16.
|
Exhibits
and Financial Statement Schedules
|
See
Exhibit Index immediately following the signature page to this registration statement.
|
(b)
|
Financial
Statement Schedules
|
All
other schedules are omitted because they are not required, are not applicable, or the information is included in the consolidated
financial statements or the related notes to consolidated financial statements thereto.
The
undersigned registrant hereby undertakes:
(1)
To file, during any period in which offers or sales are being made, a post-effective amendment to this registration statement:
(a) To
include any prospectus required by Section 10(a)(3) of the Securities Act;
(b) To
reflect in the prospectus any facts or events arising after the effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the aggregate, represent a fundamental change in the information set
forth in the registration statement. Notwithstanding the foregoing, any increase or decrease in volume of securities offered (if
the total dollar value of securities offered would not exceed that which was registered) and any deviation from the low or high
end of the estimated maximum offering range may be reflected in the form of prospectus filed with the Commission pursuant to Rule
424(b) if, in the aggregate, the changes in volume and price represent no more than 20 percent change in the maximum aggregate
offering price set forth in the “Calculation of Registration Fee” table in the effective registration statement;
(c) To
include any material information with respect to the plan of distribution not previously disclosed in the registration statement
or any material change to such information in the registration statement.
(2)
That, for the purpose of determining any liability under the Securities Act, each such post-effective amendment shall be deemed
to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.
(3)
To remove from registration by means of a post-effective amendment any of the securities being registered which remain unsold
at the termination of the offering.
(4)
That, for the purpose of determining liability under the Securities Act to any purchaser, each prospectus filed pursuant to Rule
424(b) as part of a registration statement relating to an offering, other than registration statements relying on Rule 430B or
other than prospectuses filed in reliance on Rule 430A, shall be deemed to be part of and included in the registration statement
as of the date it is first used after effectiveness.
Provided, however
, that no statement made in a registration statement
or prospectus that is part of the registration statement or made in a document incorporated or deemed incorporated by reference
into the registration statement or prospectus that is part of the registration statement will, as to a purchaser with a time of
contract of sale prior to such first use, supersede or modify any statement that was made in the registration statement or prospectus
that was part of the registration statement or made in any such document immediately prior to such date of first use.
(5)
That, for the purpose of determining liability under the Securities Act of 1933 to any purchaser in the initial distribution of
the securities: the undersigned registrant undertakes that in a primary offering of securities of the undersigned registrant pursuant
to this registration statement, regardless of the underwriting method used to sell the securities to the purchaser, if the securities
are offered or sold to such purchaser by means of any of the following communications, the undersigned registrant will be a seller
to the purchaser and will be considered to offer or sell such securities to such purchaser: (i) any preliminary prospectus or
prospectus of the undersigned registrant relating to the offering required to be filed pursuant to Rule 424; (ii) any free writing
prospectus relating to the offering prepared by or on behalf of the undersigned registrant or used or referred to by the undersigned
registrant; (iii) the portion of any other free writing prospectus relating to the offering containing material information about
the undersigned registrant or its securities provided by or on behalf of the undersigned registrant; and (iv) any other communication
that is an offer in the offering made by the undersigned registrant to the purchaser.
(6)
The undersigned registrant hereby undertakes that, for purposes of determining any liability under the Securities Act of 1933,
each filing of the registrant's annual report pursuant to section 13(a) or section 15(d) of the Securities Exchange Act of 1934
(and, where applicable, each filing of an employee benefit plan's annual report pursuant to section 15(d) of the Securities Exchange
Act of 1934) that is incorporated by reference in the registration statement shall be deemed to be a new registration statement
relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial
bona fide offering thereof.
(7)
Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling
persons of the registrant pursuant to the foregoing provisions, or otherwise, the registrant has been advised that in the opinion
of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore,
unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the registrant
of expenses incurred or paid by a director, officer or controlling person of the registrant in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered,
the registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court
of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and
will be governed by the final adjudication of such issue.
