GLYE GlyEco Inc (CE)

Notes to Consolidated Financial Statements

December 31, 2018 and 2017

NOTE 1 – Organization and Nature of Business

GlyEco, Inc. (the “Company”, “we”, or “our”) is a chemical company focused on technology development and manufacturing of coolants, additives, and related performance fluids. We serve and support the automotive, heavy-duty, and industrial markets with an unwavering commitment to customer service and quality. GlyEco Inc., located in Institute, West Virginia, is a vertically integrated company which manufactures ethylene glycol, additives, and finished fluids. Maintaining control over all core ingredients of its glycol-based performance fluids, and directly managing all aspects of the manufacturing process allows GlyEco Inc. to offer our customers the highest value with competitive costs.

On December 27, 2016, the Company purchased WEBA Technology Corp. (“WEBA”), a privately-owned company that develops, manufactures and markets additive packages for the antifreeze/coolant, gas patch coolants and heat transfer industries, and purchased 96.9% of Recovery Solutions & Technologies Inc. (“RS&T”), a privately-owned company involved in the development and commercialization of glycol recovery technology. On December 28, 2016, the Company purchased certain glycol distillation assets from Union Carbide Corporation (“UCC”), a wholly-owned subsidiary of The Dow Chemical Company, located in Institute, West Virginia (the “Dow Assets”). During the first quarter of fiscal year 2017 and fourth quarter of fiscal year 2018, the Company purchased an additional 2.9% and 0.20% respectively, of RS&T (for a total percentage ownership of 100% of RS&T).

The Company was formed in the State of Nevada on October 21, 2011.

We are currently comprised of the parent corporation GlyEco, Inc., WEBA, and RS&T. In January 2019, the Company completed the sale of processing and distribution centers related to our consumer segment (see Note 10).

Going Concern

The consolidated financial statements as of and for the year ended December 31, 2018 have been prepared assuming that the Company will continue as a going concern. The Company has experienced recurring losses from operations, has negative operating cash flows during the year ended December 31, 2018, has an accumulated deficit of $47,310,534 as of December 31, 2018 and is dependent on its ability to raise capital from stockholders or other sources to sustain operations. These factors raise substantial doubt about the Company’s ability to continue as a going concern. Ultimately, we plan to achieve profitable operations through the implementation of operating efficiencies at our facilities and increased revenue through the offering of additional products and the expansion of our geographic footprint through acquisitions, broader distribution from our current facilities and/or the opening of additional facilities. The consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties.

Stock Split

On July 10, 2018, the Company effected a reverse stock split of its common stock, immediately followed by a forward stock split of its common stock. The ratio for the reverse stock split was fixed at 1-for-500 and the ratio for the forward stock split was fixed at 4-for-1, resulting in a net reverse split of 125-for-1. All share and per share information in this Annual Report on Form 10-K has been retroactively adjusted to reflect the reverse stock split.

NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies

Basis of Presentation

The accompanying consolidated financial statements have been prepared by the Company in accordance with accounting principles generally accepted in the United States of America (“GAAP”), and pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”).

Principles of Consolidation

These consolidated financial statements include the accounts of GlyEco, Inc., and its wholly-owned and majority-owned subsidiaries. All significant intercompany transactions have been eliminated as a result of consolidation.

Noncontrolling Interests

The Company recognizes noncontrolling interests as equity in the consolidated financial statements separate from the parent company’s equity. Noncontrolling interests’ partners have less than 50% share of voting rights at any one of the subsidiary level companies. The amount of net income (loss) attributable to noncontrolling interests is included in consolidated net income (loss) on the face of the consolidated statements of operations. Changes in a parent entity’s ownership interest in a subsidiary that do not result in deconsolidation are treated as equity transactions if the parent entity retains its controlling financial interest. The Company recognizes a gain or loss in net income (loss) when a subsidiary is deconsolidated. Such gain or loss is measured using the fair value of the noncontrolling equity investment on the deconsolidation date. Additionally, operating losses are allocated to noncontrolling interests even when such allocation creates a deficit balance for the noncontrolling interest partner.

The Company provides either in the consolidated statements of stockholders’ equity, if presented, or in the notes to consolidated financial statements, a reconciliation at the beginning and the end of the period of the carrying amount of total equity (net assets), equity (net assets) attributable to the parent, and equity (net assets) attributable to the noncontrolling interest that separately discloses:

There were no noncontrolling interests as of December 31, 2018 and noncontrolling interests were not significant as of December 31, 2017.

Operating Segments

As a result of the sale of the consumer assets, the Company operates as one segment.

Use of Estimates

The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported revenues and expenses during the reporting periods. Because of the use of estimates inherent within the financial reporting process, actual results may differ significantly from those estimates.  Significant estimates include, but are not limited to, items such as the allowance for doubtful accounts, the value of share-based compensation and warrants, the recoverability of property, plant and equipment, goodwill, other intangibles and the determination of their estimated useful lives, contingent liabilities, valuation of deferred tax assets and environmental and asset retirement obligations. Due to the uncertainties inherent in the formulation of accounting estimates, it is reasonable to expect that these estimates could be materially revised within the next year.

Revenue Recognition

The Company’s significant accounting policy for revenue was updated as a result of the adoption of Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers (Topic 606)” (“ASU 2014-09”) and the associated ASU’s (collectively “Topic 606”) in the first quarter of 2018. 

