NOTES TO
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
MARCH
31, 2017
Unless
otherwise noted, (1) “Sunworks” refers to Sunworks, Inc., a Delaware corporation formerly known as Solar3D, Inc. (2)
the “Company,” “we,” “us,” and “our,” refer to the ongoing business operations
of Sunworks and its Subsidiaries, whether conducted through Sunworks or a subsidiary of Sunworks, (3) “Subsidiaries”
refers collectively to Sunworks United, Inc. (“Sunworks United”), MD Energy, Inc. (“MD Energy”) and Elite
Solar Acquisition Sub, Inc. (“Elite Solar”), (4) “Common Stock” refers to Sunworks’ Common Stock,
and (5) “Stockholder(s)” refers to the holders of Sunworks’ Common Stock.
1.
BASIS OF PRESENTATION
The
accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly,
they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial
statements. The financial statements and notes are representations of the Company’s management, which is responsible for
their integrity and objectivity. In the opinion of management, all normal recurring adjustments considered necessary for a fair
presentation have been included. Operating results for the three months ended March 31, 2017 are not necessarily indicative
of the results that may be expected for the year ending December 31, 2017. For further information, refer to the consolidated
financial statements and footnotes thereto included in the Company’s Form 10-K for the year ended December 31, 2016.
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
This
summary of significant accounting policies of Sunworks, Inc. is presented to assist in understanding the Company’s financial
statements. The financial statements and notes are representations of the Company’s management, which is responsible for
their integrity and objectivity. These accounting policies conform to accounting principles generally accepted in the United States
of America and have been consistently applied in the preparation of the financial statements.
Principles
of Consolidation
The
accompanying consolidated financial statements include the accounts of Sunworks, Inc., and its wholly owned operating subsidiaries,
Sunworks United, Inc. (d/b/a Sunworks United), MD Energy, Inc., and Elite Solar Acquisition Sub, Inc. All material intercompany
transactions have been eliminated upon consolidation of these entities.
Table of Contents
Use
of Estimates
The
preparation of financial statements in conformity with accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of
contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates. Significant estimates include estimates used to review
the Company’s goodwill, impairments and estimations of long-lived assets, revenue recognition on percentage of completion
type contracts, allowances for uncollectible accounts, warranty reserves, inventory valuation, debt beneficial conversion features,
valuations of non-cash capital stock issuances and the valuation allowance on deferred tax assets. The Company bases its estimates
on historical experience and on various other assumptions that are believed to be reasonable in 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 under different assumptions or conditions.
Reclassifications
and Corrections
Certain reclassifications have
been made to conform prior period data to the current presentation. In addition, the Company identified an error and revised its
financial statements for the three months ended March 31, 2016 related to the elimination of certain intercompany revenues. Management
concluded that the errors had no material impact on any of the Company’s previously issued financial statements, are immaterial
to the Company’s results for the first quarter of 2016 and full year 2016 results, and had no material effect on the trend
of the Company’s financial results. As a result of the immaterial errors discussed above, the unaudited condensed consolidated
financial statements reflect the following adjustments: a reduction in revenue of $144,000, an increase in cost of goods sold
of $121,000 and a net decrease in SG&A and Other Income (expenses) of $265,000 for the three months ended March
31, 2016. The effect of the reclassifications and immaterial errors had no effect on reported net loss.
Revenue
Recognition
Revenues
and related costs on construction contracts are recognized using the “percentage of completion method” of accounting
in accordance with ASC 605-35, Accounting for Performance of Construction-Type and Certain Production Type Contracts (“ASC
605-35”). Under this method, contract revenues and related expenses are recognized over the performance period of the contract
in direct proportion to the costs incurred as a percentage of total estimated costs for the entirety of the contract. Costs include
direct material, direct labor, subcontract labor and any allocable indirect costs. All un-allocable indirect costs and corporate
general and administrative costs are charged to the periods as incurred. However, in the event a loss on a contract is foreseen,
the Company will recognize the loss as it is determined.
Revisions
in cost and profit estimates during the course of the contract are reflected in the accounting period in which the facts, which
require the revision, become known. Provisions for estimated losses on uncompleted contracts are made in the period in which such
losses are determined. Changes in job performance, job conditions, and estimated profitability, including those arising from contract
penalty provisions, and final contract settlements may result in revisions to costs and income and are recognized in the period
in which the revisions are determined.
The
Asset, “Costs in excess of billings”, represents revenues recognized in excess of amounts billed on contracts in progress.
The Liability, “Billings in excess of costs”, represents billings in excess of revenues recognized on contracts in
progress. At March 31, 2017 and December 31, 2016, the costs in excess of billings balance were $3,735,200 and $4,306,700, and
the billings in excess of costs balance were $6,221,300 and $4,997,200, respectively. Residential contract revenues are recognized
using the “completed contract” method of accounting.
