ETCK Enerteck Corporation (CE)

NOTE 1 – BASIS OF PRESENTATION

Nature of Operations:

EnerTeck Corporation, a Delaware corporation, and its wholly owned subsidiary, EnerTeck Sub (collectively referred to as the “Company”) are headquartered in Houston, Texas. The Company specializes in the sales, marketing and manufacture of a fuel borne catalytic engine treatment for diesel engines known as EnerBurn®. The use of EnerBurn in diesel engines improves fuel economy, lowers smoke, and decreases engine wear and the dangerous emissions of both Nitrogen Oxide (NOx) and microscopic airborne solid matter (particulates). Principal target markets have included the trucking, heavy construction, maritime shipping, railroad and mining industries, as well as federal, state and international government applications. Key uncertainties and risks to the Company include, but are not limited to, if and how quickly the EnerBurn technology is accepted by the market and the effects future technological changes and environmental regulatory requirements may have on the need for diesel fuel additives.

Basis of Presentation

The accompanying unaudited interim condensed consolidated financial statements have been prepared 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 (“SEC”), and should be read in conjunction with the audited consolidated financial statements and notes thereto contained in the Company’s Annual Report filed with the SEC on Form 10-K. In the opinion of management, all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of financial position and the results of operations for the interim periods presented have been reflected herein. The results of operations for interim periods are not necessarily indicative of the results to be expected for the full year. Notes to the consolidated financial statements which would substantially duplicate the disclosure contained in the audited consolidated financial statements for fiscal 2018 as reported in the Form 10-K have been omitted.

Use of Estimates

In preparing the accompanying condensed unaudited interim consolidated financial statements, management has made certain estimates and assumptions that affect reported amounts in the condensed unaudited interim consolidated financial statements and disclosures of contingencies. Actual results may differ from those estimates.

Inventory

Inventory primarily consists of market ready EnerBurn plus raw materials required to manufacture the products. With the adoption of ASU 2015-11, inventory is valued at the lower of cost or net realizable value, using the average cost method.

Finished product costs amounted to approximately $19,000 and $26,000 at September 30, 2019 and December 31, 2018, respectively, and includes required blending costs to bring our products to their finished state.

Accounts Receivable

Accounts receivable represent uncollateralized obligations due from customers of the Company and are recorded at net realizable value. This value includes an appropriate allowance for estimated uncollectible accounts to reflect any loss anticipated on the accounts receivable balances and charged to the provision for doubtful accounts. The Company calculates this allowance based on historical write-offs, level of past due accounts and relationships with and economic status of the customers. Accounts are written off as bad debts when all collection efforts have failed, and the account is deemed uncollectible. Management has provided allowances for doubtful accounts of $0 as of September 30, 2019 and December 31, 2018.

Intangible Assets

The Company follows the provisions of FASB ASC 350, Goodwill and Other Intangible Assets. FASB ASC 350 addresses financial accounting and reporting for acquired goodwill and other intangible assets. Specifically, FASB ASC 350 addresses how intangible assets that are acquired should be accounted for in consolidated financial statements upon their acquisition, as well as how goodwill and other intangible assets should be accounted for after they have been initially recognized in the consolidated financial statements. The statement requires the Company to evaluate its intellectual property each reporting period to determine whether events and circumstances continue to support an indefinite life. In addition, the Company tests its intellectual property for impairment on an annual basis, or more frequently if events or changes in circumstances indicate that the asset might be impaired. The statement requires intangible assets with finite lives to be reviewed for impairment whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable and that a loss shall be recognized if the carrying amount of an intangible exceeds its fair value.

During the nine months ended September 30, 2019, the Company reviewed the estimated life of its intellectual property and determined it to have a finite life of 12 years. This change in accounting estimate requires the Company to amortize the intellectual property over the 12-year life and resulted in amortization expense of $3,125 and $9,375 for the three and nine months ended September 30, 2019, respectively.

