NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Know Labs, Inc. (the “Company”) was incorporated under
the laws of the State of Nevada in 1998.
The Company has
authorized 105,000,000 shares of capital stock, of which
100,000,000 are shares of voting common stock, par value $0.001 per
share, and 5,000,000 are shares preferred stock, par value $0.001
per share.
The
Company is
focused on the development,
marketing and sales of a proprietary technologies which are capable
of uniquely authenticating or diagnosing almost any substance or
material using electromagnetic energy to create, record and detect
the unique “signature” of the substance. The
Company’s call these our “ChromaID™” and
“Bio-RFID™” technologies.
Overview
Historically, the Company focused on the development of our
proprietary ChromaID technology. Using light from low-cost LEDs
(light emitting diodes) the Company’s map the color of
substances, fluids and materials and with our proprietary processes
we can authenticate, identify and diagnose based upon the color
that is present. The color is both visible to us as humans but also
outside of the humanly visible color spectrum in the near infra-red
and near ultra-violet and beyond. The Company’s ChromaID
scanner sees what we like to call “Nature’s Color
Fingerprint.” Everything in nature has a unique color
identifier and with ChromaID the Company can see it, and identify,
authenticate and diagnose based upon the color that is present. The
Company’s ChromaID scanner is capable of uniquely identifying
and authenticating almost any substance or liquid using light to
create, record and detect its unique color signature. The Company
will continue to develop and enhance its ChromaID technology and
extend its capacity. More recently, the Company has focused upon
extensions and new inventions that are derived from and extend
beyond our ChromaID technology. The Company’s call this
technology Bio-RFID. The rapid advances made with our Bio-RFID
technology in our laboratory have caused us to move quickly in to
the commercialization phase of our Company as we work to create
revenue generating products for the marketplace. The Company will
also, as resources permit, pursue licensing opportunities with
third parties who have ready applications for our
technologies.
In 2010, the Company acquired TransTech Systems, Inc. as an adjunct
to its business. TransTech is a distributor of products for
employee and personnel identification. TransTech currently provides
substantially all of the Company’s revenues.
The Company is in the process of commercializing its
ChromaID™ and Bio-RFID™ technology. To date, the
Company has entered into License Agreements with Sumitomo Precision
Products Co., Ltd. In addition, it has a technology license
agreement with Allied Inventors
, formerly Xinova
and Invention Development Management
Company, a subsidiary of Intellectual Ventures.
The Company believes that its commercialization success is
dependent upon its ability to significantly increase the number of
customers that are purchasing and using its products. To date the
Company has generated minimal revenue from sales of its ChromaID
and Bio-RFID products. The Company is currently not profitable.
Even if the Company succeeds in introducing the ChromaID and
Bio-RFID technology and related products to its target markets, the
Company may not be able to generate sufficient revenue to achieve
or sustain profitability.
ChromaID was invented by scientists under contract with the
Company. Bio-RFID was invented by individuals working for the
Company. The Company actively pursues a robust intellectual
property strategy and has been granted twelve patents. The Company
also has 20 patents pending. The Company possesses all right, title
and interest to the issued patents. Ten of the pending patents are
licensed exclusively to the Company in perpetuity by the
Company’s strategic partner, Allied
Inventors.
Merger with RAAI Lighting, Inc.
On April 10, 2018, the Company entered into an Agreement and Plan
of Merger with 500 Union Corporation, a Delaware corporation and a
wholly owned subsidiary of the Company, and RAAI Lighting, Inc., a
Delaware corporation. Pursuant to the Merger Agreement, we have
acquired all the outstanding shares of RAAI’s capital stock
through a merger of Merger Sub with and into RAAI (the
“Merger”), with RAAI surviving the Merger as a wholly
owned subsidiary of the Company.
Under the terms of the Merger Agreement, each share of RAAI common
stock issued and outstanding immediately before the Merger (1,000
shares) were cancelled and we issued 2,000,000 shares of our common
stock. As a result, we issued 2,000,000 shares of its common stock
to Phillip A. Bosua, formerly the sole stockholder of RAAI. The
consideration for the Merger was determined through arms-length
bargaining by the Company and RAAI. The Merger was structured to
qualify as a tax-free reorganization for U.S. federal income tax
purposes. As a result of the Merger, the Company received certain
intellectual property, related to RAAI.
Appointment of Director
On April 10, 2018, the Board increased the size of the Board from
three to four members and Phillip A. Bosua was appointed as a
member of the Board. Mr. Bosua’s term of office expires at
the next annual meeting of our stockholders. On May 24, 2018, the
Board of Directors increased the size of the Board from four to
five members and appointed (Ret.) Admiral William Owens as a member
of the Board. Admiral Owen’s term of office expires at the
next annual meeting of our stockholders.
Appointment of Officer
On April 10, 2018, the Company appointed Mr. Bosua as Chief
Executive Officer of the Company, replacing Ronald P. Erickson, who
remains Chairman of the Company. Previously, Mr. Bosua served as
the Company’s Chief Product Officer since August 2017. The
Company entered into a Consulting Agreement with Mr. Bosua’s
company, Blaze Clinical on July 7, 2017.
On April 10, 2018, the Company entered into an Employment Agreement
with Mr. Bosua reflecting Mr. Bosua’s appointment as Chief
Executive Officer. The Employment Agreement is for an initial term
of 12 months (subject to earlier termination) and will be
automatically extended for additional 12-month terms unless either
party notifies the other party of its intention to terminate the
Employment Agreement. Mr. Bosua will be paid a base salary of
$225,000 per year, received 500,000 shares of common stock valued
at $0.33 per share and may be entitled to bonuses and equity awards
at the discretion of the Board or a committee of the Board. The
Employment Agreement provides for severance pay equal to 12 months
of base salary if Mr. Bosua is terminated without
“cause” or voluntarily terminates his employment for
“good reason.”
On April 10, 2018, the Company entered into an Amended Employment
Agreement for Ronald P. Erickson which amends the Employment
Agreement dated July 1, 2017. The Agreement expires March 21,
2019.
Merger with Know Labs, Inc.
On May 1, 2018, Know Labs, Inc., a Nevada corporation incorporated
on April 3, 2018, and our wholly-owned subsidiary, merged with and
into the Company pursuant to an Agreement and Plan of Merger dated
May 1, 2018. In connection with the merger, our Articles of
Incorporation were effectively amended to change our name to Know
Labs, Inc. by and through the filing of Articles of Merger. This
parent-subsidiary merger was approved by us, the parent, in
accordance with Nevada Revised Statutes Section 92A.180.
Stockholder approval was not required. This amendment was filed
with the Nevada Secretary of State and became effective on May 1,
2018.
Corporate Name Change and Symbol Change
On May
24, 2018, the Financial Industry Regulatory Authority
(“FINRA”) announced the effectiveness of a change in
our name from Visualant Incorporated to Know Labs, Inc. and a
change in our ticker symbol from VSUL to the new trading symbol
KNWN which became effective on the opening of trading as of May 25,
2018. In addition, in connection with the name change and symbol
change, we were assigned the CUSIP number of
499238103.
Closing of Financing on June 25, 2018
On June 25, 2018, the Company closed a private placement and
received gross proceeds of $1,750,000 in exchange for issuing
7,000,000 shares of common stock and warrants to purchase 3,500,000
shares of common stock in a private placement to accredited
investors pursuant to a series of substantially identical
subscription agreements.
The initial exercise price of the warrants described above is $0.25
per share, subject to certain adjustments, and the warrants expire
five years after their issuance.
The shares and the warrants described above were issued in
transactions that were not registered under the Securities Act of
1933, as amended (the “Act”) in reliance upon
applicable exemptions from registration under Section 4(a)(2) of
the Act and/or Rule 506 of SEC Regulation D under the Act.
The
accompanying financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. The
Company incurred net losses of $3,257,597 and $3,901,232 for the
years ended September 30, 2018 and 2017, respectively. Net cash
used in operating activities was $1,117,131 and $1,264,324 for the
years ended September 30, 2018 and 2017, respectively.
The
Company anticipates that it will record losses from operations for
the foreseeable future. As of September 30, 2018, the
Company’s accumulated deficit was $34,791,324. The
Company has limited capital resources, and operations to date have
been funded with the proceeds from private equity and debt
financings and loans from Ronald P. Erickson, the Company’s
Chief Executive Officer, or entities with which he is affiliated.
These conditions raise substantial doubt about our ability to
continue as a going concern. The audit report prepared by the
Company’s independent registered public accounting firm
relating to our financial statements for the year ended September
30, 2018 includes an explanatory paragraph expressing the
substantial doubt about the Company’s ability to continue as
a going concern.
The
Company believe that its cash on hand will be sufficient to fund
our operations until March 31, 2019.
We need additional financing to implement our
business plan and to service our ongoing operations and pay our
current debts. There can be no assurance that we will be able to
secure any needed funding, or that if such funding is available,
the terms or conditions would be acceptable to us. If we are unable
to obtain additional financing when it is needed, we will need to
restructure our operations, and divest all or a portion of our
business.
We may seek additional
capital through a combination of private and public equity
offerings, debt financings and strategic collaborations. Debt
financing, if obtained, may involve agreements that include
covenants limiting or restricting our ability to take specific
actions, such as incurring additional debt, and could increase our
expenses and require that our assets secure such debt. Equity
financing, if obtained, could result in dilution to the
Company’s then-existing stockholders and/or require such
stockholders to waive certain rights and preferences. If such
financing is not available on satisfactory terms, or is not
available at all, the Company may be required to delay, scale back,
eliminate the development of business opportunities or file for
bankruptcy and our operations and financial condition may be
materially adversely affected.
3.
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SIGNIFICANT ACCOUNTING POLICIES: ADOPTION OF ACCOUNTING
STANDARDS
|
Basis of Presentation
–
The accompanying unaudited
consolidated financial statements include the accounts of the
Company. Intercompany accounts and transactions have been
eliminated. The preparation of these unaudited condensed
consolidated financial statements were prepared in conformity with
U.S. generally accepted accounting principles
(“GAAP”).
Principles of Consolidation
– The consolidated financial statements
include the accounts of the Company and its wholly owned and
majority-owned subsidiaries, TransTech Systems, Inc and RAAI
Lighting, Inc. Inter-Company items and transactions have been
eliminated in consolidation.
Cash and Cash Equivalents
– The Company classifies highly liquid
temporary investments with an original maturity of three months or
less when purchased as cash equivalents. The Company maintains cash
balances at various financial institutions. Balances at US banks
are insured by the Federal Deposit Insurance Corporation up to
$250,000. The Company has not experienced any losses in such
accounts and believes it is not exposed to any significant risk for
cash on deposit.
Accounts Receivable and Allowance for Doubtful Accounts
– Accounts receivable consist
primarily of amounts due to the Company from normal business
activities. The Company maintains an allowance for doubtful
accounts to reflect the expected non-collection of accounts
receivable based on past collection history and specific risks
identified within the portfolio. If the financial condition of the
customers were to deteriorate resulting in an impairment of their
ability to make payments, or if payments from customers are
significantly delayed, additional allowances might be
required.