Contract
receivables are recorded on contracts for amounts currently due based upon progress billings, as well as retention, which are
collectible upon completion of the contracts. Accounts payable to material suppliers and subcontractors are recorded for amounts
currently due based upon work completed or materials received, as are retention due subcontractors, which are payable upon completion
of the contract. General and administrative expenses are charged to operations as incurred and are not allocated to contract costs.
Contract
Receivable
The Company performs ongoing credit
evaluation of its customers. Management monitors outstanding receivables based on factors surrounding the credit risk of specific
customers, historical trends, age of receivables and other information, and records bad debts using the allowance method. Accounts
receivable are presented net of an allowance for doubtful accounts of $65,000 at March 31, 2017, and $50,000 at December 31, 2016.
During calendar year 2016, $105,500 was recorded as bad debt expense.
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Cash
and Cash Equivalent
The
Company considers all highly liquid investments with an original maturity of three months or less to be cash equivalents.
Concentration
Risk
Cash
includes amounts deposited in financial institutions in excess of insurable Federal Deposit Insurance Corporation (FDIC) limits.
At times throughout the year, the Company may maintain cash balances in certain bank accounts in excess of FDIC limits. As of
March 31, 2017, the cash balance in excess of the FDIC limits was $3,502,900. The Company has not experienced any losses in such
accounts and believes it is not exposed to any significant credit risk in these accounts.
Inventory
Inventory
is valued at the lower of cost or market and is determined by the first-in, first-out method. Inventory primarily consists of
panels, inverters, mounting racks and other materials.
Property
and Equipment
Property
and equipment are stated at cost. Depreciation for property and equipment commences when it’s put into service and are depreciated
using the straight line method over its estimated useful lives:
Machinery
& equipment
|
|
3-7
Years
|
Furniture
& fixtures
|
|
5-7
Years
|
Computer
equipment
|
|
3-5
Years
|
Vehicles
|
|
5-7
Years
|
Leaseholder
improvements
|
|
3-5
Years
|
Depreciation
expense as of March 31, 2017 and 2016 was $102,800 and $20,500, respectively.
Advertising
and Marketing
The Company expenses advertising
and marketing costs as incurred. Advertising and marketing costs include printed material, direct mail, radio, telemarketing,
tradeshow costs, magazine, and catalog advertisement. Included within selling and marketing expenses are advertising and
marketing costs for the three months March 31, 2017 and 2016 were $431,300 and $921,500, respectively.
Warranty
Liability
The
Company establishes warranty liability reserves to provide for estimated future expenses as a result of installation and product
defects, product recalls and litigation incidental to the Company’s business. Liability estimates are determined based on
management’s judgment, considering such factors as historical experience, the likely current cost of corrective action,
manufacturers’ and subcontractors’ participation in sharing the cost of corrective action, consultations with third
party experts such as engineers, and discussions with the Company’s general counsel and outside counsel retained to handle
specific product liability cases. Solar panel manufacturers currently provide substantial warranties between ten to twenty-five
years with full reimbursement to replace and install replacement panels while inverter manufacturers currently provide warranties
covering ten to fifteen year replacement and installation. Warranty reserve liability as of March 31, 2017 and December 31, 2016
is $131,200 and $116,200, respectively.
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Stock-Based
Compensation
The
Company periodically issues stock options and warrants to employees and non-employees in non-capital raising transactions for
services and for financing costs. The Company accounts for stock option and warrant grants issued and vesting to employees based
on the authoritative guidance provided by the Financial Accounting Standards Board whereas the value of the award is measured
on the date of grant and recognized over the vesting period. The Company accounts for stock option and warrant grants issued and
vesting to non-employees in accordance with the authoritative guidance of the Financial Accounting Standards Board whereas the
value of the stock compensation is based upon the measurement date as determined at either a) the date at which a performance
commitment is reached, or b) at the date at which the necessary performance to earn the equity instruments is complete. Non-employee
stock-based compensation charges generally are amortized over the vesting period on a straight-line basis. In certain circumstances
where there are no future performance requirements by the non-employee, option grants are immediately vested and the total stock-based
compensation charge is recorded in the period of the measurement date.
Basic
and Diluted Net (Loss) Income per Share Calculations
Income
(Loss) per Share dictates the calculation of basic earnings per share and diluted earnings per share. Basic earnings per share
are computed by dividing income available to common shareholders by the weighted-average number of common shares available. Diluted
earnings per share is computed similar to basic earnings per share except that the denominator is increased to include the number
of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional
common shares were dilutive. The shares for employee options, warrants and convertible notes were used in the calculation of the
net (loss) income per share.
A
net loss causes all outstanding common stock options, warrants, convertible preferred stock and convertible notes to be anti-dilutive.
As a result, the basic and diluted losses per common share are the same for the three months ended March 31, 2017.
As of March 31, 2017, the potentially
dilutive securities have been excluded from the computations of weighted average shares outstanding include 1,581,155 stock options,
1,134,615 restricted stock grants, 2,997,000 warrants, shares underlying convertible notes and preferred stock.