The Company recognizes revenue when its customer obtains control of promised goods or services in an amount that reflects the consideration which the Company expects to receive in exchange for those goods or services. To determine revenue recognition for the arrangements that the Company determines are within the scope of Topic 606, the Company performs the following five steps: (1) identify the contract(s) with a customer; (2) identify the performance obligations in the contract; (3) determine the transaction price; (4) allocate the transaction price to the performance obligations in the contract; and (5) recognize revenue when (or as) the entity satisfies a performance obligation.

Costs and Expenses

Cost of goods sold includes all direct material and labor costs and those indirect costs of bringing raw materials to sale condition, including depreciation of equipment used in manufacturing and shipping and handling costs. Selling, general and administrative costs are charged to operating expenses as incurred. Research and development costs, which are expensed as incurred and are included in operating expenses, were insignificant in the years ended December 31, 2018 and 2017. Advertising costs are expensed as incurred.

Accounts Receivable

Accounts receivable are recognized and carried at the original invoice amount less an allowance for expected uncollectible amounts. Inherent in the assessment of the allowance for doubtful accounts are certain judgments and estimates including, among others, the customer’s willingness or ability to pay, the Company’s compliance with customer invoicing requirements, the effect of general economic conditions and the ongoing relationship with the customer. Accounts with outstanding balances longer than the payment terms are considered past due. We do not charge interest on past due balances. The Company writes off trade receivables when all reasonable collection efforts have been exhausted. Bad debt expense is reflected as a component of general and administrative expenses in the consolidated statements of operations. The allowance for doubtful accounts totaled $6,427 and $103,027 as of December 31, 2018 and 2017, respectively, for continuing operations.

Inventories

Inventories are reported at the lower of cost and net realizable value. The cost of raw materials, including feedstocks and additives, is determined on an average unit cost of the units in a production lot. Work-in-process represents labor, material and overhead costs associated with the manufacturing costs at an average unit cost of the units in the production lot. Finished goods represents work-in-process items with additive costs added. The Company periodically reviews its inventories for obsolete or unsalable items and adjusts its carrying value to reflect estimated net realizable values.  Net realizable value is the estimated selling price in the ordinary course of business less the costs to sell.

Property, Plant and Equipment

Property, plant and equipment is stated at cost. The Company provides for depreciation on the cost of its equipment using the straight-line method over an estimated useful life, ranging from three to twenty years, and zero salvage value. Expenditures for repairs and maintenance are charged to expense as incurred.

For purposes of computing depreciation, the useful lives of property, plant and equipment are as follows:

Goodwill and Other Intangible Assets

We account for an acquisition of a business, as defined in Accounting Standards Codification (“ASC”) Topic 805 “Business Combinations”, as required by an analysis of the inputs, processes and outputs associated with the transaction. Intangible assets that we acquire are recognized separately if they arise from contractual or other legal rights or if they are separable and are recorded at fair value less accumulated amortization. We analyze intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. We review the amortization method and period at least at each balance sheet date. The effects of any revisions are recorded in operations when the change arises. We recognize impairment when the estimated undiscounted cash flows generated by those assets is less than the carrying amounts of such assets. The amount of impairment is the excess of the carrying amount over the fair value of such assets.

Goodwill is recorded as the excess of (i) the consideration transferred, the amount of any non-controlling interest in the acquiree and the acquisition date fair value of any previous equity interest in the acquired entity over the (ii) fair value of the net identifiable assets acquired. We do not amortize goodwill; however, we annually, or whenever there is an indication that goodwill may be impaired, evaluate qualitative factors to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step quantitative goodwill impairment test. The Company measures the carrying amount of the asset against the estimated undiscounted future cash flows associated with it. Should the sum of the expected future net cash flows be less than the carrying value of the asset being evaluated, an impairment loss would be recognized. The impairment loss would be calculated as the amount by which the carrying value of the assets exceeds fair value. Any future increases in fair value would not result in an adjustment to the impairment loss that may be recorded in our consolidated financial statements. Our test of goodwill impairment includes assessing qualitative factors and the use of judgment in evaluating economic conditions, industry and market conditions, cost factors, and entity-specific events, as well as overall financial performance. Based on our analysis, no impairment loss of goodwill was recorded in 2018 and 2017 as the carrying amount of the reporting unit’s assets did not exceed the estimated fair value determined.

Impairment of Long-Lived Assets

Property, plant and equipment, purchased intangibles subject to amortization and patents and trademarks, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized in the amount by which the carrying amount of the asset exceeds the fair value of the asset. Assets to be disposed of would be separately presented in the consolidated balance sheet and reported at the lower of the carrying amount or fair value less costs to sell, and are no longer depreciated. The assets and liabilities of a disposal group classified as held-for-sale would be presented separately in the appropriate asset and liability sections of the consolidated balance sheet, if material.

Fair Value of Financial Instruments

The Company has adopted the framework for measuring fair value that establishes a fair value hierarchy that prioritizes the inputs to valuation techniques 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 measurements) and lowest priority to unobservable inputs (Level 3 measurements).

The three levels of inputs that may be used to measure fair value are as follows:

Cash and restricted cash, accounts receivable, accounts payable and accrued expenses, amounts due to and from related parties and current portion of capital lease obligations and notes payable are reflected in the consolidated balance sheets at their estimated fair values primarily due to their short-term nature. As to long-term capital lease obligations and notes payable, estimated fair values are based on borrowing rates currently available to the Company for loans with similar terms and maturities.

