NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
Earth Search Sciences, Inc. (“ESSI”) ceased all revenue generating activity during 2007.
We have one majority owned subsidiary, General Synfuels International (GSI). During fiscal year 2014 we dissolved all inactive subsidiaries: Skywatch Exploration, Inc., Polyspectrum Imaging, Inc., Geoprobe, Inc., STDC, Inc, Consolidated Exploration Technologies, Earth Search Resources, Inc., Eco Probe, Inc., ESSI Probe 1 LC, Petro Probe, Inc. and Terranet, Inc.
We did not generate any revenue during fiscal year 2013 and 2014, and have no current business operations.
These financial statements have not been reviewed or audited by our Independent Registered Public Accountants.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities 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.
CASH AND CASH EQUIVALENTS
We consider all highly liquid investments with a maturity of three months or less at the time of purchase to be cash equivalents.
FAIR MARKET VALUE OF FINANCIAL INSTRUMENTS
The estimated fair value of cash and cash equivalents, accounts receivable, accounts payable, accrued expenses and other liabilities approximate their carrying amounts in the financial statements.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, less accumulated depreciation. Depreciation on our property and equipment is recognized using the straight-line method over estimated useful lives ranging from five to ten years.
IMPAIRMENT OF LONG-LIVED ASSETS AND INTANGIBLE ASSETS
Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We evaluate long-lived assets to determine potential impairment by comparing the carrying amount to the undiscounted estimated future cash flows of the related assets.
Intangible valuation impairment is determined using similar processes. The main step is to determine potential impairment by comparing the carrying amount to the undiscounted estimated future cash flows of the related assets.
DERIVATIVE FINANCIAL INSTRUMENTS
Derivative instruments are not used to hedge exposures to cash flow, market, or foreign currency risks. Earth Search evaluates all of it 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 as charges or credits to income. For option-based simple derivative financial instruments, Earth Search uses the Black-Scholes option-pricing model to value the derivative instruments at inception and subsequent valuation dates. The classification of derivative instruments, including whether such instruments should be recorded as liabilities or as equity, is re-assessed at the end of each reporting period.
INCOME TAXES
We recognize deferred tax assets and liabilities based on differences between the financial reporting and tax bases of assets and liabilities using the enacted tax rates and laws that are expected to be in effect when the differences are expected to be recovered. We provide a valuation allowance for deferred tax assets for which it does not consider realization of such assets to be more likely than not.
NET LOSS PER COMMON SHARE
Net loss per common share has been computed based on the weighted average number of common shares outstanding. Common stock equivalents have not been considered in the diluted net loss per share calculation because their effect on net loss per share is anti-dilutive.
STOCK-BASED COMPENSATION
We issue stock as compensation to employees and outside consultants for services provided to the company. Employee share-based awards are accounted for in accordance with ASC 718, which requires us to measure the cost of employee services received based on the grant-date fair value of the award. We account for non-employee share-based awards in accordance with EITF No. 96-18, “Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquisition, or in Conjunction with Selling, Goods or Services.”
For the years ended March 31, 2014 and 2013, ESSI had no stock option issuances.
INVESTMENTS
For the year ended March 31, 2014 we did not hold any investments.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
We do not expect the adoption of any recently issued accounting pronouncements to have a significant impact on its financial position, results of operations or cash flows.
NOTE 2 - GOING CONCERN
As shown in the accompanying financial statements, we have a negative working capital of $22,957,014 as of March 31, 2013, which raise substantial doubt as to our ability to continue as a going concern. Management is trying to raise additional capital through sales of stock. The financial statements do not include any adjustments that might be necessary if we are unable to continue as a going concern.
NOTE 3 – ACCOUNTS PAYABLE – RELATED PARTIES
In the past, the Company’s management paid expenses on behalf of company for operation purpose. As of March 31, 2014 and 2013, the Company is indebted to related parties in the amount of $410,511 and $410,511, respectively.