Dilutive
per share amounts are computed using the weighted-average number of common shares outstanding and potentially dilutive securities,
using the treasury stock method if their effect would be dilutive.
Long-Lived
Assets
The
Company reviews its property and equipment and any identifiable intangibles for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. The test for impairment is required to be performed by management
at least annually. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset
to the future undiscounted operating cash flow expected to be generated by the asset. If such assets are considered to be impaired,
the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the fair value of
the asset. Long-lived assets to be disposed of are reported at the lower of carrying amount or fair value less costs to sell.
Indefinite
Lived Intangibles and Goodwill Assets
The
Company accounts for business combinations under the acquisition method of accounting in accordance with ASC 805, “Business
Combinations,” where the total purchase price is allocated to the tangible and identified intangible assets acquired and
liabilities assumed based on their estimated fair values. The purchase price is allocated using the information currently available,
and may be adjusted, up to one year from acquisition date, after obtaining more information regarding, among other things, asset
valuations, liabilities assumed and revisions to preliminary estimates. The purchase price in excess of the fair value of the
tangible and identified intangible assets acquired less liabilities assumed is recognized as goodwill.
The
Company tests for indefinite lived intangibles and goodwill impairment in the fourth quarter of each year and whenever events
or circumstances indicate that the carrying amount of the asset exceeds its fair value and may not be recoverable. In accordance
with its policies, the Company performed a qualitative assessment of indefinite lived intangibles and goodwill at December 31,
2016.
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Fair
Value of Financial Instruments
Disclosures
about fair value of financial instruments, requires disclosure of the fair value information, whether or not recognized in the
balance sheet, where it is practicable to estimate that value. As of March 31,2017, the amounts reported for cash, accrued interest
and other expenses, and notes payable approximate the fair value because of their short maturities.
We
adopted ASC Topic 820 as of January 1, 2008 for financial instruments measured as fair value on a recurring basis. ASC Topic 820
defines fair value, established a framework for measuring fair value in accordance with accounting principles generally accepted
in the United States and expands disclosures about fair value measurements.
Fair
value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date. ASC Topic 820 established a three-tier fair value hierarchy which prioritizes
the inputs used in measuring fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets
for identical assets or liabilities (level 1measurements) and the lowest priority to unobservable inputs (level 3 measurements).
These tiers include:
|
●
|
Level
1, defined as observable inputs such as quoted prices for identical instruments in active markets;
|
|
|
|
|
●
|
Level
2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable such as
quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in markets that
are not active; and
|
|
|
|
|
●
|
Level
3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own
assumptions, such as valuations derived from valuation techniques in which one or more significant inputs or significant value
drivers are unobservable.
|
Business
Combinations
We
allocate the fair value of purchase consideration to the tangible assets acquired, liabilities assumed and intangible assets acquired
based on their estimated fair values. The excess of the fair value of purchase consideration over the fair values of these identifiable
assets and liabilities is recorded as goodwill. Such valuations require management to make significant estimates and assumptions,
especially with respect to intangible assets. Significant estimates in valuing certain intangible assets include, but are not
limited to, future expected cash flows from acquired customer lists, acquired technology, and trade names from a market participant
perspective, useful lives and discount rates. Management’s estimates of fair value are based upon assumptions believed to
be reasonable, but which are inherently uncertain and unpredictable and, as a result, actual results may differ from estimates.
During the measurement period, which is one year from the acquisition date, we may record adjustments to the assets acquired and
liabilities assumed, with the corresponding offset to goodwill. Upon the conclusion of the measurement period, any subsequent
adjustments are recorded to earnings.
Income
Taxes
The
Company uses the liability method of accounting for income taxes. Deferred tax assets and liabilities are recognized for the future
tax consequences attributable to financial statements carrying amounts of existing assets and liabilities and their respective
tax bases and operating loss and tax credit carry-forwards. The measurement of deferred tax assets and liabilities is based on
provisions of applicable tax law. The measurement of deferred tax assets is reduced, if necessary, by a valuation allowance based
on the amount of tax benefits that, based on available evidence, is not expected to be realized.
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Segment
Reporting
Operating
segments are defined as components of an enterprise for which separate financial information is available and evaluated regularly
by the chief operating decision maker, or decision making group, in deciding the method to allocate resources and assess performance.
The Company currently has one reportable segment for financial reporting purposes, which represents the Company’s core business.
New
Accounting Pronouncements
In
February 2016, the FASB issued ASU No. 2016-2, which creates ASC Topic 842, “Leases.” This update increases transparency
and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key
information about leasing arrangements. This guidance is effective for interim and annual reporting periods beginning after December
15, 2018. We are evaluating what impact, if any, the adoption of this guidance will have on our financial condition, results of
operations, cash flows or financial disclosures.