Revenue Recognition

Effective January 1, 2018, the Company adopted ASC 606, Revenue from Contracts With Customers, using the modified retrospective adoption approach. As a result of adoption, the Company noted there were no changes or modifications required to previously recorded revenues.

While the Company has had some direct customers over the years, the principal method of selling the Company’s product EnerBurn is through the use of independent distributors, for both domestic and international markets. The transaction price for each sale is explicitly stated within the contract with a customer. The Company does not accept returns nor does it provide warranty on its product’s performance, as control of performance is based on the proper utilization by the final user. Normal payment terms for domestic sales to both customers and distributors shipping within the United States are net 30 days. All foreign shipments are cash in advance of shipment from the Company’s location. The Company’s sole performance obligation to customers and distributors is the manufacturing and shipment of EnerBurn. Revenues from sales of the Company’s product are recognized at the point when a customer order has been completed and shipped. Sales of all product are f.o.b. shipping point, with the distributors responsible for the freight and delivery. Revenue from shipments to related party distributors is recognized when the product is sold to unrelated third-party customers. All negotiation on sales contracts between the individual distributor and end customer and are the responsibility of the individual distributor and the amount of mark up above the distributors’ wholesale price per unit is the purview of the distributor.

The Company may from time to time enter into contracts to sell exclusive distributorship rights to certain markets for a fee. The contracts typically contain a term of market exclusivity as well as other performance obligations. The Company has determined the performance obligations on these types of contracts are satisfied evenly over the term of the contract and recognizes revenue evenly over the term of the contract. The remaining performance obligations on these contracts as of September 30, 2019 is $19,445 and is included in deferred revenue on the Company’s Condensed Consolidated Balance Sheets. These amounts are expected to be ratably recognized as revenue over the remaining term of the contracts.

In the following table, revenues have been disaggregated for the nine months ended September 30:

As stated above, the Company does not accept returns nor does it provide warranty on its product’s performance, as control of performance is based on the proper utilization by the final user. The Company periodically tests the product manufactured prior to shipment for its proprietary quality standards and guarantees to the distributors that the product will always maintain the level of strict quality standard that is integral to the performance of its product for the end customer. The Company will provide a Certificate of Analysis, (“C of A”) on each shipment of its product, if requested for the customer. The C of A provides proof that the product is manufactured to meet chemical specifications that insure performance standards.

Going Concern

In accordance with ASC Subtopic 205-40, Going Concern, management evaluates whether relevant conditions and events that, when considered in the aggregate, indicate that it is probable the Company will be unable to meet its obligations as they become due within one year after the date that the financial statements are issued. When relevant conditions or events, considered in the aggregate, initially indicate that it is probable that the Company will be unable to meet its obligations as they become due within one year after the date that the consolidated financial statements are issued (and therefore they raise substantial doubt about the Company’s ability to continue as a going concern), management evaluates whether its plans that are intended to mitigate those conditions and events, when implemented, will alleviate substantial doubt about the Company’s ability to continue as a going concern. Management’s plans are considered only to the extent that 1) it is probable that the plans will be effectively implemented and 2) it is probable that the plans will mitigate the conditions or events that raise substantial doubt about the Company’s ability to continue as a going concern.

The accompanying condensed consolidated financial statements have been prepared assuming that the Company will continue as a going concern which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. During the nine months ended September 30, 2019 and 2018, the Company incurred recurring net losses of $937,679 and $697,277, respectively. Further, most of the Company’s notes payable are overdue and payment may be demanded at any time. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. The condensed consolidated financial statements do not include any adjustments that might be necessary if the Company is unable to continue as a going concern.

The Company’s continuation as a going concern is contingent upon its ability to obtain additional financing and to generate revenues and cash flow to meet its obligations on a timely basis. The Company has been able to obtain cash in the past through private placements and issuing promissory notes and believes that these avenues will remain available to the Company. Management believes that these financings are probable of occurring and mitigating the substantial doubt raised by historical operating results and satisfying the Company’s estimated liquidity needs 12 months from the issuance of the consolidated financial statements. No assurance can be made that these efforts will be successful.

