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UNITED STATES

 

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

(Mark One)

 

x  QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2017

 

¨ TRANSITION REPORT UNDER SECTION13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

FOR THE TRANSITION PERIOD FROM __________ TO __________

COMMISSION FILE NUMBER: 000-54817

 

CARBON SCIENCES, INC.

(Name of registrant in its charter)

 

Nevada

 

205451302

(State or other jurisdiction of incorporation or

organization)

 

(I.R.S. Employer Identification No.)

 

5511C Ekwill Street, Santa Barbara, California 93111

(Address of principal executive offices) (Zip Code)

 

Issuer’s telephone Number: (805) 456-7000

 

 

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

 

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

 

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 definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer o

Non-accelerated filer o

 

Smaller reporting company x

Emerging growth company o

 

 

 

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

 

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

 

The number of shares of registrant’s common stock outstanding, as of May 12, 2017 was 36,675,123.

 

 

 


1


INDEX


 

CARBON SCIENCES, INC. 

INDEX

 

      PART I: FINANCIAL INFORMATION

 

ITEM 1

 

FINANCIAL STATEMENTS (Unaudited)

3

   

 

Condensed Balance Sheets

3

 

 

Condensed Statements of Operations

4

 

 

Condensed Statements of Cash Flows

5

 

 

Notes to Condensed Financial Statements

6

ITEM 2

 

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

19

ITEM 3

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

26

ITEM 4

 

CONTROLS AND PROCEDURES

26

PART II: OTHER INFORMATION

27

ITEM 1

 

LEGAL PROCEEDINGS

27

ITEM 1A

 

RISK FACTORS

27

ITEM 2

 

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

27

ITEM 3

 

DEFAULTS UPON SENIOR SECURITIES

27

ITEM 4

 

MINE SAFETY DISCLOSURES

27

ITEM 5

 

OTHER INFORMATION

27

ITEM 6

 

EXHIBITS

27

        SIGNATURES

28


2


INDEX


PART I – FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

 

CARBON SCIENCES, INC.

Condensed Balance Sheets

 

March 31,
2017

(Unaudited)

December 31,
2016

ASSETS

 

 

 

 

 

Current assets:

 

 

  Cash

$ 38,681   

$ 39,934   

  Prepaid expenses

22,064   

1,905   

  Total current assets

60,745   

41,839   

 

 

 

Property and equipment, net

1,019   

1,194   

Total assets

$ 61,764   

$ 43,033   

 

 

 

LIABILITIES AND STOCKHOLDERS' DEFICIT

 

 

 

 

 

Current liabilities:

 

 

Accounts payable

$ 138,603   

$ 108,381   

Accrued expenses and other current liabilities

5,671   

5,846   

Accrued interest, notes payable

67,876   

50,964   

Derivative liabilities

9,058,770   

6,690,697   

Convertible notes payable

33,667   

39,917   

Convertible notes payable, net of discount of $353,395 and $358,981, respectively

542,205   

361,619   

 Total current liabilities

9,846,792   

7,257,424   

 

 

 

Stockholders’ deficit:

 

 

Preferred stock, $0.001 par value; 20,000,000 shares authorized: Series B, 16,155 shares issued and outstanding

16   

16   

Common stock, $0.001 par value; 2,000,000,000 shares authorized, 36,675,123 and 35,178,624 shares issued and outstanding, respectively

36,675   

35,179   

Additional paid-in capital

20,452,940   

20,400,413   

Accumulated deficit

(30,274,659)  

(27,649,999)  

Total stockholders’ deficit

(9,785,028)  

(7,214,391)  

Total liabilities and stockholders’ deficit

$ 61,764   

$ 43,033   

 

 

See notes to condensed financial statements


3


INDEX


CARBON SCIENCES, INC.

Condensed Statements of Operations

(Unaudited)

 

Three Months Ended
March 31,

 

2017

2016

 

 

 

Revenue

$  

$  

 

 

 

Operating Expenses:

 

 

  General and administrative

184,094   

118,755   

  Research and development

 

32,749   

  Depreciation and amortization

175   

93   

 

 

 

  Total operating expenses

184,269   

151,597   

 

 

 

Loss from operations

(184,269)  

(151,597)  

 

 

 

Other income (expense):

 

 

  Rental income

 

8,051   

  (Loss) gain on settlement of debt

17   

(39,005)  

  Loss on change in derivative liabilities

(2,235,379)  

(1,149,505)  

  Interest expense

(205,029)  

(468,795)  

 

 

 

  Total other income (expense)

(2,440,391)  

(1,649,254)  

 

 

 

Loss before income taxes

(2,624,660)  

(1,800,851)  

 

 

 

Provision for income taxes

 

 

 

 

 

Net loss

$ (2,624,660)  

$ (1,800,851)  

 

 

 

 

 

 

Net loss per common share, basic and diluted

$ (0.07)  

$ (0.05)  

 

 

 

Weighted average number of common shares
  outstanding, basic and diluted

35,760,596   

34,062,407   

 

 

 

 

See notes to condensed financial statements


4


INDEX


CARBON SCIENCES, INC.

Condensed Statements of Cash Flows

(Unaudited)

 

Three Months Ended
March 31,

 

2017

2016

 

 

 

Cash flows from operating activities:

 

 

  Net loss

$ (2,624,660)  

$ (1,800,851)  

  Adjustments to reconcile net loss to net cash
     used in operating activities:

 

 

     Depreciation and amortization

175   

93   

     Preferred stock issued for services

 

 

     (Gain) loss on settlement of debt

(17)  

39,005   

     Amortization of debt discount and beneficial
        conversion feature recorded to interest expense

185,586   

436,899   

     Loss on change in derivative liabilities

2,235,379   

1,149,505   

  Changes in assets and liabilities:

 

 

     (Increase) decrease in prepaid expenses

(20,159)  

(20,045)  

     Increase (decrease) in:

 

 

        Accounts payable

30,222   

14,675   

        Accrued expenses and other current liabilities

18,471   

32,601   

 

 

 

  Net cash used in operating activities

(175,003)  

(148,117)  

 

 

 

Cash flows from investing activities:

 

 

  Purchase of property and equipment

 

(1,472)  

 

 

 

  Net cash used in investing activities

 

(1,472)  

 

 

 

Cash flows from financing activities:

 

 

  Proceeds from convertible notes payable

180,000   

135,000   

  Payments of convertible notes payable

(6,250)  

 

 

 

 

  Net cash provided by financing activities

173,750   

135,000   

 

 

 

Net decrease in cash

(1,253)  

(14,589)  

Cash, beginning of period

39,934   

37,696   

 

 

 

Cash, end of period

$ 38,681   

$ 23,107   

 

 

 

 

See notes to condensed financial statements


5


INDEX


 

CARBON SCIENCES, INC.

Notes to Condensed Financial Statements

Three Months Ended March 31, 2017

(Unaudited)

 

1.  BASIS OF PRESENTATION AND GOING CONCERN

 

Basis of Presentation

 

The accompanying unaudited condensed financial statements of Carbon Sciences, Inc. (the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States of America 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.  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 financial statements and notes thereto included in the Company's Form 10-K for the year ended December 31, 2016.