In
August 2016, the FASB issued ASU No. 2016-15 which amends ASC Topic 230, “Classification of Certain Cash Receipts and Cash
Payments.” The amendments in this Update address eight specific cash flow issues with the objective of reducing the existing
diversity in practice. The update outlines the classification of specific transactions as either cash inflows or outflows from
financing activities, operating activities, investing activities or non-cash activities. This guidance is effective for interim
and annual reporting periods beginning after December 15, 2017. We are evaluating what impact, if any, the adoption of this guidance
will have on our financial condition, results of operations, cash flows or financial disclosures.
In
November 2016, the FASB issued Accounting Standards Update (“ASU”) 2016-18, Statement of Cash Flows (Topic 230): Restricted
Cash. Historically, there has been a diversity in practice in how changes in restricted cash are presented and classified in the
statement of cash flows. The amendments in this update require that a statement of cash flows explain the change during the period
in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore,
amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents
when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The amendments
in this update are effective for public entities for fiscal years beginning after December 15, 2017, and interim periods within
those fiscal years. Early adoption is permitted. We are evaluating what impact, if any, the adoption of this guidance will have
on our financial condition, results of operations, cash flows or financial disclosures.
Management reviewed currently issued
pronouncements during the period ended March 31, 2017 and does not believe that any other recently issued, but not
yet effective, accounting standards, if currently adopted, would have a material effect on the accompanying consolidated financial
statements.
Table of Contents
3.
LOANS PAYABLE
Plan
B, a subsidiary of the Company, entered into a business loan agreement prior to the acquisition with Tri Counties Bank dated March
14, 2014, in the original amount of $131,000 bearing interest at 4.95%. The loan agreement called for monthly payments of $2,500
and was scheduled to mature on March 14, 2019. Proceeds from the loan were used to purchase a pile driver and related equipment
and is secured by the equipment. The outstanding balance at March 31, 2017, is $56,100.
Plan
B, a subsidiary of the Company, entered into a business loan agreement prior to the acquisition with Tri Counties Bank dated April
9, 2014, in the original amount of $250,000 bearing interest at 4.95%. The loan agreement calls for monthly payments of $4,700
and is scheduled to mature on April 9, 2019. Proceeds from the loan were used to purchase racking inventory and related equipment.
The loan is secured by the inventory and equipment. The outstanding balance at March 31, 2017, is $111,800.
On December 31, 2015, the Company
entered into a $2.5 million Credit Facility or the Credit Agreement with JPMorgan Chase Bank, N.A. Availability under the Credit
Facility is a Line of Credit with a Letter of Credit Sublimit up to $2.5 million. Upon execution, the Company accessed $1.8 million
that was repaid in full on January 5, 2016. The Company had no borrowings under the Credit Agreement as of March 31, 2017 and
December 31, 2016. The Credit Agreement matures on November 30, 2017, but may be cancelled at any time by the Company. Loans
are secured by a security interest in the Company’s cash accounts held with the Lender. Interest on any unpaid balance accrues
at the Prime Rate, as defined in the Credit Agreement; provided that, on any given day, shall not be less than the Adjusted One
Month LIBOR rate. Until the maturity date, the Company shall pay monthly interest only on loans. The Credit Facility provides
for the payment of certain fees, including fees applicable to each standby letter of credit and standard transaction fees with
respect to any transactions occurring on account of any letter of credit. Subject to customary carve-outs, the Credit Agreement
contains customary negative covenants and restrictions for agreements of this type on actions by the Company including, without
limitation, restrictions on indebtedness, liens, investments, loans, consolidation, mergers, dissolution, asset dispositions outside
the ordinary course of business, change in business and restriction on use of proceeds. In addition, the Credit Agreement requires
compliance by the Company with covenants including, but not limited to, furnishing the lender with certain financial reports.
The Credit Agreement contains customary events of default, including, without limitation, non-payment of principal or interest,
violation of covenants, inaccuracy of representations in any material respect and cross defaults with certain other indebtedness
and agreements.
On
January 5, 2016, the Company entered into a loan agreement for the acquisition of a pile driver in the principal amount of $182,000
bearing interest at 5.5%. The loan agreement calls for monthly payments of $4,200 and is scheduled to mature on January 15, 2020.
The loan is secured by the equipment. The outstanding balance at March 31, 2017, is $132,700.
On
September 8, 2016, the Company entered into a loan agreement for the acquisition of a pile driver in the principal amount of $174,000
bearing interest at 5.5%. The loan agreement calls for monthly payments of $4,000 and is scheduled to mature on January 15, 2020.
The loan is secured by the equipment. The outstanding balance at March 31, 2017, is $154,200.
On November 14, 2016, the Company
entered into a 0% interest loan agreement for the acquisition of an excavator in the principal amount of $58,600. The loan agreement
calls for monthly payments of $1,200 and is scheduled to mature on November 13, 2020. The loan is secured by the equipment. The
outstanding balance at March 31, 2017, is $52,800.
On
December 23, 2016, the Company entered into a loan agreement for the acquisition of modular office systems and related furniture
in the principal amount of $172,000 bearing interest at 4.99%. The loan agreement calls for 16 quarterly payments of $11,900 and
is scheduled to mature in September 2020. The loan is secured by the equipment. The outstanding balance at March 31, 2017, is
$152,300.