Reclassifications

Certain amounts in the September 30, 2018 condensed consolidated financial statements have been reclassified to conform to the classifications in the September 30, 2019 condensed consolidated financial statements.

Depreciation expense for the three months ended September 30, 2019 and 2018 was $112 and $332, respectively, and $336 and $1,018 for the nine months ended September 30, 2019 and 2018, respectively.

NOTE 3 – LOSS PER COMMON SHARE

The Company follows ASC 260,” Earnings Per Share” for share-based payments that are considered to be participating securities within the definition provided by the standard. All share-based payment awards that contained non-forfeitable rights to dividends, whether paid or unpaid, were designated as participating securities and included in the computation of earnings per share (“EPS”).

The following table sets forth the computation of basic and diluted loss per share:

For the three and nine months ended September 30, 2019 and 2018, 4,986,334 stock warrants were excluded from diluted earnings per share because they are considered anti-dilutive.

For the three and nine months ended September 30, 2019 and 2018, 1,257,555 stock options were excluded from diluted earnings per share because they are considered anti-dilutive.

Further, the calculation of diluted weighted-average shares outstanding for the three and nine months ended September 30, 2019 and 2018 exclude potential shares, related to the outstanding convertible notes payable, which if converted, would be anti-dilutive and would have a significant impact on the total number of shares outstanding, once exercised.

NOTE 4 – STOCKHOLDERS’ EQUITY

During the nine months ended September 30, 2019 no equity activity occurred.

During the first quarter of 2018, the Company issued 5,227,147 shares of common stock to a shareholder/director in full satisfaction and discharge of certain obligations of the Company with respect to various advances and contributions made by such shareholder/director. The Company accounted for this related party transaction as a capital contribution and, accordingly, did not recognize gain or loss in the condensed consolidated statements of operations. Such transaction was effected pursuant to a 2017 Consolidated Conversion and Subscription Agreement entered into as of January 31, 2018 (the “2017 Conversion Agreement”) pursuant to which (i) such shareholder/director converted $100,000 advanced on July 10, 2010 bearing interest at 8.0% per annum (the “2010 Advance”) into 250,000 shares of common stock at a conversion price of $0.40 per share; (ii) such shareholder/director converted $50,000 advanced on December 31, 2012 bearing interest at 8.0% per annum (the “2012 Advance”) into 166,667 shares of common stock at a conversion price of $0.30 per share; (iii) the Company agreed to issue and such shareholder/director agreed to accept 539,230 shares of common stock at $0.20 per share in full payment of accrued and unpaid interest on the 2010 Advance and 2012 Advance which totaled $107,846; (iv) the Company agreed to issue and such shareholder/director agreed to accept 800,000 shares of common stock at $0.25 per share in full consideration for an aggregate of $200,000, bearing no interest, contributed to the Company between July 29 and December 2, 2015, and expected to be applied to stock subscriptions to be issued at a future date; (v) the Company agreed to issue and such shareholder/director agreed to accept 2,150,000 shares of common stock at $0.20 per share in full consideration for aggregate of $430,000, bearing no interest, contributed to the Company between February 9 and November 30, 2016, and expected to be applied to stock subscriptions to be issued at a future date; and (vi) the Company agreed to issue and such shareholder/director agreed to accept 1,321,250 shares of common stock at $0.20 per share in full consideration for an aggregate of $264,250, bearing no interest, contributed to the Company between January 5 and October 24, 2017 and expected to be applied to stock subscriptions to be issued at a future date.

NOTE 5 – STOCK WARRANTS AND OPTIONS

Stock Warrants

No warrants were issued or exercised, nor were there any warrants that expired, during the nine months ended September 30, 2019 and 2018.

