Notes
to Financial Statements
September
30, 2017
(All
amounts rounded to thousands of dollars)
(Unaudited)
1.
THE COMPANY AND BASIS OF PRESENTATION
Nature
of Organization
Coates
International, Ltd. (the “Company” or “CIL”) has acquired the exclusive licensing rights to the patented
Coates spherical rotary valve (“CSRV
®
”) system technology in North America, Central America and South
America (the “CSRV
®
License”). The CSRV
®
system technology has been developed over a
period of more than 20 years by the Company’s founder George J. Coates, President and Chief Executive Officer, and his son
Gregory G. Coates. The CSRV
®
system technology is adaptable for use in piston-driven internal combustion engines
of many types and has been patented in the United States and numerous countries throughout the world. The Company is endeavoring
to raise working capital to commence production of hydrogen gas and natural gas powered CSRV
®
industrial electric
power generator sets (“Gen Sets)” and is also seeking to enter into sublicense agreements with third party, original
equipment manufacturers (“OEM’s”) which provide for licensing fees. The Company is also continuing with research
and development of a hydrogen reactor to harvest Hydroxy-Gas from water with the intent to power the Company’s products,
including large industrial Gen Sets. George J. Coates, owner of the hydrogen reactor technology, has committed to license this
technology to the Company once the related patent protection is in place.
Management
believes that the CSRV
®
engines provide the following advantages as compared to conventional internal combustion
engines designed with “poppet valves”:
|
●
|
Improved
fuel efficiency
|
|
●
|
Lower
levels of harmful emissions
|
|
●
|
Adaptability
to numerous types of engine fuels
|
|
●
|
Longer
intervals between engine servicing
|
The
CSRV
®
system technology is designed to replace the intake and exhaust conventional “poppet valves”
currently used in almost all piston-driven, automotive, truck, motorcycle, marine and electric power generator engines, among
others. Unlike conventional valves which protrude into the engine combustion chamber, the CSRV
®
system technology
utilizes spherical valves that rotate in a cavity formed between a two-piece cylinder head. The CSRV
®
system technology
utilizes significantly fewer moving parts than conventional poppet valve assemblies. As a result of these design improvements,
management believes that engines incorporating the CSRV
®
system technology (“CSRV
®
Engines”)
will last significantly longer and will require less lubrication over the life of the engine, as compared to conventional engines.
In addition, CSRV® Engines can be designed with larger openings into the engine cylinder than with conventional valves so
that more fuel and air can be inducted into, and expelled from the cylinder in a shorter period of time. Larger valve openings
permit higher revolutions-per-minute (RPM’s) and permit higher compression ratios with lower combustion chamber temperatures,
allowing the Coates Engine® to produce more power than equivalent conventional engines. The extent to which CSRV® Engines
operating with the CSRV® system technology achieve (i) higher RPM’s, (ii) greater volumetric efficiency and (iii) thermal
efficiency than conventional engines, is a function of the engine design and application.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
Basis
of Presentation
The
accompanying condensed financial statements include the accounts of the Company. In the opinion of the Company’s management,
the condensed consolidated financial statements reflect all adjustments, which are normal and recurring in nature, necessary for
fair financial statement presentation. The preparation of these condensed consolidated financial statements in conformity with
U.S. generally accepted accounting principles (“GAAP”) requires management to make estimates and assumptions that
affect the amounts reported in these condensed consolidated financial statements and accompanying notes. Actual results could
differ materially from those estimates. Certain prior period amounts in the condensed financial statements have been reclassified
to conform to the current period’s presentation.
These
condensed financial statements and accompanying notes should be read in conjunction with the Company’s annual financial
statements and the notes thereto included in its Annual Report on Form 10-K for the year ended December 31, 2016 and the Company’s
quarterly financial statements and the notes thereto included in its Quarterly Reports.
Since
the Company’s inception, the Company has been responsible for the development costs of the CSRV
®
technology
in order to optimize the value of the licensing rights and has incurred related operational costs, the bulk of which have been
funded primarily through cash generated from licensing fees, sales of stock, short term convertible promissory notes, capital
contributions, loans made by George J. Coates, Bernadette Coates, his spouse, Gregory G. Coates and certain directors, fees received
from research and development of prototype models and a small number of CSRV
®
engine generator sales. The Company
has incurred substantial cumulative losses from operations since its inception. Losses from operations are expected to continue
until the CSRV
®
Engines
®
are successfully introduced into the marketplace enabling
the Company to generate substantial sales and/or receive substantial licensing revenues. These losses from operations were primarily
related to research and development of the Company’s intellectual property rights, patent filing and maintenance costs and
general and administrative expenses. The Company has also reported substantial non-cash expenses for stock-based compensation,
remeasurement of the estimated fair value of embedded derivative liabilities related to convertible promissory notes issued and
interest expense and losses on conversion of convertible promissory notes.
As
shown in the accompanying financial statements, the Company has incurred recurring losses from operations and, as of September
30, 2017, had a stockholders’ deficiency of ($5,910,000). In addition, the recent trading price range of the Company’s
common stock at a fraction of a penny has introduced additional difficulty to the Company’s challenge to secure needed additional
working capital. These factors raise substantial doubt about the Company’s ability to continue as a going concern. Management
has instituted a cost control program intended to restrict variable costs to only those expenses that are necessary to complete
its activities related to entering the production phase of operations, develop additional commercially feasible applications of
the CSRV
®
system technology, seek additional sources of working capital and cover general and administrative costs
in support of such activities. The Company has been actively undertaking efforts to secure new sources of working capital. At
September 30, 2017, the Company had negative working capital of ($6,147,000) compared with negative working capital of ($5,411,000)
at the end of 2016.
The
Company continues to actively seek out new sources of working capital; however, there can be no assurance that it will be successful
in these efforts. The accompanying financial statements do not include any adjustments that might be necessary if the Company
is unable to continue as a going concern.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
Inventory
Inventory
consists of raw materials and work-in-process, including overhead. Effective January 2017, the Company adopted the accounting
guidance of Accounting Standards Update No. 2015-11, “Inventory – Simplifying the Measurement of Inventory (Topic
330), on a prospective basis. Pursuant to this update, inventory is stated at the lower of cost or net realizable value. Prior
thereto, inventory was stated at the lower of cost or market. This change in 2017 did not have a material effect on the reported
inventory values. Inventory is accounted for on the first-in, first-out method.
Use
of Estimates
The
preparation of the Company’s financial statements in conformity with GAAP requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities, disclosures of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during the reporting period. These significant estimates
include determining the fair value of convertible promissory notes containing embedded derivatives and variable conversion rates,
determining a value for shares of Series A Preferred Stock and Series B Convertible Preferred Stock issued, assigning useful lives
to the Company’s property, plant and equipment, determining an appropriate amount to reserve for obsolete and slow moving
inventory, estimating a valuation allowance for deferred tax assets, assigning expected lives to, and estimating the rate of forfeitures
of, stock options granted and selecting a trading price volatility factor for the Company’s common stock in order to estimate
the fair value of the Company’s stock options on the date of grant or other appropriate measurement date. Actual results
could differ from those estimates.
2.
CONCENTRATIONS OF CREDIT AND BUSINESS RISK
The
Company maintains cash balances with one financial institution. Monies on deposit are fully insured by the Federal Deposit Insurance
Corporation.