The Company classifies its contingent acquisition consideration liability in connection with the acquisition of WEBA within the Level 3 category, as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. At the time of the acquisition, the Company estimated the fair value of the contingent consideration liability, which consisted of revenue and net income based milestones, using assumptions including estimated revenues (based on internal budgets and long-range strategic plans), discount rates, probability of payment and projected payment dates. Any change in these assumptions could result in a significantly higher (lower) fair value measurement. The fair value of the contingent consideration is remeasured each reporting period. During the fourth quarter of 2018 and 2017, the Company reversed $687,443 and $241,910, respectively, of the contingent consideration liability since the 2018 and 2017 milestones were not met. There were no other changes to the estimated fair value of the contingent acquisition consideration liability during the years ended December 31, 2018 and 2017.

Changes in our contingent acquisition consideration liability were as follows:

Deferred Financing Costs, Debt Discount and Detachable Debt-Related Warrants

Costs incurred in connection with debt are deferred and recorded as a reduction to the debt balance in the accompanying consolidated balance sheets. The Company amortizes debt issuance costs over the expected term of the related debt using the effective interest method. Debt discounts relate to the relative fair value of warrants issued in conjunction with the debt and are also recorded as a reduction to the debt balance and amortized over the expected term of the debt to interest expense using the effective interest method.

Net Loss per Share Calculation

The basic net loss per common share is computed by dividing the net loss available to common shareholders by the weighted average number of common shares outstanding during a period. Diluted loss per common share is computed by dividing the net loss available to common shareholders by the weighted average number of common shares outstanding plus potentially dilutive securities. The Company’s potentially dilutive securities outstanding are not shown in a diluted net loss per share calculation because their effect in both 2018 and 2017 would be anti-dilutive. At December 31, 2018, these potentially dilutive securities included warrants to purchase 104,957 shares of common stock and stock options to purchase 25,941 shares of common stock for a total of 130,898 shares of common stock. At December 31, 2017, these potentially dilutive securities included warrants to purchase 42,485 shares of common stock and stock options to purchase 27,101 shares of common stock for a total of 69,586 shares of common stock.

Income Taxes

The Company accounts for its income taxes in accordance with ASC 740, “Income Taxes,” which requires recognition of deferred tax assets and liabilities for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in operations in the period that includes the enactment date. An allowance for the deferred tax asset is established if it is more likely than not that the asset will not be realized.

Share-based Compensation

All share-based payments to employees and non-employee directors, including grants of employee stock options, are expensed based on their estimated fair values at the grant date, in accordance with ASC 718 "Compensation-Stock Compensation”. Compensation expense for share-based payments to employees and directors is recorded over the vesting period using the estimated fair value on the date of grant, as calculated by the Company using the Black-Scholes-Merton (“BSM”) option-pricing model or the Monte Carlo Simulation. For awards with only service conditions that have graded vesting schedules, compensation cost is recorded on a straight-line basis over the requisite service period for the entire award, unless vesting occurs earlier. For awards with market conditions, compensation cost is recorded on the accelerated attribution method over the derived service period.

Non-employee share-based compensation is accounted for based on the fair value of the related stock or options, using the BSM, or the fair value of the goods or services on the measurement date, whichever is more readily determinable.

Discontinued Operations

Our consumer segment, which was sold subsequent to year end, was classified as discontinued operations in the consolidated balance sheets at December 31, 2018 and in the consolidated statements of operations, in accordance with ASC 205-20 “Presentation of Financial Statements”, ASC 360-10 “Property Plant and Equipment” and ASC 350-20 “Intangibles-Goodwill and Other Goodwill”. Cash flows and operations that relate to the consumer segment are shown separately from continuing operations. Assets and liabilities classified as discontinued operations are measured at the lower of carrying amount and fair value less costs to sell. Assets, liabilities and results of operations in the prior year have been reclassified as discontinued operations.

Recently Issued Accounting Pronouncements

There have been no recent accounting pronouncements or changes in accounting pronouncements that are of significance, or potential significance to the Company, except as discussed below.

In the first quarter of 2018, the Company adopted ASU 2014-09, which is the new comprehensive revenue recognition standard that supersedes the revenue recognition requirements in Topic 605, “Revenue Recognition,” and most industry specific guidance. The core principle of ASU 2014-09 is that a company will recognize revenue when it transfers promised goods or services to a customer in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In 2015 and 2016, FASB issued additional ASUs related to Topic 606 that delayed the effective date of ASU 2014-09 and clarified various aspects of the new revenue guidance, including principal versus agent considerations, identification of performance obligations, and accounting for licenses, and included other improvements and practical expedients. ASU 2014-09 was effective for annual and interim periods beginning after December 15, 2017. The Company elected to adopt ASU 2014-09 using the modified retrospective transition method for all contracts not completed as of the date of adoption. The adoption of the new guidance did not have a material impact on the consolidated financial statements. See “Revenue Recognition” in Note 3 for additional disclosures regarding the Company’s revenue recognition policies and contracts with customers.

In February 2016, the FASB issued ASU 2016-02, “Leases”, which requires the lease rights and obligations arising from lease contracts, including existing and new arrangements, to be recognized as assets and liabilities on the balance sheet. ASU 2016-02 is effective for reporting periods beginning after December 15, 2018 with early adoption permitted. While the Company is still evaluating ASU 2016-02, the Company expects the adoption of ASU 2016-02 will not have a material effect on the Company’s consolidated financial condition due to the recognition of the lease rights and obligations as assets and liabilities. Lessees must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees may not apply a full retrospective transition approach.  The new lease standard will be effective for us in the first quarter of 2019 as we adopt the modified retrospective approach. Based on the sale of the consumer segment, we do expect the adoption to have a material impact on the consolidated financial statements.

In August 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows: Classification Restricted Cash”, which requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The Company adopted this standard in the first quarter of 2018 by using the retrospective transition method, which required the following disclosures and changes to the presentation of its consolidated financial statements: cash and restricted cash reported on the consolidated statements of cash flows now includes restricted cash of $6,642 and $76,552 as of December 31, 2017 and 2016, respectively.