Warrants outstanding and exercisable as of September 30, 2019 were:

Stock Options

In September 2003, shareholders of the Company approved an employee stock option plan (the “2003 Option Plan”) authorizing the issuance of options to purchase up to 1,000,000 shares of common stock. The 2003 Option Plan is intended to give the Company greater ability to attract, retain, and motivate officers, key employees, directors and consultants; and is intended to provide the Company with the ability to provide incentives more directly linked to the success of the Company’s business and increases in shareholder value. During the third quarter of 2013, the board of directors increased the number of shares reserved for issuance under the 2003 Option Plan from 1,000,000 to 1,250,000 which was increased by the board to 1,750,000 during the third quarter of 2018.

A summary of the activity of the Company’s stock options for the nine months ended September 30, 2019 is presented below:

NOTE 6 – INCOME TAXES

On December 22, 2017, the President signed the Tax Cuts and Jobs Act (“U.S. Tax Reform”), which enacts a wide range of changes to the U.S. Corporate income tax system. The impact of U.S. Tax Reform primarily represents our estimates of revaluing our U.S. deferred tax assets and liabilities based on the rates at which they are expected to be recognized in the future. For U.S. federal purposes the corporate statutory income tax rate was reduced from 35% to 21%, effective for the 2018 tax year. Based on our historical financial performance, we have a net deferred tax asset position that we have re-measured at the lower corporate rate of 21%.

NOTE 7 – RELATED PARTY NOTES AND ADVANCES

On July 7, 2009, the Company entered into a $100,000 unsecured promissory note with an officer, due on demand. Interest is payable at 12% per annum. Also, on December 11, 2009, the Company entered into a $50,000 note with a shareholder/director. Interest is 5% per annum. The principal balance of the note was due on the earlier of December 11, 2013, or upon completion by the Company of equity financing in excess of $1.0 million in gross proceeds. Interest on the loan is payable on the maturity date at the rate of 5% per annum. These notes are now overdue for payment.

On June 1, 2010, the Company entered into a $50,000 convertible promissory note with a shareholder/director which was due on June 1, 2013 and accrues interest at 8.0% per annum payable at maturity and which may be converted at any time into shares of common stock. The assignment of the conversion feature of the note resulted in a loan discount being recorded. The discount amount of $36,207 was fully amortized over the original thirty-six-month term of the debt as additional interest expense. This note is now overdue for payment.

On June 1, 2010, the Company entered into $300,000 of convertible promissory notes with a shareholder/director which was due on June 1, 2013 and accrues interest at 8.0% per annum payable at maturity and which may be converted at any time into shares of common stock the number of which is to be determined at that time. This note is now overdue for payment.

On July 20, 2010, the Company entered into $400,000 convertible promissory notes with a shareholder/director which was due on July 20, 2013 and accrues interest at 8.0% per annum payable at maturity and which may be converted at any time into shares of common stock. This note is now overdue for payment.

On July 20, 2010, the Company entered into a $100,000 convertible promissory note with a shareholder which was due on July 20, 2013 and accrues interest at 8.0% per annum payable at maturity and which may be converted at any time into shares of common stock. This note is now overdue for payment.

On December 10, 2010, the Company entered into $150,000 of convertible promissory notes with a shareholder/director which was due on December 10, 2013 and accrues interest at 8.0% per annum payable at maturity and which may be converted at any time into shares of common stock. This note is now overdue for payment.

On June 20, 2011, the Company entered into a $150,000 convertible promissory note with a shareholder/director which shall be due and payable on June 20, 2014 and accrues interest at 8.0% per annum payable at maturity and which may be converted at any time into shares of common stock. This note is now overdue for payment.

On October 20, 2011, the Company entered into a $70,000 convertible promissory note with a shareholder/director which was due on October 20, 2014 and accrues interest at 8.0% per annum payable at maturity and which may be converted at any time into shares of common stock. This note is now overdue for payment.