 

Going Concern

 

The accompanying condensed financial statements have been prepared on a going concern basis of accounting, which contemplates continuity of operations, realization of assets and liabilities and commitments in the normal course of business.  The accompanying condensed financial statements do not reflect any adjustments that might result if the Company is unable to continue as a going concern.  The Company does not generate any revenue, and has negative cash flows from operations, which raise substantial doubt about the Company’s ability to continue as a going concern.  The ability of the Company to continue as a going concern is dependent upon, among other things, raising additional capital.  Since its inception through March 31, 2017, the Company has obtained funds primarily from the issuance of common stock and debt.  Management believes this funding will continue, and is continually seeking new investors.  Management believes the existing shareholders and lenders and prospective new investors will provide the additional cash needed to meet the Company’s obligations as they become due, and will allow the development of its core of business.

 

2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

The significant accounting policies of the Company are disclosed in Note 2 to the Notes to Financial Statements included in the Company’s Annual Report on Form 10-K.  The following summary of significant accounting policies of the Company is presented to assist in understanding the Company’s interim 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.

 


6


INDEX


 

Income (Loss) per Share Calculations

 

Basic net income or loss per common share (Basic EPS) is computed by dividing net income or loss by the weighted average number of common shares outstanding.  Diluted net income or loss per common share (Diluted EPS) is computed by dividing net income or loss by the sum of the weighted average number of common shares outstanding and the dilutive potential common share equivalents then outstanding.  Potential dilutive common share equivalents consist of shares issuable upon the exercise of outstanding stock options and warrants to acquire common stock using the treasury stock method and the average market price per share during the period.

 

Since we had no dilutive effect of stock options and warrants for the three months ended March 31, 2017 and 2016, our basic weighted average number of common shares outstanding is the same as our diluted weighted average number of common shares outstanding.  The Company has excluded 1,410,000 common shares for exercisable options, 46,000 common shares for exercisable common stock purchase warrants, approximately 199,292,206 common shares issuable upon exercise of convertible notes payable and approximately 359,000,000 common shares issuable upon the conversion of outstanding shares of Series B preferred stock for the three months ended March 31, 2017.  The Company has excluded 1,410,000 common shares for exercisable options, 46,000 common shares for exercisable common stock purchase warrants, approximately 23,452,000 common shares issuable upon exercise of convertible notes payable and approximately 359,000,000 common shares issuable upon the conversion of outstanding shares of Series B preferred stock for the three months ended March 31, 2016. 

 

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 and December 31, 2016, the amounts reported for cash, accrued interest and other expenses, and notes payable approximate the fair value because of their short maturities.

 

We have adopted ASC Topic 820 (originally issued as SFAS 157, “Fair Value Measurements”) for financial instruments measured at 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 1 measurements) 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.

 


7


INDEX


We measure certain financial instruments at fair value on a recurring basis. Assets and liabilities measured at fair value on a recurring basis are as follows at March 31, 2017 and December 31, 2016:


8


INDEX


 

 

 

Total

Level 1

Level 2

Level 3

March 31, 2017:

 

 

 

 

  Derivative liabilities

$      9,058,770

$               -

$               -

$      9,058,770

 

 

 

 

 

  Total liabilities measured at fair value

$      9,058,770

$               -

$               -

$      9,058,770

 

 

 

 

 

December 31, 2016:

 

 

 

 

  Derivative liabilities

$      6,690,697

$               -

$               -

$      6,690,697

 

 

 

 

 

  Total liabilities measured at fair value

$      6,690,697

$               -

$               -

$      6,690,697

 

 

 

 

 

 

During the three months ended March 31, 2017, the Company had the following activity in its derivative liabilities:

 

 

Convertible

Notes

Payable

Series B

Preferred

Stock

Total

 

 

 

 

Derivative liability at December 31, 2016

$    3,335,906

$     3,354,791

$   6,690,697

Addition to liability for new debt/shares issued

180,000

-

180,000

Elimination of liability on conversion to common shares

(47,306)

-

(47,306)

Change in fair value

2,149,603

85,776

2,235,379

 

 

 

 

Derivative liability at March 31, 2017

$    5,618,203

$    3,440,567

$    9,058,770

 

Derivative Liabilities

 

We have identified the conversion features of our convertible notes payable and our Series B preferred stock as derivatives.  We estimate the fair value of the derivatives associated with our convertible notes payable using the Black-Scholes pricing model and estimate the fair value of the derivatives associated with our Series B preferred stock using a multinomial lattice model based on projections of various potential future outcomes.  We estimate the fair value of the derivative liabilities at the inception of the financial instruments, at the date of conversions to equity and at each reporting date, recording a derivative liability, debt discount, additional paid-in capital and a gain or loss on change in derivative liabilities as applicable.  These estimates are based on multiple inputs, including the market price of our stock, interest rates, our stock price volatility, variable conversion prices based on market prices as defined in the respective agreements and probabilities of certain outcomes based on management projections.  These inputs are subject to significant changes from period to period and to management’s judgment; therefore, the estimated fair value of the derivative liabilities will fluctuate from period to period, and the fluctuation may be material.

 


9


INDEX


 

Recently Issued Accounting Pronouncements

 

In January 2017, the FASB issued Accounting Standards Update ("ASU") No. 2017-4, "Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment."  This update simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test.  Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit's goodwill with the carrying amount of that goodwill.  Instead, under the amendments in this update, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount.  An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value.  An entity should apply the amendments in this update on a prospective basis.  An entity is required to disclose the nature of and reason for the change in accounting principle upon transition.  That disclosure should be provided in the first annual period and in the interim period within the first annual period when the entity initially adopts the amendments in this update. A public business entity that is a Securities and Exchange Commission (“SEC”) filer should adopt the amendments in this update for its annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019.  The Company is currently unable to determine the impact on its financial statements of the adoption of this new accounting pronouncement.

 

In January 2017, the FASB issued ASU No. 2017-1, "Business Combinations (Topic 805): Clarifying the Definition of a Business."  The amendments in this update clarify the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses.  The definition of a business affects many areas of accounting including acquisitions, disposals, goodwill, and consolidation.  The amendments of this ASU are effective for public business entities for annual periods beginning after December 15, 2018, and interim periods within annual periods beginning after December 15, 2019.  The amendments in this update are to be applied prospectively on or after the effective date.  The Company is currently unable to determine the impact on its financial statements of the adoption of this new accounting pronouncement.

 

Although there are several other new accounting pronouncements issued or proposed by the FASB, which the Company has adopted or will adopt, as applicable, the Company does not believe any of these accounting pronouncements has had or will have a material impact on its financial position or results of operations.

 

Reclassifications

 

Certain amounts in the condensed financial statements for the three months ended March 31, 2016 have been reclassified to conform to the presentation for the three months ended March 31, 2017.

 

3.  CAPITAL STOCK

 

At March 31, 2017, the Company’s authorized stock consisted of 2,000,000,000 shares of common stock, with a par value of $0.001 per share.  The Company is also authorized to issue 20,000,000 shares of preferred stock, with a par value of $0.001 per share.  The rights, preferences and privileges of the holders of the preferred stock will be determined by the Board of Directors prior to issuance of such shares.

 


10


INDEX


 

Series A Preferred Stock

 

On February 12, 2016, the Company filed a Certificate of Designation for its Series A Preferred Stock (the “Series A Certificate”) with the Secretary of State of Nevada designating 1,000 shares of its authorized preferred stock as Series A Preferred Stock.  The shares of the Series A Preferred Stock were automatically redeemed by the Company at their par value 90 days after the effective date of the Series A Certificate, in accordance with the terms of the Series A Certificate of Designation.

 

Series B Preferred Stock

 

On March 2, 2016, the Company filed a Certificate of Designation for its Series B Preferred Stock (the “Series B Certificate”) with the Secretary of State of Nevada designating 30,000 shares of its authorized preferred stock as Series B Preferred Stock. The shares of Series B Preferred Stock have a par value of $0.001 per share.