Inventories
– Inventories
consist primarily of printers and consumable supplies, including
ribbons and cards, badge accessories, capture devices, and access
control components held for resale and are stated at the lower of
cost or market on the first-in, first-out (“FIFO”)
method. Inventories are considered available for resale
when drop shipped and invoiced directly to a customer from a
vendor, or when physically received by TransTech at a warehouse
location. The Company records a provision for excess and
obsolete inventory whenever an impairment has been identified.
There is a $35,000 reserve for impaired inventory as of September
30, 2018 and 2017, respectively.
Equipment
– Equipment
consists of machinery, leasehold improvements, furniture and
fixtures and software, which are stated at cost less accumulated
depreciation and amortization. Depreciation is computed by the
straight-line method over the estimated useful lives or lease
period of the relevant asset, generally 2-10 years, except for
leasehold improvements which are depreciated over 2-3
years.
Long-Lived Assets
– The
Company reviews its long-lived assets for impairment annually or
when changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. Long-lived assets under certain
circumstances are reported at the lower of carrying amount or fair
value. Assets to be disposed of and assets not expected to provide
any future service potential to the Company are recorded at the
lower of carrying amount or fair value (less the projected cost
associated with selling the asset). To the extent carrying values
exceed fair values, an impairment loss is recognized in operating
results.
Intangible Assets
– Intangible assets are capitalized
and amortized on a straight-line basis over their estimated useful
life, if the life is determinable. If the life is not determinable,
amortization is not recorded. We regularly perform reviews to
determine if facts and circumstances exist which indicate that the
useful lives of our intangible assets are shorter than originally
estimated or the carrying amount of these assets may not be
recoverable. When an indication exists that the carrying amount of
intangible assets may not be recoverable, we assess the
recoverability of our assets by comparing the projected
undiscounted net cash flows associated with the related asset or
group of assets over their remaining lives against their respective
carrying amounts. Such impairment test is based on the lowest level
for which identifiable cash flows are largely independent of the
cash flows of other groups of assets and liabilities. Impairment,
if any, is based on the excess of the carrying amount over the
estimated fair value of those assets.
Research, Development and Engineering Expenses
–
Research, development and engineering expenses consist of the cost
of employees, consultants and contractors who design, engineer and
develop new products and processes as well as materials, supplies
and facilities used in producing prototypes.
The
Company’s research and development efforts are primarily
focused improving the core foundational ChromaID technology and
developing new and unique applications for the technology. As part
of this effort, the Company typically conduct testing to ensure
that ChromaID application methods are compatible with the
customer’s requirements, and that they can be implemented in
a cost effective manner. The Company is also actively involved in
identifying new application methods. Know Lab’s team has
considerable experience working with the application of light-based
technologies and their application to various industries. The
Company believes that its continued development of new and enhanced
technologies relating to our core business is essential to its
future success. The Company spent $570,514 and $79,405 during the
years ended September 30, 2018 and 2017, respectively, on research
and development activities.
Fair Value Measurements and Financial Instruments
–
ASC Topic 820,
Fair Value Measurement and Disclosures
,
defines fair value as the exchange price that would be received for
an asset or paid to transfer a liability (an exit price) in the
principal or most advantageous market for the asset or liability in
an orderly transaction between market participants on the
measurement date. This topic also establishes a fair
value hierarchy, which requires classification based on observable
and unobservable inputs when measuring fair value. The
fair value hierarchy distinguishes between assumptions based on
market data (observable inputs) and an entity’s own
assumptions (unobservable inputs). The hierarchy
consists of three levels:
Level 1
– Quoted prices in active markets for identical assets and
liabilities;
|
Level 2
– Inputs other than level one inputs that are either directly
or indirectly observable; and.
Level 3
- Inputs to the valuation methodology are unobservable and
significant to the fair value measurement.
|
The
recorded value of other financial assets and liabilities, which
consist primarily of cash and cash equivalents, accounts
receivable, other current assets, and accounts payable and accrued
expenses approximate the fair value of the respective assets and
liabilities as of September 30, 2018 and 2017 are based upon the
short-term nature of the assets and liabilities.
Derivative Financial Instruments -
The Company evaluates all
of its financial instruments to determine if such instruments are
derivatives or contain features that qualify as embedded
derivatives. For derivative financial instruments that are
accounted for as liabilities, the derivative instrument is
initially recorded at its fair value and is then re-valued at each
reporting date, with changes in the fair value reported in the
consolidated statements of operations. For stock-based derivative
financial instruments, the Company uses a Black-Scholes-Merton
option pricing model to value the derivative instruments at
inception and on subsequent valuation dates. The classification of
derivative instruments, including whether such instruments should
be recorded as liabilities or as equity, is evaluated at the end of
each reporting period. Derivative instrument liabilities are
classified in the balance sheet as current or non-current based on
whether or not net-cash settlement of the derivative instrument
could be required within twelve months of the balance sheet
date.
Revenue Recognition
–
Know Lab and TransTech revenue are derived from products and
services. Revenue is considered realized when the products or
services have been provided to the customer, the work has been
accepted by the customer and collectability is reasonably
assured. Furthermore, if an actual measurement of revenue cannot be
determined, the Company defers all revenue recognition until such
time that an actual measurement can be determined. If during the
course of a contract management determines that losses are expected
to be incurred, such costs are charged to operations in the period
such losses are determined. Revenues are deferred when cash has
been received from the customer but the revenue has not been
earned.
Stock Based Compensation
– The Company has share-based compensation
plans under which employees, consultants, suppliers and directors
may be granted restricted stock, as well as options to purchase
shares of Company common stock at the fair market value at the time
of grant. Stock-based compensation cost is measured by the Company
at the grant date, based on the fair value of the award, over the
requisite service period. For options issued to employees, the
Company recognizes stock compensation costs utilizing the fair
value methodology over the related period of
benefit. Grants of stock options and stock to
non-employees and other parties are accounted for in accordance
with the ASC 505.
Convertible Securities
–
Based upon ASC 815-15, we have
adopted a sequencing approach regarding the application of ASC
815-40 to convertible securities. We will evaluate our contracts
based upon the earliest issuance date. In the event partial
reclassification of contracts subject to ASC 815-40-25 is
necessary, due to our inability to demonstrate we have sufficient
shares authorized and unissued, shares will be allocated on the
basis of issuance date, with the earliest issuance date receiving
first allocation of shares. If a reclassification of an instrument
were required, it would result in the instrument issued latest
being reclassified first.
Net Loss per Share
–
Under the provisions of ASC 260, “Earnings Per Share,”
basic loss per common share is computed by dividing net loss
available to common stockholders by the weighted average number of
shares of common stock outstanding for the periods presented.
Diluted net loss per share reflects the potential dilution that
could occur if securities or other contracts to issue common stock
were exercised or converted into common stock or resulted in the
issuance of common stock that would then share in the income of the
Company, subject to anti-dilution limitations. The common stock
equivalents have not been included as they are anti-dilutive. As of
September 30, 2018, there were options outstanding for the purchase
of 2,182,668 common shares, warrants for the purchase of 15,473,398
common shares, 4,914,071 shares of the Company’s common stock
issuable upon the conversion of Series A, Series C and Series D
Convertible Preferred Stock. In addition, we have an unknown number
of shares (9,020,264 common shares at the current price of $0.25
per share) are issuable upon conversion of convertible debentures
of $2,255,066. All of which could potentially dilute future
earnings per share.
As of September 30, 2017, there were options outstanding for the
purchase of 15,404 common shares, warrants for the purchase of
6,900,356 common shares, 2,825,053 shares of the
Company’s common stock issuable upon the conversion of Series
A, Series C and Series D Convertible Preferred Stock and up to
332,940 shares of the Company’s common stock issuable upon
the exercise of placement agent warrants. In addition, the Company
has an unknown number of shares are issuable upon conversion of
convertible debentures of $570,000. All of which could potentially
dilute future earnings per share.
Dividend Policy
– The
Company has never paid any cash dividends and intends, for the
foreseeable future, to retain any future earnings for the
development of our business. Our future dividend policy will be
determined by the board of directors on the basis of various
factors, including our results of operations, financial condition,
capital requirements and investment
opportunities.
Use of Estimates
– The
preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires
management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those
estimates.
Recent Accounting Pronouncements
In July
2015, the Financial Accounting Standards Board (FASB) issued
Accounting Standards Update (ASU) 2015-11, “Simplifying the
Measurement of Inventory,” Topic 330, “Inventory”
(ASU 2015-11). The amendments in ASU 2015-11, which apply to
inventory that is measured using any method other than the last-in,
first-out (LIFO) or retail inventory method, require that entities
measure inventory at the lower of cost and net realizable value.
The amendments in ASU 2015-11 should be applied on a prospective
basis. ASU 2015-11 is effective for fiscal years beginning after
December 15, 2016 and interim periods within those years. The
Company adopted the amendments of ASU 2015-11 effective October 1,
2017. The adoption of this standard did not have a material impact
on the Company’s consolidated financial statements for the
year ended September 30, 2018.
In
March 2016, the FASB issued ASU 2016-09, “Improvements to
Employee Share-Based Payment Accounting,” Topic 718,
“Compensation-Stock Compensation” (ASU 2016-09). ASU
2016-09 includes provisions intended to simplify various aspects
related to how share-based payments are accounted for and presented
in the Company’s financial statements, including income tax
consequences, forfeitures and classification on the statement of
cash flows. Under previous guidance, excess tax benefits and
deficiencies from share-based compensation arrangements were
recorded in equity when the awards vested or were settled. ASU
2016-09 requires prospective recognition of excess tax benefits and
deficiencies in income tax expense, rather than paid-in-capital.
The Company adopted the amendments of ASU 2016-09 effective October
1, 2017.The adoption of this standard did not have a material
impact on the Company’s consolidated statements of income for
the year ended September 30, 2018.
In
addition, under ASU 2016-09, excess tax income tax benefits from
share-based compensation arrangements are classified as cash flow
from operations, rather than as cash flow from financing
activities. For the year ended September 30, 2018, there were no
excess income tax benefits.
The
Company has elected to continue to estimate the number of
share-based awards expected to vest, as permitted by ASU 2016-09,
rather than electing to account for forfeitures as they
occur.
ASU
2016-09 requires excess tax benefits and deficiencies to be
prospectively excluded from assumed future proceeds in the
calculation of diluted shares, resulting in an immaterial decrease
in diluted weighted average shares outstanding for the year ended
September 30, 2018.