The
Company’s operations are devoted to the development, application, licensing and marketing of the CSRV
®
system technology
which was invented by George J. Coates, the Company’s founder, Chairman, Chief Executive Officer, President and controlling
stockholder. Development efforts have been conducted continuously during this time. From July 1982 through May 1993, seven U.S.
patents as well as a number of foreign patents were issued with respect to the CSRV
®
system technology. Since inception
of the Company in 1988, all aspects of the business have been completely dependent upon the activities of George J. Coates. The
loss of George J. Coates’ availability or service due to death, incapacity or otherwise would have a material adverse effect
on the Company's business and operations. The Company does not presently have any key-man life insurance in force for Mr. Coates.
3.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Cash,
Other Assets, Accounts Payable and Accrued Liabilities and Other Liabilities
With
the exception of convertible promissory notes, the carrying amount of these items approximates their fair value because of the
short term maturity of these instruments. The convertible promissory notes are reported at their estimated fair value, determined
as described in more detail in Note 15.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
Limitations
Fair
value estimates are made at a specific point in time, based on relevant market information and information about the financial
instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore
cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
4.
LICENSING AGREEMENT AND DEFERRED LICENSING COSTS
The
Company holds a manufacturing, use, lease and sale license from George J. Coates and Gregory G. Coates for the CSRV
®
system technology in the territory defined as the Western Hemisphere (the “License Agreement”). Under the License
Agreement, George J. Coates and Gregory G. Coates granted to the Company an exclusive, perpetual, royalty-free, fully paid-up
license to the patented intellectual property that specifically relates to an internal combustion engine that incorporates the
CSRV
®
system technology (the “CSRV
®
Engine”) and that is currently owned or controlled
by them (the “CSRV
®
Intellectual Property”), plus any CSRV
®
Intellectual Property that
is developed by them during their employment with the Company. In the event of insolvency or bankruptcy of the Company, the licensed
rights would terminate and ownership would revert back to George J. Coates and Gregory G. Coates.
Under
the License Agreement, George J. Coates and Gregory G. Coates agreed that they will not grant any Western Hemisphere licenses
to any other party with respect to the CSRV
®
Intellectual Property.
At
September 30, 2017, and December 31, 2016, deferred licensing costs, comprised of expenditures for patent costs incurred pursuant
to the CSRV
®
licensing agreement, net of accumulated amortization, amounted to $35,000 and $38,000, respectively.
Amortization expense for the three months ended September 30, 2017 and 2016 amounted to $1,000 and $1,000, respectively. Amortization
expense for the nine months ended September 30, 2017 and 2016 amounted to $3,000 and $3,000, respectively.
5.
AGREEMENT ASSIGNED TO ALMONT ENERGY, INC.
In
2010, Almont Energy Inc. (“Almont”), a privately held, independent third-party entity based in Alberta, Canada became
the assignee of a sublicense which covers the use of the CSRV
®
system technology in the territory of Canada in
the oil and gas industry (the “Canadian License”). This sublicense is currently inactive because the parties have
not fulfilled their obligations thereunder due to the Company’s delay in starting up production and delivery of CSRV
®
products to Almont. The parties mutually agreed to consider the basis on which the license could be reactivated at such
time that the Company is successful in starting up its manufacturing operations.
In
prior years, the Company received a non-refundable $300,000 deposit on the Canadian License. As the Company continues to be desirous
of commencing shipments of its CSRV® products to Almont under the sublicense at such time that it is able to start up production
operations, it has continued to amortize this deposit into income over the period until expiration of the last CSRV
®
system technology patent in force. At September, 2017, amortization of the unamortized balance is as follows:
Year Ending
|
|
Amount
|
|
2017
|
|
$
|
5,000
|
|
2018
|
|
|
19,000
|
|
2019
|
|
|
19,000
|
|
2020
|
|
|
19,000
|
|
2021
|
|
|
19,000
|
|
Thereafter
|
|
|
94,000
|
|
|
|
$
|
175,000
|
|
Coates International, Ltd.
Notes to Financial Statements - (Continued)
6.
NON-EXCLUSIVE DISTRIBUTION SUBLICENSE WITH RENOWN POWER DEVELOPMENT, LTD.
In
February 2015, the Company granted a non-exclusive distribution sublicense to Renown Power Development, Ltd., a China-based sales
and distribution company (“Renown”) covering the territory defined as the Western Hemisphere. Under this sublicense,
Renown will be permitted to sell, lease and distribute CSRV
®
products. Renown intends to source CSRV
®
products from Coates Power, Ltd., a China-based company formed for the purpose of manufacturing CSRV
®
products
(“Coates Power”). Coates Power has not been able to commence operations due to ongoing delays in obtaining necessary
support and approval from the Chinese government in spite of continuing efforts by Renown to do so on its behalf. This has
been and continues to be a long, arduous process because the government is addressing this at a very slow pace. As of September
30, 2017, the Company has only received an initial non-refundable deposit of $500,000. In addition, after Renown receives aggregate
cash flow of $10,000,000, it is required to pay the Company 25% of all funds it receives from any and all sources, until it fully
pays the contractual licensing fee. Until Coates Power can begin production of CSRV
®
products for Renown, the Company
will not receive any further monies from its sublicense with Renown.
At
this time, as the Company’s intellectual property rights only cover the territory of North America, it does not have any
rights to enter into a manufacturing and sale license agreement with Coates Power. These rights are currently held by George J.
Coates, Gregory G. Coates and The Coates Trust, a trust controlled by George J. Coates. Coates Power and Renown are controlled
and managed by Mr. James Pang, the Company’s liaison agent in China.
The
Company received a $131,000 cash deposit with an order from Coates Power to produce two Gen Sets. This amount is
included in Deposits in the accompanying balance sheets at September 30, 2017 and December 31, 2016. The Company intends to
build and ship these two generators at such time that Coates Power is able to commence production in accordance with the
manufacturing license agreement and there is sufficient working capital for this purpose.
7.
INVENTORY
Inventory
consisted of the following:
|
|
September 30,
2017
|
|
|
December 31,
2016
|
|
Raw materials
|
|
$
|
178,000
|
|
|
$
|
178,000
|
|
Work-in-process
|
|
|
13,000
|
|
|
|
13,000
|
|
Total
|
|
$
|
191,000
|
|
|
$
|
191,000
|
|
8.
LICENSE DEPOSITS
License
deposits consist of monies received as deposits on sublicense agreements, primarily comprised of deposits from Renown in the amount
of $498,000 and from Almont in the amount of $300,000. These deposits are being recognized as income on a straight-line basis
over the remaining period until expiration of the last remaining CSRV
®
patent in force in 2027. Through September
30, 2017, the Company has recognized a total of $125,000 of the Almont deposit as revenue. The Company expects that sublicense-related
activities by Renown may commence within the next twelve months and that it will begin recognizing revenue at that time. Recognition
of revenue from the Almont license is included in the statements of operations for the nine months ended September 30, 2017 and
2016. The current portion of the license deposits represents the portion of the license deposits expected to be recognized as
revenue within one year from the balance sheet date. The balance of the license deposits is included in non-current license deposits.