During the year ended December 31, 2018, a shareholder/director advanced $445,000 to the Company for working capital requirements. In addition, the Company reclassified a previous customer deposit of $37,500 originally received from a shareholder/director, made on behalf of a now deceased distributor, from customer deposits to shareholder deposits, as the original projected sale in question is no longer viable. The Company expects amounts advanced will be either (i) applied against a stock subscription to be issued at a future date or (ii) repaid at a future date as the parties shall determine. Until otherwise agreed, such amounts advanced have been recorded as an additional payable bearing no interest.

During the nine months ended September 30, 2019, a shareholder/director advanced $430,000 to the Company for working capital requirements. The Company expects amounts advanced will be either (i) applied against a stock subscription to be issued at a future date or (ii) repaid at a future date as the parties shall determine. Until otherwise agreed, such amounts advanced have been recorded as an additional payable bearing no interest.

The Company determined it is not practicable to estimate the fair value of outstanding debt as of September 30, 2019 and December 31, 2018, as the outstanding debt is private, there is no clarity as to when interest payments or principal payments will ultimately be made (or be called by the debt holders), and the Company lacks the internal expertise to calculate fair value of these debt instruments and would incur excessive costs to obtain a third-party valuation.

Other related party transactions

As of September 30, 2019, and December 31, 2018, the Company owed approximately $4.2 and $4.1 million, respectively, to its chief executive officer and other employees of the Company. The CEO and employees agreed to salary deferrals pending available resources to make such payments.

NOTE 8 -- COMMITMENTS AND CONTINGENCIES

Effective January 1, 2019, the Company adopted ASU 2016-02, “Leases (Topic 842)” to account for leases. The Company elected to apply the transition option practical expedient as well as the short-term lease practical expedient upon adoption. As a result of adoption and application of the practical expedients, the Company noted there was no material impact to the Company’s financial statements upon adoption. The Company leased office space under a non-cancelable operating lease that was to expire in August 2019. Due to the short-term nature of the lease, the Company elected an accounting policy to not record short-term leases on the balance sheet. ASC 842-20-25-2 allows a lessee to elect an accounting policy to not record short-term leases, defined as those with terms of 12 months or less, on the balance sheet.

The lease provided for a rent-free period as well as increasing rental payments. In accordance with generally accepted accounting principles, rent expense for financial statement purposes was recognized on a straight-line basis over the lease term. A deferred lease liability arose from the timing difference in the recognition of rent expense and the actual payment of rent.

Rent expense for the three months ended September 30, 2019 and 2018 totaled $12,954 and $12,577, respectively and $38,252 and $37,784 for the nine months ended September 30, 2019 and 2018, respectively.

In August 2019, the Company executed a six-month amendment to the lease for office space for the period September 1, 2019 through February 29, 2020. As permitted by ASC 842-20-25-2 the Company has elected to not record the short-term lease on the balance sheet.

NOTE 9 -- RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In May 2014, the FASB issued ASU 2014-09, Revenue From Contracts With Customers that introduces a new five-step revenue recognition model in which an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This ASU also requires disclosures sufficient to enable users to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers, including qualitative and quantitative disclosures about contracts with customers, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill a contract. This standard is effective for fiscal years beginning after December 15, 2017, including interim periods within that reporting period. The Company has adopted this update. See Note 1 for further discussion.

In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842),” which requires lessees to recognize most lease liabilities on their balance sheets but recognize the expenses on their income statements in a manner similar to current practice. The update states that a lessee would recognize a lease liability for the obligation to make lease payments and a right-to-use asset for the right to use the underlying asset for the lease term. The update is effective for interim and annual periods beginning after December 15, 2018, and early adoption is permitted. The Company has adopted this update effective January 1, 2019 with no material impact on its consolidated financial statements.

Management does not believe that any other recently issued, but not yet effective accounting pronouncements, if adopted, would have a material effect on the accompanying consolidated financial statements.