In
January 2017, the FASB issued ASU 2017-04, “Simplifying the
Test for Goodwill Impairment,” Topic 350, “Intangibles
– Goodwill and Other” (ASU 2017-04). The amendments in
ASU 2017-04 simplify the accounting for goodwill impairment for all
entities by requiring impairment charges to be based on the first
step in the current two-step impairment test. An impairment charge
for the amount by which the carrying amount exceeds the reporting
unit’s fair value should be recognized; however, the loss
recognized should not exceed the total amount of goodwill allocated
to that reporting unit. The amendments should be applied on a
prospective basis. Early adoption is permitted for annual and
interim goodwill impairment testing dates after January 1, 2017,
and the ASU is effective for the Company’s first quarter of
the fiscal year ending September 30, 2020. The Company is currently
evaluating the impact that the adoption of these provisions will
have on its consolidated financial statements.
In
February 2016, the FASB issued ASU 2016-02, “Leases,”
Topic 842, “Leases” (ASU 2016-02). ASU No. 2016-02
requires lessees to recognize a right-of-use asset and
corresponding lease liability for all leases with terms of more
than 12 months. Recognition, measurement and presentation of
expenses will depend on classification as a finance or operating
lease. ASU 2016-02 also requires certain quantitative and
qualitative disclosures. The provisions of ASU 2016-02 are
effective for the Company’s first quarter of the fiscal year
ending September 30, 2020, with early adoption permitted. The
Company will apply the transition provisions of ASU 2016-02 at its
adoption date, rather than the earliest comparative period
presented in the financial statements, as permitted by ASU 2018-11,
“Leases,” Topic 842, “Targeted
Improvements,” released in July 2018.
The
adoption of ASU 2016-02 may result in a material increase to the
Company’s consolidated balance sheets for lease liabilities
and right-of-use assets. The Company is also performing a
comprehensive review of its current processes to determine and
implement changes required to support the adoption of this
standard. The Company is currently evaluating the other effects the
adoption of ASU 2016-02 will have on its consolidated financial
statements.
In
January 2018, the FASB issued ASU 2018-01, “Leases,”
Topic 842, “Land Easement Practical Expedient for Transition
to Topic 842” (ASU 2018-01). ASU 2018-01 permits an entity to
elect a transition practical expedient to not assess, under
Accounting Standards Codification (ASC) 842, land easements that
exist or expired before the standard’s effective date that
were not previously accounted for as leases under ASC 840. The
Company plans to elect this practical expedient in implementing ASU
2016-02.
In May
2014, the FASB issued ASU 2014-09, “Revenue from Contracts
with Customers,” Topic 606, “Revenue from Contracts
with Customers” (ASU 2014-09). ASU 2014-09 provides guidance
for revenue recognition and will replace most existing revenue
recognition guidance in GAAP when it becomes effective. ASU
2014-09’s core principle is that a company will recognize
revenue when it transfers promised goods or services to customers
in an amount that reflects the consideration to which the company
expects to be entitled for the transfer of those goods or services.
ASU 2014-09 permits the use of either the retrospective or
cumulative effect transition method. Additionally, the amendments
in this ASU provide a practical expedient for entities to recognize
the incremental costs of obtaining a contract as an expense when
incurred if the amortization period of the asset that the entity
otherwise would have recognized is one year or less, The Company
plans to elect this practical expedient upon adoption.
In July
2015, the FASB issued ASU 2015-14, “Revenue from Contracts
with Customers – Deferral of the Effective Date.” The
FASB approved the deferral of ASU 2014-09, by extending the new
revenue recognition standard’s mandatory effective date by
one year and permitting public companies to apply the new revenue
standard to annual reporting periods beginning after December 15,
2017. The guidance in ASU 2014-09 will be effective for the Company
in the first quarter of the fiscal year ending September 30,
2019.
Further
to ASU 2014-09 and ASU 2015-14, the FASB issued ASU 2016-08,
“Revenue from Contracts with Customers,” Topic 606,
“Principal versus Agent Considerations (Reporting Revenue
Gross versus Net)” (ASU 2016-08) in March 2016, ASU 2016-12,
“Revenue from Contracts with Customers,” Topic 606,
“Narrow-Scope Improvements and Practical Expedients”
(ASU 2016-12) in May 2016 and ASU 2016-20, “Revenue from
Contracts with Customers,” Topic 606, “Technical
Corrections and Improvements” (ASU 2016-20) in December 2016.
The amendments in ASU 2016-08 clarify the implementation guidance
on principal versus agent considerations, including indicators to
assist an entity in determining whether it controls a specified
good or service before it is transferred to the customers. ASU
2016-12 addresses narrow-scope improvements to the guidance on
collectability, non-cash consideration, and completed contracts at
transition. Additionally, the amendments in this ASU provide a
practical expedient for contract modifications at transition and an
accounting policy election related to the presentation of sales
taxes and other similar taxes collected from customers. The Company
plans to make such election. The Company also plans to elect the
practical expedient in ASU 2016-20 that provides entities do not
need to disclose the transaction price allocated to performance
obligations when the related contracts have a duration of one year
or less. This includes loyalty rewards, which can be redeemed in
the month subsequent to the quarter earned, and marketing
promotions that cross accounting periods. Both of these classes of
transactions are currently immaterial to the Company. The effective
date and transition requirements for ASU 2016-08, ASU 2016-12 and
ASU 2016-20 are the same as for ASU 2014-09.
The
Company does not plan to early adopt the new revenue recognition
guidance; adoption will be on the modified retrospective basis
beginning in fiscal year 2019. The Company has substantially
concluded its assessment of the impact of the adoption of this
standard on its consolidated financial statements. Most of the
Company’s revenue is expected to continue to be generated
from point-of-sale transactions, which ASU 2014-09 treats generally
consistent with current accounting standards. The Company does not
expect this standard will have a material impact on the accounting
for point-of-sale transactions or related areas including the right
of return and customer incentives. Although the impact on the
consolidated financial statements is not expected to be material,
additional disclosures will be required.
In June
2018, the FASB issued ASU 2018-07, “Compensation-Stock
Compensation,” Topic 718, “Improvements to Nonemployee
Share-Based Payment Accounting” (ASU 2018-07) as part of its
Simplification Initiative to reduce complexity when accounting for
share-based payments to non-employees. ASU 2018-07 expands the
scope of Topic 718 to more closely align share-based payment
transactions for acquiring goods and services from non-employees
with the accounting for share-based payments to employees, with
certain exceptions. The provisions of ASU 2018-07 are effective for
the Company’s first quarter of the fiscal year ending
September 30, 2020, with early adoption permitted.
4.
A
CCOUNTS RECEIVABLE/CUSTOMER
CONCENTRATION
Accounts receivable were $320,538 and $693,320, net of allowance,
as of September 30, 2018 and 2017, respectively. The Company had
one customer in excess of 10% (25.4%) of the Company’s
consolidated revenues for the year ended September 30, 2018. The
Company had four customers in excess of 10% (13.9%, 12.9%, 12.5%
and 11.2%) with accounts receivable in excess of 10% as of
September 30, 2018. The Company has a total allowance for bad debt
in the amount of $60,000 as of September 30,
2018.
5.
I
NVENTORIES
Inventories were $203,582 and $225,909 as of September 30, 2018 and
2017, respectively. Inventories consist primarily of printers and
consumable supplies, including ribbons and cards, badge
accessories, capture devices, and access control components held
for resale. There was a $35,000 reserve for impaired inventory as
of September 30, 2018 and 2017, respectively.
6. NOTES RECEIVABLE FROM BIOMEDX, INC.
On
November 1, 2016, the Company purchased an Original Issue Discount
Convertible Promissory Note from BioMedx, Inc. The Company paid
$260,000 for the Note with a principal amount of $286,000. The Note
matured one year from issuance and bears interest at 5%. The
principal and interest was convertible into BioMedx common stock at
the option of the Company. The Company received 150,000 shares of
BioMedx common stock as partial consideration for purchasing the
Note. In addition, if BioMedx does not repay the Promissory Note,
the Company would have the right to convert the Promissory Note
into 51% of the ownership of BioMedx.
In
addition, the Company and BioMedx agreed to negotiate in good faith
to enter into a joint development agreement and subsequent merger
transaction prior to December 31, 2017.
Due to
the uncertainty involved with a start-up company, The
Company’s management determined that the value of the
Promissory Note and BioMedx common stock was zero at December 31,
2016 and recorded an impairment reserve for the full value as of
December 31, 2016. During the three months ended March 31, 2017,
BioMedx paid the Company $290,608 in full satisfaction of the Note.
The Company recorded the gain as a reduction in SG&A expense
during the three months ended March 31, 2017. In addition, the
Company has not valued the 150,000 shares of BioMedx common
stock.
7.
F
IXED ASSETS
Fixed assets, net of accumulated depreciation, was $169,333 and
$133,204 as of September 30, 2018 and 2017, respectively.
Accumulated depreciation was $670,666 and $662,855 as of September
30, 2018 and 2017, respectively. Total depreciation expense was
$60,393 and 38,031 for the years ended September 30, 2018 and 2017,
respectively. All equipment is used for selling, general and
administrative purposes and accordingly all depreciation is
classified in selling, general and administrative
expenses.
Property and equipment as of September 30, 2018 was comprised of
the following:
|
Estimated
|
|
|
Useful
Lives
|
|
|
|
Machinery
and equipment
|
2-10
years
|
$
332,305
|
$
42,681
|
$
374,986
|
Leasehold
improvements
|
2-3
years
|
276,112
|
-
|
276,112
|
Furniture
and fixtures
|
2-3
years
|
58,051
|
95,020
|
153,071
|
Software
and websites
|
3-
7 years
|
35,830
|
-
|
35,830
|
Less:
accumulated depreciation
|
|
(532,966
)
|
(137,700
)
|
(670,666
)
|
|
$
169,332
|
$
1
|
$
169,333
|
8.
INTANGIBLE ASSETS
Intangible assets as of September 30, 2018 and September 30, 2017
consisted of the following:
|
Estimated
|
|
|
|
Useful
Lives
|
|
|
|
|
|
|
Technology
|
3
years
|
$
520,000
|
$
-
|
Less:
accumulated amortization
|
|
(72,222
)
|
-
|
Intangible
assets, net
|
|
$
447,778
|
$
-
|
Total amortization expense was $72,222 and $0 for the years ended
September 30, 2018 and 2017, respectively.
Merger with RAAI Lighting, Inc.
On April 10, 2018, the Company entered into an Agreement and Plan
of Merger with 500 Union Corporation, a Delaware corporation and a
wholly owned subsidiary of the Company, and RAAI Lighting, Inc., a
Delaware corporation. Pursuant to the Merger Agreement, we have
acquired all the outstanding shares of RAAI’s capital stock
through a merger of Merger Sub with and into RAAI (the
“Merger”), with RAAI surviving the Merger as a wholly
owned subsidiary of the Company.
Under the terms of the Merger Agreement, each share of RAAI common
stock issued and outstanding immediately before the Merger (1,000
shares) were cancelled and we issued 2,000,000 shares of our common
stock. As a result, we issued 2,000,000 shares of its common stock
to Phillip A. Bosua, formerly the sole stockholder of RAAI. The
consideration for the Merger was determined through arms-length
bargaining by the Company and RAAI. The Merger was structured to
qualify as a tax-free reorganization for U.S. federal income tax
purposes. As a result of the Merger, the Company received certain
intellectual property, related to RAAI.
