NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The
accompanying unaudited consolidated condensed financial statements
have been prepared by Know Labs, Inc, formerly Visualant,
Incorporated (“the Company”, “us,”
“we,” or “our”) in accordance with U.S.
generally accepted accounting principles (“GAAP”) for
interim financial reporting and rules and regulations of the
Securities and Exchange Commission. Accordingly, certain
information and footnote disclosures normally included in financial
statements prepared in accordance with GAAP have been condensed or
omitted. In the opinion of our management, all adjustments,
consisting of only normal recurring accruals, necessary for a fair
presentation of the financial position, results of operations, and
cash flows for the fiscal periods presented have been
included.
These
financial statements should be read in conjunction with the audited
financial statements and related notes included in our Annual
Report filed on Form 10-K for the year ended September 30, 2018,
filed with the Securities and Exchange Commission
(“SEC”) on December 21, 2018. The results of operations
for the six months ended March 31, 2019 are not necessarily
indicative of the results expected for the full fiscal year, or for
any other fiscal period.
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 has provided all
of the Company’s revenues.
The Company is in the process of commercializing its 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.
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.
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 $2,493,821, $3,257,597 and
$3,901,232 for the six months ended March 31, 2019 and the years
ended September 30, 2018 and 2017, respectively. Net cash used in
operating activities was $1,462,737, $1,117,131 and $1,264,324 for
the three months ended March 31, 2019 and 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 March 31, 2019, the Company’s
accumulated deficit was $37,285,145. 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 December 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.
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 March 31,
2019 and September 30, 2018, 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 $391,014, $570,514 and $79,405
during the six months ended March 31, 2019 and 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 March 31, 2019 and September 30, 2018 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.
As of March 31, 2019, there were options
outstanding for the purchase of 2,282,668 common shares, warrants
for the purchase of 17,572,583 common shares, and
4,894,071 shares of the Company’s common stock issuable
upon the conversion of Series A, Series C and Series D Convertible
Preferred Stock. In addition, the Company has 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
$2,255,065. All of which could potentially dilute future earnings
per share.
As of March 31, 2018, there were options outstanding for the
purchase of 4,736 common shares, warrants for the purchase of
11,837,422 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. In addition, the Company has
an unknown number of shares issuable upon conversion of convertible
debentures of $2,390,066. 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
A variety of proposed or otherwise potential accounting standards
are currently under study by standard setting organizations and
various regulatory agencies. Due to the tentative and preliminary
nature of those proposed standards, management has not determined
whether implementation of such proposed standards would be material
to the Company’s consolidated financial
statements.
4.
ACCOUNTS RECEIVABLE/CUSTOMER
CONCENTRATION
Accounts receivable were $193,372 and $320,538, net of allowance,
as of March 31, 2019 and September 30, 2018, respectively. The
Company had two customers in excess of 10% (14.8% and 10.1%) of the
Company’s consolidated revenues for the three months ended
March 31, 2019. The Company had two customers in excess of 10%
(21.7%,and 20.7%) with accounts receivable in excess of 10% as of
March 31, 2019. The Company has a total allowance for bad debt in
the amount of $60,000 as of March 31, 2019.
The
decrease in accounts receivable related to lower sales and
purchases at TransTech.
5.
INVENTORIES
Inventories were and $100,989 and $203,582 as of March 31, 2019 and
September 30, 2018, 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.
The
decrease in inventory related to lower sales at
TransTech.
6. FIXED ASSETS
Fixed assets, net of accumulated depreciation, was $197,536 and
$169,333 as of March 31, 2019 and September 30, 2018, respectively.
Accumulated depreciation was $717,019 and $670,666 as of March 31,
2019 and September 30, 2018, respectively. Total depreciation
expense was $46,354 and $30,462 for the six months ended March 31,
2019 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 March 31, 2019 was comprised of the
following:
|
Estimated
|
|
|
|
|
|
|
Machinery
and equipment
|
2-10
years
|
$
406,861
|
$
42,681
|
$
449,542
|
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
|
(579,318
)
|
(137,701
)
|
(717,019
)
|
|
$
197,536
|
$
-
|
$
197,536
|
7.