NOTE 3 – Revenue

Revenue Recognition

All of the Company’s revenue is derived from product sales. As of January 1, 2018, the Company accounts for revenue in accordance with ASU 2014-09.

Product sales consist of sales of the Company’s products to manufacturers and distributors. The Company considers order confirmations or purchase orders, which in some cases are governed by master supply agreements, to be contracts with a customer. Product sale contracts are short-term contracts where the time between order confirmation and satisfaction of all performance obligations is less than one year.

Revenues from product sales are recognized when the customer obtains control of the Company’s product, which occurs at a point in time, usually upon shipment, with payment terms typically in the range of 30 to 60 days after invoicing, depending on business and geographic region. When the Company performs shipping and handling activities after the transfer of control to the customer (e.g., when control transfers prior to shipment), these are considered fulfillment activities, and accordingly, the costs are accrued when the related revenue is recognized. The Company has no obligations for returns and warranties. Taxes collected from customers relating to product sales and remitted to governmental authorities are excluded from revenues.

Disaggregation of Revenue

The Company disaggregates its revenue from contracts with customers by principal product group and geographic region, as the Company believes it best depicts the nature, amount, timing and uncertainty of its revenue and cash flows. See details in the table below:

Contract Balances

Accounts receivable are recorded when the right to consideration becomes unconditional. The Company does not have any contract assets as of December 31, 2018 and 2017. The Company has utilized the practical expedient which enables the Company to expense commissions when incurred as they would be amortized over one year or less. 

Contract liabilities consist of deposits made by customers for goods that have not yet been delivered. Once delivery is made the liability is reduced and the revenue is recognized. As of December 31, 2018 and 2017, the Company had $274,103 and $0, respectively, in customer deposits.

Depreciation expense recorded during the years ended December 31, 2018 and 2017 was $293,954 and $206,335, respectively.

We compute amortization using the straight-line method over the estimated useful lives of the intangible assets. The Company has no indefinite-lived intangible assets other than goodwill.

 Aggregate amortization expense included in general and administrative expenses for the years ended December 31, 2018 and 2017 totaled $425,279 and $428,721, respectively. The following table represents the total estimated amortization of intangible assets for future years:

NOTE 7 – Income Taxes

For the years ended December 31, 2018 and 2017, there was a provision for income taxes of $13,106 and $49, respectively. The Company’s income tax expense as of December 31, 2018 and 2017 include the expected state income taxes for the states in which our subsidiaries operate. There is no provision for federal income taxes because we have historically incurred net operating losses, and we maintain a full valuation allowance against our net deferred tax asset.

The provision for income taxes is as follows for the years ended December 31, 2018 and 2017:

The differences between our effective income tax rate and the U.S. federal income tax rate for the years ended December 31, 2018 and 2017 are:

As of December 31, 2018 and 2017, the Company had net operating loss (NOL) carryforwards of approximately $39,766,346 and $34,491,076, respectively. The federal tax loss carryforward of $4,517,054 does not expire and are subject to 80% limitation due to the tax law change of 2017. The remaining federal tax loss carryforwards of $35,249,292 and state tax loss carryforwards begin to expire in 2027 and 2032, respectively, unless previously utilized. Because management is unable to determine that it is more likely than not that the Company will realize the tax benefit related to the NOL carryforward, by having taxable income, a valuation allowance has been established as of December 31, 2018 and 2017 to reduce the tax benefit asset value to zero.

The deferred tax assets, including a valuation allowance, are as follows at December 31:

The change in the valuation allowance for deferred tax assets for the years ended December 31, 2018 and 2017 was $(1,233,000) and $2,988,000, respectively. In assessing the recovery of the deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income in the periods in which those temporary differences become deductible. Management considers the scheduled reversals of future deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. As a result, management determined it was more likely than not the deferred tax assets would not be realized as of December 31, 2018 and 2017, and recorded a full valuation allowance.

Pursuant to Section 382 of the Internal Revenue Code of 1986, the annual utilization of a company's net operating loss carryforwards could be limited if the Company experiences a change in ownership of more than 50 percentage points within a three-year period. An ownership change occurs with respect to a corporation if it is a loss corporation on a testing date and, immediately after the close of the testing date, the percentage of stock of the corporation owned by one or more five-percent shareholders has increased by more than 50 percentage points over the lowest percentage of stock of such corporation owned by such shareholders at any time during the testing period. The Company has not performed an analysis to determine if any ownership changes have occurred that may limit the use of the Company’s loss carryforwards.

The Company applies the provisions of ASC 740 related to accounting for uncertain tax positions and concluded there were no significant tax positions associated with the Company requiring accrual of a liability. As of December 31, 2018, the Company has not accrued for any such positions. The Company is currently not under audit for federal or state tax purposes. The Company does not expect a significant change to occur within the next 12 months.

On December 22, 2017, the President of the United States signed into law the Tax Cuts and Jobs Act which, among a broad range of tax reform measures, reduced the U.S. corporate tax rate from 35% to a flat 21% effective January 1, 2018. The reduction in the U.S. corporate tax rate required the Company to remeasure the federal portion of deferred tax assets and liabilities at December 31, 2017 to the enacted tax rate expected to apply when the temporary differences are to be realized. The Company provisionally recorded $4.2 million of expense related, offset by a full valuation allowance, for the remeasurement of its deferred tax assets and liabilities. As of December 31, 2018, the Company completed its accounting for the tax effects of the enactment of the 2017 Act which resulted in immaterial adjustments to provisional estimates, offset by a full valuation allowance.