In
December 2016, the Company entered into an exclusive sublicense agreement with a group of companies under common ownership
referred to as the Secure Supplies Companies (“Secure Supplies”). Under this sublicense agreement, Secure
Supplies intended to procure a substantial number of large industrial CSRV
®
electric power generators powered
by hydrogen gas. Secure Supplies was in default under the sublicense agreement for failure to pay the licensing fee that was
due upon signing. On the basis of repeated promises made by Secure Supplies, the Company did not exercise its right until
September 2017 to declare Secure Supplies in default and cancel the sublicense agreement. In the event that Secure Supplies
is able to adequately fund its operating plan, the Company would consider entering into a new, non-exclusive sublicense
agreement. The Company intends to sublicense hydrogen powered CSRV
®
electric power generators to
other interested third parties on a non-exclusive basis.
Coates
International, Ltd.
Notes to Financial Statements - (Continued)
Sublicensing
fee revenue for the three months ended September 30, 2017 and 2016 amounted to $5,000 and $5,000, respectively. Sublicensing fee
revenue for the nine months ended September 30, 2017 and 2016 amounted to $14,000 and $14,000, respectively.
9.
PROPERTY, PLANT AND EQUIPMENT
Property,
plant and equipment at cost, less accumulated depreciation, consists of the following:
|
|
September 30,
2017
|
|
|
December 31,
2016
|
|
Land
|
|
$
|
1,235,000
|
|
|
$
|
1,235,000
|
|
Building
|
|
|
964,000
|
|
|
|
964,000
|
|
Building improvements
|
|
|
83,000
|
|
|
|
83,000
|
|
Machinery and equipment
|
|
|
689,000
|
|
|
|
689,000
|
|
Furniture and fixtures
|
|
|
57,000
|
|
|
|
57,000
|
|
|
|
|
3,028,000
|
|
|
|
3.028,000
|
|
Less: Accumulated depreciation
|
|
|
(985,000
|
)
|
|
|
(952,000
|
)
|
Total
|
|
$
|
2,043,000
|
|
|
$
|
2,076,000
|
|
Depreciation
expense amounted to $11,000 and $11,000 for the three months ended September 30, 2017 and 2016, respectively. Depreciation expense
amounted to $33,000 and $33,000 for the nine months ended September 30, 2017 and 2016, respectively.
10.
MORTGAGE LOAN PAYABLE
The
Company has a mortgage loan on the land and building that serves as its headquarters and research and development facility which
bears interest at the rate of 7.5% per annum and matures in July 2018. Interest expense for the three months ended September 30,
2017 and 2016 amounted to $25,000 and $26,000, respectively. Interest expense for the nine months ended September 30, 2017 and
2016 amounted to $75,000 and $78,000, respectively. The loan requires monthly payments of interest, plus $5,000 which is being
applied to the principal balance. The remaining principal balance at September 30, 2017 and December 31, 2016 was $1,288,000 and
$1,333,000, respectively. The mortgage loan may be prepaid in whole, or, in part, at any time without penalty.
The
loan is collateralized by a security interest in all of the Company’s assets, the pledge of five million shares of common
stock of the Company owned by George J. Coates, which were deposited into escrow for the benefit of the lender and the personal
guarantee of George J. Coates. The Company is not permitted to create or permit any secondary mortgage or similar liens on the
property or improvements thereon without prior consent of the lender.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
11.
FINANCE LEASE OBLIGATION
In
August 2013, the Company entered into a sale/leaseback financing arrangement pursuant to which it sold its research and development
and manufacturing equipment in consideration for net cash proceeds of $133,000. This lease terminated in February 2016, upon which
the Company reacquired title to the equipment. The effective interest rate on this lease was 36.6%.
In
accordance with GAAP, this sale/leaseback was required to be accounted for as a financing lease. Under this accounting method,
the equipment and accumulated depreciation remained on the Company’s books and records as if the Company still owned the
equipment.
For
the three months ended September 30, 2017 and 2016, interest expense amounted to $-0- and $-0-, respectively. For the nine months
ended September 30, 2017 and 2016, interest expense amounted to $-0- and $2,000, respectively. These amounts are included in interest
expense in the accompanying statements of operations.
12.
ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts
payable and accrued liabilities are as follows:
|
|
September 30,
2017
|
|
|
December 31,
2016
|
|
Legal and professional fees
|
|
$
|
1,402,000
|
|
|
$
|
1,452,000
|
|
Accrued interest expense
|
|
|
549,000
|
|
|
|
502,000
|
|
General and administrative expenses
|
|
|
382,000
|
|
|
|
392,000
|
|
Research and development costs
|
|
|
115,000
|
|
|
|
115,000
|
|
Total
|
|
$
|
2,448,000
|
|
|
$
|
2,461,000
|
|
13.
PROMISSORY NOTES TO RELATED PARTIES
Promissory
Notes Issued to George J. Coates
During
the nine months ended September 30, 2017 and 2016, the Company issued, in a series of transactions, promissory notes to George
J. Coates and received cash proceeds of $24,000 and $162,000, respectively and repaid promissory notes to George J. Coates in
the aggregate principal amount of $23,000 and $15,000, respectively. Interest expense for the three months ended September 30,
2017 and 2016 amounted to $13,000 and $5,000, respectively. Interest expense for the nine months ended September 30, 2017 and
2016 amounted to $38,000 and $30,000, respectively.
In
May 2016, by mutual consent, Mr. Coates converted $100,000 of principal and interest into 90,909,091 restricted shares of common
stock at the closing trading price of the stock on the date of conversion of $0.0011 per share.
In
July 2016, by mutual consent, George J. Coates converted $120,000 of principal and interest into 200,000,000 restricted shares
of common stock at the closing trading price of the stock on the date of conversion of $0.0006 per share.
In
August 2016, by mutual consent, George J. Coates converted $252,000 of principal and interest into 279,549,056 restricted shares
of common stock at the closing trading price of the stock on the date of conversion of $0.0009 per share.
In
December 2016, by mutual agreement between Mr. Coates and the Company, the prior conversion of $315,000 of accrued interest into
shares of common stock, was rescinded. As a result, $315,000 was reinstated as accrued interest due to Mr. Coates and 359,139,789
shares of common stock issued to Mr. Coates were canceled.
The
promissory notes are payable on demand and provide for interest at the rate of 17% per annum, compounded monthly. At September 30, 2017 and December 31, 2016, the outstanding principal balance was $5,000 and $4,000, respectively.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
Promissory
Note Issued to Gregory G. Coates
The
Company has a non-interest bearing promissory note due to Gregory G. Coates which is payable on demand. Interest is being imputed
on this promissory note at the rate of 10% per annum. During the nine months ended September 30, 2017 and 2016, the Company, partially
repaid $20,000 and $-0-, respectively of this promissory note. Imputed interest expense for the three months ended September 30,
2017 and 2016, amounted to $36,000 and $36,000, respectively. Interest expense for the nine months ended September 30, 2017 and
2016, amounted to $107,000 and $108,000, respectively. At September 30, 2017 and December 31, 2016, the outstanding principal balance was $1,418,000 and $1,438,000, respectively.
