PRXG Pernix Group Inc (CE)

See accompanying notes to the condensed consolidated financial statements.

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See accompanying notes to the condensed consolidated financial statements.

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See accompanying notes to the condensed consolidated financial statements.

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See accompanying notes to the condensed consolidated financial statements.

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(Unaudited)

1. Description of Business

In this report, we use the terms “Pernix Group,” “Pernix,” “PGI,” “the Company,” “we,” “us” and “our” to refer to Pernix Group, Inc. (formerly known as Telesource International, Inc.) and its consolidated subsidiaries. Unless otherwise noted, references to years are for calendar years.

Overview

Pernix Group is a global company managed from Lombard, Illinois and was originally formed in 1995 as Telesource International, Inc. In 2001, the Company was incorporated in Delaware and became an SEC registrant. As of June 30, 2013, the Company employs 110 people and is 96.7% owned by Ernil Continental, S.A., BVI, Halbarad Group, Ltd., BVI, and Affiliates. The Company conducts its operations through the parent and its nine subsidiaries.

Pernix Group is a diversified contractor that is engaged in two primary operating business segments: Construction Services as a Design-Build General Contractor in the public and private markets and Power Generation Services as a builder, manager and investor in Power Projects as an Independent Power Producer and as a General Contractor. Pernix has full-scale construction and management capabilities, with subsidiaries in the South Pacific islands of Fiji, and Vanuatu, as well as in Niger, the United Arab Emirates, Iraq and in the U.S. We provide our services in construction, construction management, power and facility operations and maintenance services. The Corporate operations are a separately reported segment. We have provided construction and power services since 1995 and have established a strong reputation within our markets by delivering complex projects and providing innovative facility operations and maintenance solutions to clients world-wide with an unwavering commitment to safety, quality, social responsibility and total customer satisfaction. We have established internationally experienced management teams with a proven track record of successfully completing complex projects around the globe and in some of the most remote locations on the planet. We have over fifteen years of experience providing all of our services in international territories. We believe that these attributes are the foundation of Pernix’s success.

As part of a strategic plan formulated in early 2012, the Company embarked on a review of returns on its operating activities and decided to consider strategic options for two underperforming operating components. In connection with this plan, the Company ultimately decided to discontinue the two operating components in 2012. Effective October 12, 2012, the Company sold 100% of its interest in Telesource CNMI (TCNMI) in the Commonwealth of the Northern Mariana Islands to Marianas Energy Technology, Inc., a Commonwealth of the Northern Mariana Islands Company. The buyer is an unrelated third party and the sale price was consistent with the fair market value at $1,000 settled in cash on the closing date of October 12, 2012 plus buyer assumption of all liabilities. For the period from January 1, 2012 through June 30, 2012, the loss from the TCNMI discontinued operations was $1.8 million including a $1.4 million tax expense associated with the increase of the valuation allowance on the deferred tax asset.

Until March 2012, we also operated a RF Transmitter Design, Manufacture and Installation segment through TransRadio SenderSysteme, Berlin, A.G. (TransRadio). TransRadio was acquired in 2009 to serve as a global platform for cross-selling construction segment services. However, due to the violence and political turmoil from the “Arab Spring” in the Middle East coupled with the poor economic conditions in Europe, orders for transmitters and antennae deteriorated. On March 26, 2012, the Company executed an agreement to sell its 82% interest in TransRadio to Bevita Commercial Corporation, a related party for $1.2 million settled in cash on the effective closing date, March 28, 2012. For the period from January 1, 2012 through March 28, 2012, the effective date of the sale, the loss on the discontinued operations and sale of TransRadio was $1.9 million.

The purpose of these dispositions was to curtail future losses and to allow the Pernix management team to focus on the strategic initiatives pertaining to the Construction, Power and Corporate segments.

Business Segments

General Construction

Our general construction services include comprehensive pre-construction planning and construction management services. As a general contractor we have responsibility from award through the successful completion of each project we pursue.

We have developed an international network of suppliers and subcontractors that are capable of delivering products and services on a global basis. Together with these strategic partners, we utilize niche capabilities and experience that cater to customer design, budget and schedule requirements. All of our construction management team members have worked on complex international projects. We have the expertise required to successfully conduct full-scale construction projects anywhere in the world. We have demonstrated that we can execute the most technically and environmentally challenging projects within time and budget parameters while meeting the exact quality and safety requirements of the project; exceeding our clients expectations at every opportunity. Pernix Group has the ability to self-perform mechanical and electrical trades when doing so brings efficiencies and value to a project and our customers.