SIGNATURES
Pursuant
to the requirements of the Securities Act of 1933, as amended, the registrant has duly caused this registration statement to be
signed on its behalf by the undersigned, thereunto duly authorized, in the City of Irvine, State of California, on this 16th
day of February, 2017.
|
ENER-CORE,
INC.
|
|
|
|
|
By:
|
/s/
Alain J. Castro
|
|
|
Alain
J. Castro
|
|
|
Chief
Executive Officer
|
Signature
|
|
Title
|
|
Date
|
|
|
|
|
|
/s/
Alain J. Castro
|
|
Chief
Executive Officer and Director
|
|
February
16, 2017
|
Alain
J. Castro
|
|
(Principal
Executive Officer)
|
|
|
|
|
|
|
|
/s/
Domonic J. Carney
|
|
Chief
Financial Officer
|
|
February
16, 2017
|
Domonic
J. Carney
|
|
(Principal
Financial Officer and Principal
|
|
|
|
|
Accounting
Officer)
|
|
|
|
|
|
|
|
*
|
|
Chairman
and Director
|
|
February
16, 2017
|
Michael
J. Hammons
|
|
|
|
|
|
|
|
|
|
*
|
|
Director
|
|
February
16, 2017
|
Bennet
P. Tchaikovsky
|
|
|
|
|
|
|
|
|
|
*
|
|
Director
|
|
February
16, 2017
|
Jeffrey
Horn
|
|
|
|
|
|
|
|
|
|
*
|
|
Director
|
|
February
16, 2017
|
Ian
C. Copeland
|
|
|
|
|
|
|
|
|
|
/s/
Stephen Markscheid
|
|
Director
|
|
February
16, 2017
|
Stephen
Markscheid
|
|
|
|
|
By:
|
/s/
Domonic J. Carney
|
|
|
Attorney-in-Fact
|
|
INDEX
TO EXHIBITS
|
|
|
|
|
|
Incorporated
by Reference
|
|
|
Exhibit
|
|
|
|
|
|
|
|
Filing
|
|
|
|
Filed
|
Number
|
|
Description
of Exhibit
|
|
Form
|
|
File No.
|
|
Date
|
|
Exhibit
|
|
Herewith
|
2.1
|
|
Plan
of Conversion of the Registrant, effective September 3, 2015
|
|
8-K
|
|
000-55400
|
|
9/3/2015
|
|
2.1
|
|
|
3.1
|
|
Certificate
of Incorporation, effective September 3, 2015
|
|
8-K
|
|
000-55400
|
|
9/3/2015
|
|
3.3
|
|
|
3.2
|
|
Bylaws,
adopted effective September 3, 2015
|
|
8-K
|
|
000-55400
|
|
9/3/2015
|
|
3.4
|
|
|
3.3
|
|
Articles
of Conversion of the Registrant, effective September 3, 2015
|
|
8-K
|
|
000-55400
|
|
9/3/2015
|
|
3.1
|
|
|
3.4
|
|
Certificate
of Conversion of the Registrant, effective September 3, 2015
|
|
8-K
|
|
000-55400
|
|
9/3/2015
|
|
3.2
|
|
|
4.1
|
|
Specimen
common stock certificate
|
|
S-1
|
|
333-205916
|
|
11/5/2015
|
|
4.1
|
|
|
4.2
|
|
Registration
Rights Agreement, dated September 18, 2014, between the Registrant and certain investors
|
|
8-K
|
|
333-173040
|
|
9/19/2014
|
|
10.2
|
|
|
4.3
|
|
Form
of Warrant to Purchase Common Stock, dated November 26, 2014, issued by the Registrant to certain consultants
|
|
S-1/A
|
|
333-205916
|
|
9/18/2015
|
|
4.3
|
|
|
4.4
|
|
Warrant
to Purchase Common Stock, dated December 1, 2014, issued to Rufus Dufus, LLC