Merger with Know Labs, Inc.
On May 1, 2018, Know Labs, Inc., a Nevada corporation incorporated
on April 3, 2018, and our wholly-owned subsidiary, merged with and
into the Company pursuant to an Agreement and Plan of Merger dated
May 1, 2018. In connection with the merger, our Articles of
Incorporation were effectively amended to change our name to Know
Labs, Inc. by and through the filing of Articles of Merger. This
parent-subsidiary merger was approved by us, the parent, in
accordance with Nevada Revised Statutes Section 92A.180.
Stockholder approval was not required. This amendment was filed
with the Nevada Secretary of State and became effective on May 1,
2018.
RAAI had no outstanding indebtedness or assets at the closing of
the Merger. The 2,000,000 shares of the Company’s common
stock issued for RAAI’s shares were recorded at the fair
value at the date of the merger at $520,000 and the value assigned
to the patent acquired with RAAI.
The fair value of the intellectual property associated with the
assets acquired was $520,000 estimated by using a discounted cash
flow approach based on future economic benefits. In summary, the
estimate was based on a projected income approach and related
discounted cash flows over five years, with applicable risk factors
assigned to assumptions in the forecasted results.
9.
GOODWILL
The Company’s TransTech business is very capital intensive.
The Company reviewed TransTech’s operations based on its
overall financial constraints and determined the value has been
impaired. The company recorded an impairment of goodwill associated
with TransTech of $983,645 during the year ended September 30,
2017.
10. ACCOUNTS PAYABLE
Accounts payable were $1,512,618 and $2,154,646 as
of September 30, 2018 and 2017, respectively. Such liabilities
consisted of amounts due to vendors for inventory purchases and
technology development, external audit, legal and other expenses
incurred by the Company. The Company had two vendors (13.2% and
10.2%) with accounts payable in excess of 10% of its accounts
payable as of September 30, 2018. The Company does expect to have
vendors with accounts payable balances of 10% of total accounts
payable in the foreseeable future.
11.
DERIVATIVE INSTRUMENTS
In
April 2008, the FASB issued a pronouncement that provides guidance
on determining what types of instruments or embedded features in an
instrument held by a reporting entity can be considered indexed to
its own stock for the purpose of evaluating the first criteria of
the scope exception in the pronouncement on accounting for
derivatives. This pronouncement was effective for financial
statements issued for fiscal years beginning after December 15,
2008. The adoption of these requirements can affect the accounting
for warrants and many convertible instruments with provisions that
protect holders from a decline in the stock price (or
“down-round” provisions). For example, warrants or
conversion features with such provisions are no longer recorded in
equity. Down-round provisions reduce the exercise price of a
warrant or convertible instrument if a company either issues equity
shares for a price that is lower than the exercise price of those
instruments or issues new warrants or convertible instruments that
have a lower exercise price.
There
was no derivative liability as of
September 30, 2018 and 2017.
For the year
ended September 30, 2017, the Company recorded non-cash loss of
$217,828 related to the “change in fair value of
derivative” expense related to its derivative instruments.
The Company early adopted ASU 2017-11 and has reclassified its
financial instrument with down round features to equity in the
amount of $410,524.
12. CONVERTIBLE NOTES PAYABLE
Convertible notes payable as of September 30, 2018 and September
30, 2017 consisted of the following:
Convertible Promissory Note dated September 30, 2016
On September 30, 2016, the Company entered into a $210,000
Convertible Promissory Note with Clayton A. Struve, an accredited
investor of the Company, to fund short-term working capital. The
Convertible Promissory Note accrued interest at a rate of 10% per
annum and was due on March 30, 2017. The Note holder can convert
the Note into common stock at $0.70 per share. During the year
ended September 30, 2017, the Company recorded interest of $21,000
related to the convertible note. This note was extended in the
Securities Purchase Agreement, General Security Agreement and
Subordination Agreement dated August 14, 2017 with a maturity date
of August 13, 2018. Also, the conversion price of the Debenture was
adjusted to $0.25 per share, subject to certain adjustments. The
balance was increased $75,000 during the year ended September 30,
2018.
On November 16, 2018, we signed Amendment 1 to Senior
Secured Convertible Redeemable Notes dated September 30,
2016extending the due dates of the Note to February 27, 2019. On
September 24, 2018, Mr. Struve converted $200,000 of the Note into
800,000 shares of our common stock.
The Company recorded accrued interest of $54,671
as of September 30, 2018.
Securities Purchase Agreement dated August 14, 2017
On August 14, 2017, the Company issued a senior convertible
exchangeable debenture with a principal amount of $360,000 and a
common stock purchase warrant to purchase 1,440,000 shares of
common stock in a private placement to Clayton Struve for gross
proceeds of $300,000 pursuant to a Securities Purchase Agreement
dated August 14, 2017. The debenture accrues interest at 20% per
annum and matures August 13, 2018. The convertible debenture
contains a beneficial conversion valued at $110,629. The warrants
were valued at $111,429. Because the note is immediately
convertible, the warrants and beneficial conversion were expensed
as interest.
On the same date, the Company entered into a General Security
Agreement with the Mr. Struve, pursuant to which the Company has
agreed to grant a security interest to the investor in
substantially all of our assets, effective upon the filing of a
UCC-3 termination statement to terminate the security interest held
by Capital Source Business Finance Group in the assets of the
Company. In addition, an entity affiliated with Ronald P. Erickson,
out then Chief Executive Officer, entered into a Subordination
Agreement with the investor pursuant to which all debt owed by us
to such entity is subordinated to amounts owed by us to Mr. Struve
under the Debenture (including amounts that become owing under any
Debentures issued to the investor in the future).
The initial conversion price of the Debenture is $0.25 per share,
subject to certain adjustments. The initial exercise price of the
Warrant is $0.25 per share, also subject to certain
adjustments.
As part of the Purchase Agreement, the Company granted the investor
“piggyback” registration rights to register the shares
of common stock issuable upon the conversion of the Debenture and
the exercise of the Warrant with the Securities and Exchange
Commission for resale or other disposition.
The Debenture and the Warrant were issued in a transaction that was
not registered under the Securities Act of 1933, as amended in
reliance upon applicable exemptions from registration under Section
4(a)(2) of the Act and Rule 506 of SEC Regulation D under the Act.
Under the terms of the Purchase Agreement, Mr. Struve may purchase
up to an aggregate of $1,000,000 principal amount of Debentures
(before a 20% original issue discount) (and Warrants to purchase up
to an aggregate of 250,000 shares of common stock). These
securities are being offered on a “best efforts” basis
by the placement agent.
During the year ended September 30, 2017, $156,941 was recorded as
interest expense related to debt discounts, beneficial conversions
and warrants associated with Convertible Promissory
Notes.
On December 12, 2017, the Company closed an additional $250,000 and
issued a senior convertible exchangeable debenture with a principal
amount of $300,000 and a common stock purchase warrant to purchase
1,200,000 shares of common stock in a private placement dated
December 12, 2017 with Mr. Struve pursuant to a Securities Purchase
Agreement dated August 14, 2017. The convertible debenture contains
a beneficial conversion valued at $93,174. The warrants were valued
at $123,600. Because the note is immediately convertible, the
warrants and beneficial conversion were expensed as
interest.
On March 2, 2018, the Company received gross proceeds of $280,000
in exchange for issuing a senior convertible redeemable debenture
with a principal amount of $336,000 and a warrant to purchase
1,344,000 shares of common stock in a private placement dated
February 28, 2018 with Mr. Struve pursuant to a Securities Purchase
Agreement dated August 14, 2017. The convertible debenture contains
a beneficial conversion valued at $252,932. The warrants were
valued at $348,096. Because the note is immediately convertible,
the warrants and beneficial conversion were expensed as
interest.
In connection with the February 28, 2018 private placement, the
placement agent for the debenture and the warrant received a cash
fee of $28,000 and the Company issued warrants to purchase shares
of the Company’s common stock to the placement agent or its
affiliates based on 10% of proceeds.
On
November 16, 2018, the Company signed Amendment 1 to Senior Secured
Convertible Redeemable Notes dated August 14, 2017 and December 12,
2017, extending the due dates of the Notes to February 27,
2019.
Convertible Redeemable Promissory Notes with Ronald P. Erickson and
J3E2A2Z
On
March 16, 2018, the Company entered into a Note and Account Payable
Conversion Agreement pursuant to which (a) all $664,233 currently
owing under the J3E2A2Z Notes was converted to a Convertible
Redeemable Promissory Note in the principal amount of $664,233, and
(b) all $519,833 of the J3E2A2Z Account Payable was converted into
a Convertible Redeemable Promissory Note in the principal amount of
$519,833 together with a warrant to purchase up to 1,039,666 shares
of common stock of the Company for a period of five years.
The initial exercise price of the
warrants described above is $0.50 per share, also subject to
certain adjustments. The warrants were valued at $110,545. Because
the note is immediately convertible, the warrants and beneficial
conversion were expensed as interest. The Company recorded accrued
interest of $23,649 as of September 30, 2018.
12.
|
NOTES PAYABLE, CAPITALIZED LEASES AND LONG-TERM DEBT
|
Notes payable, capitalized leases and long-term debt as of
September 30, 2018 and 2017 consisted of the
following:
|
|
|
|
|
|
|
|
|
Capital
Source Business Finance Group
|
$
145,186
|
$
365,725
|
Note
payable to Umpqua Bank
|
0
|
199,935
|
Secured
note payable to J3E2A2Z LP - related party
|
-
|
600,000
|
Total
debt
|
145,186
|
1,165,660
|
Less
current portion of long term debt
|
(145,186
)
|
(1,165,660
)
|
Long
term debt
|
$
-
|
$
-
|
Capital Source Business Finance Group
Know
Labs, Inc. (the “Company”) finances its TransTech
operations from operations and a Secured Credit Facility with
Capital Source Business Finance Group. On June 15, 2018, TransTech
entered into a Fifth Modification to the Loan and Security
Agreement related to the $500,000 secured credit facility with
Capital Source to fund its operations. The Modification extended
the maturity to December 12, 2018. The secured credit facility
provides for a prime rate interest floor for prime interest of 4.5%
plus 2.5%. The eligible borrowing is based on 80% of eligible trade
accounts receivable, not to exceed $500,000. The secured credit
facility is collateralized by the assets of TransTech, with a
guarantee by Know Labs, including a security interest in all assets
of Know Labs. The remaining balance on the accounts receivable must
be repaid by the time the secured credit facility expires on
December 12, 2018, unless we renew by automatic extension for the
next successive term. TransTech has $24,000 available as of
September 30, 2018.
On
December 6, 2018, Capital Source notified TransTech that the Loan
and Security Agreement and Capital Source Credit Facility would be
cancelled as of March 12, 2019.
Effective
December 12, 2018, TransTech entered into the Sixth Modification to
the Loan and Security Agreement which reduced the secured credit
facility to $200,000.