To minimize overhead costs and maintain a worldwide capacity to handle complex projects, we have adopted a strategy of affiliating ourselves with highly capable subcontractors and business partners strategically located around the world. By collaborating with subcontractors and partners, Pernix Group is able to provide the best fit to fulfill our customers’ project requirements. For example, we brought forward a team of companies that included 140 offices worldwide, over 60,000 employees, working on five continents. Our various joint venture partners, affiliates and business partners, combined with our own teams and internal resources, provide Pernix Group the ability to offer its customers a solution to their construction needs, worldwide. These strategic partnerships not only assist Pernix Group in winning larger projects, but also mitigate cost, design and other risks, provide experience managing larger projects, expand relations with more subcontractors and vendors, and enhance the number and type of contract opportunities that Pernix can consider, qualify for, bid on and win.

Many of our construction projects are for governmental owners, such as the U.S. Department of State’s Bureau of Overseas Buildings Operations (OBO) as well as select foreign governments. In most instances, the bidding process requires an initial pre-qualification stage, followed by a proposal submission stage for qualified contractors. Pernix Group focuses its efforts in areas and on projects where we have a competitive advantage that is within our core competency. We minimize risk and develop winning strategies by thoroughly studying local markets, aligning ourselves with capable local or regional large prime-subcontractors and establishing purchasing and logistics support locally, or regionally, whenever possible. Our performance history and record of client retention demonstrate the successful formula Pernix and its partners have developed to grow our business and achieve customer satisfaction.

The OBO awarded contracts in 2011 totaling $121.5 million to the Company. In 2012 and during the first six months of 2013, the OBO awarded a sole source award (Sather) and related change orders that the Company anticipates will provide the Company with revenue of approximately $118.6 million via Pernix-Serka Joint Venture (PS JV). On May 30, 2013, the OBO awarded a $6.6 million sole source award (Baku, Azerbaijan) to PS JV to construct various security upgrade related structures at the U.S. Embassy in Baku. The Azerbaijan project began during mid 2013 and completion is anticipated to occur in early to mid 2014. PS JV is a joint venture with Serka Insaat ve Ticaret, A.S. (Serka). PS JV is 52% owned by Pernix and 48% by Serka. PS JV has an office in Vienna, Virginia, in close proximity to U.S. Government agencies to closely manage its customer relationships and to provide effective contract execution and oversight for its customers on its mission critical, fast-track work efforts in Iraq, Azerbaijan and elsewhere.

In early 2011, PS JV was awarded a multi-billion dollar Indefinite Delivery Indefinite Quantity (IDIQ) contract with OBO. The aforementioned awards in Iraq were granted within the scope of the IDIQ contract with OBO. This contract provides PS JV with the opportunity to bid on a significant number of task orders for Containerized Housing Units (CHU) to be built internationally.

The size of each task order is dependent upon the scope of work and there is no guarantee that PS JV will win any particular task order. The overall IDIQ program is budgeted to provide awards totaling $12 billion over five years beginning in 2011 and ending in 2016. The amount of the awards to any one contractor cannot exceed $500 million in one base year or option year and $2.5 billion over the life of the contract should all four option years be exercised. PS JV has actively responded to several Task Order Proposal Requests to bid under this IDIQ contract and has been awarded two contracts as described above.  

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Power Generation Services

In early 2013, the Company hired a new V.P of Power to manage Pernix's power business, including operations and maintenance (“O&M”) contract execution and construction of new power generating facilities and related infrastructure in the U.S. and overseas.  The V.P. of Power has over 30 years of experience in energy and independent power, structuring complex power projects including oversight of EPC contract negotiations, fuels supply, asset management, project and plant acquisitions, operations management and owner's construction oversight, program management, power project development and project finance. Under his leadership, the Company is actively seeking to grow the Power segment.

Although virtually everyone in the world relies on power, the needs and resources required to generate power can vary widely from location to location. From the types of fuels used to the plethora of regulations governing the development and operation of power generation plants, Pernix Group understands the unique needs and requirements of different projects in diverse geographic locations. Pernix focuses on construction and O&M for small to mid-size power plants and has the experience to build, operate, and maintain power plants as well as transmission and distribution grids. We manage and operate many of the plants that we build. Due to our years of experience, we have developed strong relationships with engine manufacturers, suppliers of parts for power plants and distribution/ transmission systems, software developers and suppliers for control systems, Customer Information Systems (CIS), and Geographic Information Systems (GIS).