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
4.9
|
|
|
4.5
|
|
Warrant
to Purchase Common Stock, dated December 1, 2014, issued to Dylana Dreams, LLC
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
4.10
|
|
|
4.6
|
|
Warrant
to Purchase Common Stock, dated December 16, 2014, issued to Island Pickle, LLC
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
4.11
|
|
|
4.7
|
|
Warrant
to Purchase Common Stock, dated December 16, 2014, issued to Pilly Boy, LLC
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
4.12
|
|
|
4.8
|
|
Registration
Rights Agreement, dated May 1, 2015, between the Registrant and certain investors
|
|
8-K
|
|
000-55400
|
|
5/1/2015
|
|
10.2
|
|
|
4.9
|
|
Form
of Senior Secured Note, dated April 23, 2015, issued by the Registrant to certain investors
|
|
8-K
|
|
000-55400
|
|
4/23/2015
|
|
4.1
|
|
|
4.10
|
|
Form
of Warrant to Purchase Common Stock, dated April 23, 2015, issued by the Registrant to certain investors
|
|
8-K
|
|
000-55400
|
|
4/23/2015
|
|
4.2
|
|
|
4.11
|
|
Form
of Senior Secured Note, dated May 7, 2015, issued by the Registrant to certain investors
|
|
8-K
|
|
000-55400
|
|
5/7/2015
|
|
4.1
|
|
|
4.12
|
|
Form
of Warrant to Purchase Common Stock, dated May 7, 2015, issued by the Registrant to certain investors
|
|
8-K
|
|
000-55400
|
|
5/7/2015
|
|
4.2
|
|
|
4.13
|
|
Form
of Warrant issued in support of Backstop Security Support Agreement, dated November 2, 2015
|
|
8-K
|
|
000-55400
|
|
11/3/2015
|
|
4.1
|
|
|
4.14
|
|
Form
of Amendment to Senior Secured Notes issued in April 2015, effective November 2, 2015
|
|
8-K
|
|
000-55400
|
|
11/3/2015
|
|
4.2
|
|
|
4.15
|
|
Form
of Amendment to Senior Secured Notes issued in May 2015, effective November 2, 2015
|
|
8-K
|
|
000-55400
|
|
11/3/2015
|
|
4.3
|
|
|
4.16
|
|
Form
of Second Amendment to Senior Secured Notes issued in April 2015, effective December 7, 2015
|
|
S-1
|
|
333-205916
|
|
12/7/2015
|
|
4.16
|
|
|
4.17
|
|
Form
of Second Amendment to Senior Secured Notes issued in May 2015, effective December 7, 2015
|
|
S-1
|
|
333-205916
|
|
12/7/2015
|
|
4.17
|
|
|
4.18
|
|
Form
of Warrant to Purchase Common Stock, dated December 31, 2015, issued by the Registrant to certain investors
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
4.1
|
|
|
4.19
|
|
Form
of Additional Warrant to Purchase Common Stock, dated December 30, 2015
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
4.2
|
|
|
|
|
|
|
|
|
Incorporated
by Reference
|
|
|
Exhibit
|
|
|
|
|
|
|
|
Filing
|
|
|
|
Filed
|
Number
|
|
Description
of Exhibit
|
|
Form
|
|
File No.