 

The total face value of this entire series is three million dollars ($3,000,000). Each share of Series B Preferred Stock has a stated face value of One Hundred Dollars ($100) (“Share Value”), and is convertible into shares of fully paid and non-assessable shares of common stock (“Common Stock”) of the Company.

 

As of March 31, 2017 and December 31, 2016, the Company had 16,155 shares of Series B Preferred Stock outstanding, with a face value of $1,615,500.  These shares were issued in March 2016 for the redemption and cancellation of $1,615,362 of convertible promissory notes and $264,530 of accrued interest payable.

 

The holders of outstanding shares of the Series B Preferred Stock (the "Holders") are entitled to receive dividends pari passu with the holders of Common Stock, except upon a liquidation, dissolution and winding up of the Company, in which case the Series B Preferred Stock has a preference.  Such dividends will be paid equally to all outstanding shares of Series B Preferred Stock and Common Stock, on an as-if-converted basis with respect to the Series B Preferred Stock.  The Holders may elect to use the most favorable conversion price for the purpose of determining the as-if-converted number of shares.

 

In the event of any liquidation, dissolution or winding up of the Company, either voluntary or involuntary, the Holder of each outstanding share of the Series B Preferred Stock shall be entitled to receive, out of the assets of the Company available for distribution to its shareholders upon such liquidation, whether such assets are capital or surplus of any nature, an amount equal to one hundred dollars ($100) for each such share of the Series B Preferred Stock (as adjusted for any combinations, consolidations, stock distributions, stock splits or stock dividends with respect to such shares), plus all dividends, if any, declared and unpaid thereon as of the date of such distribution, before any payment is made or any assets distributed to the holders of the Common Stock.  After such payment, the remaining assets of the Company will be distributed to the holders of Common Stock.

 

If the assets to be distributed to the Holders of the Series B Preferred Stock are insufficient to permit the receipt by such Holders of the full preferential amounts, then all of such assets will be distributed among such Holders ratably in accordance with the number of such shares then held by each such Holder.

 


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The sale of all or substantially all of the Company's assets, any consolidation or merger of the Company with or into any other entity or person, or any other corporate reorganization, in which the stockholders of the Company immediately prior to such consolidation, merger or reorganization, own less than fifty percent (50%) of the Company's voting power immediately after such consolidation, merger or reorganization, or any transaction or series of related transactions to which the Company is a party in which in excess of fifty percent (50%) of the Company's voting power is transferred, excluding any consolidation or merger effected exclusively to change the domicile of the Company, is deemed to be a liquidation, dissolution or winding up.

 

The Series B Preferred Stock is convertible into Common Stock.

 

The Holder has the right, at any time, at its election, to convert all or part of the Share Value into shares of Common Stock. The conversion price is the lesser of (1) Fifty Percent (50%) of the lowest trade price of Common Stock recorded on any trade day after December 12, 2012 or (2) the lowest effective price per share granted to any person or entity, including the Holder but excluding officers and directors of the Company, to acquire Common Stock, or adjusted, whether by operation of purchase price adjustment, settlement agreements, exchange agreements, reset provision, floating conversion or otherwise, any outstanding warrant, option or other right to acquire Common Stock or outstanding Common Stock equivalents (the "Conversion Price").

 

The conversion formula is as follows: The number of shares receivable upon conversion equals the Share Value divided by the Conversion Price. A conversion notice (the "Conversion Notice") may be delivered to Company by any method of Holder's choice (including but not limited to email, facsimile, mail, overnight courier, or personal delivery), and all conversions will be cashless and not require further payment from the Holder. If no objection is delivered from the Company to the Holder, with respect to any variable or calculation reflected in the Conversion Notice, within 24 hours of delivery of the Conversion Notice, the Company will thereafter be deemed to have irrevocably confirmed and ratified such notice of conversion and waived any objection. The Company will deliver the shares of Common Stock from any conversion to the Holder (in any name directed by the Holder) within three (3) business days of Conversion Notice delivery. If the Company is participating in the Depository Trust Company ("DTC") Fast Automated Securities Transfer ("FAST") program, then upon request of the Holder and provided that the shares to be issued are eligible for transfer under Rule 144 of the Securities Act of 1933, as amended (the "Securities Act"), or are effectively registered under the Securities Act, the Company will cause its transfer agent to electronically issue the Common Stock issuable upon conversion to the Holder through the DTC Direct Registration System ("DRS"). If the Company is not participating in the DTC FAST program, then the Company agrees in good faith to apply and cause the approval for participation in the DTC FAST program.

 

The Conversion Price is subject to equitable adjustments for stock splits, stock dividends or rights offerings by the Company relating to the Company's securities or the securities of any subsidiary of the Company, combinations, recapitalization, reclassifications, extraordinary distributions and similar events. No fractional shares of the Common Stock shall be issuable upon the conversion of shares of the Series B Preferred Stock and the Company shall pay the cash equivalent of any fractional share upon such conversion.

 

If the Company fails to deliver shares in accordance with the required time frame, then for each conversion, a penalty of $1,500 per day will be assessed for each day after the third business day (inclusive of the day of the conversion) until share delivery is made.  Such penalty may be converted into Common Stock at the Conversion Price or payable in cash, at the sole option of the Holder (under the Holder's and the Company's expectations that any penalty amounts shall tack back to the original date of the issuance of Series B Preferred Stock, consistent with applicable securities laws).

 


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INDEX


In no event will the Holder be entitled to convert any Series B Preferred Stock, such that upon conversion the sum of (1) the number of shares of Common Stock beneficially owned by the Holder and its affiliates (other than shares of Common Stock which may be deemed beneficially owned through the ownership of the unconverted portion of this Series B Preferred Stock or the unexercised or unconverted portion of any other security of the Company subject to a limitation on conversion or exercise analogous to these limitations), and (2) the number of shares of Common Stock issuable upon the conversion of Series B Preferred Stock, would result in beneficial ownership by the Holder and its affiliates of more than 4.99% of the outstanding shares of Common Stock.  The limitations on conversion may be waived by the Holder upon, at the election of the Holder, not less than 61 days prior notice to the Company, and the provisions of the conversion limitation shall continue to apply until such 61st day (or such later date, as determined by the Holder, as may be specified in such notice of waiver).

 

Except as required by law, the Holders of Series B Preferred Stock are not entitled to vote, as a separate class or otherwise, on any matter presented to the stockholders of the Company for their action or consideration at any meeting of stockholders of the Company (or by written consent of stockholders in lieu of meeting).  Each Holder of outstanding shares of Series B Preferred Stock will be entitled, on the same basis as holders of Common Stock, to receive notice of such action or meeting.

 

So long as any shares of the Series B Preferred Stock remain outstanding, the Company will not, without first obtaining the approval (by vote or written consent, as provided by law) of the holders of at least a majority of the then outstanding shares of Series B Preferred Stock voting together as one class: (a) alter or change the rights, preferences or privileges of the shares of the Series B Preferred Stock so as to affect materially and adversely such shares; or (b) create any new class of shares having preference over the Series B Preferred Stock.

 

The Holder has the right, at its sole discretion, to elect a fixed conversion price for the Series B Preferred Stock.  The Fixed Conversion Price may not be lower than the Conversion Price.  The Company will not, by amendment of its Certificate of Incorporation, bylaws or through any reorganization, transfer of assets, consolidation, merger, scheme of arrangement, dissolution, issue or sale of securities, or any other voluntary action, avoid or seek to avoid the observance or performance of any of the terms of the Series B Certificate, and will at all times carry out all the provisions of the Series B Certificate.