Promissory
Notes Issued to Bernadette Coates
During
the nine months ended June 30, 2017 and 2016, the Company issued promissory notes to Bernadette Coates, spouse of George J. Coates
and received cash proceeds of $36,000 and $-0-, respectively. The Company repaid promissory notes to Bernadette Coates in the
principal amount of $31,000 and $-0-, respectively. The promissory notes are payable on demand and provide for interest at the
rate of 17% per annum, compounded monthly. Interest expense for the three months ended September 30, 2017 and 2016 amounted to
$4,000 and $3,000, respectively. Interest expense for the nine months ended June 30, 2017 and 2016 amounted to $11,000 and $10,000,
respectively. At September 30, 2017 and December 31, 2016, the outstanding principal balance was $13,000 and $8,000, respectively.
Promissory
Note Issued to Employee
The Company issued a promissory note to an employee which is payable on demand and provides
for interest at the rate of 17% per annum, compounded monthly. At September 30, 2017 and December 31, 2016, the outstanding
principal balance was $5,000 and $5,000, respectively.
Unpaid
accrued interest on these promissory notes amounting to $395,000 is included in accounts payable and accrued liabilities in the
accompanying balance sheet at September 30, 2017.
14. PROMISSORY
NOTES
In
March 2017, the Company issued a $25,000 promissory note with a maturity date of May 13, 2017. Interest was payable upon maturity
in the form of 10,000,000 shares of unregistered, restricted shares of the Company's common stock. In addition, the Company agreed
to extend warrants held by the lender to purchase 10,839,752 shares of common stock that were scheduled to expire in 2017 for
an additional five years and modify the exercise price to $0.0015 per share. On May 5, 2017 the Company prepaid the note in full
and issued 8,688,525 shares of its common stock representing the prorated number of shares for interest on the note, as a result
of the prepayment. Interest expense of $4,000 was recorded for issuance of these shares based on the closing trading price on
the date of issuance.
On
April 14, 2017 the Company issued a 25%, $5,000 promissory note due June 12, 2017 to the same lender which was prepaid on April
25, 2017 together with accrued interest thereon.
15. CONVERTIBLE
PROMISSORY NOTES AND EMBEDDED DERIVATIVE LIABILITY
From
time to time, the Company issues convertible promissory notes, the proceeds of which are used for general working capital purposes.
At September 30, 2017, there was $209,000 principal amount of convertible promissory notes outstanding. During the nine months
ended September 30, 2017 and 2016, $778,000 and $165,000 of convertible promissory notes were issued, respectively. Outstanding
notes may be converted into unregistered shares of the Company’s common stock at a discount ranging from 30% to 39% of the
defined trading price of the common stock on the date of conversion. The defined trading prices are based on the trading price
of the stock during a defined period ranging from ten to twenty-five trading days immediately preceding the date of conversion.
The conversion rate discount establishes a beneficial conversion feature (“BCF”) or unamortized discount, which is
required to be valued and accreted to interest expense over the six-month period until the conversion of the notes into restricted
shares of common stock is permitted. In addition, the conversion formula meets the conditions that require accounting for convertible
notes as derivative liability instruments. The effective interest rate on the outstanding convertible notes at September 30, 2017
was 147%. The unamortized discount on the outstanding convertible notes at September 30, 2017 and December 31, 2016 amounted to
$82,000 and $62,000, respectively.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
The
convertible notes generally become convertible, in whole, or in part, beginning on the six month anniversary of the issuance date
and may be prepaid at the option of the Company, with a prepayment penalty ranging from 15% to 50% of the principal amount of
the convertible note at any time prior to becoming eligible for conversion.
One
convertible promissory note with an aggregate outstanding balance of $55,000 is convertible in monthly installments in an amount
determined by the noteholder, plus accrued interest. The Company may elect, at its option to repay each monthly installment in
whole, or in part, in cash, without penalty. The amount of each installment not paid in cash is converted into shares of the Company’s
common stock. This convertible note also requires that the conversion price be re-measured 23 trading days after the conversion
shares are originally delivered. If the re-measured conversion price is lower, then the Company is required to issue additional
conversion shares to the noteholder.
In
accordance with GAAP, the estimated fair value of the embedded derivative liability related to the convertible notes is required
to be remeasured at each balance sheet date. The fair value measurement accounting standard establishes a valuation hierarchy
for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs
by requiring that the most observable inputs be used, when available. Observable inputs are inputs market participants would use
in valuing the asset or liability developed based on independent market data sources. Unobservable inputs are inputs that reflect
the Company’s assumptions about the factors market participants would use in valuing the asset or liability developed based
upon the best information available. The valuation hierarchy is composed of three categories, which are as follows:
|
●
|
Level
1 – Inputs are quoted prices (unadjusted) in active markets for identical assets
or liabilities.
|
|
●
|
Level
2 – Inputs include quoted prices in active markets for similar assets or liabilities,
quoted prices for identical or similar assets or liabilities in markets that are not
active, and inputs other than quoted prices that are observable for the asset or liability,
either directly or indirectly.
|
|
●
|
Level
3 – Inputs to the fair value measurement are unobservable inputs or valuation techniques.
|
The
estimated fair value of the embedded derivative liabilities related to promissory notes outstanding was measured as the aggregate
estimated fair value, based on Level 2 inputs, which included quoted daily yield curve rates of treasury securities with comparable
maturities and, because the actual volatility rate on the Company’s common stock is not available, a conservative estimated
volatility rate of 200%.
The
embedded derivative liability arises because, based on historical trading patterns of the Company’s stock, the formula for
determining the Conversion Rate is expected to result in a different Conversion Rate than the closing price of the stock on the
actual date of conversion (hereinafter referred to as the “Variable Conversion Rate Differential”). The estimated
fair values of the derivative liabilities have been calculated based on a Black-Scholes option pricing model.
The
following table presents the Company's fair value hierarchy of financial assets and liabilities measured at fair value at:
|
|
September 30, 2017
|
|
|
December 31, 2016
|
|
|
|
|
|
|
|
|
Level 1 Inputs
|
|
$
|
-
|
|
|
$
|
-
|
|
Level 2 Inputs
|
|
|
435,000
|
|
|
|
153,000
|
|
Level 3 Inputs
|
|
|
-
|
|
|
|
-
|
|
Total
|
|
$
|
435,000
|
|
|
$
|
153,000
|
|
Coates International, Ltd.
Notes to Financial Statements - (Continued)
In
a series of transactions, during the nine months ended September 30, 2017, convertible promissory notes with an aggregate principal
balance of $604,000, including accrued interest thereon were converted into 2,962,152,695 unregistered shares of common stock.
The Company incurred a loss on these conversions amounting to $245,000 for the nine months ended September 30, 2017.
In
a series of transactions, during the nine months ended September 30, 2016, convertible promissory notes with an aggregate principal
balance of $665,000, including accrued interest thereon were converted into 1,209,182,017 unregistered shares of common stock.
The Company incurred a loss on these conversions amounting to $125,000 for the nine months ended September 30, 2016.
At
September 30, 2017, the Company had reserved 3,188,592,382 shares of its unissued common stock for conversion of convertible promissory
notes. At September 30, 2017, none of the Company’s outstanding convertible notes were eligible for conversion.
The
Company made the private placement of these securities in reliance upon Section 4(2) of the Securities Act of 1933, as amended
(the “Act”), Rule 506 of Regulation D, and the rules and regulations promulgated thereunder, and/or upon any other
exemption from the registration requirements of the Act, as applicable.
16.
CAPITAL STOCK
Common
Stock
The
Company’s common stock is traded on OTC Pink Sheets. Investors can find stock quotes and market information for the Company
at
www.otcmarkets.com
under the ticker symbol COTE. Effective June 17, 2016, the Company amended its Certificate of Incorporation
to increase the number of authorized shares of common stock, par value, $0.0001 per share (the “Common Stock”) to
12,000,000,000.
The
following common stock transactions occurred during the nine months ended September 30, 2017:
|
●
|
In
a series of transactions, convertible promissory notes with an aggregate principal balance
of $604,000, including accrued interest thereon were converted into 2,962,152,695 unregistered
shares of common stock.
|
|
●
|
Barry
C. Kaye converted 1,372 shares of Series B Convertible Preferred Stock (“Series
B”) into 1,372,000 unregistered, restricted shares of the Company’s common
stock.
|
|
●
|
The
Company issued 8,688,525 shares of common stock in payment of interest on a $25,000 promissory
note as more fully discussed in Note 14.
|
The
following common stock transactions occurred during the nine months ended September 30, 2016:
|
●
|
In
a series of transactions, convertible promissory notes with an aggregate principal balance
of $665,000, including accrued interest thereon were converted into 1,209,182,017 unregistered
shares of common stock.
|
|
●
|
In
a series of transactions, the Company issued 87,892,603 registered shares of its common
stock to Southridge Partners II LP (“Southridge”) under an equity purchase
agreement, as discussed in Note 21, in consideration for $150,000. The proceeds were
used for general working capital. The Company is required to deliver shares of its common
stock to Southridge with each Put Notice based on the dollar amount of the Put Notice
and the trading price of the common stock.
|
Coates International, Ltd.
Notes to Financial Statements - (Continued)
|
●
|
The
Company made private sales, pursuant to stock purchase agreements, of 55,000,000 unregistered
shares of its common stock and 55,000,000 common stock warrants to purchase one unregistered
share of its common stock at exercise prices ranging from $0.0005 to $0.001 per share,
in consideration for $45,000.
|
|
●
|
In
a series of transactions by mutual consent between the Company and George J. Coates,
$472,000 principal amount of promissory notes, including accrued interest, were converted
into 570,458,147 restricted, unregistered shares of the Company’s common stock
at conversion rates ranging from $0.0006 to $0.0011 per share, which was the closing
trading price of the stock on the respective dates of conversion.
|
Preferred
Stock and anti-dilution rights
The
Company is authorized to issue 100,000,000 shares of preferred stock, par value, $0.001 per share (the “Preferred Stock”).
The Company may issue any class of the Preferred Stock in any series. The board is authorized to establish and designate series,
and to fix the number of shares included in each such series and the relative rights, preferences and limitations as between series,
provided that, if the stated dividends and amounts payable on liquidation are not paid in full, the shares of all series of the
same class shall share ratably in the payment of dividends including accumulations, if any, in accordance with the sums which
would be payable on such shares if all dividends were declared and paid in full and in any distribution of assets other than by
way of dividends in accordance with the sums which would be payable on such distribution if all sums payable were discharged in
full. Shares of each such series when issued, shall be designated to distinguish the shares of each series from shares of all
other series.
There
are two series of Preferred Stock that have been designated to date from the total 100,000,000 authorized shares of Preferred
Stock. These are as follows:
|
●
|
Series
A Preferred Stock, par value $0.001 per share (“Series A”), 1,000,000 shares
designated, 770,222 and 50,000 shares issued and outstanding as of September 30, 2017
and December 31, 2016, respectively. Shares of Series A entitle the holder to 10,000
votes per share on all matters brought before the shareholders for a vote. These shares
are not entitled to receive dividends or share in distributions of capital and have no
liquidation preference. All outstanding shares of Series A are owned by George J. Coates.
|
During
the nine months ended September 30, 2017, the Company issued 670,222 shares of Series A Preferred Stock to George J. Coates representing
anti-dilution shares to restore Mr. Coates’ percentage of eligible votes to 85.7%. This percentage increased during the
year ended December 31, 2016 as a result of Mr. Coates’ acquisition of 211,318,358 shares of common stock upon conversion
of promissory notes from the Company which he held with a principal amount of $157,000 and 115,006,000 shares of common stock
upon conversion of 115,006 shares of Series B Convertible Preferred Stock, par value $0.001 per share (“Series B”).
Coates International, Ltd.
Notes to Financial Statements - (Continued)
|
●
|
Series
B, 75,000,000 shares designated, 36,054,423 and 16,252,584 shares issued and outstanding
as of September 30, 2017 and December 31, 2016, respectively. Shares of Series B do not
earn any dividends and may be converted at the option of the holder at any time beginning
on the second annual anniversary date after the date of issuance into 1,000 unregistered
shares of the Company’s common stock. Holders of Series B are entitled to one thousand
votes per share held, on all matters brought before the shareholders for a vote.
|
In
the event that either (i) the Company enters into an underwriting agreement for a secondary public offering of securities, or
(ii) a change in control of the Company is consummated representing 50% more of the then outstanding shares of Company’s
common stock, plus the number of shares of common stock into which any convertible preferred stock is convertible, regardless
of whether or not such shares are otherwise eligible for conversion, then the Series B may be immediately converted at the option
of the holder into restricted shares of the Company’s common stock.
The
Company provides anti-dilution protection for certain of its key employees. For each new share of common stock issued by the Company
to non-Coates family members in the future, additional shares of Series B will be issued to maintain their fixed ownership percentage
of the Company. The fixed ownership percentage is adjusted for acquisitions and dispositions of common stock not related to conversions
of Series B by these key employees. At September 30, 2017, the fixed ownership percentages were as follows:
|
●
|
George
J. Coates – 80.63%
|
|
●
|
Gregory
G. Coates – 6.10%
|
These
anti-dilution provisions do not apply to new shares of common stock issued in connection with exercises of employee stock options,
a secondary public offering of the Company’s securities or a merger or acquisition.
The
following presents by year, the number of shares of Series B held and the year that they become eligible for conversion into shares
of common stock, as of September 30, 2017.
|
|
Total
|
|
|
2017
|
|
|
2018
|
|
|
2019
|
|
George J. Coates
|
|
|
33,308,066
|
|
|
|
3,135,357
|
|
|
|
11,766,624
|
|
|
|
18,406,085
|
|
Gregory G. Coates
|
|
|
2,551,137
|
|
|
|
224,975
|
|
|
|
872,014
|
|
|
|
1,454,148
|
|
Barry C. Kaye
|
|
|
195,220
|
|
|
|
13,063
|
|
|
|
68,266
|
|
|
|
113,891
|
|
Total
|
|
|
36,054,423
|
|
|
|
3,373,395
|
|
|
|
12,706,904
|
|
|
|
19,974,124
|
|
For
the nine months ended September 30, 2017, 18,406,085, 1,454,148 and 113,891 shares of Series B were issued to George J. Coates,
Gregory G. Coates and Barry C. Kaye, respectively, having an estimated fair value of $4,511,000, $370,000 and $29,000, respectively.
These amounts were included in stock-based compensation expense in the accompanying statement of operations for the nine months
ended September 30, 2017.
For
the nine months ended September 30, 2016, 11,766,624, 772,645 and 60,487 shares of Series B were issued to George J. Coates, Gregory
G. Coates and Barry C. Kaye, respectively, having an estimated fair value of $6,749,000, $447,000 and $35,000, respectively. These
amounts were included in stock-based compensation expense in the accompanying statement of operations for the nine months ended
September 30, 2016.