Note Payable to Umpqua Bank
On July 9, 2018, the Company repaid a $199,935 Business Loan
Agreement with Umpqua Bank from funds previously provided by
an entity affiliated with Ronald P. Erickson, our Chairman of the
Board. The Company paid $27,041 and
issued 800,000 shares of common stock in exchange
for the conversion of this debt. Mr. Erickson is an accredited
investor. These shares were issued in transactions that were not
registered under the Act in reliance upon applicable exemptions
from registration under Section 4(a)(2) of the Act and/or Rule 506
of SEC Regulation D under the Act.
Note Payables to Ronald P. Erickson or J3E2A2Z LP
On
January 25, 2018, the Company entered into amendments to two demand
promissory notes, totaling $600,000 with Mr. Erickson, the
Company’s Chief Executive Officer and/or entities in which
Mr. Erickson has a beneficial interest. On March 16, 2018, the
demand promissory notes and accrued interest were converted into
convertible notes payable.
See Note 11
for additional details.
13. EQUITY
Authorized Capital Stock
The
Company authorized 105,000,000 shares of capital stock, of which
100,000,000 are shares of voting common stock, par value $0.001 per
share, and 5,000,000 are shares preferred stock, par value $0.001
per share.
The Company has authorized to issue up to 100,000,000 shares of
common stock with a par value of $0.001. As of September 30, 2018,
we had 17,531,502 shares of common stock issued and outstanding,
held by 122 shareholders of record. The number of shareholders,
including beneficial owners holding shares through nominee names,
is approximately 2,300. Each share of common stock entitles its
holder to one vote on each matter submitted to the shareholders for
a vote, and no cumulative voting for directors is
permitted. Shareholders do not have any preemptive
rights to acquire additional securities issued by us. As
of September 30, 2018, there were options outstanding for the
purchase of 2,182,668 common shares, warrants for the purchase of
15,473,398 common shares and 4,914,071 shares of our common
stock issuable upon the conversion of Series A, Series C and Series
D Convertible Preferred Stock. We have Convertible Note Payable of
$2,255,066 (9,020,264 common shares at the current price of $0.25
per share). All of which could potentially dilute future earnings
per share.
Voting Preferred Stock
The Company is authorized to issue up to 5,000,000 shares of
preferred stock with a par value of $0.001.
Series A Preferred Stock
In July
2015, the Company sold Series A Preferred Stock to two investors
for a total of $350,000.
As of
December 21, 2018, the Company had 20,000 Series A Preferred Stock
issued and outstanding.
Each
holder of outstanding shares of Series A Preferred is entitled to
the number of votes equal to the number of whole shares of common
stock into which the shares of Series A Preferred held by such
holder are then convertible as of the applicable record date. The
Series A Preferred may not be redeemed without the consent of the
holder. The Company cannot amend, alter or repeal any preferences,
rights, or other terms of the Series A Preferred so as to adversely
affect the Series A Preferred, without the written consent or
affirmative vote of the holders of at least 66% of the then
outstanding shares of Series A Preferred, voting as a separate
voting group, given by written consent or by vote at a meeting
called for such purpose for which notice shall have been duly given
to the holders of the Series A Preferred.
In
connection with the issuance of the Series A Preferred, the Company
also issued (i) a Series C five-year Warrant for 2 shares of common
stock and (ii) a Series D five-year Warrant for 23,334 shares of
common stock. The Series A Preferred Stock and Series C and D
Warrants currently have no registration rights.
On August 14, 2017, the price of the Series A Preferred Stock and
Series C and D Warrants were adjusted to $0.25 per share pursuant
to the documents governing such
instruments.
On
September 23, 2018, a holder of Series A Preferred Stock converted
3,334 shares into 3,334 shares of common stock. In addition, the
holder exercised Series C and D Warrants for 6,668 shares of common
stock at $0.25 per share.
Series C and D Preferred Stock and Warrants
On
August 5, 2016, the Company closed a Series C Preferred Stock and
Warrant Purchase Agreement with Clayton A. Struve, an accredited
investor for the purchase of $1,250,000 of preferred stock with a
conversion price of $0.70 per share. The preferred stock has a
yield of 8% and an ownership blocker of 4.99%. In addition, Mr.
Struve received a five-year warrant to acquire 1,785,714 shares of
common stock at $0.70 per share.
To
determine the effective conversion price, a portion of the proceeds
received by the Company upon issuance of the Series C Preferred
Stock was first allocated to the freestanding warrants issued as
part of this transaction. Given that the warrants will not
subsequently be measured at fair value, the Company determined that
the warrants should receive an allocation of the proceeds based on
their relative fair value. This is based on the understanding that
the FASB staff and the SEC staff believe that a freestanding
instrument issued in a basket transaction should be initially
measured at fair value if it is required to be subsequently
measured at fair value pursuant to US generally accepted accounting
principles (“GAAP”), with the residual proceeds from
the transaction allocated to any remaining instruments based on
their relative fair values. As such, the warrants were allocated a
fair value of approximately $514,706 upon issuance, with the
remaining $735,294 of proceeds allocated to the Series C Preferred
Stock.
Proportionately,
this allocation resulted in approximately 59% of the face amount of
the Series C Preferred Stock issuance remaining, which applied to
the stated conversion price of $0.70 resulted in an effective
conversion price of approximately $0.41.
Having
determined the effective conversion price, the Company then
compared this to the fair value of the underlying Common Stock as
of the commitment date, which was approximately $1.06 per share,
and concluded that the conversion feature did have an intrinsic
value of $0.65 per share. As such, the Company concluded that the
Series C Preferred Stock did contain a beneficial conversion
feature and an accounting entry and additional financial statement
disclosure was required.
Because
our preferred stock is perpetual, with no stated maturity date, and
the conversions may occur any time from inception, the dividend is
recognized immediately when a beneficial conversion exists at
issuance. During the year ending September 30, 2016, the Company
recognized preferred stock dividends of $1.16 million on Series C
preferred stock related to the beneficial conversion feature
arising from a common stock effective conversion rate of $0.41
versus a current market price of $1.06 per common
share.
On
November 14, 2016, the Company issued 187,500 shares of Series D
Convertible Preferred Stock and a warrant to purchase 187,500
shares of common stock in a private placement to certain accredited
investors for gross proceeds of $150,000 pursuant to a Series D
Preferred Stock and Warrant Purchase Agreement dated November 10,
2016.
The
warrants associated with the November 14, 2016 issuance were
allocated a fair value of approximately $56,539 upon issuance, with
the remaining $63,539 of net proceeds allocated to the Series D
Preferred Stock. Proportionately, this allocation resulted in
approximately 53% of the amount of the Series D Preferred Stock
issuance remaining, which applied to the stated conversion price of
$0.80 resulted in an effective conversion price of approximately
$0.34. Having determined the effective conversion price, the
Company then compared this to the fair value of the underlying
Common Stock as of the commitment date, which was approximately
$1.14 per share, and concluded that the conversion feature did have
an intrinsic value of $0.80 per share. As such, the Company
concluded that the Series D Preferred Stock did contain a
beneficial conversion feature of $150,211 which was recorded as a
beneficial conversion in stockholders’ equity.
On
December 19, 2016, the Company issued 187,500 shares of Series D
Convertible Preferred Stock and a warrant to purchase 187,500
shares of common stock in a private placement to an accredited
investor for gross proceeds of $150,000 pursuant to a Series D
Preferred Stock and Warrant Purchase Agreement dated December 14,
2016.
The
warrants associated with the December 19, 2016 issuance were
allocated a fair value of approximately $60,357 upon issuance, with
the remaining $69,643 of net proceeds allocated to the Series D
Preferred Stock. Proportionately, this allocation resulted in
approximately 54% of the amount of the Series D Preferred Stock
issuance remaining, which applied to the stated conversion price of
$0.80 resulted in an effective conversion price of approximately
$0.37. Having determined the effective conversion price, the
Company then compared this to the fair value of the underlying
Common Stock as of the commitment date, which was approximately
$0.81 per share, and concluded that the conversion feature did have
an intrinsic value of $0.44 per share. As such, the Company
concluded that the Series C Preferred Stock did contain a
beneficial conversion feature of $82,232 which was recorded as a
beneficial conversion in stockholders’ equity.
Because
the Company’s preferred stock is perpetual, with no stated
maturity date, and the conversions may occur any time from
inception, the dividend is recognized immediately when a beneficial
conversion exists at issuance. During the year ending September 30,
2017, the Company recognized preferred stock dividends of $2.3
million on Series D preferred stock related to the beneficial
conversion feature arising from a common stock effective conversion
rate of $0.34 and $0.37 versus the original market price of $1.14
and $1.06 per common share, respectively.
On May 1, 2017, the Company issued 357,143 shares of Series D
Convertible Preferred Stock and a warrant to purchase 357,143
shares of common stock in a private placement to an accredited
investor for gross proceeds of $250,000 pursuant to a Series D
Preferred Stock and Warrant Purchase Agreement dated May 1,
2016.
The initial conversion price of the Series D Shares is $0.70 per
share, subject to certain adjustments. The initial exercise price
of the warrant is $0.70 per share, also subject to certain
adjustments. The Company also amended and restated the Certificate
of Designations, resulting in an adjustment to the conversion price
of all currently outstanding Series D Shares to $0.70 per
share.
On August 14, 2017,
the price of the
Series C and D Preferred Stock
were
adjusted to $0.25 per share
pursuant
to the documents governing such instruments. After adjustment there
were 3,108,356 shares of
Series D preferred stock
authorized.
On July
17, 2018, the Company filed with the State of Nevada a second
Amended and Restated Certificate of Designation of Preferences,
Powers, and Rights of the Series D Convertible Preferred Stock. The
Amended Certificate restates the prior Certificate of Designation
filed on May 8, 2017 to decrease the number of authorized Series D
shares from 3,906,250 shares to 1,016,014 shares. No other
amendments were made to the preferences and rights of the Series D
Convertible Preferred Stock. The filing of the Amended Certificate
was unanimously approved by the Board of Directors and the
shareholders of Series D Convertible Preferred Stock.
Series F Preferred Stock
On August 1, 2018, the Company filed with the State of Nevada a
Certificate of Designation establishing the Designations,
Preferences, Limitations and Relative Rights of Series F Preferred
Stock (the “Designation”). The Designation authorized
500 shares of Series F Preferred Stock. The Series F Preferred
Stock shall only be issued to the current Board of Directors on the
date of the Designation’s filing and is not convertible into
common stock. As set forth in the Designation, the Series F
Preferred Stock has no rights to dividends or liquidation
preference and carries rights to vote 100,000 shares of common
stock per share of Series F upon a Trigger Event, as defined in the
Designation. A Trigger Event includes certain unsolicited bids,
tender offers, proxy contests, and significant share purchases, all
as described in the Designation. Unless and until a Trigger Event,
the Series F shall have no right to vote. The Series F Preferred
Stock shall remain issued and outstanding until the date which is
731 days after the issuance of Series F Preferred Stock
(“Explosion Date”), unless a Trigger Event occurs, in
which case the Explosion Date shall be extended by 183
days.