Pernix focuses on operating efficiency and reliability while never compromising safety, security or environmental stewardship. We accomplish this by partnering with our customers throughout all project phases to understand and recognize the unique requirements of each customer and each project phase, and leverage our ability to align and manage the best resources for all aspects of each particular project. The Pernix Group power segment prides itself in being a steward of the environment and the assets entrusted to us by the communities we serve. Pernix Group power segment employees are not absentee operators but ones who live and work and depend upon the same power being provided to our customers.

Our power business segment includes construction and facilities O&M services. Specifically, Pernix Group provides plant engineering, design, procurement, construction, and O&M services from the power source through the distribution network on a worldwide basis. We have the capability to address a variety of power generating requirements from initial conceptual design to construction, through operating and maintaining diesel, hydro, and solar power facilities. Pernix is unique within the power industry as we can scale to various size projects, ranging from small to mid-sized projects on a stand-alone project basis and large projects in association with our strategic partners. This flexibility in the scale of projects on which we work reflects the well thought out design, agility and efficiency in our operations. Pernix is also experienced in the upgrade of existing facilities to achieve additional capacity and operational efficiencies by upgrading and replacing outdated or worn out equipment while endeavoring to use existing equipment when possible. These upgrade projects typically produce significant cost savings to our customers and can often be carried out while the power plant continues to operate, resulting in even greater cost savings to our customers.

Power Plant Construction

Pernix Group’s general construction segment is complementary with our power plant construction offerings. We rely on our construction capability and strong affiliation with world-class design firms and subcontractors to provide comprehensive design-build and global power solutions. We have the resources to properly fit technology with our customers’ special requirements, budget and environmental considerations and restraints. Power plants are a significant investment and become a crucial part of a community’s survival, hence we take great care to understand what our customer requires, and ensure that the end product exceeds their expectations for today and contemplates their needs for the future. As noted in the construction segment discussion above, our construction management services provide a systematic project review, including a comprehensive construction and start-up schedule. Our power plant construction methodology is not limited to building a facility; we also provide start up and commissioning services to ensure that the equipment is fully integrated with all other operating systems as well as the transmission/distribution system and power grid. Furthermore, we provide the appropriate training for startup as well as future operations and maintenance.

In this segment we have also developed significant working relationships and joint-venture partners in order to expand our offerings, bring efficiencies to our project and reduce costs to our customers. Pernix has strong relationships with many of the world’s leading engine and turbine manufacturers and relies on these relationships to ensure that projects are delivered on time and within budget.

The Company has a joint venture with UEI Holdings, LLC (UEI Holdings). The joint venture is called Pernix Universal Energy JV. Pernix owns 70% and UEI Holdings owns 30% of the joint venture. This arrangement enables Pernix to expand its offerings and adds significant capabilities. UEI Holdings has experience with diverse power sources and technologies and over the past 15 years has managed, commissioned, designed, or helped build over 50,000MW of power generation facilities.

Operations and Maintenance

Pernix Group’s Power Operations and Management Services (O&M) provides an integrated scope of services to effectively maintain and manage all aspects of power operations. We partner closely with public and private entities to improve plant process, performance, reliability and customer service. Our focus is on reducing costs and ensuring a safe and efficient working environment for all involved.

Pernix’s O&M services include maintenance and operations, engineering, on-going reliability studies, construction management, recovery/rebuild, specialty services and rehabilitation. We perform an audit of a customer’s operations and provide a comprehensive plan, including timelines for assuming responsibility of the operations as well as initial and long-term maintenance requirements. Our intense focus on machine performance and OEM maintenance requirements ensures efficient and long term operation of equipment. In all cases, Pernix makes significant effort to hire and train local staff. This is part of our commitment to bring jobs and add value to the communities where we work.

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2. Quasi Reorganization

The Company’s management team has transformed the Company through the 2012 disposition of unprofitable business entities and through implementation of efforts to become leaner in terms of leverage and stronger in formation of strategic relationships with customers, vendors and key government agencies. Since 2005, management has significantly reduced debt, significantly increased equity, improved the profitability of its continuing operations and built its contract backlog. Before electing to effect a quasi-reorganization as of September 30, 2012, the Company assessed that it had reached a turning point in its operations.

In connection with the application of quasi-reorganization accounting, the Company applied Accounting Standard Codification (ASC) 805 Business Combinations to restate assets and liabilities at fair value. The Company performed the fair value assessment and computed the estimated fair value of the business enterprise as of September 30, 2012 under ASC 805 based on the market and income approaches, the results of which approximated one another. In applying quasi-reorganization accounting as of September 30, 2012, the Company obtained approval from its shareholders and its Board of Directors to implement a quasi-reorganization and followed these principles:

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The fair value of assets and liabilities was determined in conformity with the procedures specified by ASC 805, Business Combinations.