As
of March 31. 2017 and December 31, 2016, loans payable are summarized as follows:
|
|
March
31, 2017
|
|
|
December
31, 2016
|
|
Business loan agreement dated March
14, 2014
|
|
$
|
56,100
|
|
|
$
|
62,700
|
|
Business loan agreement dated April
9, 2014
|
|
|
111,800
|
|
|
|
124,500
|
|
Equipment notes payable
|
|
|
491,900
|
|
|
|
526,200
|
|
|
|
|
|
|
|
|
|
|
Subtotal
|
|
|
659,800
|
|
|
|
713,400
|
|
Less: Current
position
|
|
|
(222,400
|
)
|
|
|
(217,700
|
)
|
|
|
|
|
|
|
|
|
|
Long-term
position
|
|
$
|
437,400
|
|
|
$
|
495,700
|
|
Table of Contents
4.
ACQUISITION CONVERTIBLE PROMISSORY NOTES
On January 31, 2014, the Company
issued 4% convertible promissory notes in the aggregate principal amount of $1,750,000 as part of the consideration paid to acquire
100% of the issued and outstanding stock of Sunworks United. The notes are convertible into shares of fully paid and non-assessable
shares of common stock at ae conversion price was $0.52 per share and was originally due on March 30, 2015, which
was amended to extend to March 31, 2016. The Notes were five (5) year notes and bore interest at the rate of 4% per annum. In
February and March 2014, $625,000 of the notes was converted into 1,201,923 shares of common stock, leaving a remaining note balance
of $1,125,000 as of December 31, 2014. During the twelve months ended December 31, 2015, the Company issued 721,154 shares of
common stock upon conversion of principal in the amount of $375,000. The principal note balance remaining as of December 31, 2015
was $750,000. On February 29, 2016, the $750,000 balance remaining was fully converted into 1,442,308 shares of common stock.
On
February 28, 2015, the Company issued a 4% convertible promissory note in the aggregate principal amount of $2,650,000 as part
of the consideration paid to acquire 100% of the total outstanding stock of MD Energy. The note is convertible into shares of
common stock on or after each of the following dates: November 30, 2015, November 30, 2016 and November 30, 2017. The conversion
price is $2.60 per share. A beneficial conversion feature of $3,261,500 was calculated but capped at the $2,650,000 value of the
note. The beneficial conversion feature was calculated by multiplying the difference between the fair value of stock at the date
of the note $5.80 less the conversion price of $2.60 multiplied by the maximum number of share subject to conversion, 1,019,231.
In November 2015, the Company issued 339,743 shares of common stock upon conversion of the principal amount of $883,000. Commencing
on March 31, 2015, and each quarter thereafter during the first two (2) years of the note, the Company will make quarterly interest
only payments to the shareholder for accrued interest on the Note during the quarter. Commencing with the quarter ending on June
30, 2017, the Company will make quarterly payments of interest accrued on the convertible note during the prior quarter plus $221,000
with the final payment of all outstanding principal and accrued but unpaid interest on the convertible note due and payable on
February 28, 2020 (the maturity date). The Company recorded amortization of the beneficial conversion feature as interest expense
in the amount of $217,500 and $240,400 during the three months ended March 31, 2017 and 2016, respectively. The debt discount
will be amortized over the life of the convertible note, or until such time that the convertible note is converted, in full or
in part, into shares of common stock of the Company with any unamortized debt discount continuing to be amortized in the event
of any partial conversion thereof and any unamortized debt discount being expensed at such time of full conversion thereof.
We
evaluated the foregoing financing transactions in accordance with ASC Topic 470, Debt with Conversion and Other Options, and determined
that the conversion feature of the convertible promissory note was afforded the exemption for conventional convertible instruments
due to its fixed conversion rate. The convertible promissory notes have explicit limits on the number of shares issuable so they
did meet the conditions set forth in current accounting standards for equity classification. The convertible promissory notes
were issued with non-detachable conversion options that are beneficial to the investors at inception, because the conversion option
has an effective strike price that is less than the market price of the underlying stock at the commitment date. The accounting
for the beneficial conversion feature requires that the beneficial conversion feature be recognized by allocating the intrinsic
value of the conversion option to additional paid-in-capital, resulting in a discount on the convertible notes, which will be
amortized and recognized as interest expense.
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5.
CONVERTIBLE PROMISSORY NOTES
Convertible
promissory note at March 31, 2017 and December 31, 2016 are as follows:
|
|
2016
|
|
|
2016
|
|
Convertible promissory
notes payable
|
|
$
|
384,000
|
|
|
$
|
654,000
|
|
Less, debt
discount
|
|
|
-
|
|
|
|
-
|
|
Convertible
promissory notes payable, net
|
|
$
|
384,000
|
|
|
$
|
654,000
|
|
On
January 31, 2014, the Company entered into a securities purchase agreement providing for the sale of a 10% convertible promissory
note in the principal amount of up to $750,000 for consideration of $750,000. The proceeds were restricted and were used for the
purchase of Solar United Network, Inc. The note was convertible into shares of common stock of the Company at a price equal to
a variable conversion price equal to the lesser of $1.30 per share, or fifty percent (50%) of the lowest trading price after the
effective date. At September 30, 2014, the note was exchanged for a new convertible note with a fixed conversion price of $0.338.