Coates International,
Ltd.
Notes to Financial Statements - (Continued)
During
the nine months ended September 30, 2017, Barry C. Kaye converted 1,372 shares of Series B into 1,372,000 unregistered, restricted
shares of the Company’s common stock.
In
the event that all of the 36,054,423 shares of Series B outstanding at September 30, 2017 were converted, once the conversion
restrictions lapse, an additional 36,054,423,000 new restricted shares of common stock would be issued. On a pro forma basis,
based on the number of shares of common stock outstanding at September 30, 2017, this would dilute the ownership percentage of
non-affiliated stockholders from 89.8% to 12.8%.
To
the extent that additional shares of Series B are issued under the anti-dilution plan, the non-affiliated stockholders’
percentage ownership of the Company would be further diluted.
17.
UNEARNED REVENUE
Unearned
revenue at September 30, 2017, consisted of the following:
|
●
|
A
deposit received with an order for two CSRV
®
Gen Sets from Coates Power,
Ltd., a China-based unaffiliated manufacturing company in the amount of $131,000.
|
|
●
|
A
$19,000 non-refundable deposit from Almont in connection with its order for a natural
gas fueled electric power CSRV
®
engine generator.
|
18. SUBLICENSING
FEE REVENUE
Sublicensing
fee revenue for the three months ended September 30, 2017 and 2016 amounted to $5,000 and $5,000, respectively. Sublicensing fee
revenue for the nine months ended September 30, 2017 and 2016 amounted to $14,000 and $14,000, respectively. The Company is recognizing
the license deposit of $300,000 on the Canadian License as revenue on a straight-line basis over the approximate remaining life
until 2027 of the last CSRV
®
technology patent in force.
19.
LOSS PER SHARE
At
September 30, 2017, there were stock warrants outstanding to purchase 150,344,911 shares of common stock at exercise prices ranging
from $0.0005 to $0.675 per share and vested stock options outstanding to acquire 12,470,000 shares of common stock at exercise
prices ranging from $0.028 to $0.44 per share. None of the convertible promissory notes outstanding were eligible for conversion.
At
September 30, 2016, there were stock warrants outstanding to purchase 90,344,911 shares of common stock at exercise prices ranging
from $0.0005 to $0.12 per share, vested stock options outstanding to acquire 12,470,000 shares of common stock at exercise prices
ranging from $0.028 to $0.44 per share and $50,000 of convertible promissory notes eligible for conversion, which on a pro forma
basis, assuming they would have been converted on September 30, 2016, would have been convertible into 100,531,899 shares of common
stock.
For
the nine months ended September 30, 2017 and 2016, none of the potentially issuable shares of common stock were assumed to be
converted because the Company incurred a net loss in those periods and the effect of including them in the calculation of earnings
per share would have been anti-dilutive.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
20.
STOCK OPTIONS
The
Company’s 2006 Stock Option and Incentive Plan (the “Stock Plan”) was adopted by the Company’s board in
October 2006. In September 2007, the Stock Plan, by consent of George J. Coates, majority shareholder, was adopted by our shareholders.
The Stock Plan provides for the grant of stock-based awards to employees, officers and directors of, and consultants or advisors
to, the Company and its subsidiaries, if any. Under the Stock Plan, the Company may grant options that are intended to qualify
as incentive stock options within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended (“ISO’s”),
options not intended to qualify as incentive stock options (“non-statutory options”), restricted stock and other stock-based
awards. ISO’s may be granted only to employees of the Company. All of the shares of common stock authorized under the Stock
Plan have been granted and no further grants may be awarded thereunder.
The
Company established a 2014 Stock Option and Incentive Plan (the “2014 Stock Plan”) which was adopted by the Company’s
board on May 30, 2014. On March 2, 2015, the 2014 Stock Plan, by consent of George J. Coates, majority shareholder, was adopted
by our shareholders. The 2014 Stock Plan provides for the grant of stock-based awards to employees, officers and directors of,
and consultants or advisors to, the Company and its subsidiaries, if any. Under the 2014 Stock Plan, the Company may grant ISO’s,
non-statutory options, restricted stock and other stock-based awards. ISO’s may be granted only to employees of the Company.
A total of 50,000,000 shares of common stock may be issued upon the exercise of options or other awards granted under the 2014
Stock Plan. The maximum number of shares with respect to which awards may be granted during any one year to any employee under
the 2014 Stock Plan shall not exceed 25% of the 50,000,000 shares of common stock covered by the 2014 Stock Plan. At June 30,
2017, none of the shares of common stock authorized under the 2014 Stock Plan had been granted as stock options or awards.
The
Stock Plan and the 2014 Stock Plan (the “Stock Plans”) are administered by the board and the Compensation Committee.
Subject to the provisions of the Stock Plans, the board and the Compensation Committee each has the authority to select the persons
to whom awards are granted and determine the terms of each award, including the number of shares of common stock subject to the
award. Payment of the exercise price of an award may be made in cash, in a “cashless exercise” through a broker, or
if the applicable stock option agreement permits, shares of common stock, or by any other method approved by the board or Compensation
Committee. Unless otherwise permitted by the Company, awards are not assignable or transferable except by will or the laws of
descent and distribution.
Upon
the consummation of an acquisition of the business of the Company, by merger or otherwise, the board shall, as to outstanding
awards (on the same basis or on different bases as the board shall specify), make appropriate provision for the continuation
of such awards by the Company or the assumption of such awards by the surviving or acquiring entity and by substituting on an
equitable basis for the shares then subject to such awards either (a) the consideration payable with respect to the outstanding
shares of common stock in connection with the acquisition, (b) shares of stock of the surviving or acquiring corporation,
or (c) such other securities or other consideration as the board deems appropriate, the fair market value of which (as determined
by the board in its sole discretion) shall not materially differ from the fair market value of the shares of common stock subject
to such awards immediately preceding the acquisition. In addition to, or in lieu of the foregoing, with respect to outstanding
stock options, the board may, on the same basis or on different bases as the board shall specify, upon written notice to the affected
optionees, provide that one or more options then outstanding must be exercised, in whole or in part, within a specified number
of days of the date of such notice, at the end of which period such options shall terminate, or provide that one or more options
then outstanding, in whole or in part, shall be terminated in exchange for a cash payment equal to the excess of the fair market
value (as determined by the board in its sole discretion) for the shares subject to such stock options over the exercise price
thereof. Unless otherwise determined by the board (on the same basis or on different bases as the board shall specify), any
repurchase rights or other rights of the Company that relate to a stock option or other award shall continue to apply to consideration,
including cash, that has been substituted, assumed or amended for a stock option or other award pursuant to these provisions.
The Company may hold in escrow all or any portion of any such consideration in order to effectuate any continuing restrictions.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
The
board may at any time provide that any stock options shall become immediately exercisable in full or in part, that any restricted
stock awards shall be free of some or all restrictions, or that any other stock-based awards may become exercisable in full or
in part or free of some or all restrictions or conditions, or otherwise realizable in full or in part, as the case may be.
The
board or Compensation Committee may, in its sole discretion, amend, modify or terminate any award granted or made under the Stock
Plan, so long as such amendment, modification or termination would not materially and adversely affect the participant.