 

Common Stock

 

On April 20, 2016, the Company amended its articles of incorporation to reduce the number of authorized shares of common stock from 1,000,000,000 to 100,000,000 and to affect a one-for-ten reverse stock split of its authorized, issued and outstanding shares of common stock.  The Company has given retroactive affect for the reverse stock split in all periods presented in the accompanying financial statements.

 

On April 29, 2016, our Board of Directors and the holder of a majority of the total issued and outstanding voting stock of the Company authorized and approved an amendment to the Company's articles of incorporation to increase the number of authorized shares of common stock from 100,000,000 to 2,000,000,000.

 

During the three months ended March 31, 2017, the Company issued a total of 1,496,499 shares of common stock at fair value in consideration for the conversion of $5,000 of convertible promissory notes, accrued interest payable of $1,734 and derivative liabilities of $47,306.  We recognized a gain of $17 on conversion of the notes.

 

During the three months ended March 31, 2016, the Company issued a total of 3,028,018 shares of common stock at fair value in consideration for the conversion of $10,450 of convertible promissory notes and accrued interest payable of $3,176.  We recognized a loss of $39,005 on conversion of the notes.  


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4.  STOCK OPTIONS AND WARRANTS

 

Stock Options

 

As of March 31, 2017, the Board of Directors of the Company had granted non-qualified stock options exercisable for a total of 1,410,000 shares of common stock to its employees, officers, and consultants.   Stock-based compensation cost is measured at the grant date based on the value of the award granted using the Black-Scholes option pricing model, and recognized over the period in which the award vests, which is generally 25 months.  We recognized no stock-based compensation expense for the three months ended March 31, 2017 and 2016.  As of March 31, 2017, we had no unrecognized stock-based compensation expense.

 

A summary of the Company’s stock option awards as of March 31, 2017, and changes during the three months then ended is as follows:

 

 




Shares


Weighted
Average
Exercise Price

Weighted Average
Remaining
Contract Term
(Years)


Aggregate
Intrinsic
Value

 

 

 

 

 

 

Outstanding at December 31, 2016

1,410,000

$

0.19

 

 

Granted

-

$

-

 

 

Exercised

-

$

-

 

 

Forfeited or expired

-

$

-

 

 

 

 

 

 

 

 

Outstanding and exercisable
at March 31, 2017


1,410,000


$


0.19


3.47


$   -

 

 

 

 

 

 

 

 

The aggregate intrinsic value in the preceding table represents the total pretax intrinsic value, based on the closing price of our common stock of $0.032 as of March 31, 2017, which would have been received by the holders of in-the-money options had the option holders exercised their options as of that date.

 


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INDEX


 

Warrants

 

As of March 31, 2017 and December 31, 2016, the Company had 46,000 common stock purchase warrants outstanding, with an exercise price of $5.00 per share and expiring on various dates in 2017 and 2018.

 

5.  CONVERTIBLE NOTES PAYABLE

 

Convertible Promissory Notes - Services of $58,600

 

On December 31, 2012, we entered into 5% convertible promissory notes with two individuals in exchange for services rendered in the aggregate amount of $58,600.  The notes are convertible into shares of our common stock at a conversion price equal to the lesser of $2.00 per share or the closing price per share of common stock recorded on the trading day immediately preceding the date of conversion.  We recorded a total debt discount of $57,050 related to the conversion feature of the notes, which has been fully amortized to interest expense, along with a derivative liability at inception.  One of the notes with a principal balance of $25,980 at March 31, 2017, matured on December 31, 2014 and is currently in default.  The maturity date of a second note with a principal balance of $32,619 at March 31, 2017, has been extended to December 31, 2017.

 

Convertible Promissory Note – Accounts Payable of $29,500

 

On March 14, 2013, we entered into a 5% convertible promissory note in the principal amount of $29,500, which is convertible into shares of our common stock at a conversion price equal to the lesser of $1.50 per share or the closing price per share of common stock recorded on the trading day immediately preceding the date of conversion. The note matured two years from its effective date, or March 14, 2015, and is currently in default.

 

Convertible Promissory Note – Services of $25,000

 

On June 4, 2013, we entered into a 5% convertible promissory note with a former member of our Board of Directors in exchange for services rendered in the amount of $25,000.  The note is convertible into shares of common stock of the Company at a conversion price equal to the lesser of $0.35 per share or the closing price per share of common stock recorded on the trading day immediately preceding the date of conversion.  We have entered into an agreement to repay this note with 12 equal monthly payments of principal and interest of $2,352 beginning in June 2016.  The note had a principal balance of $4,167 and accrued interest payable of $531 at March 31, 2017.

 

Convertible Promissory Note – $5,000 Exchanged Note

 

On September 6, 2013, we exchanged a $5,000 promissory note for a 10% convertible promissory note in the aggregate principal amount of $5,000.  The note is convertible into shares of our common stock at a price equal to a conversion price of the lesser of $0.042 per share or fifty percent (50%) of the lowest trade price recorded after the effective date.   We recorded a debt discount of $2,536, which has been fully amortized to interest expense, along with a derivative liability at inception.  In February 2017, we issued the lender 1,496,499 shares of our common stock in consideration for the conversion of principal of $5,000 and accrued interest of $1,734.

 


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March 2016 Convertible Promissory Note – $1,000,000

 

On March 4, 2016, we entered into a convertible promissory note in the aggregate principal amount of $1,000,000 (the "March 2016 $1,000,000 CPN").  The lender may advance the Company consideration in such amounts as the lender may choose in its sole discretion.  The note is convertible into shares of our common stock at a price per share equal to the lesser of: $0.03; 50% of the lowest trade price of our common stock subsequent to the effective date of the note; or the lowest effective price per share granted to any person or entity (exclusive of our officers and directors) to acquire common stock subsequent to the effective date of the note.  The note initially matured, with respect to each advance, one year from the effective date of each advance.  Subsequently, the lender extended the maturity date, with the note payable upon demand, but in no event later than 60 months from March 4, 2016.

 

On March 4, 2016, we received proceeds of $25,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $25,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $4,315.

 

On March 14, 2016, we received proceeds of $27,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $27,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $5,400.

 

On March 17, 2016, we received proceeds of $33,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $33,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $11,392.

 

On April 11, 2016, we received proceeds of $90,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $90,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $22,192.

 

On May 20, 2016, we received proceeds of $60,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $60,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $14,795.

 

On June 22, 2016, we received proceeds of $50,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $50,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $12,329.

 

On July 6, 2016, we received proceeds of $87,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $87,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $21,452.

 

On August 8, 2016, we received proceeds of $60,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $60,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $14,795.

 


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INDEX


On September 13, 2016, we received proceeds of $55,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $55,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $13,562.

 

On October 17, 2016, we received proceeds of $55,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $55,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $13,562.

 

On November 8, 2016, we received proceeds of $55,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $55,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $13,562.

 

On December 6, 2016, we received proceeds of $60,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $60,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $13,904.

 

On January 10, 2017, we received proceeds of $60,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $60,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $13,151.

 

On February 13, 2017, we received proceeds of $60,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $60,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $7,562.

 

On March 9, 2017, we received proceeds of $60,000 pursuant to the March 4, 2016 $1,000,000 CPN.  We recorded a debt discount of $60,000 related to the conversion feature of the note, along with a derivative liability at inception.  During the three months ended March 31, 2017, amortization of debt discount was recorded to interest expense in the amount of $3,616.

 

The total gain on settlement of debt, including conversions to common stock, was $17 for the three months ended March 31, 2017.  The total loss on settlement of debt, including conversions to common stock, was $39,005 for the three months ended March 31, 2016.