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The carrying values of the current assets and current and non-current liabilities generally approximated fair value prior to the quasi-reorganization except for PFL inventory and related party debt. PFL inventory was adjusted to reflect replacement cost and related party debt was adjusted to reflect the present value of the contractual debt payments discounted at a current market rate in light of the Company’s risk profile (approximately 3.75% while stated interest rate is 5.0%).

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Plant and equipment assets and other long-lived assets were adjusted and all accumulated depreciation and amortization was eliminated.

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Deferred taxes were reported in conformity with applicable income tax accounting standards, principally ASC 740, Income Taxes, net of applicable valuation allowances. Deferred tax assets and liabilities were recognized for differences between the assigned values and the tax basis of the recognized assets and liabilities to the extent they were deemed realizable. In accordance with the quasi-reorganization requirements, tax benefits realized in periods after the quasi-reorganization that were not recognized at the date of the quasi-reorganization will be recorded directly to equity, when realized.

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Construction and power contracts were recognized as intangible assets and the sum of the fair values of assets and liabilities exceeded net book value at the date of the quasi-reorganization.

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In compliance with SEC guidelines, no write-up of net assets was recorded as a result of the quasi-reorganization; therefore, the excess of fair value over existing net book value was reallocated as a pro rata reduction to certain non-current assets.

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The Company’s accumulated deficit and accumulated other comprehensive income accounts of $68.6 million and ($0.1) million, respectively, as of September 30, 2012 were eliminated, with a commensurate reduction in additional paid-in capital.

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The Company’s earnings and accumulated other comprehensive income subsequent to September 30, 2012 are separately presented as “Retained Earnings Since September 30, 2012”  and “Accumulated Other Comprehensive Income Since September 30, 2012” on the face of the balance sheet and this presentation will be carried forward for ten years until at least September 30, 2022.

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The estimates and assumptions used in the valuations are inherently subject to uncertainties and contingencies beyond the control of the Company. Accordingly, there can be no assurance that the estimates, assumptions and values reflected in the valuations will be realized, and actual results could vary materially. The preliminary estimates of the fair value of the Company’s assets and liabilities, in connection with the application of Quasi-Reorganization accounting completed during the three months ended September 30, 2012, were based upon preliminary calculations and valuations. Our estimates and assumptions for each of these are subject to change as we obtain additional information for our estimates during the respective measurement periods (up to one year from the Quasi-Reorganization date). The primary areas of those preliminary estimates that were not yet finalized relate to inventory and identifiable intangible assets and during the fourth quarter of 2012, a downward revision of $0.3 million was recorded to the value allocable to inventory and an upward revision of $0.3 million was recorded to the value of contracts along with other minor revisions. The contracts recorded in connection with the quasi-reorganization of less than $0.3 million are considered to be Level 3 estimates.

Below is a summary of assets and liabilities as of September 30, 2012 and the adjusted fair value for each type of asset and liability after reallocation:

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At the date of the quasi-reorganization, deferred taxes were reported in conformity with applicable income tax accounting standards, net of applicable valuation allowances. Deferred tax assets and liabilities were recognized for differences between the assigned values and the tax basis of the recognized assets and liabilities. In accordance with the quasi-reorganization requirements, tax benefits realized in periods after the quasi-reorganization that were not recognized at the date of the quasi-reorganization will be recorded directly to equity.

4. Recently Adopted Accounting Pronouncements

In March 2013, Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) that clarifies that a cumulative translation adjustment should be released into net income only if there is a sale or transfer of a controlling financial interest in a foreign subsidiary and only if the sale or transfer results in the complete or substantially complete liquidation of the foreign entity. The guidance also clarifies that existing guidance for pro rata release of a cumulative translation adjustment continues to apply for equity method investments in a foreign entity. This update is effective for fiscal years (and interim reporting periods within those years) beginning after December 15, 2013 and early adoption is permitted as of the beginning of the calendar year in which adoption occurs. The Company complies with this guidance and as such released into income the cumulative translation adjustment of $0.3 million related to TransRadio during the first quarter of 2012 as it completely liquidated its investment in TransRadio. This release of the cumulative translation adjustment into income is reflected in the condensed consolidated statement of changes in stockholders’ equity for the three months ended June 30, 2012.

In February 2013, the FASB issued an ASU that requires an entity to report items reclassified out of accumulated other comprehensive income to enable users to understand the impact of such reclassifications on income or to a balance sheet account. The Company has complied with this reporting requirement. In connection with the quasi-reorganization implemented as of September 30, 2012, the Company has reclassified $0.1 million from accumulated other comprehensive income to additional paid in capital in accordance with accounting guidance for “fresh start” accounting. In addition, the Company disclosed the $0.3 million release of foreign currency translation into income in connection with the sale of TransRadio as mentioned above. This guidance does not have a material impact on our financial statements or disclosures.