Securities Subject to Price Adjustments
On
August 14, 2017, a private placement triggered a provision in the
documents governing 23,334 outstanding shares of Series A Preferred
Stock, 1,785,715 outstanding shares of Series C Preferred Stock and
1,016,004 outstanding shares Series D preferred Stock, which
adjusted the conversion price of such Preferred Stock to $0.25 per
share. In addition, the conversion price of a Convertible Note
Payables of $2,390,066 and the exercise price of outstanding
warrants to purchase 9,548,741 shares of common stock were adjusted
to $0.25 per share pursuant to the documents governing such
instruments.
As of December 21, 2018, there were outstanding warrants for the
purchase of 15,473,398 shares of common stock.
In the future, if we sell our common stock at a
price below $0.25 per share, the exercise price
of 20,000 outstanding shares of
Series A Preferred Stock, 1,785,715 outstanding shares of Series C
Preferred Stock, 1,016,004 outstanding shares Series D Preferred
Stock that adjust below $0.25 per share pursuant to the documents
governing such instruments. In addition, the conversion price of a
Convertible Note Payable of $2,255,066 (9,020,264 common shares at
the current price of $0.25 per share) and the exercise price of
additional outstanding warrants to purchase 13,865,286 shares of
common stock would adjust below $0.25 per share pursuant to the
documents governing such
instruments.
Common Stock
All of the offerings and sales described below were deemed to be
exempt under Rule 506 of Regulation D and/or Section 4(a)(2) of the
Securities Act. No advertising or general solicitation was employed
in offering the securities, the offerings and sales were made to a
limited number of persons, all of whom were accredited investors
and transfer was restricted by the company in accordance with the
requirements of Regulation D and the Securities Act. All issuances
to accredited and non-accredited investors were structured to
comply with the requirements of the safe harbor afforded by Rule
506 of Regulation D, including limiting the number of
non-accredited investors to no more than 35 investors who have
sufficient knowledge and experience in financial and business
matters to make them capable of evaluating the merits and risks of
an investment in our securities.
The following equity issuances occurred during the year ended
September 30, 2018:
The Company issued 779,676 shares of common stock to Names
Executive Officers, directors, employees and consultants and for
services during the year ended September 30, 2018. The Company
expensed $273,068.
On
April 10, 2018, the Company issued 2,000,000 shares of our common
stock to Phillip A. Bosua under the terms of the Merger Agreement
with RAAI common stock. The shares were valued at the fair market
value of $520,000 or $0.26 per share.
On June 25, 2018, the Company closed a private placement and
received gross proceeds of $1,750,000 ($1,710,000 as of June 30,
2018) in exchange for issuing 7,000,000 (6,840,000 as of June 30,
2018) shares of common stock and warrants to purchase 3,500,000
(3,420,000 as of June 30, 2018) shares of common stock in a private
placement to accredited investors pursuant to a series of
substantially identical subscription agreements. The initial
exercise price of the warrants described above is $0.25 per share,
subject to certain adjustments, and they expired five years after
their issuance. The shares and the warrants described above were
issued in transactions that were not registered under the
Securities Act of 1933, as amended (the “Act”) in
reliance upon applicable exemptions from registration under Section
4(a)(2) of the Act and/or Rule 506 of SEC Regulation D under the
Act.
On June
25, 2018, the Company issued 500,000 shares of our common stock to
Phillip A. Bosua under the terms of an Employment agreement dated
April 10, 2018. The shares were valued at the fair market value of
$165,000 or $0.33 per share.
The Company closed debt conversions and issued 1,600,000 shares of
common stock in exchange for the conversion of $464,000, 230,000
shares in exchange for $48,300 in legal services and 605,000 shares
in for $199.935 in preexisting debt owed by the Company to certain
service providers, all of whom are accredited investors. These
shares were issued in transactions that were not registered under
the Act in reliance upon applicable exemptions from registration
under Section 4(a)(2) of the Act and/or Rule 506 of SEC Regulation
D under the Act.
During the year ended September 30, 2018, the Company issued
158,000 shares of our common stock related to warrant exercises
that were valued at $80,128.
On September 23, 2018, the Company issued 3,334 shares of our
common stock related to the conversion of Series A Preferred Stock
for $834.
The following equity issuances occurred during the year ended
September 30, 2017:
On October 21, 2015, the Company entered into a Public Relations
Agreement with Financial Genetics LLC for public relation services.
On October 18, 2016, the Company entered into an Amendment to
Public Relations Agreement with Financial Genetics LLC. Under the
Agreements, Financial Genetics was issued 359,386 shares of our
common stock during the year ended September 30, 2017. The Company
expensed $271,309 during the year ended September 30,
2017.
On October 6, 2016, the Company entered into a Services Agreement
with Redwood Investment Group LLC for financial services. Under the
Agreement, Redwood was issued 200,000 shares of our common stock.
The Company expensed $140,000 during the year ended September 30,
2017.
The Company entered into Convertible Promissory Notes totaling
$710,000 with accredited investors during September 2015 to
February 2016 to fund short-term working capital. The Notes accrued
interest at a rate of 8% per annum and became due September 2016 to
February 2017 and were convertible into common stock as part of our
next financing. On November 30, 2016, the Company converted
$695,000 of the /Convertible Promissory Notes and interest of
$54,078 into 936,348 shares of comment stock. The Company also
issued warrants to purchase 936,348 shares of the Company’s
common stock. The five-year warrants are exercisable at $1.00 per
share, subject to adjustment.
On December 22, 2016, a supplier converted accounts payable
totaling $6,880 into 8,600 shares of common stock.
On the year ended September 30, 2017, the Company issued 795,000
shares of restricted common stock to two Names Executive Officers
employees, two directors and six employees and consultants and for
services during 2015-2017. The shares were issued in accordance
with the 2011 Stock Incentive Plan and were valued at $0.17 per
share, the market price of our common stock. The Company expensed
$135,150 during the year ended September 30, 2017.
Warrants to Purchase Common Stock
The following warrants were issued during the year ended September
30, 2018:
On December 15, 2017, the Company received $250,000 and issued a
senior convertible exchangeable debenture with a principal amount
of $300,000 and a five year common stock purchase warrant to
purchase 1,200,000 shares of common stock in a private placement
dated December 12, 2017 to an accredited investor pursuant to a
Securities Purchase Agreement dated August 14, 2017. See Note 12
for additional details. The initial exercise price of the warrants
described above is $0.25 per share, also subject to certain
adjustments. The warrants were valued at $123,600 and the
beneficial conversion feature was valued at $93,174.
On March 2, 2018, the Company received gross proceeds of $280,000
in exchange for issuing a senior convertible redeemable debenture
with a principal amount of $336,000 and a five year warrant to
purchase 1,344,000 shares of common stock in a private placement
dated February 28, 2018 to an accredited investor pursuant to a
Securities Purchase Agreement dated August 14, 2017 See Note 9 for
additional details. The initial exercise price of the warrants
described above is $0.25 per share, also subject to certain
adjustments. The warrants had an estimated fair value of $348,096
and the beneficial conversion feature was value at
$252,932.
The
Company entered into a Note and Account Payable Conversion
Agreement pursuant to which (a) all $664,233 currently owing under
the J3E2A2Z Notes was converted to a Convertible Redeemable
Promissory Note in the principal amount of $664,233, and (b) all
$519,833 of the J3E2A2Z Account Payable was converted into a
Convertible Redeemable Promissory Note in the principal amount of
$519,833 together with a warrant to purchase up to 1,039,666 shares
of common stock of the Company for a period of five years.
The initial exercise price of the
warrants described above is $0.50 per share, also subject to
certain adjustments. See Note 9 for additional details. The
warrants had an estimated value of $60,820.
In
addition, effective as of January 31, 2018, Mr. Erickson was issued
a warrant to purchase up to 855,000 shares of common stock of the
Company for a period of five years.
The initial exercise price of the warrants
described above is $0.50 per share, also subject to certain
adjustments. See Note 12 for additional details. The warrants had
an estimated value of $49,726.
During the year ended September 30, 2018, The Company issued
placement agent warrants related to the issuance of senior
convertible redeemable debentures and Series D Preferred Stock to
purchase up to 538,400 shares of common stock
for a period
of five years.
The initial exercise
price of the warrants described above is $0.25 per share, also
subject to certain adjustments. The estimated fair value was
$134,600.
On June 25, 2018, the Company closed a private placement and
received gross proceeds of $1,750,000 ($1,710,000 as of June 30,
2018) in exchange for issuing 7,000,000 (6,840,000 as of June 30,
2018) shares of common stock and warrants to purchase 3,500,000
(3,420,000 as of June 30, 2018) shares of common stock in a private
placement to accredited investors pursuant to a series of
substantially identical subscription agreements. The initial
exercise price of the warrants described above is $0.25 per share,
subject to certain adjustments, and they expired five years after
their issuance. The shares and the warrants described above were
issued in transactions that were not registered under the
Securities Act of 1933, as amended (the “Act”) in
reliance upon applicable exemptions from registration under Section
4(a)(2) of the Act and/or Rule 506 of SEC Regulation D under the
Act.
The Company issued warrants to purchase 1,229,000 shares of common
stock to Named Executive Officers, directors, employees and
consultants and for services during the year ended September 30,
2018. The Company expensed $121,710.
During the year ended September 30, 2018, the Company issued
158,000 shares of our common stock related to warrant exercises
that were valued at $80,128.
During the year ended September 30, 2018, warrants for the purchase
of 544,998 shares of common stock valued at $136,250
expired.
The following warrants were issued during the year ended September
30, 2017:
The Company entered into Convertible Promissory Notes totaling
$710,000 with accredited investors during September 2015 to
February 2016 to fund short-term working capital. The Notes accrued
interest at a rate of 8% per annum and became due September 2016 to
February 2017 and were convertible into common stock as part of our
next financing. On November 30, 2016, the Company converted
$695,000 of the /Convertible Promissory Notes and interest of
$54,078 into 936,348 shares of comment stock. The Company also
issued warrants to purchase 936,348 shares of the Company’s
common stock. The five-year warrants are exercisable at $1.00 per
share, subject to adjustment.
On
November 14, 2016, the Company issued 187,500 shares of Series D
Convertible Preferred Stock and a warrant to purchase 187,500
shares of common stock in a private placement to certain accredited
investors for gross proceeds of $150,000 pursuant to a Series D
Preferred Stock and Warrant Purchase Agreement dated November 10,
2016. The warrant was valued at $189,938.
On
December 19, 2016, the Company issued 187,500 shares of Series D
Convertible Preferred Stock and a warrant to purchase 187,500
shares of common stock in a private placement to an accredited
investor for gross proceeds of $150,000 pursuant to a Series D
Preferred Stock and Warrant Purchase Agreement dated December 14,
2016. The warrant was valued at $131,250.
On
February 24, 2017, the Company issued 283,861 shares of Series D
Convertible Preferred Stock and a warrant to purchase 283,861
shares of common stock in a private placement to an accredited
investor for conversion of a $220,000 Promissory Note and accrued
interest of $7,089 pursuant to a Series D Preferred Stock and
Warrant Purchase Agreement dated February 28, 2017. The warrant was
valued at $198,703.