During
the nine months ended September 30, 2017 and 2016, no stock options were granted. There were no unvested stock options outstanding
at September 30, 2017.
During
the nine months ended September 30, 2017 and 2016, the Company did not incur any stock-based compensation expense related to employee
stock options. At September 30, 2017, all stock-based compensation expense related to outstanding stock options had been
fully recognized.
Details
of the stock options outstanding under the Company’s Stock Option Plans are as follows:
|
|
Exercise Price Per
Share
|
|
|
Number
Outstanding
|
|
|
Weighted
Average
Remaining
Contractual
Life
|
|
|
Number
Exercisable
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Weighted
Average Fair
Value Per Stock
Option at Date of
Grant
|
|
Balance, 9/30/17
|
|
$
|
0.028
– $0.44
|
|
|
|
12,470,000
|
|
|
|
9
|
|
|
|
12,470,000
|
|
|
$
|
0.182
|
|
|
$
|
0.169
|
|
No
stock options were exercised, forfeited or expired during the nine months ended September 30, 2017 and 2016.
The
weighted average fair value of the Company's stock options was estimated using the Black-Scholes option pricing model which requires
highly subjective assumptions including the expected stock price volatility. These assumptions were as follows:
●
|
Historical stock price volatility
|
|
139% - 325%
|
●
|
Risk-free interest rate
|
|
0.21% - 4.64%
|
●
|
Expected life (in years)
|
|
4
|
●
|
Dividend yield
|
|
$0.00
|
The
valuation assumptions were determined as follows:
●
|
Historical
stock price volatility: The Company utilized the volatility in the trading of its common stock computed for the 12 months
of trading immediately preceding the date of grant.
|
|
|
●
|
Risk-free interest
rate: The Company bases the risk-free interest rate on the interest rate payable on U.S. Treasury securities in effect at
the time of the grant for a period that is commensurate with the assumed expected option life.
|
|
|
●
|
Expected life: The
expected life of the options represents the period of time options are expected to be outstanding. The Company has very limited
historical data on which to base this estimate. Accordingly, the Company estimated the expected life based on its assumption
that the executives will be subject to frequent blackout periods during the time that the stock options will be
exercisable and based on the Company’s expectation that it will complete its research and development phase and commence
its initial production phase. The vesting period of these options was also considered in the determination of the expected
life of each stock option grant.
|
|
|
●
|
No expected dividends.
|
Coates International, Ltd.
Notes to Financial Statements - (Continued)
21.
EQUITY PURCHASE AND REGISTRATION RIGHTS AGREEMENTS
In
July 2015, the Company entered into an equity purchase agreement (the “EP Agreement”) with Southridge Partners II
LP, a Delaware limited partnership (“Southridge”). Pursuant to the terms of the EP Agreement, Southridge committed
to purchase up to 205,000,000 shares of the Company’s common stock at 94% of the lowest closing price of the common stock
during the ten trading days that comprise the defined pricing period. In December 2016, the EP Agreement automatically terminated
because Southridge had purchased all 205,000,000 registered shares of common stock under the EP Agreement.
The
Company filed a registration statement with the SEC covering 205,000,000 shares of common stock underlying the EP Agreement, which
was declared effective in August 2015.
During
the nine months ended September 30, 2017, the Company received proceeds of $43,000 under the EP Agreement relating to 76,141,381
registered shares of common stock sold to Southridge in December 2016. During the nine months ended September 30, 2016, the Company
sold 87,892,603 registered shares of common stock to Southridge and received proceeds of $150,000 under the EP Agreement.
22.
INCOME TAXES
Deferred
income taxes are determined using the liability method for the temporary differences between the financial reporting basis and
income tax basis of the Company’s assets and liabilities. Deferred income taxes are measured based on the tax rates expected
to be in effect when the temporary differences are included in the Company’s tax return. Deferred tax assets and liabilities
are recognized based on anticipated future tax consequences attributable to differences between financial statement carrying amounts
of assets and liabilities and their respective tax bases.
Deferred
tax assets increased by $701,000 and $1,750,000 for the three months ended September 30, 2017 and 2016, respectively. Deferred
tax assets increased by $2,151,000 and $3,145,000 for the nine months ended September 30, 2017 and 2016, respectively. These amounts
were fully offset by a corresponding increase in the tax valuation allowance resulting in no net change in deferred tax assets,
respectively, during these periods.
No
liability for unrecognized tax benefits was required to be reported at September 30, 2017 and December 31, 2016. Based
on the Company's evaluation, it has concluded that there are no significant uncertain tax positions requiring recognition in the
Company's financial statements. The Company's evaluation was performed for tax years ended 2014 through 2016, the only periods
subject to examination. The Company believes that its income tax positions and deductions will be sustained on audit and
does not anticipate that adjustments, if any, will result in a material change to its financial position. For the nine months
ended September 30, 2017 and 2016, there were no penalties or interest related to the Company’s income tax returns.
At
September 30, 2017, the Company had available, $20,485,000 of net operating loss carryforwards which may be used to reduce future
federal taxable income, expiring between 2018 and 2037 and $10,040,000 of net operating loss carryforwards which may be used to
reduce future state taxable income, expiring between 2029 and 2037.
Coates
International, Ltd.
Notes to Financial Statements - (Continued)
23.
RELATED PARTY TRANSACTIONS
Issuances
and Repayments of Promissory Notes to Related Parties
Issuances
and repayments of promissory notes to related parties during the nine months ended September 30, 2017 and 2016, are discussed
in detail in Note 13.
Issuances
of Preferred Stock
Shares
of Series A Preferred Stock awarded to George J. Coates and Shares of Series B awarded to George J. Coates, Gregory G. Coates
and Barry C. Kaye during the nine months ended September 30, 2017 and 2016 are discussed in detail in Note 16.
Personal
Guaranty and Stock Pledge
In
connection with the Company’s mortgage loan, George J. Coates has pledged certain of his shares of common stock of the Company
to the extent required by the lender and provided a personal guaranty as additional collateral for a mortgage loan on the Company’s
headquarters facility.
Compensation
and Benefits Paid
The
approximate amount of compensation and benefits, all of which were approved by the board, paid to George J. Coates, Gregory G.
Coates and Bernadette Coates, exclusive of stock-based compensation for unregistered, restricted shares of Preferred Stock awarded
to George J. Coates and Gregory G. Coates, is summarized as follows:
|
|
For the nine months ended September 30,
|
|
|
|
2017
|
|
|
2016
|
|
George J. Coates (a) (b) (c)
|
|
$
|
22,000
|
|
|
$
|
17,000
|
|
Gregory G. Coates (d) (e)
|
|
|
34,000
|
|
|
|
131,000
|
|
Bernadette Coates (f)
|
|
|
4,000
|
|
|
|
3,000
|
|
|
(a)
|
For
the nine months ended September 30, 2017 and 2016, George J. Coates earned additional
base compensation of $178,000 and $183,000, respectively, payment of which is being deferred
until the Company has sufficient working capital. The total amount of deferred
compensation included in the accompanying balance sheets at September 30, 2017 and December 31,
2016, was $1,158,000 and $981,000, respectively.
|
|
(b)
|
During
the nine months ended September 30, 2017 and 2016, George J. Coates was awarded 18,406,085
and 11,766,624 shares of Series B, respectively, with an estimated fair value of $4,511,000
and $6,749,000, respectively, for anti-dilution.
|
|
(c)
|
During
the nine months ended September 30, 2017, George J. Coates was awarded 670,222 shares
of Series A Preferred Stock with an estimated fair value of $17,000, for anti-dilution.
|
|
(d)
|
For
the nine months ended September 30, 2017 and 2016, Gregory G. Coates earned additional
base compensation of $91,000 and $-0-, respectively, payment of which is being deferred
until the Company has sufficient working capital. The total amount of deferred
compensation included in the accompanying balance sheets at September 30, 2017 and December 31,
2016, was $124,000 and $33,000, respectively.
|
|
(e)
|
During
the nine months ended September 30, 2017 and 2016, Gregory G. Coates was awarded 1,454,148
and 772,645 shares of Series B, respectively, with an estimated fair value of $370,000
and $447,000, respectively, for anti-dilution.
|
|
(f)
|
For
the nine months ended September 30, 2017 and 2016, Bernadette Coates earned additional
base compensation of $50,000 and $50,000, respectively, payment of which is being deferred
until the Company has sufficient working capital. The total amount of deferred
compensation included in the accompanying balance sheets at September 30, 2017 and December 31,
2016, was $309,000 and $258,000, respectively.
|
Coates
International, Ltd.
Notes to Financial Statements - (Continued)
During
the nine months ended September 30, 2017 and 2016, Barry C. Kaye, Treasurer and Chief Financial Officer was paid compensation
of $53,000 and $1,000, respectively. For the three months ended September 30, 2017 and 2016, Mr. Kaye earned compensation of $25,000
and $25,000, respectively, which was not paid and is being deferred until the Company has sufficient working capital to remit
payment to him. For the nine months ended September 30, 2017 and 2016, Mr. Kaye earned compensation of $85,000 and $74,000, respectively,
which was not paid and is being deferred until the Company has sufficient working capital to remit payment to him. Starting in
September 2016, the Company agreed to pay Mr. Kaye interest on the balance of his deferred compensation retroactive to when it
began being deferred in May 2012. Interest continues to be accrued on the unpaid balance. During the nine months ended September
30, 2017, interest accrued on Mr. Kaye’s deferred compensation amounted to $42,000. At September 30, 2017, the total amount
of Mr. Kaye’s unpaid, deferred compensation, including accrued interest thereon, was $382,000. This amount is included in
accounts payable and accrued liabilities in the accompanying balance sheet at September 30, 2017. During the nine months ended
September 30, 2017 and 2016, Barry C. Kaye was awarded 113,891 and 60,487 shares of Series B, respectively, with an estimated
fair value of $29,000 and $35,000, respectively, for anti-dilution.
At September 30, 2017, the Company owed deferred compensation to an employee in the amount of $31,000, payment of which is
being deferred until the Company has sufficient working capital. This amount is included in deferred compensation in the
accompanying balance sheet at September 30, 2017.
24.
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
The
following table summarizes the Company’s contractual obligations and commitments at September 30, 2017:
|
|
Total
|
|
|
2017
|
|
|
2018
|
|
Deferred compensation
|
|
$
|
1,622,000
|
|
|
$
|
1,622,000
|
|
|
$
|
-
|
|
Promissory notes to related parties
|
|
|
1,441,000
|
|
|
|
1,441,000
|
|
|
|
-
|
|
Mortgage loan payable
|
|
|
1,303,000
|
|
|
|
60,000
|
|
|
|
1,243,000
|
|
Convertible promissory notes
|
|
|
209,000
|
|
|
|
-
|
|
|
|
209,000
|
|
Total
|
|
$
|
4,575,000
|
|
|
$
|
3,123,000
|
|
|
$
|
1,452,000
|
|
25.
LITIGATION AND CONTINGENCIES
The
Company is not a party to any litigation that is material to its business.
26.
RECENTLY ISSUED ACCOUNTING STANDARDS
Revenue
Recognition
In
May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
No. 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”), which amends the existing accounting
standards for revenue recognition. ASU 2014-09 is based on principles that govern the recognition of revenue at an amount an entity
expects to be entitled to when products are transferred to customers. In August 2015, the FASB issued ASU No. 2015-14, Revenue
from Contracts with Customers (Topic 606) – Deferral of the Effective Date, which defers the effective date of ASU 2014-09
for one year and permits early adoption. Accordingly, the Company may adopt the standard in either its first quarter of 2018 or
2019.
In
April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers (Topic 606) – Identifying Performance
Obligations and Licensing (“ASU 2016-10”), which amends the guidance in ASU 2014-09 related to identifying performance
obligations and accounting for licenses of intellectual property. The Company will adopt ASU 2016-10 with ASU 2014-09. The Company
is currently evaluating the impact of adopting the new revenue recognition standard, as amended, but does not expect it to have
a material impact on its financial statements.
Coates International, Ltd.
Notes to Financial Statements - (Continued)
Stock
Compensation
In
March 2016, the FASB issued ASU No. 2016-09, Compensation – Stock Compensation (Topic 718), which simplified certain
aspects of the accounting for share-based payment transactions, including income taxes, classification of awards and classification
in the statement of cash flows. ASU 2016-09 will be effective for the Company beginning in its first quarter of 2018. The Company
is currently evaluating the impact of adopting the new stock compensation standard, but does not expect it to have a material
impact on its financial statements.
Financial
Instruments
In
January 2016, the FASB issued ASU No. 2016-01, Financial Instruments – Overall (Subtopic 825-10) (“ASU 2016-01”),
which updates certain aspects of recognition, measurement, presentation and disclosure of financial instruments. ASU 2016-01 will
be effective for the Company beginning in its first quarter of 2019. The Company does not believe the adoption of the new financial
instruments standard will have a material impact on its financial statements.
27.
SUBSEQUENT EVENTS
Issuance
of Convertible Promissory Notes
During
the period from October 1, 2017 to November 13, 2017, the Company issued a convertible promissory note and received net proceeds
of $36,000, after transaction costs. This note becomes eligible for conversion six months after the funding date into shares of
the Company's common stock at a conversion price 65% of the trading price, as defined, of the Company’s common stock over
a specified trading period prior to the date of conversion.
Conversion
of Convertible Promissory Notes
During
the period from October 1, 2017 to November 13, 2017, $45,000 principal amount of convertible promissory notes, including accrued
interest, was converted into 366,557,377 unregistered, restricted shares of the Company’s common stock.
Issuances
of Promissory Notes to Related Parties
During
the period from October 1, 2017 to November 13, 2017, the Company issued promissory notes to Bernadette Coates and received aggregate
cash proceeds of $11,000. The promissory notes are payable on demand and provide for interest at the rate of 17% per annum, compounded
monthly.
Issuance
of Anti-dilution shares
During
the period from October 1, 2017 to November 13, 2017, the Company issued 2,310,878, 174,924 and 13,694 shares of Series B to George
J. Coates, Gregory G. Coates and Barry C. Kaye, respectively, representing anti-dilution shares related to newly issued shares
of common stock. The estimated fair value of these shares was $393,000, $28,000 and $2,000, respectively.
Deferred
Compensation
As
of November 13, 2017, George J. Coates, Gregory G. Coates, Barry C. Kaye and Bernadette Coates agreed to additional deferral of
their compensation amounting to $29,000, $9,000, $15,000 and $8,000, respectively.