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INDEX


6.  DERIVATIVE LIABILITIES

 

The fair value of the Company’s derivative liabilities is estimated at the issuance date and is revalued at each subsequent reporting date. For purpose of estimating the fair value of the derivative liability associated with our convertible notes payable, we used the Black Scholes option valuation model.  

The significant assumptions used in the Black Scholes valuation of the derivative liability at March 31, 2017 are as follows:

 

 

 

 

 

Stock price on the valuation date

 

$0.32

 

Conversion price for the debt

 

$0.0045 - $0.027

 

Dividend yield

 

0.00

%

Years to maturity

 

.78 – 1.00

 

Risk free rate

 

0.97% - 1.03

%

Expected volatility

 

110.06% - 162.71

%

 

The value of the derivative liability associated with our convertible notes payable at March 31, 2017 and December 31, 2016 was estimated at $5,618,203 and $3,335,906, respectively.  These inputs are subject to significant changes and market fluctuations from period to period; therefore, the estimated fair value of the derivative liability will fluctuate from period to period and the fluctuation may be material.

 

For purpose of estimating the fair value of the derivative liability associated with our Series B preferred stock, we used a multinomial lattice model based on projections of various potential future outcomes.  The significant assumptions used in the valuation of the derivative liability at March 31, 2017 are as follows:

 

Conversion to stock

 

Monthly

 

Stock price on the valuation date

 

$0.032

 

Conversion price

 

$0.0045

 

Years to maturity

 

15.0

 

Expected volatility

 

255.9

%

 

The value of the derivative liability associated with our Series B convertible stock at March 31, 2017 and December 31, 2016 was estimated at $3,440,567 and $3,354,791, respectively.  These inputs are subject to significant changes from period to period and to management’s judgment; therefore, the estimated fair value of the derivative liability will fluctuate from period to period, and the fluctuation may be material.

 

 

7.  SUPPLEMENTAL STATEMENT OF CASH FLOWS INFORMATION

 

During the three months ended March 31, 2017 and 2016, the Company paid no amounts for income taxes.  

 

During the three months ended March 31, 2017 and 2016, the Company paid $797 and $0 for interest, respectively.

 

During the three months ended March 31, 2017, the Company had the following non-cash investing and financing activities:

 

The Company issued a total of 1,496,499 shares of common stock in consideration for the conversion of $5,000 in convertible notes payable, plus $1,734 of accrued interest payable, increasing common stock by $1,496, increasing additional paid-in capital by $52,527, decreasing derivative liabilities by $47,306 and recording a gain on settlement of debt of $17.


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INDEX


 

The Company increased debt discount and derivative liabilities by $180,000 for the issuance of new convertible debt.

 


19


INDEX


 

During the three months ended March 31, 2016, the Company had the following non-cash investing and financing activities:

 

The Company issued a total of 3,028,018 shares of common stock in consideration for the conversion of $10,450 in convertible notes payable, plus $3,176 of accrued interest payable, increasing common stock by $3,028, increasing additional paid-in capital by $83,359, decreasing derivative liabilities by $33,756 and recording a loss on settlement of debt of $39,005.

 

The Company increased debt discount and derivative liabilities by $135,000 for the issuance of new convertible debt.

 

The Company issued a total of 16,155 shares of Series B preferred stock in conversion of $1,615,362 in convertible notes payable, plus $264,530 of accrued interest payable, increasing Series B preferred stock by $16, increasing additional paid-in capital by $11,630,806 and decreasing derivative liabilities by $9,750,930.

 

The Company increased derivative liabilities and decreased additional paid-in capital by $3,908,211 for derivative liabilities associated with the issuance of Series B preferred stock.

 

8.  RELATED PARTY TRANSACTIONS

 

See Note 5 for discussion of convertible notes payable to related parties, including multiple lenders who are also shareholders of the Company.  

 

9.  RESEARCH AGREEMENTS AND FORMATION OF SUBSIDIARY

 

On June 18, 2014, we entered into a Sponsored Research Agreement ("SRA #1") with UCSB, pursuant to which UCSB performed research work for the mutual benefit of UCSB and the Company.  The purpose of SRA #1 included the development of a low-cost and scalable method to produce large-area graphene for transparent electrode applications.  The term of SRA #1 commenced on July 1, 2014 and expired on June 30, 2015.  The total cost to the Company was $387,730.  

 

On December 15, 2015, we entered into a second Sponsored Research Agreement ("SRA #2") with UCSB, pursuant to which UCSB performed research work for the mutual benefit of UCSB and the Company.  The purpose of SRA #2 included the development of a graphene based optical modulator for the high-speed transmission of digital data in fiber optic networks.  The term of SRA #2 commenced on January 1, 2016 and expired on June 30, 2016.  The total cost to the Company was $65,497.

 

On March 9, 2017, we entered into our third Sponsored Research Agreement (“SRA #3”) with UCSB, pursuant to which UCSB will continue the development of a graphene based optical modulator for the high-speed transmission of digital data in fiber optic networks.  The term of SRA #3 will commence on April 1, 2017 and conclude on September 30, 2017.  The total cost to the Company is $65,009.

 


20


INDEX


On January 5, 2015, Carbon Sciences formed Transphene, Inc., a Nevada corporation ("Transphene"), of which the Company owns 50% of the total issued and outstanding capital stock.  The remaining 50% is owned by Dr. Kaustav Banerjee ("Banerjee"), a director and Chief Technical Officer of Transphene.  Transphene was formed to commercialize any technology that the Company licensed from UCSB as a result of SRA #1.  In consideration for its interest in Transphene, the Company agreed to assign the intellectual property rights acquired by the Company from SRA #1 to Transphene.  At this time, the Company does not see an opportunity to commercialize the research findings of SRA #1, has not licensed any intellectual property from UCSB, and therefore has not assigned any intellectual property to Transphene.  Therefore, we terminated our joint venture through Transphene and wound up and dissolved Transphene in 2016.  There have been no financial transactions in Transphene and no impact on our financial statements.


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10.  SUBSEQUENT EVENTS

 

Management has evaluated subsequent events according to the requirements of ASC TOPIC 855, and has reported the following:

 

On April 1, 2017, we entered into a Consulting Agreement with Big Star Capital 1 (the “Consultant”) for various services related to the business of the Company, including mergers and acquisitions.  The Consultant will receive a monthly fee of $15,000 and the agreement will continue on a month-to-month basis until terminated by either party with a 10-day prior written notice.

 

We received advances under the March  2016 $1,000,000 CPN of $95,000 on April 12, 2017 and $60,000 on May 8, 2017.

 

On April 30, 2017, Mr. Christopher Kelly resigned as the Company’s chief executive officer and a director.  Mr. Kelly resigned voluntarily for personal reasons.  The Company’s Board of Directors appointed Mr. William Beifuss, Jr. to serve as the Company’s interim chief executive officer, effective May 1, 2017.


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INDEX


ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Certain statements in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” below, and elsewhere in this report, are not related to historical results, and are forward-looking statements. Forward-looking statements present our expectations or forecasts of future events. You can identify these statements by the fact that they do not relate strictly to historical or current facts. These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Forward-looking statements frequently are accompanied by such words such as “may,” “will,” “should,” “could,” “expects,” “plans,” “intends,” “anticipates,” “believes,” “estimates,” “predicts,” “potential” or “continue,” or the negative of such terms or other words and terms of similar meaning. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, achievements, or timeliness of such results. Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of such forward-looking statements. We are under no duty to update any of the forward-looking statements contained herein after the date of this report. Subsequent written and oral forward looking statements attributable to us or to persons acting in our behalf are expressly qualified in their entirety by the cautionary statements and risk factors set forth in our annual report on Form 10-K filed with the SEC on March 21, 2017, and in other reports filed by us with the SEC

 

You should read the following description of our financial condition and results of operations in conjunction with the condensed financial statements and accompanying notes included in this report.