Per ASC 815, the derivative liability on the note was extinguished and the new note was re-valued per ASC 470 as a beneficial
conversion feature, which was expensed in the statement of operations during 2014. The note originally matured on October 28,
2014, was extended three months to January 31, 2015, was extended to September 30, 2016, and in March 2016 was subsequently extended
to June 30, 2019 with zero interest. The Company recorded interest expense in the amount of $11,000 during the year ended December
31, 2016 prior to eh note being extended at zero interest. During the year ended December 31, 2016, the noteholder made a partial
conversion of principal and accrued interest in the amount of $196,000 and $45,000 respectively in exchange for 711,586 shares
of common stock, with a remaining principal balance of $554,000. On March 1, 2017, the Company issued 798,817 shares of common
stock to the note holder at the fixed conversion price of $0.338 per share. The conversion of the note results in a $270,000 outstanding
principal reduction in the note from $554,000 to $284,000.
On
February 11, 2014, the Company entered into a securities purchase agreement providing for the sale of a 10% convertible promissory
note in the principal amount of up to $100,000. Upon execution of the note, the Company received an initial advance of $20,000.
In February and March of 2014, the Company received additional advances in an aggregate amount of $80,000 for an aggregate
total of $100,000. The note was convertible into shares of common stock of the Company at a price equal to a variable conversion
price equal to the lesser of $1.30 per share, or fifty percent (50%) of the lowest trading price after the effective date. As
of September 30, 2014, the note was exchanged for a new convertible note with a fixed conversion price of $0.338. Per ASC 815,
the derivative liability on the note was extinguished and the new note was re-valued per ASC 470 as a beneficial conversion feature.
The note matured on various dates from the effective date of each advance with respect to each advance. At the sole discretion
of the lender, the lender was able to modify the maturity date to be twelve (12) months from the effective date of each advance.
The note matured on various dates in 2014, and was extended to September 30, 2016, and in March 2016 was subsequently extended
to June 30, 2019 with zero interest. The Company recorded no interest expense in 2016 prior to the note being extended.
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6.
CAPITAL STOCK
Common
Stock
On February 17, 2017, the Company
issued 41,773 shares of common stock for the cashless exercise of 53,419 options at an exercise price of
$0.468 per share.
On March 1, 2017, the Company issued
798,817 shares of common stock at a conversion price of $0.338 per share for partial conversion of principal for a convertible
promissory note in the aggregate amount of $270,000.
On March 16, 2017, the Company
issued 746,153 shares of restricted common stock per terms of the performance-based RSGA awards. The Company had previously recorded
stock based compensation costs at fair value as of the date of grant of $3,751,500 related to the vesting of these awards in the
year ended December 31, 2016.
Preferred
Stock
On November 25, 2015, the Company
designated 1,700,000 shares, of its authorized preferred stock, as Series B Preferred Stock, $0.001 par value per share. The Certificate
of Designation was filed with the Secretary of State of the State of Delaware. Pursuant to the Certificate of Designation and
subject to the rights of any other series of preferred stock that may be established by the Board of Directors, holders of Series
B Preferred Stock (the “Holders”) will have liquidation preference over the holders of the Company’s Common
Stock in any distribution upon winding up, dissolution, or liquidation. Holders will also be entitled to receive dividends, if,
when and as declared by the Board of Directors, which dividends shall be payable in preference and priority to any payment of
any dividend to holders of Common Stock. Holders will be entitled to convert each share of Series B Preferred Stock into one (1)
share of Common Stock, and will also be entitled to vote together with the holders of the Company’ Common Stock on
all matters submitted to shareholders at a rate of one (1) vote for each share of Series B Preferred Stock. In addition, so long
as at least 100,000 shares of Series B Preferred Stock are outstanding, the Company may not, without the consent of the Holders
of at least a majority of the shares of Series B Preferred Stock then outstanding: (i) amend, alter or repeal any provision of
the Certificate of Incorporation or bylaws of the Company or the Certificate of Designation so as to adversely affect any of the
rights, preferences, privileges, limitations or restrictions provided for the benefit of the Holders or (ii) issue or sell, or
obligate itself to issue or sell, any additional shares of Series B Preferred Stock, or any securities that are convertible into
or exchangeable for shares of Series B Preferred Stock. 1,506,024 shares of Series B Preferred stock, at a fair value of $4,500,000
were issued in December 2015 in connection with the acquisition of Plan B.
7
.
STOCK OPTIONS, RESTRICTED STOCK AND WARRANTS
Options
As
of March 31, 2017, the Company has 1,581,155 non-qualified stock options outstanding to purchase 1,581,155 shares of common stock,
per the terms set forth in the option agreements. The stock options vest at various times, and are exercisable for a period of
seven years from the date of grant at exercise prices ranging from $0.26 to $4.42 per share, the market value of the Company’s
common stock on the date of each grant. The Company determined the fair market value of these options by using the Black Scholes
option valuation model.
|
|
March
31, 2017
|
|
|
|
|
|
|
Weighted
|
|
|
|
Number
|
|
|
average
|
|
|
|
of
|
|
|
exercise
|
|
|
|
Options
|
|
|
price
|
|
Outstanding, beginning January 1, 2017
|
|
|
1,634,574
|
|
|
$
|
1.93
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
Exercised
|
|
|
(53,419
|
)
|
|
|
0.47
|
|
Expired
|
|
|
-
|
|
|
|
-
|
|
Outstanding, end of March 31, 2017
|
|
|
1,581,155
|
|
|
|
2.20
|
|
Exercisable at the end of March
31, 2017
|
|
|
1,069,865
|
|
|
|
1.61
|
|
During
the three months ended March 31, 2017 and 2016, the Company charged a total of $217,000 and $28,000 respectively, to operations
related to recognized stock based compensation expense for stock options.
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Restricted Stock Grants
During
the year ended December 31, 2013, the Company entered into a restricted stock grant agreement or RSGA with its then Chief
Executive Officer, James B. Nelson, intended to provide and incentivize Mr. Nelson to improve the economic performance of the
Company and to increase its value and stock price. All shares issuable under the RSGA are performance-based shares and are valued
as of the grant date at $0.47 per share. The RSGA provides for the issuance of up to 769,230 shares of the Company’s common
stock to Mr. Nelson provided certain milestones are met in certain stages. As of September 30, 2014, two of the milestones were
met, when the Company’s market capitalization exceeded $10 million and the consolidated gross revenue, calculated in accordance
with GAAP, equaled or exceeded $10 million for the trailing twelve-month period. The Company issued 384,615 shares of common stock
to Mr. Nelson at fair value of $786,000 during the year ended December 31, 2014. If the Company’s consolidated net profit,
calculated in accordance to GAAP, equals or exceeds $2 million for a trailing twelve-month period and the sooner of Mr. Nelson’s
retirement, change of control, or January 2019, the Company will issue an additional 384,615 shares of the Company’s common
stock to Mr. Nelson. We have not recognized any cost associated with the third milestone due to the inability to estimate the
probability of it being achieved. As the final performance goal is achieved, the shares shall become eligible for vesting and
issuance.
In
recognition of the efforts of James B. Nelson, the Company’s Chief Executive Officer, in leading the Company through the
uplisting and financing transaction consummated by the Company in 2015, on August 31, 2016, the Company granted Mr. Nelson a restricted
stock grant of 250,000 shares of the Company’s common stock pursuant to the terms of the Company’s 2016 Equity Incentive
Plan (the “2016 Plan”). All shares issuable under the RSGA are valued as of the grant date at $2.90 per share. The
restricted stock grant to Mr. Nelson will vest upon the earlier of (i) January 1, 2021, (ii) a Change of Control as defined in
the 2016 Plan (iii) upon Mr. Nelson’s retirement or (iv) upon Mr. Nelson’s death. “Change of Control”
as defined in the 2016 Plan means (i) a sale of all or substantially all of the Company’s assets or (ii) a merger with another
entity or an acquisition of the Company that results in the existing shareholders of the Company owning less than fifty percent
(50%) of the outstanding shares of capital stock of the surviving entity following such transaction.
In
the three months ended March 31, 2017, $41,800 of stock based compensation expense was recognized for the August 31, 2016 RSGA.
During
the year ended December 31, 2014, the Company entered into RSGAs with the three Shareholders of Sunworks United (Sunworks United
Shareholders), intended to provide incentive to the recipients to ensure economic performance of the Company. All shares issuable
under the RSGAs were performance based shares and were valued as of the grant date at $5.12 per share. Each of the RSGAs provided
for the issuance of up to 276,924 shares of the Company’s common stock in the aggregate to the Sunworks United Shareholders
provided certain milestones were met in certain stages as follows: a) If the Company’s aggregate net income from operations,
for any trailing four (4) quarters equaled or exceeded $2 million, the Company would issue each Sunworks United Shareholder 92,308
shares of common stock and 276,924 shares in the aggregate; b) If the Company’s aggregate net income from operations, for
any trailing four (4) quarters exceeded $3 million, the Company would issue each Sunworks United Shareholder 92,308 shares and
276,924 shares of common stock in the aggregate; c) If the Company’s aggregate net income from operations, for any trailing
four (4) quarters exceeded $4 million, the Company would issue each Sunworks United Shareholder 92,307 and 276,924 shares in the
aggregate. Based on the probability that the first milestone would be achieved the Company recognized $100,000 in stock compensation
expense during the year 2015. As of September 30, 2016 the Company achieved each of the three milestones. During the quarter ended
June 30, 2016 the Company issued 276,924 shares in aggregate associated with the first milestone. The issuance of the remaining
553,845 shares was completed on March 16, 2017. The stock based compensation expense associated with the achievement of the second
and third milestones totaled $2,837,000 and was recognized in the quarter ended September 30, 2016. No additional compensation
expense was required with the March 16, 2017 issuance of the 553,845 common shares.