|
|
Date
|
|
Exhibit
|
|
Herewith
|
4.20
|
|
Form
of Third Amendment to Senior Secured Notes issued in April 2015, effective as of December 30, 2015
|
|
8-K
|
|
001-3764v2
|
|
12/31/2015
|
|
4.3
|
|
|
4.21
|
|
Form
of Third Amendment to Senior Secured Notes issued in May 2015, effective as of December 30, 2015
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
4.4
|
|
|
4.22
|
|
Form
of Additional Warrant to Purchase Common Stock, dated March 31, 2016
|
|
8-K
|
|
001-37642
|
|
4/5/2016
|
|
4.1
|
|
|
4.23
|
|
Form
of Fourth Amendment to Senior Secured Notes issued in April 2015, effective as of March 31, 2016
|
|
8-K
|
|
001-37642
|
|
4/5/2016
|
|
4.2
|
|
|
4.24
|
|
Form
of Fourth Amendment to Senior Secured Notes issued in May 2015, effective as of March 31, 2016
|
|
8-K
|
|
001-37642
|
|
4/5/2016
|
|
4.3
|
|
|
4.25
|
|
Amendment
to Registration Rights Agreement, dated December 30, 2015, between the Registrant and certain investors, effective as of April
4, 2016
|
|
8-K
|
|
001-37642
|
|
4/5/2016
|
|
10.3
|
|
|
4.26
|
|
Form
of Amendment to Warrant(s)
|
|
8-K
|
|
001-37642
|
|
8/30/2016
|
|
4.1
|
|
|
4.27
|
|
Form
of Convertible Unsecured Promissory Note
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
4.1
|
|
|
4.28
|
|
Form
of Warrant
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
4.2
|
|
|
4.29
|
|
Fifth
Amendment to Senior Secured Notes issued in April 2015, effective as of September 1, 2016
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
4.3
|
|
|
4.30
|
|
Fifth
Amendment to Senior Secured Notes issued in May 2015, effective as of September 1, 2016
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
4.4
|
|
|
4.31
|
|
Form
of Convertible Senior Secured Promissory Note
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
4.1
|
|
|
4.32
|
|
Form
of Warrant
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
4.2
|
|
|
4.33
|
|
Form
of Amendment Agreement, dated November 23, 2016
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
4.3
|
|
|
4.34
|
|
Form
of First Amendment to Convertible Unsecured Promissory Notes issued in September 2015, effective as of November 23, 2016
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
4.4
|
|
|
4.35
|
|
Form
of Revised Amendment Agreement, dated November 23, 2016
|
|
8-K
|
|
001-37642
|
|
12/2/2016
|
|
4.1
|
|
|
4.36
|
|
Form
of Additional Warrant
|
|
8-K
|
|
001-37642
|
|
12/2/2016
|
|
4.2
|
|
|
5.1
|
|
Opinion
of K&L Gates LLP
|
|
S-1
|
|
333-211048
|
|
5/2/2016
|
|
5.1
|
|
|
10.1+
|
|
Form
of Indemnification Agreement for Directors and Officers
|
|
S-1
|
|
333-205916
|
|
11/5/2015
|
|
10.1
|
|
|
10.2+
|
|
2013
Equity Incentive Plan, as amended on March 25, 2015
|
|
8-K
|
|
000-55400
|
|
3/30/2015
|
|
10.7(b)
|
|
|
10.3+
|
|
2015
Omnibus Incentive Plan, as adopted by the Registrant’s board of directors on July 14, 2015 and approved by the Company’s
stockholders on August 28, 2015
|
|
DEF
14A
|
|
000-55400
|
|
7/15/2015
|
|
App.
A
|
|
|
10.4+
|
|
Executive
Employment Agreement, dated April 25, 2013, between FlexPower Generation, Inc. and Alain J. Castro
|
|
8-K
|
|
333-173040
|
|
7/10/2013
|
|
10.4
|
|
|
10.5+
|
|
Amendment
to Executive Employment Agreement, dated May 23, 2014, between Registrant and Alain J. Castro
|
|
8-K
|
|
333-173040
|
|
5/30/2014
|
|
99.2
|
|
|
10.6+
|
|
Executive
Employment Agreement, dated December 31, 2012, between FlexPower Generation, Inc. and Boris Maslov
|
|
8-K
|
|
333-173040
|
|
7/10/2013
|
|
10.5
|
|
|
10.7+
|
|
Amendment
to Executive Employment Agreement, dated May 23, 2014, between Registrant and Boris A. Maslov
|
|
8-K
|
|
333-173040
|
|
5/30/2014
|
|
99.3
|
|
|
|
|
|
|
|
|
Incorporated
by Reference
|
|
|
Exhibit
|
|
|
|
|
|
|
|
Filing
|
|
|
|
Filed
|
Number
|
|
Description
of Exhibit
|
|
Form
|
|
File No.