 

OVERVIEW

 

In June 2014, Carbon Sciences, Inc. (“Carbon Sciences,” “we,” “us,” “our,” or the “Company”) entered into its first Sponsored Research Agreement (“SRA #1”) with the University of California at Santa Barbara ("UCSB") to develop a low-cost method to produce graphene.  In December 2015, we entered into a second Sponsored Research Agreement (“SRA #2”) with UCSB to develop a new graphene-based optical modulator, a critical fiber optics component for enabling ultrafast fiber optics communication in data centers for Cloud computing.  In March 2017, we entered into a third Sponsored Research Agreement (“SRA #3”) with UCSB to continue the development of a new graphene-based optical modulator.

 

On January 5, 2015, Carbon Sciences formed a joint venture, Transphene, Inc., a Nevada corporation ("Transphene"), with Dr. Kaustav Banerjee in order to commercialize any technology that the Company licensed from UCSB as a result of SRA #1.   At this time, the Company does not see an opportunity to commercialize the research findings of SRA #1 and has not licensed any intellectual property from UCSB. We, therefore, terminated our joint venture through Transphene and wound up and dissolved Transphene in 2016. 

 

On February 9, 2016, we announced a growth-by-acquisition strategy to extend our presence in the information technology ("IT") market.  In connection with this strategy, on April 1, 2017, we entered into a Consulting Agreement with Big Star Capital 1 (the “Consultant”) for various services related to the business of the Company, including mergers and acquisitions.  The Consultant will receive a monthly fee of $15,000 and the agreement will continue on a month-to-month basis until terminated by either party with a 10-day prior written notice.


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INDEX


We have not yet generated revenues.  We currently have negative working capital and received an opinion from our independent auditors on our financial statements that expressed substantial doubt about our ability to continue as a going concern.  The accompanying financial statements have been prepared on a going concern basis of accounting, which contemplates continuity of operations, realization of assets and liabilities, and commitments in the normal course of business.  The accompanying financial statements do not reflect any adjustments that might result if the Company is unable to continue as a going concern.  The ability of the Company to continue as a going concern is dependent upon, among other things, raising additional capital.  Since our inception through March 31, 2017, the Company has obtained funds primarily from the issuance of common stock and debt.  Management believes this funding will continue, and is continually seeking new investors.  Management believes the existing shareholders and lenders and prospective new investors will provide the additional cash needed to meet our obligations as they become due, and will allow the development of our core of business.  However, there can be no assurance that such financing will be available upon terms that are acceptable to us, if at all.

 

Critical Accounting Policies

 

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America or GAAP.  The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities.  On an ongoing basis, we evaluate our estimates, including those related to impairment of property, plant and equipment, intangible assets, deferred tax assets and fair value computation using the Black Scholes and other option pricing models.  We base our estimates on historical experience and on various other assumptions, such as the trading value of our common stock and estimated future undiscounted cash flows, that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources.  Actual results may differ from these estimates under different assumptions or conditions; however, we believe that our estimates, including those for the above-described items, are reasonable.


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Use of Estimates

 

In accordance with GAAP, management utilizes estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates.  These estimates and assumptions relate to recording net revenue, collectability of accounts receivable, useful lives and impairment of tangible and intangible assets, accruals, income taxes, stock-based compensation expense and other factors.  Management believes it has exercised reasonable judgment in deriving these estimates.  Consequently, a change in conditions could affect these estimates.

 

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 and December 31, 2016, 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 (originally issued as SFAS 157, “Fair Value Measurements for financial instruments measured at 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 1 measurements) 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.


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We measure certain financial instruments at fair value on a recurring basis. Assets and liabilities measured at fair value on a recurring basis are as follows at March 31, 2017 and December 31, 2016:

 

 

Total

Level 1

Level 2

Level 3

March 31, 2017:

 

 

 

 

  Derivative liabilities

$      9,058,770

$               -

$               -

$      9,058,770

 

 

 

 

 

  Total liabilities measured at fair value

$      9,058,770

$               -

$               -

$      9,058,770

 

 

 

 

 

December 31, 2016:

 

 

 

 

  Derivative liabilities

$      6,690,697

$               -

$               -

$      6,690,697

 

 

 

 

 

  Total liabilities measured at fair value

$      6,690,697

$               -

$               -

$      6,690,697

 

 

 

 

 

 

Derivative Liabilities

 

We have identified the conversion features of our convertible notes payable and our Series B preferred stock as derivatives.  We estimate the fair value of the derivatives associated with our convertible notes payable using the Black-Scholes pricing model and estimate the fair value of the derivatives associated with our Series B preferred stock using a multinomial lattice model based on projections of various potential future outcomes.  We estimate the fair value of the derivative liabilities at the inception of the financial instruments, at the date of conversions to equity and at each reporting date, recording a derivative liability, debt discount, additional paid-in capital and a gain or loss on change in derivative liabilities as applicable.  These estimates are based on multiple inputs, including the market price of our stock, interest rates, our stock price volatility, variable conversion prices based on market prices as defined in the respective agreements and probabilities of certain outcomes based on management projections.  These inputs are subject to significant changes from period to period and to management’s judgment; therefore, the estimated fair value of the derivative liabilities will fluctuate from period to period, and the fluctuation may be material.

 

Income Taxes

 

We account for income taxes using the asset and liability method.  Under the asset and liability method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases.  Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

 

Stock-Based Compensation

 

Stock-based compensation is measured at the grant date based on the value of the award granted using the Black-Scholes option pricing model, and recognized over the period in which the award vests.  For stock awards no longer expected to vest, any previously recognized stock compensation expense is reversed in the period of termination.  The stock-based compensation expense is included in general and administrative expenses.


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INDEX


Recently Issued Accounting Pronouncements

 

In January 2017, the FASB issued Accounting Standards Update ("ASU") No. 2017-4, "Intangibles – Goodwill and Other (Topic 350): "Simplifying the Test for Goodwill Impairment."  This update simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test.  Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit's goodwill with the carrying amount of that goodwill.  Instead, under the amendments in this update, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount.  An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value.  An entity should apply the amendments in this update on a prospective basis.  An entity is required to disclose the nature of and reason for the change in accounting principle upon transition.  That disclosure should be provided in the first annual period and in the interim period within the first annual period when the entity initially adopts the amendments in this update. A public business entity that is a Securities and Exchange Commission (“SEC”) filer should adopt the amendments in this update for its annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019.  The Company is currently unable to determine the impact on its financial statements of the adoption of this new accounting pronouncement.

 

In January 2017, the FASB issued ASU No. 2017-1, "Business Combinations (Topic 805): Clarifying the Definition of a Business."  The amendments in this update clarify the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses.  The definition of a business affects many areas of accounting including acquisitions, disposals, goodwill, and consolidation.  The amendments of this ASU are effective for public business entities for annual periods beginning after December 15, 2018, and interim periods within annual periods beginning after December 15, 2019.  The amendments in this update are to be applied prospectively on or after the effective date.  The Company is currently unable to determine the impact on its financial statements of the adoption of this new accounting pronouncement.