INTANGIBLE ASSETS
Intangible assets as of March 31, 2019 and September 30, 2018
consisted of the following:
|
Estimated
|
|
|
|
|
|
|
|
|
|
|
|
|
Technology
|
3
years
|
$
520,000
|
$
520,000
|
|
Less:
accumulated amortization
|
(158,888
)
|
(72,222
)
|
(86,666
)
|
Intangible
assets, net
|
|
$
361,112
|
$
447,778
|
|
Total amortization expense was $86,666 and $0 for the six months
ended March 31, 2019 and 2018, 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 converted into the right to receive
2,000 shares of the Company’s common stock. As a result, the
Company 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.
8. ACCOUNTS PAYABLE
Accounts payable were $1,298,278 and $1,517,617 as of March
31, 2019 and September 30, 2018, 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 (12.3% and
10.0%) with accounts payable in excess of 10% of its accounts
payable as of March 31, 2019. The Company does expect to have
vendors with accounts payable balances of 10% of total accounts
payable in the foreseeable future.
9.
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 March 31, 2019 and
September 30, 2018.
10. CONVERTIBLE NOTES PAYABLE
Convertible notes payable as of March 31, 2019 and September 30,
2018 consisted of the following:
Convertible Promissory Notes with Clayton A. Struve
As of March 31, 2019, the Company owes Clayton A. Struve $1,071,000
under convertible promissory or OID notes. The Company recorded
accrued interest of $58,411 as of March 31, 2019.
On May 8,
2019, the Company signed Amendment 2 to the convertible promissory
or OID notes, extending the due dates to September 30,
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 $41,361
as of March 31, 2019.
On May 8, 2019, the Company signed
Amendment 1 to the convertible redeemable promissory notes,
extending the due dates to September 30, 2019 and increasing the
interest rate to 6%.
11.
NOTES PAYABLE, CAPITALIZED LEASES AND LONG TERM DEBT
Notes payable, capitalized leases and long-term debt as of March
31, 2019 and September 30, 2018 consisted of the
following:
|
|
|
|
|
|
|
|
|
Capital Source
Business Finance Group
|
$
-
|
$
145,186
|
Total
debt
|
-
|
145,186
|
Less current
portion of long term debt
|
-
|
(145,186
)
|
Long term
debt
|
$
-
|
$
-
|
Capital Source Business Finance Group
On
March 12, 2019, Capital Source cancelled the Loan and Security
Agreement and Capital Source Credit Facility with TransTech.
TransTech repaid the remaining $15,165 due on the Secured Credit
Facility. On March 27, 2019, the Company received notice that the
UCC Financing Statement filed by Capital Source to secure a parent
Company guarantee was terminated and cancelled by the State of
Nevada.
12. 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.
As of March 31, 2019, the Company had 22,002,904 shares of common
stock issued and outstanding, held by 122 stockholders of record.
The number of stockholders, 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 stockholders for a vote, and no cumulative voting
for directors is permitted. Stockholders do not have any
preemptive rights to acquire additional securities issued by
us. As of March 31, 2019, there were options outstanding
for the purchase of 2,282,668 common shares, warrants for the
purchase of 17,572,583 common shares, and 4,894,071 shares of
the Company’s common stock issuable upon the conversion of
Series A, Series C and Series D Convertible Preferred Stock. In
addition, the Company has 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.
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
On
January 29, 2019, a holder of Series A Preferred Stock converted
20,000 shares into 80,000 shares of common stock. There are no
Series A Preferred Stock outstanding as of March 31,
2019.
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.
On
August 14, 2017,
the price of the
Series C Stock
were adjusted to $0.25 per
share
pursuant to the documents
governing such instruments.
As of March 31, 2019, the Company has 3,108,356 of
Series D
Preferred Stock outstanding with Clayton A. Struve, an accredited
investor, outstanding.
On August 14,
2017,
the price of the
Series D
Stock
were adjusted to $0.25 per share
pursuant to the documents governing such
instruments.
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 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
In the future, if we sell our common stock at a price below $0.25
per share, the exercise price
of 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 12,664,385
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 six months ended
March 31, 2019:
During the six months ended March 31, 2019, the Company issued
336,427 shares of common stock and cancelled warrants to purchase
26,573 shares of common stock at $0.25 per share to two consultants
and two investors related to the cashless exercise of
warrants.
During the six months ended March 31, 2019, the Company issued
145,000 shares of common stock for services provided by two
consultants. The shares were valued at $246,900 or $1.703 per
share.
On January 2, 2019, the Company issued 100,000 shares of common
stock for services provided to Ronald P. Erickson. The shares were
valued at $102,000 or $1.02 per share.
On
January 29, 2019, a holder of Series A Preferred Stock converted
20,000 shares into 80,000 shares of common stock.
Private Placements
On March 4, 2019, the Company closed rounds one and two of a
private placement and received gross proceeds of $2,409,975 in
exchange for issuing Subordinated Convertible Notes and Warrants in
a private placement to 26 accredited investors, pursuant to a
series of substantially identical Securities Purchase Agreements,
Common Stock Warrants, and related documents.
On March 18, 2019, Company closed round three of a private
placement and received gross proceeds of $1,400,000 in exchange for
issuing Subordinated Convertible Notes and Warrants in a private
placement to 8 accredited investors, pursuant to a series of
substantially identical Securities Purchase Agreements, Common
Stock Warrants, and related documents.
The Convertible Notes have a principal amount of $3,809,975 and
bear annual interest of 8%. Both the principal amount of and the
interest are payable on a payment-in-kind basis in shares of Common
Stock of the Company. They are due and payable in common stock on
the earlier of (a) mandatory and automatic conversion of the
Convertible Notes into a financing that yields gross proceeds of at
least $10,000,000 or (b) on the one-year anniversary of the
Convertible Notes. Investors will be required to convert their
Convertible Notes into Common Stock in any $10,000,000 financing at
a conversion price per share equal to the lower of (i) $1.00 per
share or (ii) a 25% discount to the price per share paid by
investors in the $10,000,000 Financing. If the Convertible Notes
have not been paid or converted prior to the Maturity Date, the
outstanding principal amount of the Convertible Notes will be
automatically converted into shares of Common Stock at the lesser
of (a) $1.00 per share or (b) any adjusted price resulting from the
application of a “most favored nations” provision,
which requires the issuance of additional shares of Common Stock to
investors if the Company issues certain securities at less than the
then-current conversion price.
The
Warrants were granted on a 1:0.5 basis (one-half Warrant for each
full share of Common Stock into which the Convertible Notes are
convertible). The Warrants have a five-year term and an exercise
price equal to 120% of the per share conversion price of the
Qualified Financing or other mandatory conversion.
The
Convertible Notes are initially convertible into 3,809,975 shares
of Common Stock, subject to certain adjustments, and the Warrants
are initially exercisable for 1,904,988 shares of Common Stock at
an exercise price of $1.20 per share of Common Stock, also subject
to certain adjustments.
In
connection with the private placement, the placement agent for the
Convertible Notes and the Warrants received a cash fee of $324,798
and warrants to purchase 487,197 shares of the Company’s
common stock, all based on 8% of gross proceeds to the Company. The
placement agent has also received a $25,000 advisory
fee.
As part
of the Purchase Agreement, the Company entered into a Registration
Rights Agreement, which grants the investors “demand”
and “piggyback” registration rights to register the
shares of Common Stock issuable upon the conversion of the
Convertible Notes and the exercise of the Warrants with the
Securities and Exchange Commission for resale or other disposition.
In addition, the Convertible Notes are subordinated to certain
senior debt of the Company pursuant to a Subordination Agreement
executed by the investors.
The
Convertible Notes and Warrants 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 expects to continue offering additional Convertible Notes
and Warrants on substantially the same terms until April 15, 2019
(unless extended at the discretion of the Company) or until the
Company has raised a maximum of $5 million in gross proceeds (or
such other amount determined by the Company in its discretion). The
offering was extended until May 31, 2019.
Warrants to Purchase Common Stock
The following warrants were issued during the six months ended
March 31, 2019:
The Company issued 336,427 shares of common stock and cancelled
warrants to purchase 26,573 shares of common stock at $0.25 per
share to two consultants and two investors related to the cashless
exercise of warrants.
The Company issued warrants to purchase 70,000 shares of common
stock at $1.61 to$2.72 per share to three consultants. The warrants
were valued at $30,325 or 0.79 to $1.11 per share. The warrants
expire during the first quarter of 2024.
Private Placements
The
Warrants issued for the private placements discussed above were
granted on a 1:0.5 basis (one-half Warrant for each full share of
Common Stock into which the Convertible Notes are convertible). The
Warrants have a five-year term and an exercise price equal to 120%
of the per share conversion price of the Qualified Financing or
other mandatory conversion.
The
Warrants are initially exercisable for 1,904,988 shares of Common
Stock at an exercise price of $1.20 per share of Common Stock, also
subject to certain adjustments.
In
connection with the private placement, the placement agent for the
Convertible Notes and the Warrants received warrants to purchase
487,197 shares of the Company’s common stock, all based on 8%
of gross proceeds to the Company.
A
summary of the warrants outstanding as of
March 31, 2019
were as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding
at beginning of period
|
15,473,398
|
$
0.326
|
Issued
|
2,462,185
|
1.222
|
Exercised
|
(336,427
)
|
(0.250
)
|
Forfeited
|
-
|
-
|
Expired
|
(26,573
)
|
(0.250
)
|
Outstanding
at end of period
|
17,572,583
|
$
0.453
|
Exerciseable
at end of period
|
17,572,583
|
|
A
summary of the status of the warrants outstanding as of
March 31, 2019
is presented
below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,507,286
|
3.50
|
$
0.250
|
13,507,286
|
$
0.250
|
714,286
|
2.33
|
0.700
|
714,286
|
0.700
|
882,159
|
2.62
|
1.000
|
882,159
|
1.000
|
2,442,185
|
4.93
|
1.20-1.50
|
2,442,185
|
1.20-1.50
|
20,000
|
4.92
|
2.34-4.08
|
20,000
|
2.34-4.08
|
6,667
|
-
|
30.000
|
6,667
|
30.000
|
17,572,583
|
3.78
|
$
0.453
|
17,572,583
|
$
0.453
|
The
significant weighted average assumptions relating to the valuation
of the Company’s warrants for the six months ended
March 31, 2019
were as
follows:
Assumptions
Dividend yield
|
0%
|
Expected life
|
1 yr
|
Expected volatility
|
125%
|
Risk free interest rate
|
2.0%
|
There were vested warrants of 16,613,757 as of March 31, 2019 with
an aggregate intrinsic value of $14,664,327.
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
six months ended March 31, 2019:
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
March 26, 2019, the Board awarded an employee a stock option grant
to acquire 10,000 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, the employee was granted
a stock option grant to acquire 130,000 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 $1.50 per
share and expire on March 26, 2024.
On
March 26, 2019, the Board awarded an employee a stock option grant
to acquire 10,000 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, the employee was granted
a stock option grant to acquire 130,000 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 $1.50 per
share and expire on March 26, 2024.
There are currently 2,282,668 options to purchase common stock at
an average exercise price of $1.757 per share outstanding as of
March 31, 2019 under the 2011 Stock Incentive Plan. The Company
recorded $263,145 and $7,334 of compensation expense, net of
related tax effects, relative to stock options for the six months
ended March 31, 2019 and 2018 and in accordance with ASC 505. Net
loss per share (basic and diluted) associated with this expense was
approximately ($0.010) and ($0.000) per share, respectively. As of
March 31, 2019, there is approximately $1,606,089, 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 4.69
years.
Stock option activity for the three months ended March 31, 2019 was
as follows:
|
|
|
|
|
|
|
|
Outstanding as of
September 30, 2018
|
2,182,668
|
$
1.698
|
$
3,706,519
|
Granted
|
100,000
|
3.030
|
303,000
|
Exercised
|
-
|
-
|
-
|
Forfeitures
|
-
|
-
|
-
|
Outstanding as of
March 31, 2019
|
2,282,668
|
$
1.757
|
$
4,009,519
|
The following table summarizes information about stock options
outstanding and exercisable as of March 31, 2019:
|
|
|
|
|
|
|
|
|
|
|
|
Range of
|
|
|
|
|
|
Exercise Prices
|
|
|
|
|
|
0.25
|
530,000
|
4.61
|
$
0.250
|
99,375
|
$
0.25
|
1.28
|
1,150,000
|
4.71
|
1.28
|
143,750
|
1.28
|
3.03
|
100,000
|
4.71
|
3.03
|
100,000
|
3.03
|
4.08-4.20
|
500,000
|
4.73
|
4.08-4.20
|
31,250
|
4.08-4.20
|
13.500
|
1,334
|
0.38
|
13.50
|
1,334
|
13.50
|
|
1,334
|
-
|
15.00
|
-
|
15.00
|
|
2,282,668
|
4.69
|
$
1.757
|
375,709
|
$
1.755
|
There were stock option grants of 530,000 shares as of March 31,
2019 with an aggregate intrinsic value of $535,300.
14.
OTHER SIGNIFICANT TRANSACTIONS WITH RELATED PARTIES
Related Party Transactions with Ronald P. Erickson
See Notes 10 and 13 for related party transactions with Ronald P.
Erickson.
Mr. Erickson and/or entities with which he is affiliated also have
accrued compensation, travel and interest of approximately $478,861
as of March 31, 2019.
Related Party Transaction with Phillip A. Bosua
See Note 13 for related party transactions with Phillip A.
Bosua.
Stock Option Grants to Directors
See Note 13 for related party transactions with
Directors.
15.
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.
Properties and Operating Leases
The Company is obligated under the following non-cancelable
operating leases for its various facilities and certain
equipment.
Years Ended March
31,
|
|
2020
|
$
187,652
|
2021
|
196,526
|
2022
|
5,816
|
2023
|
-
|
2024
|
-
|
Beyond
|
-
|
Total
|
$
389,994
|
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 expired on April 30,
2019.
On
February 1, 2019, the Company leased its lab facilities and
executive offices located at 915 E Pine Street, Suite 212, Seattle,
WA 98122. The Company leases 2,642 square feet and the net monthly
payment is $8,256. The monthly payment increases approximately 3%
on July 1, 2019 and annually thereafter. The lease expires on June
30, 2021 and can be extended.
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. TransTech terminated this lease effective May 31,
2019.
16.
SUBSEQUENT EVENTS
The Company evaluates subsequent events, for the purpose of
adjustment or disclosure, up through the date the financial
statements are available. Subsequent to March 31, 2019, there were
the following material transactions that require
disclosure:
Convertible Promissory Notes with Clayton A. Struve
As of March 31, 2019, the Company owes Clayton A. Struve $1,071,000
under convertible promissory or OID notes. The Company recorded
accrued interest of $58,411 as of March 31, 2019.
On May 8,
2019, the Company signed Amendment 2 to the convertible promissory
or OID notes, extending the due dates to September 30,
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 $41,361 as of March 31, 2019.
On May 8, 2019,
the Company signed Amendment 1 to the convertible redeemable
promissory notes, extending the due dates to September 30, 2019 and
increasing the interest rate to 6%.