|
|
Date
|
|
Exhibit
|
|
Herewith
|
10.8+
|
|
Offer
Letter, dated August 19, 2014, from the Registrant to Domonic J. Carney
|
|
8-K
|
|
333-173040
|
|
8/20/2014
|
|
99.1
|
|
|
10.9+
|
|
Executive
Employment Agreement, dated August 19, 2014, between the Registrant and Domonic J. Carney
|
|
8-K
|
|
333-173040
|
|
8/20/2014
|
|
99.2
|
|
|
10.10+
|
|
Offer
Letter, dated May 19, 2014, from the Registrant to Jeff Horn
|
|
8-K
|
|
333-173040
|
|
5/30/2014
|
|
99.1
|
|
|
10.11+
|
|
Offer
Letter, November 28, 2014, from the Registrant to Ian C. Copeland
|
|
8-K
|
|
333-173040
|
|
12/4/2014
|
|
99.1
|
|
|
10.12+
|
|
Offer
Letter, dated May 18, 2015, from the Registrant to Eric Helenek
|
|
8-K
|
|
000-55400
|
|
5/21/2015
|
|
99.1
|
|
|
10.13+
|
|
Commercial
Lease Agreement, dated May 26, 2011, between Meehan Holdings, LLC and FlexEnergy, Inc.
|
|
10-Q
|
|
333-173040
|
|
8/19/2013
|
|
10.13
|
|
|
10.14
|
|
Assignment
and Assumption of Lease, dated August 1, 2013, between the Registrant and FlexEnergy, Inc.
|
|
8-K
|
|
333-173040
|
|
10/2/2013
|
|
10.17
|
|
|
10.15
|
|
Lessor’s
Consent to Assignment and Sublease, dated September 4, 2013, among the Registrant, FlexEnergy, Inc. and Meehan Holdings, LLC
|
|
8-K
|
|
333-173040
|
|
10/2/2013
|
|
10.17A
|
|
|
10.16
|
|
Securities
Purchase Agreement, dated September 18, 2014, among the Registrant and certain investors
|
|
8-K
|
|
333-173040
|
|
9/19/2014
|
|
10.1
|
|
|
10.17
|
|
Amendment
and Waiver Agreement, dated December 1, 2014, between the Registrant and certain investors
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
10.29
|
|
|
10.18
|
|
Form
of Settlement Agreement and Mutual Release, dated December 16, 2014, among the Registrant and certain investors
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
10.30
|
|
|
10.19
|
|
Form
of Exchange Agreement, dated April 16, 2015, between the Registrant and certain investors
|
|
8-K
|
|
000-55400
|
|
4/7/2015
|
|
10.1
|
|
|
10.20
|
|
Securities
Purchase Agreement, dated April 22, 2015, between the Registrant and certain investors
|
|
8-K
|
|
000-55400
|
|
4/23/2015
|
|
10.1
|
|
|
10.21
|
|
Pledge
and Security Agreement, dated April 23, 2015, among the Registrant, Ener-Core Power, Inc. and Empery Tax Efficient, LP, as
collateral agent
|
|
8-K
|
|
000-55400
|
|
4/23/2015
|
|
10.2
|
|
|
10.22
|
|
Securities
Purchase Agreement, dated May 1, 2015, among the Registrant and certain investors
|
|
8-K
|
|
000-55400
|
|
5/1/2015
|
|
10.1
|
|
|
10.23
|
|
Securities
Purchase Agreement, dated May 7, 2015, among the Registrant and certain investors
|
|
8-K
|
|
000-55400
|
|
5/7/2015
|
|
10.1
|
|
|
10.24
|
|
First
Amendment to Securities Purchase Agreement, dated May 7, 2015, between the Registrant and Empery Tax Efficient, LP, as collateral
agent
|
|
8-K