 

Although there are several other new accounting pronouncements issued or proposed by the FASB, which the Company has adopted or will adopt, as applicable, the Company does not believe any of these accounting pronouncements has had or will have a material impact on its financial position or results of operations.

 

Results of Operations

 

General and Administrative Expenses

 

General and administrative expenses increased by $65,339 to $184,094 in the three months ended March 31, 2017 compared to $118,755 in the three months ended March 31, 2016. The increase in general and administrative expenses in the current year is due primarily to increases in salary and other office expenses.  

 

Research and Development Expenses

 

Research and development expenses decreased by $32,749 to $0 in the three months ended March 31, 2017 from $32,749 in the three months ended March 31, 2016. The decrease in research and development expenses in the current year first quarter is due primarily to the decrease in amounts expensed related to SRA #2 in the prior year.


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INDEX


Depreciation and Amortization Expense

 

Depreciation and amortization expense increased by $82 to $175 in the three months ended March 31, 2017 from $93 in the three months ended March 31, 2016.  Our investment in property and equipment currently is not material to our operations, and substantially all of our property and equipment is fully depreciated at March 31, 2017.

 

Other Income (Expense)

 

Total other expense was $2,440,391 and $1,649,254 for the three months ended March 31, 2017 and 2016, respectively.

 

We reported a loss on change in derivative liabilities of $2,235,379 and $1,149,505 for the three months ended March 31, 2017 and 2016, respectively.  We estimate the fair value of the derivatives associated with our convertible notes payable using the Black-Scholes pricing model and estimate the fair value of the derivatives associated with our Series B preferred stock using a multinomial lattice model based on projections of various potential future outcomes.  These estimates are based on multiple inputs, including the market price of our stock, interest rates, our stock price volatility, variable conversion prices based on market prices as defined in the respective agreements and probabilities of certain outcomes based on management projections.  These inputs are subject to significant changes from period to period and to management’s judgment; therefore, the estimated fair value of the derivative liabilities will fluctuate from period to period, and the fluctuation may be material.

 

Our interest expense decreased by $263,766 to $205,029 for the three months ended March 31, 2017 from $468,795 for the three months ended March 31, 2016.  The decrease is the result of the conversion to preferred stock of a substantial portion of our convertible notes payable.

 

We also recognized a gain on settlement of debt resulting from the conversion of debt to equity of $17 for the three months ended March 31, 2017, compared to a loss on settlement of debt of $39,005 for the three months ended March 31, 2016.  

 

We have also reported rental income from the sublease of our office space in the three months ended March 31, 2016 that is not material to our operations.

 

Net Loss

 

We had a net loss of $2,624,660 and $1,800,851 in the three months ended March 31, 2017 and 2016, respectively.

 

Liquidity and Capital Resources

 

As of March 31, 2017, we had total current assets of $60,745, including cash of $38,681, and total current liabilities of $9,846,792, resulting in a working capital deficit of $9,786,047.  Included in our current liabilities at March 31, 2017 are derivative liabilities totaling $9,058,770, which we do not anticipate will require cash payments to settle.

 

During the three months ended March 31, 2017, we used net cash of $175,003 in operating activities as a result of our net loss of $2,624,660, non-cash gain of $17 and increase in prepaid expenses of $20,159, partially offset by non-cash expenses totaling $2,421,140 and increases in accounts payable of $30,222 and accrued expenses and other current liabilities of $18,471.


28


INDEX


During the three months ended March 31, 2016, we used net cash of $148,117 in operating activities as a result of our net loss of $1,800,851and an increase in prepaid expenses of $20,045, partially offset by non-cash expenses totaling $1,625,503 and increases in accounts payable of $14,675 and accrued expenses and other current liabilities of $32,601.

 

During the three months ended March 31, 2016, we had net cash used in investing activities of $1,472 for the purchase of property and equipment.  We had no net cash provided by or used in investing activities during the three months ended March 31, 2017.

 

Net cash provided by financing activities during the three months ended March 31, 2017 was $173,750, comprised of proceeds from convertible notes payable of $180,000, partially offset by repayment of convertible notes payable of $6,250.  Net cash provided by financing activities during the three months ended March 31, 2016 was $135,000, comprised of proceeds from convertible notes payable. 

 

Although most recently proceeds received from the issuance of debt are sufficient to fund our current operating expenses, we will need to raise additional funds in the future to continue our operations and emerge from the development stage.  Therefore, our future operations are dependent on our ability to secure additional financing.  Financing transactions may include the issuance of equity or debt securities, obtaining credit facilities, or other financing mechanisms.  However, the trading price of our common stock and a downturn in the U.S. equity and debt markets could make it more difficult to obtain financing through the issuance of equity or debt securities.  Even if we are able to raise the funds required, it is possible that we could incur unexpected costs and expenses, or experience unexpected cash requirements that would force us to seek alternative financing.  Furthermore, if we issue additional equity or debt securities, stockholders may experience additional dilution or the new equity securities may have rights, preferences, or privileges senior to those of existing holders of our common stock.  The inability to obtain additional capital may restrict our ability to grow and may reduce our ability to continue to conduct business operations.  If we are unable to obtain additional financing, we may have to curtail our marketing and development plans and possibly cease our operations.

 

We believe that we have assets to ensure that we can continue to operate without liquidation over the next twelve months, due to our current cash, and our experience of the past of being able to raise money from our investor base.  Therefore, we believe we have the ability to continue our operations for the foreseeable future and will be able to realize assets and discharge liabilities in the normal course of our operations.

 

The accompanying financial statements have been prepared on a going concern basis of accounting, which contemplates continuity of operations, realization of assets and liabilities, and commitments in the normal course of business.  The accompanying financial statements do not reflect any adjustments that might result if the Company is unable to continue as a going concern.  The Company does not generate any revenue, and has negative cash flows from operations, which raises substantial doubt about the Company's ability to continue as a going concern.  The ability of the Company to continue as a going concern is dependent upon, among other things, raising additional capital.  Since our inception through March 31, 2017, the Company has obtained funds primarily from the issuance of common stock and debt.  Management believes this funding will continue, and is continually seeking new investors.  Management believes the existing shareholders and lenders and prospective new investors will provide the additional cash needed to meet the Company's obligations as they become due, and will allow the development of its core of business.  However, we cannot assure that we will be successful in these endeavors.


29


INDEX


ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Not applicable.

 

ITEM 4. CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed by the Company in the reports that it files under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer that it files under the Exchange Act is accumulated and communicated to the issuer’s management, including its principal executive officer and principal financial officers, or persons performing similar functions as appropriate to allow timely decisions regarding required disclosure. The Company’s president and chief financial officer is responsible for establishing and maintaining disclosure controls and procedures for the Company.

 

As of the end of the period covered by this report, we conducted an evaluation, under the supervision and with the participation of our president and chief financial officer of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) of the Exchange Act). Based upon this evaluation, our president and chief financial officer concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is: (i) recorded, processed, summarized and reported, within the time periods specified in the Commission's rules and forms, and (ii) accumulated and communicated to our management, including our president and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

 

Internal Control Over Financial Reporting

 

The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting, (as defined in Rule 13a-15(f) under the Exchange Act).  The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes of accounting principles generally accepted in the United States.  Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Therefore, even those systems determined to be effective can provide only reasonable assurance of achieving their control objectives. Furthermore, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate due to change in conditions, or the degree of compliance with the policies or procedures may deteriorate.  After evaluating the Company’s internal controls over financial reporting, the Company’s president and chief financial officer concluded that the internal controls over financial reporting are effective as of March 31, 2017.

 

Changes in Internal Control Over Financial Reporting

 

There was no change to our internal controls or in other factors that could affect these controls during the three month period ended March 31, 2017 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.