2018 Related Party 10% Unsecured Notes

On April 6, 2018, the Company commenced a private placement (“Private Placement”) of 10% Senior Unsecured Promissory Notes (the “10% Notes”) and (ii) warrants (the “Warrants”) to purchase up to 100,000 shares of common stock of the Company, that were issued pursuant to a subscription agreement. The 10% Notes bear interest at a rate of 10% per annum, and is due on the maturity date or as otherwise specified by the 10% Notes. The Warrants have an exercise price per share of $6.25, are immediately exercisable and expire on April 6, 2021.

The Company closed the first tranche of the Private Placement on April 6, 2018, with Wynnefield Partners Small Cap Value I, L.P. and Wynnefield Partners Small Cap Value, L.P., (“Wynnefield Funds”), which are under the management of Wynnefield Capital, Inc. (“Wynnefield Capital”), with respect to 10% Notes with an aggregate principal amount of $1,000,000, and Warrants to purchase an aggregate of 40,000 shares of common stock. This tranche of the Private Placement is scheduled to mature on May 4, 2019.

The Company closed the second tranche of the Private Placement on April 10, 2018, with one of its directors, Charles F. Trapp, with respect to a 10% Note with a principal amount of $50,000, and a Warrant to purchase 2,000 shares of common stock. This tranche of the Private Placement is scheduled to mature on May 9, 2019. 

The Company closed a third tranche of the Private Placement on May 1, 2018 with Ian Rhodes, the Company’s former Chief Executive Officer and a former director, with respect to a 10% Note with a principal amount of $50,000 and a Warrant to purchase 2,000 shares of common stock. This tranche of the Private Placement is scheduled to mature on June 1, 2019. 

The Company closed a fourth tranche of the Private Placement on May 4, 2018 with the Wynnefield Funds managed by Wynnefield Capital, for an aggregate principal amount of $1,000,000 of 10% Notes, and Warrants to purchase an aggregate of 40,000 shares of common stock. This tranche of the Private Placement is scheduled to mature on May 6, 2019.

The Company allocated the proceeds received from the 10% Notes and the Warrants on a relative fair value basis at the time of issuance. The total debt discount of $300,297, including the relative fair value of the Warrants and the debt issuance costs will be amortized over the life of the 10% Notes to interest expense using the effective interest method. Amortization expense during the year ended December 31, 2018 was $216,554.

We estimated the fair value of the Warrants on the issuance date using a BSM option pricing model with the following assumptions:

The proceeds of the Notes were allocated to the components as follows: 

2018 Secured Note

In September 2018, the Company entered into a secured promissory note with MHC Financial (the “2018 Secured Note”). The 2018 Secured Note is collateralized by a vehicle. The key terms of the 2018 Secured Note includes: (i) an original principal balance of $74,600, (ii) interest rate of 8.74%, and (iii) term of 3.5 years.

2018 and 2017 Unsecured Note

In October 2017, and later amended in January 2018, the Company entered into an unsecured note with Bank Direct to finance its insurance premiums (the “2018 and 2017 Unsecured Note”). The key terms of the 2018 and 2017 Unsecured Note include: (i) an original principal balance of $242,866, (ii) an interest rate of 5.4%, and (iii) a term of ten months. This loan has been paid in full.

2017 Secured Note

In July 2017, the Company entered into a secured promissory note with PACCAR Financial (the “2017 Secured Note”). The 2017 Secured Note is collateralized by vehicles. The key terms of the 2017 Secured Note includes: (i) an original principal balance of $116,655, (ii) interest rate of 7.95%, and (iii) a term of 5 years.

2016 Secured Notes

In January and April 2016, the Company entered into secured promissory notes with Ascentium Capital. In July and September 2016, the Company entered into secured promissory notes with PACCAR Financial. In November 2016, the Company entered into secured promissory notes with MHC Financial Services, Inc. (collectively, the “2016 Secured Notes”). The key terms of the 2016 Secured Notes include: (i) an aggregate original principal balance of $437,000, (ii) interest rates ranging from 4.0% to 9.0%, and (iii) terms of 4-5 years. The 2016 Secured Notes are collateralized by vehicles and equipment.

WEBA Seller Notes

In connection with the WEBA acquisition, the Company issued $2.65 million in 8% promissory notes (“Seller Notes”). The Seller Notes mature on December 27, 2021. The Seller Notes bear interest at a rate of 8% per annum payable on a quarterly basis in arrears. The Seller Notes contain standard default provisions, including: (i) failure to repay the Seller Note when it is due at maturity; (ii) failure to pay any interest payment when due; (iii) failure to deliver financial statements on time; and (iv) other standard events of default.

NOTE 9 – Stockholders’ Equity

Preferred Stock

The Company’s articles of incorporation authorize the Company to issue up to 40,000,000 shares of preferred stock, par value $0.0001 per share, having preferences to be determined by the Board of Directors of the Company for dividends and liquidation of the Company’s assets. Of the 40,000,000 shares of preferred stock the Company is authorized to issue by its articles of incorporation, the Board of Directors has designated up to 3,000,000 shares as Series AA Preferred Stock. 

As of December 31, 2018 and 2017, the Company had no shares of preferred stock outstanding. 

Common Stock

As of December 31, 2018, the Company has 1,358,597 shares of common stock, par value $0.0001, outstanding. The Company’s articles of incorporation authorize the Company to issue up to 300,000,000 shares of common stock. The holders are entitled to one vote for each share on matters submitted to a vote to shareholders, and to share pro rata in all dividends payable on common stock after payment of dividends on any shares of preferred stock having preference in payment of dividends.