In February 2013, the FASB issued an ASU that requires an entity to disclose obligations resulting from joint and several liability arrangements for which the total amount of the obligation is fixed at the reporting date, but the apportionment of the total is not determinable. The ASU is intended to help users understand how an entity has accounted for such arrangements because U.S. GAAP previously did not include specific guidance on accounting for such obligations which has resulted in diversity in practice. The guidance in this Update requires an entity to measure obligations resulting from joint and several liability arrangements for which the total amount of the obligation within the scope of this guidance is fixed at the reporting date, as the sum of the amount the reporting entity agreed to pay on the basis of its arrangement among its co-obligors plus any additional amount the reporting entity expects to pay on behalf of its co-obligors. The guidance in this Update also requires an entity to disclose the nature and amount of the obligation as well as other information about those obligations. The Company has complied with the requirements of this update during 2013 and 2012. The update, however, is not effective until fiscal years, and interim periods within those years, beginning after December 15, 2013. The update is not expected to have a material impact on our financial statements or disclosures.

In December 2011, the FASB issued an ASU that requires an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. Entities are required to disclose both gross information and net information about both instruments and transactions eligible for offset in the statement of financial position and instruments and transactions subject to an agreement similar to a master netting arrangement. This scope includes derivatives, sale and repurchase agreements and reverse sale and repurchase agreements, and securities borrowing and securities lending arrangements. This ASU is effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods, and an entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented. The Company adopted this guidance as of January 1, 2012 and it did not have a material impact on our financial statements or disclosures as the Company does not have significant offsetting arrangements.

In September 2011, the FASB issued an ASU which affects the impairment testing of goodwill. Under the amendments in this ASU, an entity has the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary. However, if an entity concludes otherwise, then it is required to perform the first step of the two-step impairment test by calculating the fair value of the reporting unit and comparing the fair value with the carrying amount of the reporting unit, as described in ASC 350-20- 35-4. If the carrying amount of a reporting unit exceeds its fair value, then the entity is required to perform the second step of the goodwill impairment test to measure the amount of the impairment loss, if any, as described in ASC 350-20-35-9. An entity has the option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the first step of the two-step goodwill impairment test. An entity may resume performing the qualitative assessment in any subsequent period. The amendments are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. The Company has adopted this guidance as of January 1, 2012. The Company currently has no goodwill recorded on its balance sheet. Therefore, this update does not impact our financial statements or disclosures.

5. Recently Issued Accounting Pronouncements

In July 2013, the FASB issued an ASU that requires an entity to present an unrecognized tax benefit, or a portion of an unrecognized tax benefit, in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward. To the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit shall be presented in the financial statements as a liability and shall not be combined with deferred tax assets. The assessment of whether a deferred tax asset is available is based on the unrecognized tax benefit and deferred tax asset that exist at the reporting date and shall be made presuming disallowance of the tax position at the reporting date. The amendments are effective for public entities for annual reporting periods beginning after December 15, 2013, and interim reporting periods therein. The ASU should be adopted prospectively from the date of adoption and may be applied retrospectively. Early adoption is permitted. Pernix Group, Inc. does have certain state net operating loss carryforwards that are not available to the Company to use during 2013. However, the current law allows these net operating loss carryforwards to be available to use after 2013. This ASU is not expected to be applicable to Pernix Group, Inc. at the date of adoption. Therefore, we do not expect adoption to have a material impact on our financial statements or disclosures.

In April 2013, the FASB issued an ASU that requires an entity to prepare its financial statements using the liquidation basis of accounting when liquidation is imminent. Liquidation is imminent when the likelihood is remote that the entity will return from liquidation and either (a) a plan for liquidation is approved by the person or persons with the authority to make such a plan effective and the likelihood is remote that the execution of the plan will be blocked by other parties or (b) a plan for liquidation is being imposed by other forces (for example, involuntary bankruptcy). The amendments require financial statements prepared using the liquidation basis of accounting to present relevant information about an entity’s expected resources in liquidation by measuring and presenting assets at the amount of the expected cash proceeds from liquidation. Additionally, the amendments require disclosures about an entity’s plan for liquidation, the methods and significant assumptions used to measure assets and liabilities, the type and amount of costs and income accrued, and the expected duration of the liquidation process. The amendments are effective for entities that determine liquidation is imminent during annual reporting periods beginning after December 15, 2013, and interim reporting periods therein. The ASU should be adopted prospectively from the day that liquidation becomes imminent. Early adoption is permitted. This ASU is not currently applicable to Pernix Group, Inc., therefore, we do not expect adoption to have a material impact on our financial statements or disclosures.

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9. Cost and Estimated Earnings on Uncompleted Contracts

Long-term construction contracts in progress are accounted for using the percentage-of-completion method. Billings, costs incurred, and estimated earnings on uncompleted contracts as of June 30, 2013 and December 31, 2012 were as follows:

The Company has 500,000 shares of authorized Preferred Stock. 100,000 of these shares have been designated as Series A Cumulative Convertible Preferred Stock (“Series A Preferred Stock”) and 400,000 shares were designated as Series B Cumulative Convertible Preferred Stock (“Series B Preferred Stock”).

Holders of Series A Preferred Stock are entitled to receive cumulative cash dividends at the annual rate of 6.5%, have no voting rights and rank senior to common stock. As of June 30, 2013 and December 31, 2012, no Series A Preferred Stock is issued or outstanding.

Holders of Series B Preferred Stock are entitled to receive cumulative dividends at an annual rate of $0.325 per share, have no voting rights, and rank senior to common stock and are on parity with Series A Preferred Stock with respect to dividends and upon liquidation. During the first six months of 2013 and for the year ended December 31, 2012, the Company issued no Series B Preferred Stock. Each share of Series B Preferred Stock is convertible into common stock using the conversion rate as defined in each Series B Preferred Stock Purchase Agreement. The Series B Preferred Stock conversion rate was amended to allow for conversion at a rate of 1:1 on a pre-reverse stock split basis (15:1 preferred into common shares on a post reverse stock split basis). On April 2, 2012 the Company repurchased 219,250 Series B Cumulative Convertible Preferred Shares (Series B Preferred Shares) from its majority shareholders, Ernil Continental, S.A., BVI, and Halbarad Group, Ltd., BVI. As of June 30, 2013 and December 31, 2012, 170,000 shares of the Series B Preferred Stock were issued and outstanding and would have converted into 11,334 shares of common stock, respectively, if converted. As of June 30, 2013 and December 31, 2012, preferred share dividends of $158,286 and $130,887, respectively, were accrued. The dividends for the six months ended June 30, 2013 and 2012 were $27,398 and $45,583, respectively. No dividends were paid during the six or three month periods ended June 30, 2013 and 2012.

Common Stock

As of June 30, 2013 and December 31, 2012, 9,403,697 shares of the Company’s common stock were issued and outstanding. During the first six months of 2013 and 2012, Pernix Group issued no common shares.

11. Computation of Net Income / (Loss) Per Share

Basic and diluted net income / (loss) per common share is presented in accordance with the Statement of Financial Accounting Standards Earnings Per Share disclosure requirements, for all periods presented. In accordance with the pronouncement, basic and diluted net income from continuing operations per common share has been computed using the weighted-average number of shares of common stock outstanding during the period. The impact of 11,334 and 25,950 common shares from the conversion of preferred stock is excluded from the diluted earnings per share calculation for the six month and three month periods ended June 30, 2013 and 2012, respectively, because to assume conversion would be anti-dilutive. There were 175,000 stock options awarded during the first six months of 2012 and 426,000 stock options awarded during the first six months of 2013. Of these options, only 30,500 are vested as of June 30, 2013 and no such options were yet vested as of June 30, 2012. None of these options are included in the calculation of diluted earnings per share for the six or three month periods ended June 30, 2013 or 2012 because to do so would be antidilutive using the treasury stock method. These options are not participating. See Note 12 in the notes to our condensed consolidated financial statements.

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12. Stock-based compensation plans

2013 Long Term Incentive Plan (LTIP) - The LTIP is a non-employee Director and Consultant compensation plan. The purpose of the LTIP is to advance the interests of the Company and its Stockholders by providing an incentive to attract, retain and reward persons performing services as Directors and Consultants for the Company, to provide a means by which such eligible recipients may be given an opportunity to benefit from increases in value of the common stock through the granting of awards, and by motivating such persons to contribute to the long-term growth and profitability of the Company. Awards may include stock options, stock awards, restricted stock, restricted stock units, and other stock or cash awards. This plan will expire in December 2022. 785,000 shares have been allocated in total to cover any and all award types under the LTIP. There were no awards outstanding under this plan as of December 31, 2012. On February 8, 2013, 78,500 option awards with a vesting period of three years were granted to six non-employee Directors. These options remain outstanding and are not vested as of June 30, 2013.

Employee Incentive Stock Option Plan (ISOP) – The Company has an Incentive Stock Option Plan that provides for the issuance of qualified stock options to employees. Under the terms of this plan, 1.5 million shares have been reserved for issuance. Options to purchase common stock are granted at not less than fair market value and vest ratably on the anniversary of each award grant date as defined by the individual award agreements. The options expire 10 years from the grant date. 175,000 options to buy shares yet to be registered were awarded on January 26, 2012 with a strike price equal to the fair market value of the Company’s common stock and a vesting schedule of 5 years. 347,500 options to buy shares yet to be registered were awarded on February 8, 2013 with a strike price equal to the fair market value of the Company’s common stock and a vesting schedule of 3 years. This plan will expire in December 2021.

The plan provides for the granting of stock-based compensation to certain employees. For transactions in which we obtain employee services in exchange for an award of equity instruments, we measure the cost of the services based on the grant date fair value of the award. We recognize the cost over the period during which an employee is required to provide services in exchange for the award, known as the requisite service period (usually the vesting period). Cash flows resulting from the exercise of related options are included in financing cash flows. There were no options exercised during the six months ended June 30, 2013 or 2012.

The related option awards are classified as equity and as such are valued at the grant date and are not subject to remeasurement. The options vest ratably and annually on the anniversary of the grant date over the vesting period which ranges from 3 to 5 years. The options were valued using the Black Scholes option pricing model. The fair value is net of any amount that an employee pays (or becomes obligated to pay) for that instrument when it is granted.

The following summarizes stock option activity for the six months ended June 30:

Total share-based compensation expense for the six months and three months ended June 30, 2013 was $57,000 and $25,000, respectively. Total share-based compensation expense for the six months and three months ended June 30, 2012 was less than $0.1 million. As of June 30, 2013 and December 31, 2012, there was $0.5 and $0.2 million, respectively of total unrecognized compensation expense related to non-vested share-based awards. The compensation expense is expected to be recognized over a weighted average period of 3.5 years, equivalent to the weighted average vesting period of all option awards.

The Company received no cash during the quarters ended June 30, 2013 and 2012, respectively, related to stock awards exercised as no options were exercised during the periods. 98,250 and 22,500 options were forfeited or cancelled during the six months ended June 30, 2013 and 2012. In addition, 7,000 options that were previously vested were forfeited on August 3, 2013.Such forfeitures and cancellations are expected to reduce the remaining unamortized compensation expense by approximately $0.1 million over the 2012 through 2016 timeframe.

13. Commitments and Contingencies

In 1999, Telesource CNMI was awarded a contract to build 45 housing units for the Northern Mariana Housing Agency, a government unit. The houses were built and subsequently occupied. The Northern Marianas Housing Corporation filed a lawsuit against Telesource CNMI and two other parties that involved allegations of various construction, design and other defects. Subsequently, homeowners in the project filed their own and/or joined into this action. The consolidated matter is Case No. 06-0123, pending in the Superior Court for the Commonwealth of the Northern Mariana Islands. The Company and other defendants also filed counter- and cross-claims. During the first quarter of 2012, the Company recorded an increase of $0.2 million of expense accruals for additional legal fees related to the Koblerville case and reflected in the loss from discontinued operations. This additional accrual increased the total accrual to $1.1 million including $0.8 million offered to settle the litigation. On October 12, 2012, the Company sold its 100% equity interest in TCNMI for $1,000, consistent with its fair market value, coupled with buyer assumption of all liabilities, to Marianas Energy Technology, Inc., a local company owned and operated from the CNMI. Management believes the sale has curtailed the potential Koblerville case liability exposure to Pernix Group, Inc.

In late 2010, VUI was selected by the Government of the Republic of Vanuatu to provide O&M services for a power plant in Vanuatu. In 2011, Unelco, the former concessionaire, brought a case against the Republic of Vanuatu seeking judicial review in relation to the awarding of the electricity concession to VUI. This matter is described as Case No. 101 of 2011. The Republic of Vanuatu is the first defendant and VUI elected to join the suit as a second defendant in order to best preserve its interests. There are currently no claims in relation to damages or otherwise directed at VUI in the proceedings. Therefore, as of June 30, 2013 there are no potential VUI losses that are probable and no accrual is deemed necessary.