During
the year ended September 30, 2017, the Company revised five year
placement agent warrants to purchase 312,500 shares of common
stock. The price was reduced from $1.00 to $0.70 per share and the
exercise price is now subject to adjustment. The Company recorded
250,000 shares during the year ended September 30, 2016 the fair
value of these warrants is $218,751 as of June 30,
2017.
On May 1, 2017, the Company issued 357,143 shares of Series D
Convertible Preferred Stock and a warrant to purchase 357,143
shares of common stock in a private placement to an accredited
investor for gross proceeds of $250,000 pursuant to a Series D
Preferred Stock and Warrant Purchase Agreement dated May 1,
2017.
The warrant was valued at $5,357.
On August 14, 2017, the Company issued a common stock purchase
warrant to purchase 1,440,000 shares of common stock in a private
placement to Clayton Struve for gross proceeds of $300,000 pursuant
to a Securities Purchase Agreement dated August 14, 2017. The
initial exercise price of the Warrant is $0.25 per share, also
subject to certain adjustments. The warrants were valued at
$111,429.
Warrants to acquire 7,668 shares of common stock at $30.00 per
share expired.
The
conversion price of the Series A, C and D Shares and related
warrants is currently $0.250 per share, subject to certain
adjustments.
A summary of the warrants issued as of September 30, 2018 were as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding
at beginning of period
|
6,900,356
|
$
0.428
|
Issued
|
9,276,066
|
0.250
|
Exercised
|
(158,026
)
|
(0.507
)
|
Forfeited
|
-
|
-
|
Expired
|
(544,998
)
|
(0.250
)
|
Outstanding
at end of period
|
15,473,398
|
$
0.326
|
Exerciseable
at end of period
|
15,473,398
|
|
A summary of the status of the warrants outstanding as of September
30, 2018 is presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,870,286
|
4.04
|
$
0.250
|
13,870,286
|
$
0.250
|
714,286
|
2.83
|
0.700
|
714,286
|
0.700
|
882,159
|
3.12
|
1.000
|
882,159
|
1.000
|
6,667
|
0.25
|
30.000
|
6,667
|
30.000
|
15,473,398
|
3.61
|
$
0.326
|
15,473,398
|
$
0.326
|
The significant weighted average assumptions relating to the
valuation of the Company’s warrants for the year ended
September 30, 2018 were as follows:
Dividend yield
|
0%
|
Expected life
|
1-2 years
|
Expected volatility
|
125%-145%
|
Risk free interest rate
|
.0202-.0214%
|
At September 30, 2018, vested warrants totaling 15,466,731 shares
had an aggregate intrinsic value of $13,870,286.
On
March 21, 2013, an amendment to the Stock Option Plan was approved
by the stockholders of the Company, increasing the number of shares
reserved for issuance under the Plan to 93,333 shares.
On April 10, 2018, the Board
approved an amendment to its 2011 Stock Incentive Plan increasing
the number of shares of common stock reserved under the Incentive
Plan from 93,333 to 1,200,000. On August 7, 2018, the Board
approved an amendment to its 2011 Stock Incentive Plan increasing
the number of shares of common stock reserved under the Incentive
Plan from 1,200,000 to 2,000,000 to common
shares.
Determining Fair Value under ASC 505
The Company records compensation expense associated with stock
options and other equity-based compensation using the
Black-Scholes-Merton option valuation model for estimating fair
value of stock options granted under our plan. The Company
amortizes the fair value of stock options on a ratable basis over
the requisite service periods, which are generally the vesting
periods. The expected life of awards granted represents the period
of time that they are expected to be outstanding. The
Company estimates the volatility of our common stock based on the
historical volatility of its own common stock over the most recent
period corresponding with the estimated expected life of the award.
The Company bases the risk-free interest rate used in the Black
Scholes-Merton option valuation model on the implied yield
currently available on U.S. Treasury zero-coupon issues with an
equivalent remaining term equal to the expected life of the award.
The Company has not paid any cash dividends on our common stock and
does not anticipate paying any cash dividends in the foreseeable
future. Consequently, the Company uses an expected dividend yield
of zero in the Black-Scholes-Merton option valuation model and
adjusts share-based compensation for changes to the estimate of
expected equity award forfeitures based on actual forfeiture
experience. The effect of adjusting the forfeiture rate is
recognized in the period the forfeiture estimate is
changed.
Stock Option Activity
The Company had the following stock option transactions during the
year ended September 30, 2018.
A former employee forfeited stock option grants for 10,668 shares
of common stock at $14.719 per share.
During the year ended September 30, 2018, four employee and two
consultants were granted options to purchase 1,180,000 shares of
common stock
at an exercise price of $2.024 per share. The
stock option grants vest quarterly over four years (none during the
first six months) and are exercisable for 5 years. The stock option
grants were valued at an average of $2.38 per share.
On July 30, 2018, Mr. Bosua was awarded a stock option grant for
1,000,000 shares of common stock that was awarded at $1.28 per
share and was valued at the black scholes value of $1.22 per
share.
The stock option grant vests quarterly
over four years and is exercisable for 5 years.
The Company had the following stock option transactions during the
year ended September 30, 2017:
During the year ended September 30, 2017, employees forfeited stock
option grants for 35,504 shares of common stock at $19.51 per
share.
There are currently 534,736 options to purchase common stock at an
average exercise price of $1.698 per share outstanding as of
September 30, 2018 under the 2011 Stock Incentive Plan. The Company
recorded $50,899 and $37,848 of compensation expense, net of
related tax effects, relative to stock options for the year ended
September 30, 2018 and in accordance with ASC 505. Net loss per
share (basic and diluted) associated with this expense was
approximately ($0.006) and ($0.01) per share, respectively. As of
September 30, 2018, there is approximately $1,789,384, net of
forfeitures, of total unrecognized costs related to employee
granted stock options that are not vested. These costs are expected
to be recognized over a period of approximately 4.94
years.
Stock option activity for the years ended September 30, 2018 and
2017 was as follows:
|
|
|
|
|
|
|
$
|
Outstanding
as of September 30, 2016
|
50,908
|
$
18.045
|
$
918,627
|
Granted
|
-
|
-
|
-
|
Exercised
|
-
|
-
|
-
|
Forfeitures
|
(35,504
)
|
(19.507
)
|
(692,568
)
|
Outstanding
as of September 30, 2017
|
15,404
|
14.675
|
226,059
|
Granted
|
2,180,000
|
1.683
|
3,668,500
|
Exercised
|
-
|
-
|
-
|
Forfeitures
|
(12,736
)
|
14.764
|
(188,040
)
|
Outstanding
as of September 30, 2018
|
2,182,668
|
$
1.698
|
$
3,706,519
|
The following table summarizes information about stock options
outstanding and exercisable as of September 30, 2018:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
0.25
|
530,000
|
4.98
|
$
0.250
|
-
|
$
-
|
1.28
|
1,150,000
|
4.96
|
1.28
|
-
|
-
|
4.08-4.20
|
500,000
|
4.98
|
|
-
|
-
|
13.500
|
1,334
|
0.44
|
13.50
|
1,334
|
13.50
|
15.000
|
1,334
|
-
|
15.00
|
-
|
15.00
|
|
2,182,668
|
4.94
|
$
1.698
|
1,334
|
$
13.50
|
There were stock option grants of 1,680,000 shares as of September
30, 2018 with an aggregate intrinsic value of
$4,964,300.
15.
|
OTHER SIGNIFICANT TRANSACTIONS WITH RELATED PARTIES
|
Related Party Transactions with Ronald P. Erickson
See Notes 11, 12 and 13 for related party transactions with Ronald
P. Erickson.
On September 7, 2017 Mr. Erickson was issued 200,000 of restricted
common stock to at the grant date market value of $0.17 per
share.
On January 16, 2018 Mr. Erickson was issued 100,000 of restricted
common stock on to at the grant date market value of $0.21 per
share.
On
January 25, 2018, the Company entered into amendments to two demand
promissory notes, totaling $600,000 with Mr. Erickson, our Chief
Executive Officer and/or entities in which Mr. Erickson has a
beneficial interest. The amendments extend the due date from
December 31, 2017 to September 30, 2018 and continue to provide for
interest of 3% per annum and a third lien on company assets if not
repaid by September 30, 2018 or converted into convertible
debentures or equity on terms acceptable to the Holder. On March
16, 2018, the demand promissory notes and accrued interest were
converted into convertible notes payable.
On
March 16, 2018, the Company entered into a Note and Account Payable
Conversion Agreement pursuant to which (a) all $664,233 currently
owing under the J3E2A2Z Notes was converted to a Convertible
Redeemable Promissory Note in the principal amount of $664,233, and
(b) all $519,833 of the J3E2A2Z Account Payable was converted into
a Convertible Redeemable Promissory Note in the principal amount of
$519,833 together with a warrant to purchase up to 1,039,666 shares
of our common stock for a period of five years.
The initial exercise price of the warrants
described above is $0.50 per share, also subject to certain
adjustments. The warrants had an estimated value of $0.12 per
share.
On July 9, 2018, the Company repaid a $199,935 Business Loan
Agreement with Umpqua Bank from funds previously provided by
an entity affiliated with Ronald P. Erickson, our Chairman of the
Board. The Company paid $27,041 and
issued 800,000 shares of common stock in exchange
for the conversion of this debt. Mr. Erickson is an accredited
investor. These shares were issued in transactions that were not
registered under the Act in reliance upon applicable exemptions
from registration under Section 4(a)(2) of the Act and/or Rule 506
of SEC Regulation D under the Act.
Mr. Erickson and/or entities with which he is affiliated also have
accrued compensation, travel and interest of approximately $513,149
as of September 30, 2018.
Related Party Transaction with Phillip A. Bosua
On July
14, 2017, the Company issued 50,000 shares of our common stock to
Phillip A. Bosua under the terms of a consulting agreement dated
July 6, 2017. The fair value of the stock was $8,500.
On
February 7, 2018, the Company issued 50,000 shares of our common
stock to Phillip A. Bosua under the terms of a consulting agreement
dated July 6, 2017.
On
April 10, 2018, the Company issued 2,000,000 shares of our common
stock to Phillip A. Bosua under the terms of the Merger Agreement
with RAAI common stock. The fair value of the stock was
$520,000.
On June
25, 2018, the Company issued 500,000 shares of our common stock to
Phillip A. Bosua under the terms of an Employment agreement dated
April 10, 2018. The fair value of the stock was
$165,000.
On June
25, 2018, the Company
closed a debt
conversion with an entity controlled by Phillip A. Bosua and issued
255,000 shares of common stock in exchange for the conversion of
$63,750 in preexisting debt owed by the Company to this
entity.