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INDEX


PART II - OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS

 

We are not a party to any pending legal proceeding, nor is our property the subject of a pending legal proceeding, that is not in the ordinary course of business or otherwise material to the financial condition of our business. None of our directors, officers or affiliates is involved in a proceeding adverse to our business or has a material interest adverse to our business.

 

 

ITEM 1A. RISK FACTORS

 

There are no material changes from the risk factors previously disclosed in our annual report on Form 10-K filed March 21, 2017.

 

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

During the three months ended March 31, 2017, the Company issued a total of 1,496,499 shares of common stock in consideration for the conversion of $5,000 of convertible promissory notes and accrued interest payable of $1,734. These shares were issued pursuant to the partial conversion of an outstanding convertible promissory note originally issued in a private sale under Rule 506(b) of Regulation D of the Securities Act of 1933, as amended (the “Act”).

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

 

As further discussed in Note 5 to our condensed financial statements, as of March 31, 2017, we were in default on two convertible notes payable totaling $55,480.  We are currently in discussions with the lenders to negotiate extensions of the maturity date of the notes.

 

ITEM 4. MINE SAFETY DISCLOSURES

 

Not Applicable.

 

ITEM 5. OTHER INFORMATION

 

None.

 

ITEM 6. EXHIBITS

 

3.1

Articles of Incorporation of Carbon Sciences, Inc. filed with the Nevada Secretary of State on August 25, 2007. (Incorporated by reference to the Company’s Registration Statement on Form SB-2 filed on July 27, 2007).

 

 

3.2

Articles of Amendment of Articles of Incorporation of Carbon Sciences, Inc. filed with the Nevada Secretary of State on April 9, 2007 (Incorporated by reference to the Company’s Registration Statement on Form SB-2 filed on July 27, 2007).

 

 

3.3

Certificate of Amendment to Articles of Incorporation, filed with the Nevada Secretary of State on May 9, 2011 (Incorporated by reference to the Company’s Current Report on Form 8-K filed on May 16, 2011).

 

 

3.4

Certificate of Amendment to Articles of Incorporation, filed with the Nevada Secretary of State on August 1, 2011 (Incorporated by reference to the Company’s Current Report on Form 8-K filed on August 4, 2011).

 

 

3.5

Certificate of Designation for Series A Preferred Stock, filed with the Nevada Secretary of State on February 12, 2016 (Incorporated by reference to the Company’s Current Report on Form 8-K filed on March 4, 2016).

 

 

3.6

Certificate of Designation for Series B Preferred Stock, filed with the Nevada Secretary of State on March 2, 2016 (Incorporated by reference to the Company’s Current Report on Form 8-K filed on February 17, 2014).

 

 

3.7

Certificate of Correction, filed with the Nevada Secretary of State on April 1, 2016 (Incorporated by reference to the Company’s Annual Report on Form 10-K filed on March 21, 2017).

 

 

3.8

Certificate of Change, filed with the Nevada Secretary of State on April 14, 2016 (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q filed on November 14, 2016).

 

 

3.9

Certificate of Amendment, filed with the Nevada Secretary of State on June 15, 2016 (Incorporated by reference to the Company’s Annual Report on Form 10-K filed on March 21, 2017).

 

 

3.10

Bylaws of Carbon Sciences, Inc. (Incorporated by reference to the Company’s Registration Statement on Form SB-2 filed on July 27, 2007).

 

 

4.3

Form of Warrant issued in connection with Stock Purchase Agreement entered into between the Company and the Purchasers, signatory thereto. (Incorporated by reference to the Company’s Registration Statement on S-1 filed on November 7, 2011)

 

 

10.1

Lease agreement with Ekwill Street, L.P. (as amended). (Incorporated by reference to the Company’s Registration Statement on S-1 filed on November 7, 2011)

 

 

10.2

Exclusive License Agreement between Carbon Sciences, Inc. and the University of Saskatchewan dated December 23, 2010. (Incorporated by reference to the Company’s Registration Statement on S-1 filed on November 7, 2011)

 

 

10.3

Consulting Agreement dated as of March 30, 2011 between Carbon Sciences, Inc. and Emerging Fuels, Technology, Inc. (Incorporated by reference to the Company’s Registration Statement on S-1 filed on November 7, 2011)

 

 

10.4

Form of Stock Purchase Agreement entered into between the Company and the Purchasers, signatory thereto. (Incorporated by reference to the Company’s Registration Statement on S-1 filed on November 7, 2011)

 

 

10.5

Stock Option Agreement between Carbon Sciences, Inc. and Byron Elton. (Incorporated by reference to the Company’s Registration Statement on S-1 filed on November 7, 2011)

 

 

10.6

Carbon Sciences, Inc. 2011 Equity Incentive Plan. (Incorporated by reference to the Company’s Registration Statement on S-1 filed on November 7, 2011)

 

 

10.7

Consulting Agreement between Carbon Sciences, Inc. and Howard Fong, dated December 8, 2011. (Incorporated by reference to the Company’s Registration Statement on S-1 filed on January 9, 2012)

 

 

10.8

Form of Subscription Agreement dated as of September 18, 2006 (Incorporated by reference to the Company’s Registration Statement on Form SB-2 filed on July 27, 2007)

 

 

10.9

Form of Subscription Agreement dated as of October 2, 2006 (Incorporated by reference to the Company’s Registration Statement on Form SB-2 filed on July 27, 2007)

 

 

10.10

Form of Subscription Agreement dated as of March 1, 2007 (Incorporated by reference to the Company’s Registration Statement on Form SB-2 filed on July 27, 2007)

 

 

10.11

Form of Subscription Agreement dated as of April 16, 2007 (Incorporated by reference to the Company’s Registration Statement on Form SB-2 filed on July 27, 2007)

 

 

10.12

Consulting Agreement between Carbon Sciences, Inc. and William Beifuss, dated May 31, 2013 (Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2013 filed on March 31, 2014)

 

 

10.13

Shareholders’ Agreement of Transphene, Inc., dated January 5, 2015 (Incorporated by reference to the Company’s  Current Report on Form 8-K filed  on January 8, 2015)

 

 

10.14*

Consulting Agreement between Carbon Sciences, Inc. and Big Star Capital 1, dated April 1, 2017.

 

 

14.1

Code of Ethics (Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2007 filed on March 26, 2008).

 

 

31.1*

Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

31.2*

Certification of the Acting Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

32.1*

Certification of the Chief Executive Officer furnished pursuant to Section 1350 of Chapter 63 of 18 U.S.C. as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

32.2*

Certification of the Acting Chief Financial Officer furnished pursuant to Section 1350 of Chapter 63 of 18 U.S.C. as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

EX-101.INS

XBRL INSTANCE DOCUMENT

 

 

EX-101.SCH

XBRL TAXONOMY EXTENSION SCHEMA DOCUMENT

 

 

EX-101.CAL

XBRL TAXONOMY EXTENSION CALCULATION LINKBASE

 

 

EX-101.DEF

XBRL TAXONOMY EXTENSION DEFINITION LINKBASE

    

 

EX-101.LAB

XBRL TAXONOMY EXTENSION LABELS LINKBASE

    

 

EX-101.PRE

XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE

 

*Filed herewith


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SIGNATURES

 

In accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Santa Barbara, State of California, on May 12, 2017.

 

 

CARBON SCIENCES, INC.

 

 

 

 

By:

/s/ William Beifuss

 

 

 

President (Principal Executive Officer ) and Acting Chief Financial Officer

(Principal Financial/Accounting Officer)


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