Pernix Group’s power generation activities involve significant risks of environmental damage, equipment damage and failures, personal injury and fines and costs imposed by regulatory agencies. Though management believes its safety programs and record is excellent and its insurance programs are adequate, if a liability claim is made against it, or if there is an extended outage or equipment failure or damage at one of the power plants the Company manages it is inadequately insured or subject to a coverage exclusion, and the Company is unable to defend against these claims successfully or obtain indemnification or warranty recoveries, the Company may be required to pay substantial amounts, which could have a materially adverse effect on its financial condition. In Fiji, the Company is liable for a deductible of FJD 1,250,000 (or approximately $0.7 million USD as of June 30, 2013) if found to be negligent or 750,000 FJD (or approximately $0.4 million USD as of June 30, 2013) if not found to be negligent in accordance with its agreement with the Fiji Electric Authority. In Vanuatu, during the MOU period, the insurance deductible is 10 million Vatu (or approximately $0.1 million USD) as of June 30, 2013.

On August 2, 2011, a diesel engine was damaged by a component failure resulting in an interruption of 10MW of power production at a diesel power plant operated and maintained by PFL. PFL is insured for property damage and lost revenue due to business interruption under a policy carried by Fiji Electricity Authority. PFL has not been found to be negligent in connection with this incident. Therefore, under the policy, PFL had a deductible in the amount of 750,000 Fijian Dollars (FJD) related to the property damage and a deductible related to the business interruption coverage of 250,000 FJD, for a total of approximately $550,000 USD, all of which was accrued in the third quarter of 2011. In addition, ancillary costs including service engineer, overtime and other expenses totaling $300,237 FJD ($168,463 USD) were accrued as of December 31, 2011. In May 2012, PFL paid a total deductible of FJD 950,000, approximately $537,700 USD, related to the August 2011 engine failure and related business interruption in accordance with its agreement with the Fiji Electric Authority. The final deductible settlement and ancillary costs totaled approximately $0.1 million less than what had been accrued in 2011 and that $0.1 million adjustment to the estimate was recorded as a reduction in operating expenses in the second quarter of 2012.

The total business interruption claim was $0.6 million that has been collected from the insurer and was recorded as income. PFL performed certain restoration work in relation to the G8 engine that generated revenue of $342,304 FJD (approximately $191,690 USD during 2012). The costs of the services PFL incurred in relation to the restoration work were not significant. The G8 engine was re-commissioned on March 19, 2012 and is fully operational.

The Company offers warranties on its construction services and power generating plants. The Company does not maintain any material warranty reserves because these warranties are usually backed by warranties from its vendors. Should the Company be required to cover the cost of repairs not covered by the warranties of the Company’s vendors or should one of the Company’s major vendors be unable to cover future warranty claims, the Company could be required to expend substantial funds, which could harm its financial condition.

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Furthermore, as noted earlier, SHBC and Pernix Group have formed a joint venture (Pernix/SHBC JV). This joint venture successfully completed a contract to construct a new U.S. Embassy in Fiji. The joint venture limited partnership agreement between SHBC and Pernix Group also requires a payment to SHBC of 6.5% per annum of the unreturned capital. The Company accrued $40,427 and $39,791 of interest payable to SHBC for unreturned capital during the six month periods ending June 30, 2013 and 2012, respectively.

Until March 2013, the Company rented its corporate headquarters office space located at 151 E. 22 ^nd Street, in Lombard, Illinois, from Baron Real Estate Holdings, a related party under common control, under a five year operating lease that commenced May 1, 2011 and was due to expire on April 30, 2016. The lease called for a base rental payment of $7,015 per month in the first year with a free month of rent and a 3.0% escalation in the monthly rate in each of the four subsequent years resulting in average monthly rent expense of approximately $7,330 per month.

In December 2012, the Company amended this lease agreement for the corporate headquarters to accommodate its growing business. The lease amendment increased the leased space from 6,475 square feet to 11,177 square feet. The amended monthly rent was $12,867, increased from $7,330 per month on average. The amendment went into effect on January 1, 2013. In the first quarter of 2013, the Company purchased the building in which the Corporate headquarters are located and in connection with this purchase the lease commitment of $12,867 per month was terminated and no longer represents a commitment as of June 30, 2013.

The Company now leases office space to Computhink (a related party) under a 5 year operating lease for $5,347 average rent per month. Rental income from Computhink amounted to $26,924 and $0 for the six months ended June 30, 2013 and 2012, respectively and is based on market rental rates for similar office space in the vicinity.

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19. Business Segment Information

Pernix Group has elected to organize its segment information around its products and services. Pernix Group has three segments: General Construction, Power Generation Services and Corporate. The Company sold its interest in TransRadio which constituted the RF Transmitter Design, Installation and Service segment on March 28, 2012 and the financial results associated with that discontinued segment are presented in the condensed consolidated statements of operations as discontinued operations. There were no material amounts of transfers between segments. Any inter-segment revenues have been eliminated.

The following table sets forth certain segment information for the periods indicated:

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