Table of Contents
During
the year ended December 31, 2014, the Company entered into RSGAs with certain employees of Sunworks United, intended to provide
incentive to the recipients to ensure certain economic performance of the Company. All shares issuable under the RSGA were performance
based shares and were valued as of the grant date at $5.12 per share. Each of the RSGAs provided for the issuance of up to 38,462
shares of the Company’s common stock to each employee provided certain milestones were met in certain stages as follows:
a) If the Company’s aggregate net income from operations, for any trailing four (4) quarters equaled or exceeded $2 million,
the Company would issue to each employee 12,821 shares of common stock and 64,105 shares in the aggregate; b) If the Company’s
aggregate net income from operations, for any trailing four (4) quarters exceeded $3 million, the Company would issue each employee
12,821 shares of common stock and 64,105 shares in the aggregate; c) If the Company’s aggregate net income from operations,
for any trailing four (4) quarters exceeded $4 million, the Company would issue each employee 12,820 and 51,280 shares in the
aggregate. Based on the probability that the first milestone would be achieved the Company recognized $33,000 in stock compensation
expense during the year 2015. As of September 30, 2016, the Company achieved each of the three milestones. During the quarter
ended June 30, 2016 the Company issued 64,105 shares in aggregate associated with the first milestone. The issuance of the remaining
115,385 shares was completed on March 16, 2017. The stock based compensation expense associated with the achievement of the second
and third milestones totaled $591,000 and was recognized in the quarter ended September 30, 2016. No additional compensation expense
was required with the March 16, 2017 issuance of the 115,385 common shares.
On
February 1, 2015, the Company entered into a RSGA with its former Chief Financial Officer, intended to provide incentive to the
former CFO to ensure certain economic performance of the Company. All shares issuable under the RSGA were performance-based shares
and were valued as of the grant date at $4.21 per share. The RSGA provided for the issuance of up to 115,385 shares of the Company’s
common stock provided certain milestones were met in certain stages as follows: a) If the Company’s aggregate net income
from operations, for any trailing four (4) quarters equaled or exceeded $2 million, the Company would issue 38,462 shares of common
stock; b) If the Company’s aggregate net income from operations, for any trailing four (4) quarters exceeded $3 million,
the Company would issue 38,462 shares of common stock; c) If the Company’s aggregate net income from operations, for any
trailing four (4) quarters exceeded $4 million, the Company would issue 38,461. As of September 30, 2016 the Company achieved
each of the three milestones. During the quarter ended June 30, 2016 the Company issued 38,462 shares associated with the first
milestone. The issuance of the remaining 76,723 shares was completed on March 16, 2017. The stock based compensation expense associated
with the achievement of the second and third milestones totaled $324,000 and was recognized in the quarter ended September 30,
2016. No additional compensation expense was required with the March 16, 2017 issuance of the 76,923 common shares.
The
total combined option and restricted stock compensation expense recognized, in the statement of operations, during the first three
months of 2017 and 2016 was $217,300 and $28,200, respectively.
Warrants
As
of March 31, 2017, the Company had 2,997,000 common stock purchase warrants outstanding with an exercise price of $4.15 per share.
Table of Contents
8
.
SUBSEQUENT EVENTS
Appointment
of Charles F. Cargile as Chief Executive Officer
Effective
April 3, 2017 of Charles F. Cargile became the Company’s Chief Executive Officer. James Nelson, the Company’s former
Chief Executive Officer continues to serve as Chairman of the Company.
Mr. Cargile has served as an independent
director of Sunworks since September 2016. Mr. Cargile receives a base salary of $300,000 per year and a discretionary bonus, provided,
however, for the fiscal year ending December 31, 2017, Mr. Cargile shall be entitled to a minimum bonus equal to 3% of the operating
earnings of the Company but shall receive a bonus that is not less than the bonus paid to next highest executive of the Company.
R
estricted
Stock Grant to New CEO
With
an effective date of March 29, 2017, subject to the Sunworks, Inc. 2016 Equity Incentive Plan, the Company entered into a restricted
stock grant agreement or RSGA with its new Chief Executive Officer, Charles F. Cargile. All shares issuable under the RSGA are
valued as of the grant date at $1.50 per share. The RSGA provides for the issuance of up to 500,000 shares of the Company’s
common stock. The restricted shares shall vest as follows: 166,667 of the restricted shares shall vest on the one (1) year anniversary
of the effective date, and the balance, or 333,333 restricted shares, shall vest in twenty-four (24) equal monthly installments
commencing on the one (1) year anniversary of the effective date
Table of Contents