NOTE 4 - NOTES PAYABLE
Notes payable consists of the following:
|
|
2014
|
|
2013
|
Installment note payable, secured by our assets, interest at 15% - in default
|
|
$
|
687,533
|
|
$
|
687,533
|
|
|
|
|
|
|
|
Installment note payable, no security, interest at 15% - in default
|
|
|
298,907
|
|
|
298,907
|
|
|
|
|
|
|
|
GSI promissory notes, no security, interest at 10%, - in default
|
|
|
1,354,000
|
|
|
640,000
|
|
|
|
|
|
|
|
Advance
|
|
|
-
|
|
|
-
|
|
|
|
|
|
|
|
Other
|
|
|
2,000
|
|
|
2,000
|
|
|
|
|
|
|
|
Total
|
|
$
|
2,342,440
|
|
$
|
1,628,440
|
As of March 31, 2013, our subsidiary General Synfuels International issued 10% promissory notes in the amount of $1,354,000 of which $89,000 is due from the company to former CEO Luis Lugo (net $640,000 is reflected in Notes Payable). The remaining $89,000 is reported in related party notes payable). These one year notes carry an automatic conversion into equity of GSI equity, at a price equal to 70% of the purchase price per share paid by equity investors, upon an equity financing in GSI of at least $3,000,000. If GSI is sold before conversion occurs an amount of 1.5 times the principal amount becomes due and payable. All of the notes are in default.
For the year ending March 31, 2014 and 2013, we recorded interest expense for notes payable of $423,191 and $442,441, respectively.
NOTE 5 – CONVERTIBLE NOTES PAYABLE AND DERIVATIVE LIABILITIES
Convertible notes payable consist of the following:
|
|
2014
|
|
|
2013
|
|
Current portion of convertible notes payable, net of discount of $0 and $5,613 respectively
|
|
$
|
2,753,000
|
|
|
$
|
2,747,387
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
2,753,000
|
|
|
$
|
2,747,387
|
|
As of August 30, 2013, we have $2,753,000 in convertible notes payable. The conversion option allows for a conversion price of $0.08 per common share and includes a reset provision that would lower the conversion rate to 80% of the price received for a share of common stock in any future qualified financing. ESSI evaluated the conversion option for derivative accounting consideration under ASC 815-15 and determined that the embedded conversion options should be classified as a liability and recorded at their fair value due to the above noted reset provision. The derivative liabilities were valued using the Black-Scholes Option Pricing Model and at the respective date of issuances were valued at $1,262,543 which was recorded as a discount against the convertible note payable and will be amortized into interest expense using the effective interest rate method over the terms of the notes. During the years ended March 31, 2014 and 2013, $5,613 and $213,502, respectively, of the discount was amortized. At March 31, 2014, the valuation of the derivative liability was $0.
During the year ended March 31, 2014 and 2013, the Company recognized a gain on derivative liabilities of $34,200 and $108,441, respectively as a result of the change in fair value of the derivative described above.
The Company values its conversion option derivatives using the Black-Scholes option-pricing model. Assumptions used in valuing the derivative liability at March 31, 2014 include (1) 0.05 – 0.19% risk-free interest rate, (2) remaining contractual term of the respective convertible note agreements are the expected term, (3) expected volatility ranging between 180% - 253%, (4) zero expected dividends (5) exercise price of $0.08 per share, (6) common stock price of the underlying share on the valuation date, and (7) number of shares to be issued if the instrument is converted.
NOTE 6 - NOTES PAYABLE TO RELATED PARTIES
We have financed our operations in part by funds received from shareholders. These advances are in the form of unsecured promissory notes and bear interest at rates ranging from 8% to 10%. Stockholder loans totaled $747,946 and $747,946 and accrued interest of $1,042,461 and $1,079,311 for 2014 and 2013, respectively. The principal balance is included in notes to related parties, along with $89,000 of convertible notes issued to related parties. (See Note 4)
During the year, we repaid accrued interest of $138,600 to the related parties.
NOTE 7 - ACCRUED OFFICERS' COMPENSATION
Accrued compensation consists of the cumulative unpaid compensation due to one corporate officer (Chairman &Chief Executive Officer) and three former corporate officers (Chief Executive Officer, Chief Financial Officer and Secretary). We recorded officer compensation of $250,000 and $375,000 during fiscal 2014 and 2013, respectively, and included these amounts in general and administrative expenses. Accrued officers’ compensation, including accrued interest and taxes, totaled $3,540,788 and $3,290,788 for 2014 and 2013 respectively and is included in accrued expenses.
NOTE 8 - INCOME TAXES
ESSI recorded no provision for income taxes in fiscal 2014 and 2014 due to the operating losses incurred from inception to date.
The tax effect of temporary differences between financial reporting and the tax bases of assets and liabilities relate to the following:
At March 31, 2013, deferred tax assets consisted of the following:
Deferred tax assets:
|
|
|
|
Net operating losses
|
|
$
|
10,030,525
|
|
Less: valuation allowance
|
|
|
(10,030,525
|
)
|
Net deferred tax asset
|
|
$
|
-
|
|
At March 31, 2014, deferred tax assets consisted of the following:
Deferred tax assets:
|
|
|
|
Net operating losses
|
|
$
|
10,555,255
|
|
Less: valuation allowance
|
|
|
(10,555,255
|
)
|
Net deferred tax asset
|
|
$
|
-
|
|
The cumulative net operating loss carry-forward is approximately $31,044,868 at March 31, 2014, and will expire in the years 2016 through 2031. The deferred tax asset has been fully reserved because we are unable to anticipate future taxable income to realize the potential benefits of the gross deferred tax asset.
The annual amount of tax loss carry forward, which can be utilized, may be limited due to the substantial changes in the company's ownership as defined by section 382 of the Internal Revenue Code. Such limitations could result in the expiration of a part or all of the loss carry forwards before their utilization.
NOTE 9 - COMMON STOCK
During fiscal 2014, we issued:
|
·
|
The Company received cash from the issuance of common stock. The Company issued 3,000,000 shares of common stock at $0.01 per share for a total of $40,000.
|
|
|
10,000,000 shares of stock for services valued at $40,000 using the grant-date quoted price of the stock. The 10,000,000 shares vest immediately and therefore $40,000 was expensed during the period.
|
During fiscal 2013, we issued:
|
·
|
The Company received cash from the issuance of common stock. The Company issued 1,169,500 shares of common stock at $0.06 per share for a total of $70,000.
|
NOTE 10 - SETTLEMENT AGREEMENT
On March 23, 2005, we entered into a settlement agreement with Accuprobe to return an airborne hyperspectral sensor (Probe) and to settle the outstanding obligations under the related capital lease. Under this agreement, we were required to return the Probe on or before August 31, 2005. Due to continuing disputes over various issues, the probe was not returned until 2007. As the Probe was not returned by the August 2005 due date, we were subject to a shipping, handling and disposition fee of $250,000. In addition, we were subject to interest charges that began accruing on September 2, 2005 at an annual rate of prime plus 4%; rent on the probe of $250,000 per year beginning April 10, 2000 with interest on any unpaid rent accruing at a rate of prime plus 2% through August 31, 2005. After August 31, 2005, interest related to the unpaid rent ceased and was replaced with a 5% late fee calculated on the entire balance due at the end of each month.
Because we were unable to reach Accuprobe and make arrangements for the return of the probe, in January 2007, we shipped the probe to an acquaintance of Accuprobe with instructions to hold the probe until Accuprobe provided further instructions. We obtained confirmation in December 2007 that Accuprobe had contacted the acquaintance and instructed them to begin certain repairs and calibrations on the probe. As a result of this confirmation, we discontinued accruing rent, interest and late fees on the probe.
The estimated settlement obligation as of March 31, 2014 and 2013 was $8,686,824.
NOTE 11 - PREFERRED STOCK
On July 9, 2009, we issued 31,250,000 shares of Series C Convertible Preferred Stock in exchange for $2,500,000 of convertible debt outstanding at that time. Each preferred share is convertible into one share of common at the holder’s option until July 9, 2014, at which time the preferred shares are automatically converted to common stock provided that the company is in compliance with certain terms. Holders of preferred shares have voting rights equal to the equivalent number of common shares and participate in any cash dividends declared by the Board of Directors. In addition, holders of the preferred shares have a preferential right over other classes of stock in the event of liquidation. Based on its characteristics, the preferred shares are reported as equity.
We evaluated the notes conversion features under FASB ASC 470 and determined that the convertible notes were settled with preferred stock and therefore do not meet the criteria for troubled debt restructuring or a modification of debt.
The Series C Convertible Preferred shares contain dividend participation and voting rights on an as converted basis. In addition, the Series C Convertible Preferred shareholders have preferential rights over other classes of stock in the event of liquidation. The conversion feature was evaluated under FASB ASC 815 and because the embedded feature is clearly and closely related to the host contract, it is classified as equity.
NOTE 12 - FAIR VALUE MEASUREMENTS
In September 2006, the FASB issued ASC 820 which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The provisions of ASC 820 were effective January 1, 2008. As defined in ASC 820, fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). The Company utilizes market data or assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market corroborated, or generally unobservable. The Company classifies fair value balances based on the observability of those inputs. ASC 820 establishes a fair value hierarchy that prioritizes the inputs used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurement) and the lowest priority to unobservable inputs (level 3 measurement).
The three levels of the fair value hierarchy defined by ASC 820 are as follows:
Level 1 – Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis. Level 1 primarily consists of financial instruments such as exchange-traded derivatives, marketable securities and listed equities.
Level 2 – Pricing inputs are other than quoted prices in active markets included in level 1, which are either directly or indirectly observable as of the reported date. Level 2 includes those financial instruments that are valued using models or other valuation methodologies. These models are primarily industry-standard models that consider various assumptions, including quoted forward prices for commodities, time value, volatility factors, and current market and contractual prices for the underlying instruments, as well as other relevant economic measures. Substantially all of these assumptions are observable in the marketplace throughout the full term of the instrument, can be derived from observable data or are supported by observable levels at which transactions are executed in the marketplace. Instruments in this category generally include non-exchange-traded derivatives such as commodity swaps, interest rate swaps, options and collars.
Level 3 – Pricing inputs include significant inputs that are generally less observable from objective sources. These inputs may be used with internally developed methodologies that result in management’s best estimate of fair value.
The following tables set forth assets and liabilities measured at fair value on a recurring and non-recurring basis by level within the fair value hierarchy as of March 31, 2013 and March 31, 2012. As required by ASC 820, financial assets and liabilities are classified in their entity based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the valuation of fair value assets and liabilities and their placement within the fair value hierarchy levels.
Liabilities Measured at Fair Value on a Recurring Basis
|
March 31, 2014
|
|
|
Level 1
|
Level 2
|
|
Level 3
|
|
|
Total
|
|
Derivative liabilities
|
|
|
|
$
|
0
|
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2013
|
|
|
Level 1
|
Level 2
|
|
Level 3
|
|
|
Total
|
|
Derivative liabilities
|
|
|
|
$
|
34,200
|
|
|
$
|
34,200
|
|
|
|
|
|
|
|
|
|
|
|
|
The derivatives listed above are carried at fair value. The fair value amounts in current period earnings associated with the Company’s derivatives resulted from Level 3 fair value methodologies; that is, the Company is able to value the liabilities based on observable market data for similar instruments. This observable data includes the quoted market prices and estimated volatility factors.
NOTE 13 – NON-CONTROLLING INTEREST
On June 7, 2011, the Company sold 104,167 common shares of GSI for $500,000 for 1% non-controlling ownership interest, resulting
in the reclassification of $21,390 from additional paid-in capital to non-controlling interest on that date. During the year ended March 31, 2014, $4,200 of losses were allocated to the non-controlling interest, resulting in non-controlling interest of $10,023 as of March 31, 2014.