|
|
000-55400
|
|
5/7/2015
|
|
10.2
|
|
|
10.25
|
|
First
Amendment to the Pledge and Security Agreement, dated May 7, 2015, among the Registrant, Ener-Core Power, Inc. and Empery
Tax Efficient, LP, as collateral agent
|
|
8-K
|
|
000-55400
|
|
5/7/2015
|
|
10.3
|
|
|
10.26
|
|
Sales
and Service Agreement between Ener-Core Power, Inc. and the Regents of the University of California University of California,
Irvine, dated April 19, 2013
|
|
8-K/A
|
|
333-173040
|
|
8/29/2013
|
|
10.16
|
|
|
10.27†
|
|
Commercial
License Agreement, dated November 14, 2014, between Ener-Core Power, Inc. and Dresser-Rand Company
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
10.22
|
|
|
10.28†
|
|
First
Amendment to Commercial License Agreement, dated March 17, 2015, between the Registrant and Dresser-Rand Company
|
|
10-K
|
|
000-55400
|
|
3/31/2015
|
|
10.31
|
|
|
|
|
|
|
|
|
Incorporated
by Reference
|
|
|
Exhibit
|
|
|
|
|
|
|
|
Filing
|
|
|
|
Filed
|
Number
|
|
Description
of Exhibit
|
|
Form
|
|
File No.
|
|
Date
|
|
Exhibit
|
|
Herewith
|
10.29
|
|
First
Amendment to Securities Purchase Agreement, dated May 7, 2015, effective as of October 22, 2015, between the Registrant and
certain investors
|
|
8-K
|
|
000-55400
|
|
10/23/2015
|
|
10.2
|
|
|
10.30
|
|
Second
Amendment to Securities Purchase Agreement, dated April 22, 2015, effective as of October 22, 2015, between the Registrant
and certain investors
|
|
8-K
|
|
000-55400
|
|
10/23/2015
|
|
10.1
|
|
|
10.31
|
|
Backstop
Security Support Agreement between the Registrant and an investor, dated November 2, 2015
|
|
8-K
|
|
000-55400
|
|
11/3/2015
|
|
10.1
|
|
|
10.32
|
|
Security
Agreement between the Registrant and an investor, dated November 2, 2015
|
|
8-K
|
|
000-55400
|
|
11/3/2015
|
|
10.2
|
|
|
10.33
|
|
Subordination
and Intercreditor Agreement among an investor, the Registrant and Empery Tax Efficient, LP in its capacity as collateral agent
for senior lenders, dated November 2, 2015
|
|
8-K
|
|
000-55400
|
|
11/3/2015
|
|
10.3
|
|
|
10.34
|
|
Second
Amendment to Securities Purchase Agreement, dated May 7, 2015, effective as of November 24, 2015, between the Registrant and
certain investors
|
|
8-K
|
|
001-37642
|
|
11/25/2015
|
|
10.2
|
|
|
10.35
|
|
Third
Amendment to Securities Purchase Agreement, dated April 22, 2015, effective as of November 24, 2015, between the Registrant
and certain investors
|
|
8-K
|
|
001-37642
|
|
11/25/2015
|
|
10.1
|
|
|
10.36
|
|
Form
of Securities Purchase Agreement, dated December 30, 2015, between the Registrant and certain investors
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
10.1
|
|
|
10.37
|
|
Form
of Registration Rights Agreement, dated December 30, 2015, between the Registrant and certain investors
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