On July 30, 2018, Mr. Bosua was awarded a stock option grant for
1,000,000 shares of our common stock that was awarded at $1.28 per
share and was valued at the black scholes value of $1.22 per
share.
Stock Issuances to Named Executive Officers and
Directors
On September 7, 2017, the Company issued 400,000 shares of
restricted common stock to one Named Executive Officer and two
directors for services during 2015-2017. The shares were issued in
accordance with the 2011 Stock Incentive Plan and were valued at
$0.17 per share, the market price of our common stock.
During January to May 2018, the Company issued 275,000 shares of
restricted common stock to one Named Executive Officer and two
directors for services during 2018. The shares were issued in
accordance with the 2011 Stock Incentive Plan and were valued at
$0.246 per share, the market price of our common
stock.
Stock Option Grant Cancellations
During the year ended September 30, 2017, two Named Executive
Officers forfeited stock option grants for 35,366 shares of common
stock at $19.53 per share.
16. COMMITMENTS, CONTINGENCIES AND LEGAL
PROCEEDINGS
Legal Proceedings
The
Company may from time to time become a party to various legal
proceedings arising in the ordinary course of our business. The
Company is currently not a party to any pending legal proceeding
that is not ordinary routine litigation incidental to our
business.
Employment Agreement with Phillip A. Bosua, Chief Executive
Officer
On April 10, 2018, the Company appointed Mr. Bosua as Chief
Executive Officer of the Company, replacing Ronald P. Erickson, who
remains Chairman of the Company. Mr. Erickson has been a director
and officer of Know Labs since April 2003. He was appointed as our
CEO and President in November 2009 and as Chairman of the Board in
February 2015. Previously, Mr. Erickson was our President and Chief
Executive Officer from September 2003 through August 2003 and was
Chairman of the Board from August 2004 until May 2011.
Phillip A. Bosua was appointed the Company’s CEO on April 10,
2018. Previously, Mr. Bosua served as the Company’s Chief
Product Officer since August 2017. The Company entered into a
Consulting Agreement with Mr. Bosua’s company, Blaze Clinical
on July 7, 2017. From September 2012 to February 2015, Mr. Bosua
was the founder and Chief Executive Officer of LIFX Inc. (where he
developed and marketed an innovative “smart” light
bulb) and from August 2015 until February 2016 was Vice President
Consumer Products at Soraa (which markets specialty LED light
bulbs). From February 2016 to July 2017, Mr. Bosua was the founder
and CEO of RAAI, Inc. (where he continued the development of his
smart lighting technology). From May 2008 to February 2013 he was
the Founder and CEO of LimeMouse Apps, a leading developer of
applications for the Apple App Store.
On April 10, 2018, the Company entered into an Employment Agreement
with Mr. Bosua reflecting his appointment as Chief Executive
Officer. The Employment Agreement is for an initial term of 12
months (subject to earlier termination) and will be automatically
extended for additional 12-month terms unless either party notifies
the other party of its intention to terminate the Employment
Agreement. Mr. Bosua will be paid a base salary of $225,000 per
year, received 500,000 shares of common stock valued at $0.33 per
share and may be entitled to bonuses and equity awards at the
discretion of the Board or a committee of the Board. The Employment
Agreement provides for severance pay equal to 12 months of base
salary if Mr. Bosua is terminated without “cause” or
voluntarily terminates his employment for “good
reason.”
Employment Agreement with Ronald P. Erickson, Chairman of the Board
and Interim Chief Financial Officer
On
August 4, 2017, the Board of Directors approved an Employment
Agreement with Ronald P. Erickson pursuant to which the Company
engaged Mr. Erickson as our Chief Executive Officer through
September 30, 2018.
Mr.
Erickson’s annual compensation is $180,000. Mr. Erickson is
also entitled to receive an annual bonus and equity awards
compensation as approved by the Board. The bonus should be paid no
later than 30 days following earning of the bonus.
Mr.
Erickson will be entitled to participate in all group employment
benefits that are offered by the Company to our senior executives
and management employees from time to time, subject to the terms
and conditions of such benefit plans, including any eligibility
requirements.
If the Company terminates Mr. Erickson’s employment at any
time prior to the expiration of the Term without Cause, as defined
in the Employment Agreement, or if Mr. Erickson terminates his
employment at any time for “Good Reason” or due to a
“Disability”, Mr. Erickson will be entitled to receive
(i) his Base Salary amount for one year; and (ii) medical benefits
for eighteen months.
On April 10, 2018, the Company entered into an Amended Employment
Agreement for Ronald P. Erickson which amends the Employment
Agreement dated July 1, 2017. The Agreement expires March 21,
2019.
Properties and Operating Leases
The Company is obligated under the following non-cancelable
operating leases for its various facilities and certain
equipment.
Years
Ended September 30,
|
|
2019
|
$
118,190
|
2020
|
85,914
|
2021
|
23,498
|
2022
|
-
|
2023
|
-
|
Beyond
|
-
|
Total
|
$
227,602
|
Corporate Offices
On April 13, 2017, the Company leased its executive office located
at 500 Union Street, Suite 810, Seattle, Washington, USA, 98101.
The Company leases 943 square feet and the net monthly payment is
$2,672. The monthly payment increases approximately 3% each year
and the lease expires on May 31, 2022.
Lab Facilities and Executive Offices
On May 1, 2018, the Company leased its lab facilities and executive
offices located at 304 Alaskan Way South, Suite 102, Seattle,
Washington, USA, 98101. The Company leases 2,800 square feet and
the net monthly payment is $4,000. The lease expires on April 30,
2019.
TransTech Facilities
TransTech is located at 12142 NE Sky Lane, Suite 130, Aurora, OR
97002. TransTech leases a total of approximately 6,340 square feet
of office and warehouse space for its administrative offices,
product inventory and shipping operations. Effective December 1,
2017, TransTech leases this office from December 1, 2017 at $4,465
per month. The monthly payment increases approximately 3% each year
and the lease expires on January 31, 2020. Until December 1, 2017,
TransTech leased this office on a month to month basis at $6,942
per month.
17. INCOME TAXES
The
Company has incurred losses since inception, which have generated
net operating loss carryforwards. The net operating loss
carryforwards arise from United States
sources.
Pretax
losses arising from United States operations were approximately
$3,258,000 for the year ended September 30, 2018.
Pretax
losses arising from United States operations were approximately
$3,901,000 for the year ended September 30, 2017.
The
Company has net operating loss carryforwards of approximately
$27,352,000, which expire in 2022-2036. Because it is not more
likely than not that sufficient tax earnings will be generated to
utilize the net operating loss carryforwards, a corresponding
valuation allowance of approximately $5,744,000 was established as
of September 30, 2018. Additionally, under the Tax Reform Act of
1986, the amounts of, and benefits from, net operating losses may
be limited in certain circumstances, including a change in
control.
Section 382
of the Internal Revenue Code generally imposes an annual limitation
on the amount of net operating loss carryforwards that may be used
to offset taxable income when a corporation has undergone
significant changes in its stock ownership. There can be no
assurance that the Company will be able to utilize any net
operating loss carryforwards in the future. The Company is subject
to possible tax examination for the years 2012 through
2018
For the year ended September 30, 2018, the Company’s
effective tax rate differs from the federal statutory rate
principally due to net operating losses and warrants issued for
services.
U.S. Tax Reform
On
December 22, 2017, the U.S. government enacted comprehensive tax
legislation commonly referred to as the Tax Cuts and Jobs Act (the
Tax Reform Act). The Tax Reform Act significantly revises the
future ongoing federal income tax by, among other things, lowering
U.S. corporate income tax rates effective January 1, 2018. The
Company has calculated a blended U.S. federal income tax rate of
approximately 21% for the fiscal year ending September 30, 2018 and
21.0% for subsequent fiscal years. Remeasurement of the
Company’s deferred tax balance under the Tax Reform Act
resulted in a non-cash tax benefit reduction of approximately $2.3
million for the year ended September 30, 2018.
The
changes included in the Tax Reform Act are broad and complex. The
final transition impacts of the Tax Reform Act may differ from the
above estimate due to, among other things, changes in
interpretations of the Tax Reform Act, any legislative action to
address questions that arise because of the Tax Reform Act and any
changes in accounting standards for income taxes or related
interpretations in response to the Tax Reform Act.
The principal components of the Company’s deferred tax assets
at September 30, 2018 and 2017 are as follows:
|
|
|
U.S.
operations loss carry forward at statutory rate of 21%
|
$
(5,743,840
)
|
$
(5,804,285
)
|
Non-U.S.
operations loss carry forward at statutory rate of
20.5%
|
-
|
-
|
Total
|
(5,743,840
)
|
(5,804,285
)
|
Less
Valuation Allowance
|
5,743,840
|
5,804,285
|
Net
Deferred Tax Assets
|
-
|
-
|
Change
in Valuation allowance
|
$
60,445
|
$
(1,036,276
)
|
A reconciliation of the United States Federal Statutory rate to the
Company’s effective tax rate for the years ended September
30, 2018 and 2017 are as follows:
|
|
|
Federal
Statutory Rate
|
-21.0
%
|
-21.0
%
|
Increase
in Income Taxes Resulting from:
|
|
|
Change
in Valuation allowance
|
21.0
%
|
21.0
%
|
Effective
Tax Rate
|
0.0
%
|
0.0
%
|
The Company evaluated subsequent events, for the purpose of
adjustment or disclosure, up through the date the financial
statements were issued.
On
October 31, 2018, the Board awarded stock option grants to two
directors to acquire 50,000 shares each of the Company’s
common stock. The grants were valued at $3.03 per share and expire
on October 31, 2013. The grants vested immediately.
On
October 31, 2018, the Board awarded Phillip A. Bosua a stock option
grant to acquire 100,000 shares of the Company’s Common stock
for each $1,000,000 raised by the Company in revenue generated in a
planned Kickstarter campaign. In addition, Mr. Bosua was granted a
stock option grant to acquire 1,000,000 shares of the
Company’s common which vests upon approval of the
Company’s blood glucose measurement technology by the U.S.
Food and Drug Administration. The grants were valued at $3.03 per
share and expire on October 31, 2023.
On
October 31, 2018, the Board awarded Ronald P Erickson a stock
option grant to acquire 1,000,000 shares of the Company’s
common which vests upon the Company’s successful listing of
its Common Stock on Nasdaq or the New York Stock Exchange
(including the NYSE American Market). The grant was valued at $3.03
per share and expires on October 31, 2023.
On November 16, 2018, the Company signed Amendment 1 to Senior
Secured Convertible Redeemable Notes dated September 30, 2016,
August 14, 2017 and December 12, 2017, extending the due dates of
the Notes to February 27, 2019.
On
November 21, 2018, the Company’s Board of Directors amended
the Company’s Audit, Compensation and Nominating and
Corporate Governance Committee Charters. In addition, on November
21, 2018, the Company’s Board of Directors amended the
Company’s Code of Ethics Policy.