Equity Incentive Program

On December 18, 2014, the Company’s Board of Directors approved an Equity Incentive Program (the “Equity Incentive Program”), whereby the Company’s employees could elect to receive equity in lieu of cash for all or part of their salary compensation.

2017 Employee Stock Purchase Plan

On September 29, 2017, subject to stockholder approval, the Company’s Board of Directors approved the Company’s 2017 Employee Stock Purchase Plan (the “2017 ESPP”). The 2017 ESPP was approved by the Company’s stockholders at the Company’s 2017 Annual Meeting of Stockholders on November 14, 2017.

Under the 2017 ESPP, the Company may grant eligible employees the right to purchase our common stock through payroll deductions at a price equal to the lesser of eighty five percent (85%) of the fair market value of a share of common stock on the exercise date of the current offering period or eighty five percent (85%) of the fair market value of our common stock on the grant date of the then current offering period. The first offering period began on November 14, 2017. Thereafter, there will be consecutive six-month offering periods until January 2, 2022, or until the 2017 ESPP is terminated by the Board of Directors of the Company, if earlier. 

The Company recorded stock-based compensation expense related to the 2017 ESPP of approximately $12,000 for the year ended December 31, 2018.

During the year ended December 31, 2018, the Company issued the following shares of common stock for compensation:

During the year ended December 31, 2018, the Company issued an aggregate of 1,200 shares of common stock to an employee of the Company pursuant to the Company’s Equity Incentive Program at a price of $7.50.

During the year ended December 31, 2018, the Company issued an aggregate of 31,355 shares of common stock to directors of the Company pursuant to the Company’s Fiscal Year 2017 Director Compensation Plan at prices ranging from $6.38 to $8.13.

During the year ended December 31, 2018, the Company issued an aggregate of 3,778 shares of common stock to eight employees of the Company pursuant to the Company’s ESPP at a price of $5.38 per share.

During the year ended December 31, 2017, the Company issued the following shares of common stock for compensation:

During the year ended December 31, 2017, the Company issued an aggregate of 5,841 shares of common stock to employees of the Company pursuant to the Company’s Equity Incentive Program at prices ranging from $10.00 to $15.00.

During the year ended December 31, 2017, the Company issued an aggregate of 21,080 shares of common stock to directors of the Company pursuant to the Company’s Fiscal Year 2017 Director Compensation Plan at prices ranging from $9.63 to $15.00.

On February 13, 2017, the Company issued an aggregate of 1,280 shares of common stock to two employees of the Company as compensation at a price of $15.63 per share.

During the year ended December 31, 2017, the Company issued the following shares of common stock in connection with the exercise of warrants:

On May 11, 2017, the Company issued an aggregate of 27,500 shares to accredited investors in connection with the exercise of warrants at an exercise price of $10.00 per share.

On August 10, 2017, the Company issued an aggregate of 6,250 shares to accredited investors in connection with the exercise of warrants at an exercise price of $10.00 per share.

In June 2017, the Board of Directors approved the issuance of 8,000 restricted shares of common stock of the Company. The initial value of the restricted stock grant was $72,099, which is being amortized over the estimated service period. These shares will be issued to certain executives upon the Company meeting the following bench marks: 50% will vest when the price per share of the Company’s common stock, based upon a 30-trading day VWAP, is equal to at least $25.00 per share and 50% will vest when the price per share of the Company’s common stock, based upon a 30-trading day VWAP, is equal to at least $43.75 per share.

Throughout the year ended December 31, 2017, the Board of Directors approved the issuance of 17,600 restricted shares of common stock of the Company. The initial value of the restricted stock grant was $150,258, which is being amortized over the estimated service period. These shares will be issued to certain executives and employees upon vesting, which will occur when the price per share of the Company’s common stock, measured and approved based upon a 30-day trading VWAP, is equal to at least $25.00 per share.

On December 29, 2017, the Board of Directors approved the issuance of 16,800 restricted shares of common stock of the Company. These shares will be issued to certain executives upon vesting: 50% of the grant upon the Company reporting its first quarter positive Adjusted EBITDA (as presented by the Company) and 50% of the grant upon the Company reporting its first quarter positive Net Income (GAAP). The value of the shares of $6.25 per share was based on the fair market value of the Company’s common stock on the date of the issuance was approved. The Company will expense the value of the shares when it determines it is probable the performance targets will be achieved. There was no expense recorded during the years ended December 31, 2018 and 2017.

On April 20, 2018, the Board of Directors approved the issuance of 15,640 restricted shares of common stock of the Company. These shares will be issued to certain executives upon vesting: 50% of the grant upon the Company reporting its first quarter positive Adjusted EBITDA (as presented by the Company) and 50% of the grant upon the Company reporting its first quarter positive Net Income (GAAP). The value of the shares of $4.55 per share was based on the fair market value of the Company’s common stock on the date of the issuance was approved. The Company will expense the value of the shares when it determines it is probable the performance targets will be achieved. There was no expense recorded during the year ended December 31, 2018.

A summary of the Company's restricted stock awards (including shares approved but not issued) is presented below:

During the year ended December 31, 2018 and 2017, the Company recorded $55,289 and $181,004 respectively, related to the performance and market-based restricted stock awards. 

Options and Warrants

During the year ended December 31, 2018, the Company issued warrants to purchase an aggregate of 84,000 shares of common stock in connection with the issuance of notes payable (see Note 8).

During the year ended December 31, 2017, the Company issued 33,750 shares of common stock in connection with the exercise of stock warrants at an exercise price of $10.00 per share for total proceeds of $337,500 (see Note 11 for additional information about stock options and warrants).