10.2
|
|
|
10.38
|
|
Form
of Fourth Amendment to Securities Purchase Agreement dated April 22, 2015, effective as of December 30, 2015
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
10.4
|
|
|
10.39
|
|
Form
of Third Amendment to Securities Purchase Agreement dated May 7, 2015, effective as of December 30, 2015
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
10.5
|
|
|
10.40
|
|
Engagement
Letter, dated December 26, 2015, by and among the Registrant, Northland Securities, Inc. and Lake Street Capital Markets,
LLC
|
|
8-K
|
|
001-37642
|
|
12/31/2015
|
|
10.3
|
|
|
10.41
|
|
Form
of Fifth Amendment to Securities Purchase Agreement dated April 22, 2015, effective as of March 31, 2016
|
|
8-K
|
|
001-37642
|
|
4/5/2016
|
|
10.1
|
|
|
10.42
|
|
Form
of Fourth Amendment to Securities Purchase Agreement dated May 7, 2015, effective as of March 31, 2016
|
|
8-K
|
|
001-37642
|
|
4/5/2016
|
|
10.2
|
|
|
10.43
|
|
Form
of Stock Purchase Agreement, dated April 11, 2016, by and among the Registrant and the certain investor set forth therein
|
|
8-K
|
|
001-37642
|
|
4/12/2016
|
|
10.1
|
|
|
10.44+
|
|
Option
Agreement, dated July 1, 2016, between the Company and Stephen Markscheid
|
|
8-K
|
|
000-55400
|
|
7/6/2016
|
|
10.3
|
|
|
10.45
|
|
Securities
Purchase Agreement, dated September 1, 2016, by and among Ener-Core, Inc. and certain investors set forth therein
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
10.1
|
|
|
|
|
|
|
|
|
Incorporated
by Reference
|
|
|
Exhibit
|
|
|
|
|
|
|
|
Filing
|
|
|
|
Filed
|
Number
|
|
Description
of Exhibit
|
|
Form
|
|
File No.
|
|
Date
|
|
Exhibit
|
|
Herewith
|
10.46
|
|
Subordination
and Intercreditor Agreement, September 1, 2016, by and among Ener-Core, Inc., Ener-Core Power, Inc., Longboard Capital Advisors
LLC, Anthony Tang and Empery Tax Efficient, LP
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
10.2
|
|
|
10.47
|
|
Sixth
Amendment to Securities Purchase Agreement dated April 22, 2015, effective as of September 1, 2016
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
10.3
|
|
|
10.48
|
|
Fifth
Amendment to Securities Purchase Agreement dated May 7, 2015, effective as of September 1, 2016
|
|
8-K
|
|
001-37642
|
|
9/2/2016
|
|
10.4
|
|
|
10.49
|
|
Fourth
Amendment to Commercial License Agreement, dated September 26, 2016, between Ener-Core Power, Inc. and Dresser-Rand Company
|
|
8-K
|
|
001-37642
|
|
9/30/2016
|
|
10.1
|
|
|
10.50+
|
|
First
Amendment to Ener-Core, Inc. 2015 Omnibus Incentive Plan
|
|
8-K
|
|
001-37642
|
|
9/30/2016
|
|
10.2
|
|
|
10.51
|
|
Form
of Securities Purchase Agreement, dated November 23, 2016, by and among Ener-Core, Inc. and certain investors set forth therein,
including the form of Guaranty of Ener-Core Power, Inc.
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
10.1
|
|
|
10.52
|
|
Form
of Registration Rights Agreement, dated November 2, 2016, by and among Ener-Core, Inc. and certain investors set forth therein
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
10.2
|
|
|
10.53
|
|
Form
of First Amendment to Subordination and Intercreditor Agreement, dated September 1, 2016, by and among Ener-Core, Inc., Ener-Core
Power, Inc., Longboard Capital Advisors LLC, Anthony Tang and Empery Tax Efficient, LP, effective as of November 23, 2016
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
10.3
|
|
|
10.54
|
|
Form
of First Amendment to Subordination and Intercreditor Agreement, November 2, 2015, by and among Ener-Core, Inc., Anthony Tang
and Empery Tax Efficient, LP, effective as of November 23, 2016
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
10.4
|
|
|
10.55
|
|
Form
of Second Amendment to Pledge and Security Agreement, dated April 23, 2015, by and among Ener-Core, Inc., Ener-Core Power,
Inc. and Empery Tax Efficient, LP, effective as of November 23, 2016
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
10.5
|
|
|
10.56
|
|
Form
of First Amendment to Securities Purchase Agreement, dated September 1, 2016, by and among Ener-Core, Inc. and certain investors
set forth therein, effective as of November 23, 2016
|
|
8-K
|
|
001-37642
|
|
11/25/2016
|
|
10.6
|
|
|
10.57
|
|
Form
of Amendment Agreement and Waiver, dated December 1, 2016
|
|
8-K
|
|
001-37642
|
|
12/2/2016
|
|
10.1
|
|
|
10.58
|
|
Form
of Second Amendment to Securities Purchase Agreement dated November 23, 2016, effective as of December 12, 2016
|
|
8-K
|
|
001-37642
|
|
12/14/2016
|
|
10.1
|
|
|
10.59
|
|
Separation
Agreement and Mutual Release dated February 1, 2017, effective as of January 31, 2017, between the Company and
Boris A. Maslov
|
|
8-K
|
|
001-37642
|
|
2/6/2017
|
|
10.1
|
|
|
10.60
|
|
Advisory
Services Agreement, effective as of January 31, 2017, between the Company and Boris A. Maslov
|
|
8-K
|
|
001-37642
|
|
2/6/2017
|
|
10.1
|
|
|
14.1
|
|
Code
of Ethics, adopted September 24, 2013
|
|
10-K
|
|
333-173040
|
|
4/15/2014
|
|
14.1
|
|
|
16.1
|
|
Letter
from Kelly & Company, dated December 9, 2014
|
|
8-K
|
|
333-173040
|
|
12/10/2014
|
|
16.1
|
|
|
|
|
|
|
|
|
Incorporated
by Reference
|
|
|
Exhibit
|
|
|
|
|
|
|
|
Filing
|
|
|
|
Filed
|
Number
|
|
Description
of Exhibit
|
|
Form
|
|
File No.
|
|
Date
|
|
Exhibit
|
|
Herewith
|
21.1
|
|
Subsidiaries
of the Registrant
|
|
S-1
|
|
333-205916
|
|
7/29/2015
|
|
21.1
|
|
|
23.1
|
|
Consent
of SingerLewak LLP, independent registered public accounting firm
|
|
|
|
|
|
|
|
|
|
X
|
23.2
|
|
Consent
of K&L Gates LLP (included in Exhibit 5.1)
|
|
S-1
|
|
333-211048
|
|
5/2/2016
|
|
23.2
|
|
|
24.1
|
|
Power
of Attorney
|
|
S-1
|
|
333-211048
|
|
5/2/2016
|
|
24.1
|
|
|
101.INS
|
|
XBRL
Instance Document
|
|
|
|
|
|
|
|
|
|
X
|
101.SCH
|
|
XBRL
Taxonomy Extension Schema
|
|
|
|
|
|
|
|
|
|
X
|
101.CAL
|
|
XBRL
Taxonomy Extension Calculation Linkbase
|
|
|
|
|
|
|
|
|
|
X
|
101.DEF
|
|
XBRL
Taxonomy Extension Definition Linkbase
|
|
|
|
|
|
|
|
|
|
X
|
101.LAB
|
|
XBRL
Taxonomy Extension Label Linkbase
|
|
|
|
|
|
|
|
|
|
X
|
101.PRE
|
|
XBRL
Taxonomy Extension Presentation Linkbase
|
|
|
|
|
|
|
|
|
|
X
|
†
|
Confidential
treatment requested as to portions of the exhibit. Confidential materials omitted and filed separately with the SEC.
|
|
|
+
|
Indicates
a management contract or compensatory plan.
|
II-13