NOTE 10 – Business Combinations and Discontinued Operations

WEBA

On December 27, 2016, the Company entered into a Stock Purchase Agreement (“WEBA SPA”) with WEBA, a privately-owned company that develops, manufactures and markets additive packages for the antifreeze/coolant, gas patch coolants and heat transfer industries. Pursuant to the WEBA SPA, the Company acquired all of the WEBA shares from the WEBA sellers for $150,000 in cash and $2.65 million in 8% Promissory Notes (see Note 8). In addition, the WEBA sellers may be entitled to receive earn-out payments of up to an aggregate of $2,500,000 for calendar years 2017, 2018, and 2019 based upon terms set forth in the WEBA SPA. The Company also issued 45,000 shares as repayment of $450,000 of notes payable due to the WEBA sellers. The fair market value of the shares was $12.50 on the date of issuance. Following the WEBA acquisition, WEBA became a wholly owned subsidiary of the Company.

We accounted for the acquisition of WEBA as required under applicable accounting guidance. Tangible assets acquired are recorded at fair value. Identifiable intangible assets that we acquired are recognized separately if they arise from contractual or other legal rights or if they are separable and are recorded at fair value. Goodwill is recorded as the excess of the consideration transferred over the fair value of the net identifiable assets acquired. The earn-out payment liability was recorded at its estimated fair value of $1,745,023.

During the years ended December 31, 2018 and 2017, the Company decreased the contingent acquisition consideration liability amount related to the earn-out payment and recognized a credit to general and administrative expenses of $687,443 and $241,910 respectively, due to the fiscal 2018 and 2017 revenue and earnings milestones not being met. The contingent acquisition consideration liability was $815,670 and $1,509,755 at December 31, 2018 and 2017, respectively.

Discontinued Operations

On January 11, 2019, we completed the sale (the “Asset Sale”) of our route antifreeze collection and re-distillation segment (the “Consumer Segment”) to Heritage-Crystal Clean, LLC (the “Purchaser”) pursuant to the terms of an asset purchase agreement, effective as of January 11, 2019 (the “Closing Date”), by and among the Purchaser, the Company and certain subsidiaries of the Company listed therein (the “Asset Purchase Agreement”). In consideration for the assets, the Purchaser paid the Company a purchase price of $1,417,000 in cash, which price is subject to adjustment based on the delivered value of the working capital of the Consumer Segment, to be determined within 90 days after the Closing Date, as well as a $100,000 damage hold back, to be paid to the Company within 30 days of the closing of the Asset Sale (the “Closing”). Other than the assumption of loan payments related to certain vehicle financings, no debt or significant liabilities were assumed by the Purchaser in the Asset Sale.

The loss from discontinued operations in the consolidated statements of operations includes the following:

The carrying amount of assets and liabilities included in discontinued operations comprise the following:

We account for all stock-based payment awards made to employees and directors based on estimated fair values. We estimate the fair value of share-based payment awards on the date of grant using an option-pricing model and the value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service period. 

We use the BSM option-pricing model as our method of valuation. The fair value is amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period. The fair value of share-based payment awards on the date of grant as determined by the BSM model is affected by our stock price as well as other assumptions. These assumptions include, but are not limited to:

There were no options granted during the years ended December 31, 2018 and 2017.

The Company recorded expense of $0 and $7,500 for vesting of outstanding options during the years ended December 31, 2018 and 2017, respectively.

At December 31, 2018, there is no amount of unearned stock-based compensation currently estimated to be expensed over future years related to unvested common stock options. Future stock-based compensation expense and unearned stock-based compensation will increase to the extent that the Company grants additional common stock options or other stock-based awards.

During the year ended December 31, 2018, the Company issued warrants to purchase an aggregate of 84,000 shares of common stock in connection with the issuance of notes payable (see Note 8).

The following are details related to warrants issued by the Company:

As of December 31, 2018, the Company had 6,483 shares of common stock reserved for future issuance under the Company’s stock plans. 

NOTE 12 – Related Party Transactions

Former Vice President of U.S. Operations

The former Vice President of U.S. Operations is the sole owner of BKB Holdings, LLC, which is the landlord of the property where one of the Company’s processing and distribution centers was located. The former Vice President of U.S. Operations also is the sole owner of Renew Resources, LLC, which provided services to the Company as a vendor.

10% Notes

On April 6, 2018 and May 4, 2018, the Company issued the 10% Notes for an aggregate principal amount of $2,000,000 from the offering and issuance of 10% Notes to Wynnefield Partners Small Cap Value I, L.P. and Wynnefield Partners Small Cap Value, L.P, which are under the management of Wynnefield Capital. The Company’s Chairman of the Board, Dwight Mamanteo, is a portfolio manager of Wynnefield Capital (see Note 8 for additional information).

The Company closed a subsequent tranche of the Private Placement on April 10, 2018, with Charles Trapp with respect to a 10% Note with a principal amount of $50,000 and a Warrant to purchase 2,000 shares of common stock (see Note 8 for additional information).

The Company closed a subsequent tranche of the Private Placement on May 1, 2018, with Ian Rhodes with respect to a 10% Note with a principal amount of $50,000 and a Warrant to purchase 2,000 shares of common stock (see Note 8 for additional information).

NOTE 13 – Commitments and Contingencies

Rental Agreements

During the years ended December 31, 2018 and 2017, the Company leased office and warehouse space on a monthly basis under written rental agreements. The terms of these agreements range from several months to five years. The 2018 monthly rental payments ranged from $550 to $12,500.

For the years ended December 31, 2018 and 2017, the Company’s rent expense from continuing operations was $136,010 and $130,252, respectively.

Future minimum lease payments due are as follows:

Litigation

The Company may be party to legal proceedings in the ordinary course of business from time to time.  Litigation is subject to inherent uncertainties, and an adverse result in a legal proceeding could arise that may harm our business. Below is an overview of a pending legal proceeding in which an adverse result could have a material adverse effect on our business and results of operations.

On December 27, 2017, PSP Falcon Industries, LLC (“PSP Falcon”) filed a civil action against the Company in the Ocean County Superior Court located in Toms River, New Jersey. The civil action related to an outstanding balance alleged to be due to PSP Falcon from the Company in an amount of $530,633 related to certain construction expenses. The Company settled this issue on February 26, 2019 for a minimal amount.

Environmental Matters

We are subject to federal, state, and local laws, regulations and ordinances relating to the protection of the environment, including those governing discharges to air and water, handling and disposal practices for solid and hazardous wastes, and occupational health and safety. It is management’s opinion that the Company is not currently exposed to significant environmental remediation liabilities or asset retirement obligations. However, if a release of hazardous substances occurs, or is found on one of our properties from prior activity, we may be subject to liability arising out of such conditions and the amount of such liability could be material. The Company accrues for potential environmental liabilities in a manner consistent with GAAP; that is, when it is probable a liability has been incurred and the amount of the liability is reasonably estimable. The Company reviews the status of its environmental sites on a yearly basis and adjusts its reserves accordingly. Such potential liabilities accrued by the Company do not take into consideration possible recoveries of future insurance proceeds. The Company maintains insurance coverage for unintentional acts that result in environmental remediation liabilities up to $1 million per occurrence; $2 million in the aggregate, with an umbrella liability policy that doubles the coverage. These policies do, however, take into account the likely share other parties will bear at remediation sites. It would be difficult to estimate the Company’s ultimate level of liability due to the number of other parties that may be involved, the complexity of determining the relative liability among those parties, the uncertainty as to the nature and scope of the investigations and remediation to be conducted, the uncertainty in the application of law and risk assessment, the various choices and costs associated with diverse technologies that may be used in corrective actions at the sites, and the often quite lengthy periods over which eventual remediation may occur. The Company does not currently believe that any claims, penalties or costs in connection with known environmental matters will have a material adverse effect on the Company’s financial position, results of operations or cash flows.

In December 2016, the Company completed the acquisition of certain glycol distillation assets from Union Carbide Corporation in Institute, West Virginia. In order to comply with West Virginia regulations enacted in 2017, the Company has elected to accrue $780,000 for tank remediation. The amount of the accrual is based on various assumptions and estimates and will be periodically reevaluated in light of a variety of future events and contingencies.

NOTE 14 – Concentration of Credit Risk

Credit risk represents the accounting loss that would be recognized at the reporting date if counter parties failed completely to perform as contracted.  Concentrations of credit risk that arise from financial instruments exist for groups of customers when they have similar economic characteristics that would cause their ability to meet contractual obligations to be similarly affected by changes in economic or other conditions described below.

NOTE 15 – Capital Lease

On April 13, 2017, the Company closed an amended sale-leaseback transaction with NFS Leasing, Inc. (“NFS”), wherein the Company sold $1,700,000 of certain operational equipment used in the Company’s glycol recovery and recycling operations (the “Equipment”) pursuant to a bill of sale and simultaneously entered into a master equipment lease agreement, as modified (the “Lease Agreement”) with NFS for the lease of the Equipment by the Company. Pursuant to the Lease Agreement, the lease term (the “Lease Term”) is 48 months commencing on May 1, 2017. There was no gain or loss associated with the sale-leaseback. During the Lease Term, the Company is obligated to make monthly rental payments of $44,720 to NFS. At the conclusion of the Lease Term, the Company may repurchase the Equipment from NFS for $1. The Company has accounted for this transaction as a capital lease.   

On March 15, 2018, the Company closed an amended sale-leaseback transaction with NFS, wherein the Company sold $150,000 of certain operational equipment used in the Company’s glycol recovery and recycling operations (the “March Equipment”) pursuant to a bill of sale and simultaneously entered into a master equipment lease agreement, as modified (the “March Lease Agreement”) with NFS for the lease of the March Equipment by the Company. Pursuant to the March Lease Agreement, the lease term (the “March Lease Term”) is 37 months commencing on Apri1 1, 2018. There was no gain or loss associated with the sale-leaseback. During the March Lease Term, the Company is obligated to make monthly rental payments of $4,856 to NFS. At the conclusion of the March Lease Term, the Company may repurchase the March Equipment from NFS for $1. The Company has accounted for this transaction as a capital lease.   

On June 13, 2018, the Company closed an amended sale-leaseback transaction with NFS, wherein the Company sold $46,712 of certain operational equipment used in the Company’s glycol recovery and recycling operations (the “June Equipment”) pursuant to a bill of sale and simultaneously entered into a master equipment lease agreement, as modified (the “June Lease Agreement”) with NFS for the June lease of the Equipment by the Company. Pursuant to the June Lease Agreement, the lease term (the “June Lease Term”) is 34 months commencing on July 1, 2018. There was no gain or loss associated with the sale-leaseback. During the June Lease Term, the Company is obligated to make monthly rental payments of $1,622 to NFS. At the conclusion of the June Lease Term, the Company may repurchase the Equipment from NFS for $1. The Company has accounted for this transaction as a capital lease.   

The following is a schedule of minimum future rentals on the non-cancelable capital leases as of December 31, 2018: