The accompanying notes are an integral part of these consolidated financial statements.
HEALTHWAREHOUSE.COM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
1. Organization and Basis of Presentation
HealthWarehouse.com, Inc. ("HEWA" or the "Company"), a Delaware company incorporated in 1998, is an online mail order pharmacy, licensed and/or authorized to sell and deliver prescriptions in 50 states and the District of Columbia focusing on the out-of-pocket prescription drug market. The Company is Verified Internet Pharmacy Practice Site ("VIPPS") accredited by the National Association of Boards of Pharmacy ("NABP"). The Company markets a complete range of generic, brand name, and pet prescription medications as well as over-the-counter ("OTC") medications and products.
2. Going Concern and Management's Liquidity Plans
The Company adopted the guidance in Accounting Standards Update ("ASU") 2014-15,
Presentation of Financial Statements - Going Concern (Subtopic 205-40) - Disclosure of Uncertainties about an Entity's Ability to Continue as a Going Concern
, as of December 31, 2016. This ASU requires management to assess a company's ability to continue as a going concern and to provide related disclosures in certain circumstances. Based on the results of the Company's analysis, the following information is provided.
T
he Company has financed its operations primarily through debt and equity financings.
I
ncreased borrowings from the Company's senior lender during 2015 and 2016 have not been sufficient to satisfy the Company's current obligations. As of December 31, 2016, the Company had a working capital deficiency of $4,638,304 and an accumulated deficit of $4,270,644. During the years ended December 31, 2016 and 2015, the Company incurred net losses of $1,408,203 and $626,682, respectively, and used cash in operating activities of $116,830 and $548,281, respectively. These conditions indicate that there is substantial doubt about the Company's ability to continue as a going concern within one year after the date that the financial statements are issued.
The Company is subject to a 2013 Notice of Redemption related to its Series C Redeemable Preferred Stock aggregating $1,000,000, whereby, the Company must now apply all of its assets to redemption of the Series C Preferred Stock and to no other corporate purpose, except to the extent prohibited by Delaware law governing distributions to stockholders (the Company is not permitted to utilize toward the redemption those assets required to pay its debts as they come due and those assets required to continue as a going concern).
The Company recognizes it will need to raise additional capital in order to fund operations, meet its payment obligations and execute its business plan. There is no assurance that additional financing will be available when needed or that management will be able to obtain financing on terms acceptable to the Company and whether the Company will become profitable and generate positive operating cash flow. If the Company is unable to raise sufficient additional funds, it will have to develop and implement a plan to further extend payables, attempt to extend note repayments, attempt to negotiate the preferred stock redemption and reduce overhead until sufficient additional capital is raised to support further operations. There can be no assurance that such a plan will be successful. If the Company is unable to obtain financing on a timely basis, the Company could be forced to sell its assets, discontinue its operations, and /or seek reorganization under the U.S. bankruptcy code.
Accordingly, the accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America ("GAAP"), which contemplates continuation of the Company as a going concern and the realization of assets and the satisfaction of liabilities in the normal course of business. The carrying amounts of assets and liabilities presented in the consolidated financial statements do not necessarily represent realizable or settlement values. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
3. Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of HealthWarehouse.com, Inc., Hwareh.com, Inc., Hocks.com, Inc., ION Holding NV, ION Belgium NV, its wholly-owned subsidiaries. ION Holding NV and ION Belgium NV are inactive subsidiaries.
Intercompany
balances and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The Company's significant estimates include reserves related to accounts receivable and inventory, the recoverability and useful lives of long-lived assets and website development costs, the valuation allowance related to deferred tax assets, the valuation of equity instruments, debt discounts and contingencies.
Reclassifications
Certain accounts in the prior period consolidated financial statements have been reclassified for comparison purposes to conform to the presentation of the current period consolidated financial statements. These reclassifications had no effect on the previously reported net loss.
Cash and Cash Equivalents
The Company considers all highly liquid investments with an original maturity of three months or less when purchased to be cash equivalents. As of December 31, 2016 and 2015, the Company does not have any cash equivalents.
Restricted Cash
Restricted cash represents cash held by the Company's credit card processor as a reserve to cover potential future refunds and funds held by the senior lender as collateral for the Company's Senior Note. See Note 6 – Notes Payable to the consolidated financial statements for additional information.
Accounts Receivable and Allowance for Doubtful Accounts Receivable
Accounts receivable are shown net of an allowance for doubtful accounts of $0 and $47,143 as of December 31, 2016 and 2015, respectively. The Company's management has established an allowance for doubtful accounts sufficient to cover probable and reasonably estimable losses. The nature of the business is that the majority of payments are received before the product is shipped. If the financial conditions of customers were to materially deteriorate, an increase in the allowance amount could be required. The allowance for doubtful accounts considers several factors, including collection experience, current economic trends, estimates of forecasted write-offs, aging of the accounts receivable, and other factors.
Inventories, net
Inventories consist of finished goods and are valued at the lower of cost or market. Cost is determined by using the first-in, first-out method. As part of the valuation process, inventory reserves are established to state excess and slow-moving inventory at their estimated net realizable value. The valuation process for excess or slow-moving inventory contains uncertainty because management must use judgment to estimate when the inventory will be sold and the quantities and prices at which the inventory will be sold in the normal course of business. Inventory reserves are periodically reviewed, reflecting current risks, trends and changes in industry conditions. When preparing these estimates, management considers historical results, inventory levels and current operating trends. In the event the estimates differ from actual results, inventory-related reserves may be adjusted and could materially impact the results of operations.
Property and Equipment, net
Property and equipment are stated at cost, less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets. The costs of additions and betterments are capitalized and expenditures for repairs and maintenance, which do not extend the economic useful life of the related assets, are expensed in the period incurred. Gains or losses on disposal of property and equipment are reflected in the statements of operations in the period of disposal.
Impairment of Long-Lived Assets
The Company reviews the carrying value of intangibles and other long-lived assets for impairment at least annually or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of long-lived assets is measured by comparing the carrying amount of the asset or asset group to the undiscounted cash flows that the asset or asset group is expected to generate. If the undiscounted cash flows of such assets are less than the carrying amount, the impairment to be recognized is measured by the amount by which the carrying amount of the property, if any, exceeds its fair value. As of December 31, 2016 and 2015, the Company has not recognized any such impairment.
Website Development Costs
The Company capitalizes costs associated with the development of its website. During the years ended December 31, 2016 and 2015, the Company capitalized $13,700 and $17,972, respectively, of website development costs. The Company is amortizing the website development costs on a three-year straight-line basis and incurred amortization expense of $62,361 and $75,951 during the years ended December 31, 2016 and 2015, respectively. As of December 31, 2016, unamortized website development costs totaled $35,901. Estimated future amortization expense related to website development costs is $24,606 in 2017 and $4,446 in 2018. The remainder of the unamortized website development costs will be amortized when the projects to which they relate are placed in service.
Fair Value of Financial Instruments
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. These fair value measurements apply to all financial instruments that are measured and reported on a fair value basis.
Based on the observability of the inputs used in the valuation techniques, financial instruments are categorized according to the fair value hierarchy, which ranks the quality and reliability of the information used to determine fair values. Financial assets and liabilities carried at fair value are classified and disclosed in one of the following three categories:
Level 1 - Observable inputs such as quoted prices in active markets.
Level 2 - Inputs, other than the quoted prices in active markets, that are observable either directly or indirectly.
Level 3 - Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the assignment of an asset or liability within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The Company's assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.
The carrying value of items included in the Company's working capital approximates fair value because of the relatively short maturity of these instruments. The Company's notes payable approximate fair value because the terms are substantially similar to comparable debt in the marketplace.
Income Taxes
Deferred tax assets and liabilities are determined on the basis of the difference between the tax basis of assets and liabilities and their respective financial reporting amounts ("temporary differences") at enacted tax rates in effect for the years in which the temporary differences are expected to reverse.
GAAP prescribes a recognition threshold and measurement process for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.
Management has evaluated and concluded that there were no material uncertain tax positions requiring recognition in the Company's financial statements as of December 31, 2016 and 2015. The Company does not expect any significant changes in the unrecognized tax benefits within twelve months of the reporting date.
The Company classifies interest expense and any related penalties related to income tax uncertainties as a component of income tax expense. No interest or penalties have been recognized during the years ended December 31, 2016 and 2015.
Debt Discounts
The Company records, as a discount to notes and convertible notes, the relative fair value of warrants issued in connection with the issuances and the intrinsic value of any conversion options based upon the differences between the fair value of the underlying common stock at the commitment date of the note transaction and the effective conversion price embedded in the note. Debt discounts under these arrangements are amortized to interest expense using the interest method over the earlier of the term of the related debt or their earliest date of redemption. As of December 31, 2016 and 2015, the Company had no unamortized debt discounts.
Revenue Recognition
Revenues for the sales of products are recognized when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed and determinable and collectability is reasonably assured. The Company defers revenue when cash has been received from the customer but delivery has not yet occurred. Such amounts are reflected as deferred revenues in the accompanying consolidated financial statements.
Shipping and Handling Costs
The Company policy is to provide free standard shipping and handling for most orders. Shipping and handling costs incurred are recognized in selling, general and administrative expenses. Such amounts aggregated $1,143,067 and $612,377 for the years ended December 31, 2016 and 2015, respectively.
In certain circumstances, shipping and handling costs are charged to the customer and recognized in Net sales. The amounts recognized in Net sales for the years ended December 31, 2016 and 2015 were $388,921 and $251,550, respectively.
Advertising and Marketing Expenses
The Company expenses all advertising and marketing costs as incurred and were $647,053 and $508,633 for the years ended December 31, 2016 and 2015, respectively.
Sales Taxes
The Company accounts for sales taxes imposed on its goods and services on a net basis in the consolidated statements of operations.
Net Earnings (Loss) Per Share of Common Stock
Basic net earnings (loss) per share is computed by dividing net earnings (loss) attributable to common stockholders by the weighted average number of common shares outstanding during the period. Diluted net earnings per share reflects the potential dilution that could occur if securities or other instruments to issue common stock were exercised or converted into common stock. Potentially dilutive securities are excluded from the computation of diluted net earnings per share if their inclusion would be anti-dilutive and consist of the following:
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Options
|
|
|
1,294,204
|
|
|
|
5,341,284
|
|
Warrants
|
|
|
7,806,118
|
|
|
|
10,046,198
|
|
Series B Convertible Preferred Stock
|
|
|
6,032,406
|
|
|
|
5,507,202
|
|
Total potentially dilutive shares
|
|
|
15,132,728
|
|
|
|
20,894,684
|
|
Stock-Based Compensation
Stock-based compensation expense for all stock-based payment awards is based on the estimated fair value of the award. For employees and directors, the award is measured on the grant date. For non-employees, the award is measured on the grant date and is then remeasured at each vesting date and financial reporting date. The Company recognizes the estimated fair value of the award as compensation cost over the requisite service period of the award, which is generally the option vesting term. The Company generally issues new shares of common stock to satisfy option and warrant exercises.
Preferred Stock
Preferred shares subject to mandatory redemption (if any) are classified as liability instruments and are measured at fair value. The Company classifies conditionally redeemable preferred shares, which includes preferred shares that feature redemption rights that are either within the control of the holder or subject to redemption upon the occurrence of uncertain events not solely within the Company's control, as temporary equity. At all other times, the Company classifies its preferred shares in stockholders' deficiency.
Convertible Instruments
GAAP requires companies to bifurcate conversion options from their host instruments and account for them as free standing derivative financial instruments according to certain criteria. The criteria include circumstances in which (a) the economic characteristics and risks of the embedded derivative instrument are not clearly and closely related to the economic characteristics and risks of the host contract, (b) the hybrid instrument that embodies both the embedded derivative instrument and the host contract is not re-measured at fair value under otherwise applicable generally accepted accounting principles with changes in fair value reported in earnings as they occur and (c) a separate instrument with the same terms as the embedded derivative instrument would be considered a derivative instrument. An exception to this rule is when the host instrument is deemed to be conventional as that term is described under applicable GAAP.
When the Company has determined that the embedded conversion options should not be bifurcated from their host instruments, the Company records, when necessary, discounts to convertible notes for the intrinsic value of conversion options embedded in debt instruments based upon the differences between the fair value of the underlying common stock at the commitment date of the note transaction and the effective conversion price embedded in the note. Debt discounts under these arrangements are amortized over the term of the related debt to their stated date of redemption. The Company also records, when necessary, deemed dividends for the intrinsic value of conversion options embedded in preferred shares based upon the differences between the fair value of the underlying common stock at the commitment date of the transaction and the effective conversion price embedded in the preferred shares.
Common Stock Warrants and Other Derivative Financial Instruments
The Company classifies as equity any contracts that (i) require physical settlement or net-share settlement or (ii) provide the Company with a choice of net-cash settlement or settlement in its own shares (physical settlement or net-share settlement) providing that such contracts are indexed to the Company's own stock. The Company classifies as assets or liabilities any contracts that (i) require net-cash settlement (including a requirement to net cash settle the contract if an event occurs and if that event is outside the Company's control) or (ii) gives the counterparty a choice of net-cash settlement or settlement in shares (physical settlement or net-share settlement). The Company assesses classification of its common stock purchase warrants and other free standing derivatives at each reporting date to determine whether a change in classification between assets and liabilities is required.
The Company evaluated its free-standing warrants to purchase common stock to assess their proper classification in the consolidated balance sheet as of December 31, 2016 and 2015 using the applicable classification criteria enumerated under GAAP and determined that the common stock purchase warrants contain fixed settlement provisions.
Recently Issued Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board ("FASB") issued ASU 2014-09, "
Revenue from Contracts with Customers
", which provides guidance for revenue recognition. The standard requires that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In August 2015, the FASB issued ASU 2015-14 which delayed the effective date of the new revenue guidance by one year. As a result, the provisions of ASU 2014-09, and subsequent amendments, are effective for annual reporting periods beginning after December 15, 2017. The Company has not yet determined the effect of the adoption of this standard and its impact on the Company's consolidated financial position and results of operations.
In July 2015, the FASB issued ASU 2015-11, "
Simplifying the Measurement of Inventory
". ASU 2015-11 requires an entity to measure inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. Subsequent measurement is unchanged for inventory measured using last-in, first-out ("LIFO") or the retail inventory method. It is effective for annual reporting periods beginning after December 15, 2016. The amendments should be applied prospectively with earlier application permitted as of the beginning of an interim or annual reporting period. The adoption of this standard is not expected to have a material impact on the Company's consolidated financial position and results of operations.
In February 2016, the FASB issued ASU 2016-02,
Leases (Topic 842)
. ASU 2016-02 requires that a lessee recognize the assets and liabilities that arise from operating leases. A lessee should recognize in the statement of financial position a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. In transition, lessees and lessors are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. Public business entities should apply the amendments in ASU 2016-02 for fiscal years beginning after December 15, 2018. Early application is permitted for all public business entities and all nonpublic business entities upon issuance. The Company has not yet determined the effect of the adoption of this standard on the Company's consolidated financial position and results of operations.
In March 2016, the FASB issued ASU 2016-09, "
Compensation - Stock Compensation"
(Topic 718
): Improvements to Employee Share-Based Payment Accounting
. ASU 2016-09 simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. ASU 2016-09 is effective for the Company beginning January 1, 2017. The Company is currently evaluating the potential impact of adopting this guidance on the Company's consolidated financial statements.
In August 2016, the FASB issued ASU 2016-15, "
Classification of Certain Cash Receipts and Cash Payments (Topic 230)"
. ASU 2016-15 adds and clarifies guidance on the classification of certain cash receipts and payments in the statement of cash flows, reducing the existing diversity in practice that has resulted from the lack of consistent principles on this topic. ASU 2016-15 is effective for the Company beginning January 1, 2018. Early adoption is permitted. The Company is currently evaluating the impact adopting this guidance will have on classifications in its consolidated statements of cash flows.
In November 2016, the FASB issued ASU 2016-18, "
Statement of Cash Flows (Topic 230): Restricted Cash
." ASU 2016-18 requires that a statement of cash flows explain the change during the period in the total 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 and ending balances shown on the statement of cash flows. The guidance is effective for the Company in the first quarter of 2019 and early adoption is permitted. ASU 2016-18 must be applied retrospectively to all periods presented. The Company is currently evaluating what impact the adoption of this update will have on our consolidated statements of cash flows.
As of the date of this Annual Report on Form 10-K, there were no other recent accounting standard updates that the Company has not yet adopted that we believe would have a material impact on our consolidated financial statements.
4. Property and Equipment, Net
Property and equipment, net consisted of the following:
|
|
December 31,
|
|
Useful Life
|
|
|
2016
|
|
|
2015
|
|
(Years)
|
|
|
|
|
|
|
|
|
Computer Software
|
|
$
|
230,299
|
|
|
$
|
230,299
|
|
5 years
|
Equipment
|
|
|
549,365
|
|
|
|
548,156
|
|
15 years
|
Office Furniture and Equipment
|
|
|
98,192
|
|
|
|
95,754
|
|
7 years
|
Computer Hardware
|
|
|
32,992
|
|
|
|
32,992
|
|
5 years
|
Leasehold Improvements
|
|
|
309,374
|
|
|
|
303,318
|
|
(a)
|
Total
|
|
|
1,220,222
|
|
|
|
1,210,519
|
|
|
Less: Accumulated Depreciation
|
|
|
(888,463
|
)
|
|
|
(801,271
|
)
|
|
Property and Equipment, Net
|
|
$
|
331,759
|
|
|
$
|
409,248
|
|
|
(a) Lesser of useful life or initial term of lease
Depreciation expense for the above assets for the years ended December 31, 2016 and 2015 was $87,192 and $108,369, respectively.
5. Accrued Expenses and Other Current Liabilities
Accrued expenses and other current liabilities consisted of the following:
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Salaries and Benefits
|
|
$
|
110,819
|
|
|
$
|
64,007
|
|
Dividend Payable
|
|
|
342,233
|
|
|
|
319,854
|
|
Advertising
|
|
|
75,000
|
|
|
|
76,639
|
|
Accrued Interest
|
|
|
44,249
|
|
|
|
44,249
|
|
Accrued Rent
|
|
|
51,181
|
|
|
|
49,614
|
|
Proxy & Solicitation Costs
|
|
|
130,000
|
|
|
|
-
|
|
Severance
|
|
|
232,417
|
|
|
|
-
|
|
Deferred Rent
|
|
|
-
|
|
|
|
25,852
|
|
Other
|
|
|
50,457
|
|
|
|
17,450
|
|
|
|
$
|
1,036,356
|
|
|
$
|
597,665
|
|
6. Notes Payable
Notes payable consisted of the following:
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Senior Note
|
|
$
|
1,200,000
|
|
|
$
|
891,089
|
|
Promissory Note
|
|
|
100,000
|
|
|
|
100,000
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
1,300,000
|
|
|
$
|
991,089
|
|
The Company is a party to a Loan and Security Agreement dated March 28, 2013 (the "Loan Agreement") with Melrose Capital Advisors (the "Lender"). Under the terms of the Loan Agreement, the Company has borrowed an aggregate of $1,200,000 from the Lender, including $308,911 and $250,000 during the years ended December 31, 2016 and 2015, respectively. The Loan is evidenced by a promissory note (the "Senior Note") in the face amount of $1,200,000 (as amended). The Company also borrowed and repaid $50,000 from the Lender in a separate transaction during the third quarter 2016.
The Senior Note bears interest on the unpaid principal balance of the Note until the full amount of principal has been paid at a floating rate equal to the Prime Rate plus four and one-quarter percent (4.25%) per annum (7.75%) as of December 31, 2016). Under the terms of the Loan Agreement, the Company has agreed to make monthly payments of accrued interest. On November 30, 2016, the Company and the Lender entered into a Fourth Amendment to Amended and Restated Promissory Note, pursuant to which the Lender agreed to extend the maturity date of the Senior Note from November 30, 2016 to February 28, 2017. The principal amount and all unpaid accrued interest on the Senior Note was payable on February 28, 2017, or earlier in the event of default or a sale or liquidation of the Company. The Loan may be prepaid in whole or in part at any time by the Company without penalty. See Note 13 – Subsequent Events for additional information related to the Note's maturity date extension.
The Company granted the Lender a first priority security interest in all of the Company's assets, in order to secure the Company's obligation to repay the Loan, including a Deposit Account Control Agreement, dated as of July 8, 2016, which grants the Lender a security interest in certain bank accounts of the Company. The Loan Agreement contains customary negative covenants restricting the Company's ability to take certain actions without the Lender's consent, including incurring additional indebtedness, transferring or encumbering assets, paying dividends or making certain other payments, and acquiring other businesses. Upon the occurrence of an event of default, the Lender has the right to impose interest at a rate equal to eight percent (8.0%) per annum above the otherwise applicable interest rate (the "Default Rate"). The repayment of the Loan may be accelerated prior to the maturity date upon certain specified events of default, including failure to pay, bankruptcy, breach of covenant, and breach of representations and warranties.
The investor rights agreement of the Company's Series B preferred shares limits the total debt of the Company to $1 million. The Company has received waivers to temporarily exceed the limit in connection with the extensions of the Senior Note. The Senior Note contained financial covenants through June 30, 2016, which required the Company to meet certain minimum targets for earnings before interest, taxes and non-cash expenses, including depreciation, amortization and stock-based compensation ("EBITDAS").
On August 27, 2015, a supplier of the Company was granted an order of garnishment against the Company's funds held in a bank account in the amount of $83,766 for an unpaid debt, accordingly, such amount was classified as restricted cash. On September 16, 2015, the Company's Lender filed a motion with the court to intercede in the garnishment action on the grounds that it has a superior lien on the funds which was granted at a hearing on October 6, 2015. In addition, as a result of the garnishment action, the Lender notified the Company that an event of default has occurred on the Senior Note and the Loan is in default and immediately payable. On November 30, 2015, the court issued an order that the Company's Lender was the priority lienholder with regard to the funds being held in the bank account. Subsequent to receiving the court's order, the funds were released by the bank to the Company's Lender and the funds were applied against the Loan balance. The funds applied against the loan balance were advanced back to the Company in 2016. The Lender waived the events of default related to the garnishment in December 2015.
In connection with the Loan Agreement, the Company granted the Lender five-year warrants to purchase an aggregate of 1,875,000 shares of common stock at an exercise price ranging from $0.10 to $0.35 per share, of which 750,000 warrants were issued during the year ended December 31, 2015. The warrants contain customary anti-dilution provisions. The warrants had an aggregate grant date relative fair value of $472,100, of which $69,600 was recorded as debt discounts during the year ended December 31, 2015, and were amortized using the effective interest method over the term of the Senior Note. In addition, the Company agreed to modify the exercise price on 375,000 previously issued warrants from $0.35 to $0.12 effective November 11, 2015 which resulted in an additional debt discount of $1,800. The Company amortized $114,434 of the debt discount as interest expense during the year ended December 31, 2015. The debt discounts were fully amortized as of December 31, 2015. Including the value of warrants issued in connection with Senior Note and subsequent amendments, the Senior Note had an effective interest rate of 37% per annum.
Promissory Note
On October 30, 2013, the Company issued a note payable with a principal amount of $100,000 to a lender. The note bears interest on the unpaid principal balance until the full amount of principal has been paid at a floating rate equal to the Prime Rate plus four and one-quarter percent (4.25%) per annum (7.75% as of December 31, 2016). Under the terms of the note, the Company has agreed to make monthly payments of accrued interest. The Company's obligations are unsecured and are subordinate to its obligations pursuant to the Senior Note described above. The Loan may be prepaid in whole or in part at any time by the Company without penalty. The principal amount and all unpaid accrued interest was payable on October 31, 2016 (as amended). See Note 13 – Subsequent Events for additional information.
On January 11, 2016, the Company entered into an amendment to the Promissory Note which extended the maturity date of the note payable from November 1, 2015 to October 31, 2016. In consideration of the extension of the maturity date of the note payable, the Company issued to the lender a five-year warrant to purchase 75,000 shares of common stock at an exercise price of $0.25 per share. The warrants had a fair value of $15,500 using the Black-Scholes model which was established as debt discount and was amortized using the effective interest method over the remaining term of the Promissory Note. Including the value of the warrants issued in connection with the extension of the maturity date of the Promissory Note, the Promissory Note had an effective interest rate of 23% per annum during the extension period.
The Company amortized $15,500 and $15,333 of the debt discounts as interest expense during the years ended December 31, 2016 and 2015 and as of December 31, 2016, the debt discount was fully amortized.
7. Changes in Board of Directors and Management Changes
On September 2, 2016, the Company's shareholders elected four new directors who had run as an alternative slate to the slate the Company had recommended to its shareholders. The elected directors were Mr. Jeffrey T. Holtmeier, Mr. Brian A. Ross, Mark Scott and Dr. Stephen Weiss.
Effective as of September 12, 2016, the newly elected Board of Directors along with Mr. Joseph Heimbrock, a director appointed as a class by the Series B shareholders, elected Mr. Holtmeier as Chairman of the Board. The Board of Directors formed audit, compensation and nominating and governance committees. On October 11, 2016, the board revised committee memberships as the result of the appointment of Mr. Holtmeier as CEO, as follows:
•
|
Audit: Ross (Chair), Scott and Weiss
|
•
|
Compensation: Ross, Scott (Chair)
|
•
|
Governance and Nominating: Heimbrock, Scott, Weiss (Chair)
|
On September 13, 2016, after the election of the new Board of Directors, the Company's Chief Executive Officer, Mr. Lalit Dhadphale, tendered his resignation which the Board of Directors of the Company subsequently accepted. Mr. Dhadphale's separation from the Company was effective October 13, 2016. Mr. Dhadphale's contract provided for severance payments under certain conditions, including a change in the composition of the Board of Directors, and contained restrictive covenants regarding disclosure of confidential information, non-solicitation and employee non-competition.
On September 9, 2016, after the election of the new Board of Directors, the Company's Chief Financial Officer, Mr. Daniel Seliga, tendered his resignation which the Board of Directors of the Company subsequently accepted. Mr. Seliga's separation from the Company was effective October 9, 2016. Mr. Seliga's contract provides for severance payments under certain conditions, including a change in the composition of the Board of Directors, and contained restrictive covenants regarding disclosure of confidential information, non-solicitation and employee non-competition.
See Note 13 for additional management changes subsequent to December 31, 2016.
Employment Agreement
On October 11, 2016, the Board of Directors of the Company appointed Jeffrey T. Holtmeier as the President and Chief Executive Officer of the Company. Subsequently, the Company and Mr. Holtmeier entered into a written agreement outlining compensation and other terms of Mr. Holtmeier's employment. Mr. Holtmeier was to be paid an annual salary of $175,000, and had an annual bonus target of 100% of base salary, with the amount of bonus to be determined according to the Company achieving certain financial metrics. Mr. Holtmeier was also granted options under the Company's Long Term Incentive Plan to purchase 125,000 shares of the Company's common stock, at a price of $0.29 per share, which was the closing price for the Company's common stock on the date of grant. Mr. Holtmeier's agreement contained other provisions that no longer apply due to his resignation. See Note 13 - Subsequent Events for additional information.
Related to the solicitation of shareholders' proxies and subsequent resignations per certain employment agreements mentioned above, the Company incurred proxy and solicitation costs of $578,484 and severance costs of $276,167 during the year ended December 31, 2016, which are included
as a component of selling, general and administrative expenses in the consolidated statements of operations
. At December 31, 2016, $211,722 and $392,417 of these costs are recorded in Accounts Payable, and Accrued Expenses and Other Current Liabilities, respectfully.
8. Stockholders' Deficiency
Authorized Capital
The Company is authorized to issue up to 100,000,000 shares of common stock with a par value of $0.001 per share and 1,000,000 shares of preferred stock with a par value of $0.001 per share.
Common Stock
On December 21, 2015, the Company issued 94,779 shares of common stock to a former employee resulting from a cashless exercise of warrants.
On July 28, 2016, the Company entered an Exchange Agreement with Dellave Holdings LLC ("Dellave") whereby the Company issued an aggregate of 2,253,528 shares of common stock in exchange for the extinguishment of $698,594 of accounts payable balances held by Dellave. The exchange was based on the prior day's closing price of $0.31 of the Company's common stock. The $698,594 aggregate fair value of the common stock issued was credited to equity at conversion. Mr. Timothy Reilly is the managing member of Dellave and he is also the managing member of Melrose Capital Advisors, LLC, the Company's senior lender at the time of the transaction.
Preferred Stock
Series A Preferred Stock
The Company has designated 200,000 of the 1,000,000 authorized shares of preferred stock as Series A Convertible Preferred Stock ("Series A Preferred Stock"). The Series A Preferred Stock is non-voting, has a liquidation preference equal to its purchase price, and does not pay dividends. The holders can call for the conversion of the Series A Preferred Stock at any time and are entitled to half a share of the Company's common stock for each share of Series A Preferred Stock converted. As of December 31, 2016, 44,443 shares of Series A Preferred Stock are available to be issued. There were no shares of Series A Preferred Stock outstanding as of December 31, 2016 or 2015.
Series B Preferred Stock
The Company has designated 625,000 of the 1,000,000 authorized shares of preferred stock as Series B Convertible Preferred Stock ("Series B Preferred Stock"). The Series B Preferred Stock has voting rights equal to one vote for each common share equivalent, has a liquidation preference equal to its purchase price, and receives preferred dividends equal to 7% of all outstanding shares in either cash or payment-in-kind. The holders can call for the conversion of the Series B Preferred Stock at any time and are entitled to five shares of the Company's common stock for each share of Series B Preferred Stock converted.
In addition, the Series B Preferred Stock is subject to weighted average anti-dilution protection whereby if shares of common stock are sold below the current conversion price, the conversion price is reduced pursuant to a pre-defined formula. As of December 31, 2016 and 2015, Series B holders were entitled to convert into 11.66 and 11.39 shares, respectively, of the Company's common stock for each share of Series B Preferred Stock due to the anti-dilution provision. The anti-dilution provision represents a contingent beneficial conversion feature. As of December 31, 2016, an incremental 3,445,611 shares of common stock are issuable at conversion of the Series B Convertible Preferred Stock as compared to the original terms. Using the commitment date common stock price in effect, the commitment date value of the incremental shares is $8,696,723.
However, recognition of beneficial conversion features is limited to the aggregate gross proceeds allocated to the preferred stock of $3,199,689 (422,315 shares of Series B Convertible Preferred Stock times $9.45 per share less the proceeds allocated to the warrants of $791,188) less the $1,666,967 beneficial conversion feature already recognized on the original 365,265 shares of Series B Preferred Stock (prior to the issuance of additional shares as payment-in-kind in lieu of cash dividends). Due to these limitations, no beneficial conversion feature value was recorded for the years ended December 31, 2016 and 2015. The investor rights agreement of the Company's Series B preferred shares limits the total debt of the Company to $1 million. The agreement also limits the ability to raise preferred equity at current market conversion rates.
As of and for the year ended December 31, 2016 and 2015, the Company had accrued contractual dividends of $342,233 and $319,854, respectively, related to the Series B Preferred Stock. On January 3, 2016, the Company issued 33,847 shares of Series B convertible preferred stock valued at approximately $320,000, representing approximately $0.66 in value per share of Series B Preferred Stock outstanding on that date, to the Series B convertible preferred stock owners as payment in kind for dividends.
Series C Preferred Stock
The Company's Certificate of Designation designates 10,000 shares of the Company's preferred stock as Series C Preferred Stock to be issued at an original issue price of $100 per share. The Series C Preferred Stock has voting rights equal to one vote for each share held, has a liquidation preference equal to its purchase price, and has certain redemption rights available at the option of the holder. The Series C Preferred Stock is non-convertible and does not pay dividends.
On October 17, 2011, the Company received net cash proceeds of $1,000,000 for the sale of 10,000 shares of Series C Preferred Stock to a greater than 10% stockholder of the Company. Since certain of the Company's preferred shares contain redemption rights which are not solely within the Company's control, these issuances of preferred stock were initially presented as temporary equity. On February 13, 2013, the Company received a Notice of Redemption of Series C Preferred Stock and as a result, the shares are classified as a current liability as of December 31, 2016 in the Company's consolidated balance sheet.
Incentive Compensation / Stock Option Plans
The Company sponsors an Incentive Compensation Plan (the "2009 Plan") which was approved by the Board of Directors and the Company's Stockholders, and initially allowed the total number of shares of common stock issuable pursuant to the 2009 Plan to be 2,881,425 shares.
The 2009 Plan imposes individual limitations on the amount of certain awards. Under these limitations during any fiscal year of the Company, the number of options, stock appreciation rights, shares of restricted stock, shares of deferred stock, performance shares and other stock based-awards granted to any one participant under the 2009 Plan may not exceed 250,000 shares, subject to adjustment in certain circumstances. The maximum amount that may be paid out as performance units in any 12-month performance period is an aggregate value of $2,000,000, and the maximum amount that may be paid out as performance units in any performance period greater than 12 months is an aggregate value of $4,000,000. The maximum term of each option or stock appreciation right, the times at which each option or stock appreciation right will be exercisable, and provisions requiring forfeiture of unexercised options or stock appreciation rights at or following termination of employment generally are fixed by the board of directors or committee of the Company's board of directors designated to administer the 2009 Plan (the "Committee"), except that no option or stock appreciation right may have a term exceeding ten years. The exercise price per share subject to an option and the grant price of a stock appreciation rights are determined by the Committee, but in the case of an incentive stock option (ISO) must not be less than the fair market value of a share of common stock on the date of grant.
Following the approval of the Board of Directors and stockholders of record as of August 25, 2014, the Company adopted the 2014 Equity Incentive Plan (the "2014 Plan") which made a total of 6,000,000 shares of common stock authorized and available for issuance pursuant to awards granted under the 2014 Plan.
The 2014 Plan limit imposes individual limitations on the amount of certain awards. Under these limitations during any fiscal year of the Company, the number of options, stock appreciation rights, shares of restricted stock, shares of deferred stock, performance shares and other stock based-awards granted to any one participant under the 2014 Plan may not exceed 1,500,000 shares, subject to adjustment in certain circumstances. The maximum number of shares that may be awarded that are not subject to performance targets is an aggregate of 1,200,000 shares. The maximum term of each option or stock appreciation right, the times at which each option or stock appreciation right will be exercisable, and provisions requiring forfeiture of unexercised options or stock appreciation rights at or following termination of employment generally are fixed by the Committee designated to administer the 2014 Plan, except that no option or stock appreciation right may have a term exceeding ten years. The exercise price per share subject to an option and the grant price of a stock appreciation rights are determined by the Committee, but in the case of an incentive stock option (ISO) must not be less than the fair market value of a share of common stock on the date of grant.
Stock Options
Grants
During the year ended December 31, 2016, the Company granted options to and directors, employees, and consultants of the Company to purchase an aggregate of 660,265 shares of common stock under a previously approved plan at exercise price ranging between $0.24 and $0.35 per share for an aggregate grant date value of $195,875. The options vested on the grant date and have a term of ten years.
During the year ended December 31, 2015, the Company granted options to employees and directors of the Company to purchase an aggregate of 2,141,339 shares of common stock under the 2014 Plan at an exercise price of between $0.09 to $0.15 per share for an aggregate grant date value of $211,860. The options have a vesting period ranging from immediate to three years and have a term of ten years.
During the year ended December 31, 2015, the Company granted options to consultants of the Company to purchase an aggregate of 349,861 shares of common stock under the 2014 Plan at an exercise price of between $0.09 and $0.12 per share for an aggregate grant date value of $37,423. The options have a vesting period ranging from immediate to three years and have a term of ten years.
Exercise
During the year ended December 31, 2016, the Company issued an aggregate of 1,492,078 shares of common stock to holders of options who elected to exercise options to purchase 3,091,475 shares of common stock on a cashless basis under the terms of the options. The options had exercise prices ranging from $0.09 and $0.30 per share.
During the year ended December 31, 2016, the Company received proceeds of $1,833 from the exercise of options to purchase 16,666 shares of common stock.
The aggregate intrinsic value of the options exercised was $480,041 for the year ended December 31, 2016.
Valuation and Amortization
Option valuation models require the input of highly subjective assumptions. The fair value of the stock-based payment awards is estimated utilizing the Black-Scholes option model. The volatility component of this calculation is derived from the historical trading prices of the Company's own common stock. The Company accounts for the expected life of options in accordance with the "simplified" method for "plain vanilla" share options. The risk-free interest rate was determined from the implied yields of U.S. Treasury zero-coupon bonds with a remaining life consistent with the expected term of the options.
In addition, the Company is required to estimate the expected forfeiture rate and only recognize expense for those shares expected to vest. In estimating the Company's forfeiture rate, the Company analyzed its historical forfeiture rate, the remaining lives of unvested options, and the number of vested options as a percentage of total options outstanding. If the Company's actual forfeiture rate is materially different from its estimate, or if the Company reevaluates the forfeiture rate in the future, the stock-based compensation expense could be significantly different from what the Company has recorded in the current period. The Company estimated forfeitures related to option grants at a weighted average annual rate of 5% and 3% per year for options granted during the years ended December 31, 2016 and 2015, respectively.
In applying the Black-Scholes option pricing model to stock options granted, the Company used the following weighted average assumptions:
|
|
Year Ended December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Risk-free interest rate
|
|
1.00% to 2.12%
|
|
1.35% to 2.28%
|
Expected dividend yield
|
|
0.00%
|
|
0.00%
|
Expected volatility
|
|
196% to 200.0%
|
|
195% to 199.0%
|
Weighted average expected life
|
(contractual term) in years
|
|
5.5 to 10.0
|
|
5.5 to 10.0
|
Stock-based compensation expense related to stock options was recorded in selling, general and administrative expenses in the consolidated statements of operations and totaled $327,202 and $308,026 for the years ended December 31, 2016 and 2015, respectively.
As of December 31, 2016, stock-based compensation expense related to stock options of $36,291 remains unamortized which is being amortized over the weighted average remaining period of 1.5 years.
Summary
A summary of the stock option activity during the years ended December 31, 2016 and 2015 is presented below:
|
|
Number of
Options
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Weighted
Average
Remaining
Contractual
Term (Years)
|
|
|
Aggregate
Intrinsic
Value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding, January 1, 2015
|
|
|
3,944,557
|
|
|
$
|
1.27
|
|
|
|
|
|
|
|
Granted
|
|
|
2,491,200
|
|
|
|
0.10
|
|
|
|
|
|
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
Forfeited
|
|
|
(1,094,473
|
)
|
|
|
1.40
|
|
|
|
|
|
|
|
Outstanding, December 31, 2015
|
|
|
5,341,284
|
|
|
$
|
0.70
|
|
|
|
|
|
|
|
Granted
|
|
|
660,265
|
|
|
|
0.30
|
|
|
|
|
|
|
|
Exercised
|
|
|
(3,108,141
|
)
|
|
|
0.16
|
|
|
|
|
|
|
|
Forfeited
|
|
|
(1,599,204
|
)
|
|
|
1.73
|
|
|
|
|
|
|
|
Outstanding, December 31, 2016
|
|
|
1,294,204
|
|
|
$
|
0.51
|
|
|
|
8.0
|
|
|
$
|
145,533
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable, December 31, 2016
|
|
|
804,204
|
|
|
$
|
0.76
|
|
|
|
7.7
|
|
|
$
|
54,267
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table presents information related to stock options outstanding and exercisable at December 31, 2016:
|
|
|
Options Outstanding
|
|
|
Options Exercisable
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
Weighted
|
|
|
|
|
Range of
|
|
|
Average
|
|
|
Outstanding
|
|
|
Average
|
|
|
Average
|
|
|
Exercisable
|
|
Exercise
|
|
|
Exercise
|
|
|
Number of
|
|
|
Exercise
|
|
|
Remaining Life
|
|
|
Number of
|
|
Price
|
|
|
Price
|
|
|
Options
|
|
|
Price
|
|
|
In Years
|
|
|
Options
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$0.09 - $0.12
|
|
|
$0.10
|
|
|
786,667
|
|
|
$0.11
|
|
|
8.5
|
|
|
|
296,667
|
|
$0.25 - $0.35
|
|
|
0.32
|
|
|
262,087
|
|
|
0.32
|
|
|
9.8
|
|
|
|
262,087
|
|
$0.53 - $1.60
|
|
|
0.87
|
|
|
188,450
|
|
|
0.87
|
|
|
4.3
|
|
|
|
188,450
|
|
$4.10 - $6.99
|
|
|
5.80
|
|
|
57,000
|
|
|
5.80
|
|
|
5.1
|
|
|
|
57,000
|
|
$0.09 - $6.99
|
|
|
$0.51
|
|
|
1,294,204
|
|
|
$0.76
|
|
|
7.7
|
|
|
|
804,204
|
|
Warrants
Valuation
In applying the Black-Scholes option pricing model to stock warrants granted, the Company used the following weighted average assumptions:
Grants
|
|
Year Ended December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Risk-free interest rate
|
|
1.58%
|
|
1.22% to 1.75%
|
Expected dividend yield
|
|
0.00%
|
|
0.00%
|
Expected volatility
|
|
200.0%
|
|
194.0% to 197.0%
|
Contractual term in years
|
|
5.00
|
|
2.90 to 7.50
|
On January 11, 2016, the Company issued to a lender a five-year warrant to purchase 75,000 shares of common stock at an exercise price of $0.25 per share for an aggregate grant date value of $15,500. See Note 6 – Notes Payable for additional information.
On April 3, 2015, the Company granted warrants to a former employee of the Company to purchase an aggregate of 137,430 shares of common stock at an exercise price of $0.09 per share for an aggregate grant date value of $12,018. The warrants have a term of five years. The warrants were issued as repayment for amounts previously accrued.
The weighted average fair value of the stock warrants granted during the years ended December 31, 2016 and 2015, respectively, was $0.25 and $0.09 per share.
Exercise
During the year ended December 31, 2015, the Company issued an aggregate of 97,449 shares of common stock to a holder of warrants who elected to exercise warrants to purchase 137,430 shares of common stock on a cashless basis under the terms of the warrants. The warrants had an exercise price of $0.09 per share. The aggregate intrinsic value of the warrants exercised was $27,486 for the year ended December 31, 2015.
During the year ended December 31, 2016, the Company issued an aggregate of 1,155,179 shares of common stock to a holder of warrants who elected to exercise warrants to purchase 1,795,080 shares of common stock on a cashless basis under the terms of the warrants. The warrants had an exercise prices ranging from $0.10 to 0.15 per share. The aggregate intrinsic value of the warrants exercised was $414,176 for the year ended December 31, 2016.
A stock-based compensation benefit related to the mark-to-market adjustment for consultant warrants for the year ended December 31, 2015 was recorded in the consolidated statements of operations as a component of selling, general and administrative expenses and totaled $322. During the year ended December 31, 2015, the Company recorded aggregate stock-based compensation expense of $12,340 related to warrants. As of December 31, 2016, there was no stock-based compensation expense related to warrants that remains unamortized.
A summary of the stock warrant activity during the years ended December 31, 2016 and 2015, respectively, is presented below:
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
Weighted
|
|
Average
|
|
|
|
|
|
|
|
Average
|
|
Remaining
|
|
|
|
Aggregate
|
|
Number of
|
|
Exercise
|
|
Life
|
|
|
|
Intrinsic
|
|
Warrants
|
|
Price
|
|
In Years
|
|
|
|
Value
|
|
|
|
|
|
|
|
|
|
|
Outstanding, January 1, 2015
|
|
|
9,339,044
|
|
|
$
|
0.45
|
|
|
|
|
|
|
Granted
|
|
|
887,430
|
|
|
|
0.10
|
|
|
|
|
|
|
Exercised
|
|
|
(137,430
|
)
|
|
|
0.09
|
|
|
|
|
|
|
Forfeited
|
|
|
(42,846
|
)
|
|
|
3.00
|
|
|
|
|
|
|
Outstanding, December 31, 2015
|
|
|
10,046,198
|
|
|
$
|
0.41
|
|
|
|
|
|
|
Granted
|
|
|
75,000
|
|
|
|
0.25
|
|
|
|
|
|
|
Exercised
|
|
|
(1,795,080
|
)
|
|
|
0.13
|
|
|
|
|
|
|
Forfeited
|
|
|
(520,000
|
)
|
|
|
2.90
|
|
|
|
|
|
|
Outstanding, December 31, 2016
|
|
|
7,806,118
|
|
|
$
|
0.30
|
|
2.4
|
|
|
$
|
91,257
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable, December 31, 2016
|
|
|
7,806,118
|
|
|
$
|
0.30
|
|
2.4
|
|
|
$
|
91,257
|
The following table presents information related to stock warrants at December 31, 2016:
|
|
|
Warrants Outstanding
|
|
|
Warrants Exercisabe
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
Weighted
|
|
|
|
|
Range of
|
|
|
Average
|
|
|
Outstanding
|
|
|
Average
|
|
|
Average
|
|
|
Exercisable
|
|
Exercise
|
|
|
Exercise
|
|
|
Number of
|
|
|
Exercise
|
|
|
Remaining Life
|
|
|
Number of
|
|
Price
|
|
|
Price
|
|
|
Warrants
|
|
|
Price
|
|
|
In Years
|
|
|
Warrants
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$0.15 - $0.25
|
|
|
$0.25
|
|
|
2,116,120
|
|
|
$0.25
|
|
|
1.7
|
|
|
2,116,120
|
|
$0.30 - $0.35
|
|
|
0.30
|
|
|
5,659,998
|
|
|
0.30
|
|
|
2.7
|
|
|
5,659,998
|
|
$4.95
|
|
|
4.95
|
|
|
30,000
|
|
|
4.95
|
|
|
0.8
|
|
|
30,000
|
|
$0.15 - $4.95
|
|
|
$0.30
|
|
|
7,806,118
|
|
|
$0.30
|
|
|
2.4
|
|
|
7,806,118
|
|
9. Commitments and Contingent Liabilities
Operating Leases
The Company entered a lease agreement dated June 15, 2011, as amended, for approximately 62,000 square feet of office and storage space
and for its Company's corporate headquarters in Florence, Kentucky
.
On December 15, 2014, the Company agreed to sublease 34,106 square feet of the space for $9,948 per month and the sublease was subsequently terminated by the Company on June 14, 2015.
On April 27, 2015, the Company entered in an amendment to the lease agreement which reduced its square footage to approximately 28,500 square feet effective June 15, 2015. The amendment reduced the monthly rent to $4,868 for July 2015 to December 2015 and $5,462 per month in 2016.
On March 15, 2016, the Company entered into an amendment of the lease agreement which extended the lease for an additional three years to December 31, 2019. The amended monthly lease rate will be $6,649 in 2017, $6,886 in 2018 and $7,124 in 2019.
The Company accounts for rent expense using the straight-line method of accounting, deferring the difference between actual rent paid and the straight-line amount. The Company amortizes the balance of the remaining deferred rent payable over the remaining life of the amended lease term. Deferred rent payable of $0 and $25,852 as of December 31, 2016 and 2015, respectively, has been included in accrued expenses and other current liabilities on the consolidated balance sheets.
On June 7, 2013, a subsidiary of the Company which was liquidated in 2014, signed a three-year lease for $1,000 per month to house an office, pharmacy and inventory located in Lawrenceburg, Indiana. On July 8, 2013, the parties agreed to extend the lease for two additional years to a new termination date of June 7, 2018. In
January 2014, the Company closed and vacated the Lawrenceburg facility. The present value of the remaining lease payments of $51,181 is reflected as a component of accrued expenses and other liabilities on the consolidated balance sheet as of December 31, 2016
and therefore excluded from the table below.
Future minimum payments under our non-cancelable operating lease as of December 31, 2016 are as follows:
Years ending December 31
,
|
|
Amount
|
|
|
|
|
|
2017
|
|
$
|
79,783
|
|
2018
|
|
|
82,633
|
|
2019
|
|
|
85,482
|
|
Total minimum lease payments
|
|
$
|
247,898
|
|
During the years ended December 31, 2016 and 2015, the Company recorded aggregate rent expense of $69,819 and $106,833, respectively.
Employment Agreement
On May 9, 2016, the Company entered into an employment agreement (the "Employment Agreement") with Mr. Lalit Dhadphale. The terms of the Employment Agreement include a term of two years beginning on January 1, 2016 with an extension provision, the titles and positions of Chief Executive Officer and President, an initial base salary of $175,000 per year, subject to certain bonus and severance provisions. Mr. Dhadphale's agreement was bound by restrictive covenants regarding disclosure of confidential information, non-solicitation and employee non-competition. See Notes 7 and 13 for additional information.
Litigation
In the ordinary course of business, we may become subject to lawsuits and other claims and proceedings that might arise from litigation matters or regulatory audits. Such matters are subject to uncertainty and outcomes are often not predictable with assurance. Our management does not presently expect that any such matters will have a material adverse effect on the Company's consolidated financial condition or consolidated results of operations. We are not currently involved in any pending or threatened material litigation or other material legal proceedings nor have we been made aware of any penalties from regulatory audits, except as described below.
On February 9, 2012, two of our former stockholders, Rock Castle
Holdings, LLC and Jason Smith (collectively "Plaintiffs"), filed suit against us in the Hamilton County, Ohio Court of Common Pleas, alleging that we had breached the terms of certain incentive options we granted to the Plaintiffs in connection with our now-terminated oral consulting arrangements with the Plaintiffs, by among other things, refusing Plaintiffs' purported exercise of options to purchase 233,332 shares of our common stock at an exercise price of $2.00 per share in December 2011. Plaintiffs requested that, among other things, the court require us to permit the exercise of the 233,332 options. Plaintiffs also provided an expert report indicating damages of $2.086 million. On December 1, 2014, the Company executed a settlement agreement with the Plaintiff for $150,000 to be paid in unequal monthly installments through June 10, 2015. The settlement amount was included in Selling, General and Administrative expense for the year ended December 31, 2014 and aggregate payments of $135,000 and $15,000 were made during the years ended December 31, 2015 and 2014, respectively.
On May 15, 2013, a former consultant filed suit in Boone County, Kentucky Circuit Court alleging breach of contract and unjust enrichment for unpaid consulting fees and expenses of approximately $55,000. On September 29, 2014, the Company executed a settlement agreement with the former consultant for $25,000 which was paid in monthly installments through March 1, 2015 when such settlement amount had been fully repaid.
On June 7, 2016, Shipping & Transit LLC filed suit against the Company for infringing on certain claims of patents held by Shipping & Transit. On July 20, 2016, the Company entered into a Settlement, Release and License Agreement whereby the Company paid $11,000 for any past violations and future licensing of the patents.
On May 13, 2016, Taft Stettinius & Hollister, LLP (the "Plaintiff") filed a complaint in the Court of Common Pleas for Hamilton County, Ohio against the Company. The complaint asserts that the Plaintiff provided legal services to the Company beginning in April 2011 until January 2015 and billed the Company $936,777 which the Company has not made payment. The complaint seeks damages against the Company in the amount of $936,777 plus interest. The Company is in the process of investigating such claims and has entered negotiations with the Plaintiff. The Company has accounted for this matter in accordance with ASC 450 ("Contingencies").
Also see Note 13 – Subsequent Events for additional information.
10. Concentrations
The Company maintains deposits in financial institutions which are insured by the Federal Deposit Insurance Corporation ("FDIC"). At various times, the Company has deposits in these financial institutions in excess of the amount insured by the FDIC.
During the year ended December 31, 2016, three suppliers represented 43%, 17% and 16% of total inventory purchases. During the year ended December 31, 2015, two suppliers represented 63% and 11% of total inventory purchases.
As of December 31, 2016, the Company has included $936,777 in its accounts payable-trade in the consolidated balance sheets related to amounts in litigation. See Note 9 - Commitments and Contingent Liabilities for additional information. Excluding this amount, no Company supplier was owed an amount greater than 10% of the Company's accounts payable balance.
11. Related Party Transactions
Effective September 4, 2014, the Company entered into a consulting agreement with Dr. Bruce Bedrick, a stockholder, to provide consulting services related to business development and marketing activities for the Company and other duties as agreed to by management. The Company was required to pay the related party a monthly fee of $10,000 plus expense reimbursement. Subsequent to the effective date, the related party agreed to defer the payment of the monthly fee for a period of four months beginning with the November 4, 2014 payment. The deferred fees were to be payable on the earlier of the termination date or the second anniversary of the effective date. The consulting agreement had an initial term of one year and could be automatically renewed for a one-year period unless terminated by either party. The Agreement could be terminated by the Company by providing a sixty-day notice prior to the first anniversary of the effective date. On July 6, 2015, the Company notified the related party of its intent to terminate the contract effective September 4, 2015. During the year ended December 31, 2015, the Company incurred and paid consulting and other expenses of $100,000 related to the consulting agreement.
In March 2013, the Company converted a $40,000 advance from a related party to a note payable with a maturity date of December 31, 2013 with the principal balance of the note due at maturity with no interest. The Company made principal payments of $31,000 and $5,000 during the years ended December 31, 2015 and 2014, respectively, and the note has been repaid in full as of December 31, 2015. Imputed interest expense on this note was de minimis.
On August 15, 2013, the Company was advanced $56,000 from a related party. Subsequently, $7,000 of that advance was repaid and the Company issued a promissory note for the remaining balance of $49,000 (the "Original Note"). The Original Note had an interest rate of 10% per annum and a maturity date of November 7, 2013. The Company made payments on the note and in November 2013, the remaining $42,095 balance of the Original Note was replaced by another note (the "Replacement Note"). The Replacement Note waived any existing default under the Original Note and had a maturity date of May 31, 2014 with all other terms of the Replacement Note and Original Note remaining the same. Effective July 23, 2015, the Company reached a settlement agreement with the related party whereby the Company agreed to pay twelve monthly payments of $4,099 on the first of each month starting on August 1, 2015 to fully satisfy its obligations under the note payable. During the years ended December 31, 2016 and 2015, the Company made principal payments of $23,889 and $18,206, respectively, and recorded interest expense on this note of $702 and $2,868, respectively. The note was repaid in full in July 2016. On October 3, 2016, the Company reached a settlement with the same related party in regards to certain balances of accounts receivables from and accounts payable to the related party. The Company agreed to pay $77,606, payable in twenty-four monthly payments of $3,234, beginning October 15, 2016
.
The agreement resulted in the Company recognizing a $44,343 gain which is included in Selling, General and Administrative Expenses for the year ended December 31, 2016.
In the fourth quarter of 2016, the Company entered into a master services agreement for information technology and marketing analytics projects with a company that Mr. Jeff T. Holtmeier, the Company's President and Chief Executive Officer, holds a minority ownership interest and was chairman of its board of directors. During 2016, the Company incurred $49,376 of costs under the agreement of which $13,700 was capitalized as web development costs.
In 2016, the Company entered into an Exchange Agreement with Dellave Holdings LLC (See Note 8 – Stockholders' Deficiency) which the Company issued the Company's common stock in exchange for the extinguishment of accounts payable balances held by Dellave. Mr. Tim Reilly, a significant stockholder of the Company, is the single member of both Dellave and Melrose Capital Advisors, LLC, the Company's senior lender (See Note 6 – Notes Payable).
12. Income Taxes
The income tax provision (benefit) for the years ended December 31, 2016 and 2015 was as follows:
|
|
Year Ended December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Federal:
|
|
|
|
|
|
|
Current
|
|
$
|
-
|
|
|
$
|
-
|
|
Deferred
|
|
|
(453,586
|
)
|
|
|
(269,394
|
)
|
|
|
|
|
|
|
|
|
|
State and local:
|
|
|
|
|
|
|
|
|
Current
|
|
|
-
|
|
|
|
-
|
|
Deferred
|
|
|
(53,684
|
)
|
|
|
(21,621
|
)
|
|
|
|
(507,270
|
)
|
|
|
(291,015
|
)
|
Change in valuation allowance
|
|
|
507,270
|
|
|
|
291,015
|
|
Income tax provision (benefit)
|
|
$
|
-
|
|
|
$
|
-
|
|
The effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities as of December 31, 2016 and 2015 are as follows:
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Deferred tax assets:
|
|
|
|
|
|
|
Net operating loss carryforwards
|
|
$
|
6,098,963
|
|
|
$
|
5,585,989
|
|
Stock-based compensation
|
|
|
700,295
|
|
|
|
767,443
|
|
Inventory reserves
|
|
|
8,842
|
|
|
|
8,800
|
|
Allowance for bad debt
|
|
|
-
|
|
|
|
17,915
|
|
Deferred Revenue
|
|
|
3,318
|
|
|
|
2,575
|
|
Deferred Rent
|
|
|
-
|
|
|
|
9,824
|
|
Contingent Liability
|
|
|
-
|
|
|
|
1,910
|
|
Charitable contribution carryforwards
|
|
|
2,711
|
|
|
|
5,772
|
|
Accruals
|
|
|
104,397
|
|
|
|
22,491
|
|
Total deferred tax assets
|
|
|
6,918,526
|
|
|
|
6,422,719
|
|
Valuation allowance
|
|
|
(6,886,459
|
)
|
|
|
(6,379,189
|
)
|
Deferred tax assets, net of valuation allowance
|
|
|
32,067
|
|
|
|
43,530
|
|
|
|
|
|
|
|
|
|
|
Deferred tax liabilities:
|
|
|
|
|
|
|
|
|
Property and equipment
|
|
|
(32,599
|
)
|
|
|
(29,881
|
)
|
Web Development
|
|
|
532
|
|
|
|
(13,649
|
)
|
|
|
|
|
|
|
|
|
|
Deferred tax liabilities
|
|
$
|
(32,067
|
)
|
|
$
|
(43,530
|
)
|
|
|
|
|
|
|
|
|
|
Net deferred tax assets
|
|
$
|
-
|
|
|
$
|
-
|
|
|
|
|
|
|
|
|
|
|
Change in valuation allowance
|
|
$
|
502,270
|
|
|
$
|
291,015
|
|
The Company assesses the likelihood that deferred tax assets will be realized. To the extent that realization is not likely, a valuation allowance is established. Based upon the history of losses, management believes that it is more likely than not that future benefits of deferred tax assets will not be realized and has established a full valuation allowance for the years ended December 31, 2016 and 2015.
The Company files income tax returns in the U.S. Federal jurisdiction and various state and local jurisdiction, and its federal, state and local income tax returns for the tax years beginning in 2012 remain subject to examination. The Company is in the process of filing its federal and state tax returns for the year ended December 31, 2016. The Net operating losses ("NOLs") for this year will not be available to reduce future taxable income until the returns are filed. Assuming these returns are filed, as of December 31, 2016 and 2015, the Company had $16,821,182 and $15,464,258, respectively, of federal net operating loss carryforwards ("NOL's") that may be available to offset future taxable income. The federal net operating loss carryforwards, if not utilized, will expire from 2027 to 2036. As of December 31, 2016 and 2015, the Company had approximately $9,494,025 and $8,137,101 of state net operating loss carryforwards available to offset future taxable income. The state NOLs, if not utilized, will expire beginning in 2031.
In accordance with Section 382 of the Internal Revenue code, the usage of the Company's net operating loss carryforwards could be limited in the event of a change in ownership. Based upon a study that analyzed the Company's stock ownership, a change of ownership was deemed to have occurred in 2011. This change of ownership created an annual limitation on the usage of the Company's losses which are available through 2031. A full Section 382 analysis has not been prepared since 2011 and any NOLs arising since 2011 could be subject to limitation under Section 382.
For the years ended December 31, 2016 and 2015, the expected tax expense (benefit) based on the statutory rate is reconciled with the actual tax expense (benefit) as follows:
|
|
Year Ended December 31,
|
|
|
|
2016
|
|
2015
|
|
|
|
|
|
|
|
US federal statutory rate
|
|
(34.0%)
|
|
|
(34.0%)
|
|
State tax rate, net of federal benefit
|
|
(4.0%)
|
|
|
4.0%
|
|
Permanent differences:
|
|
|
|
|
|
|
Stock based compensation
|
|
2.5%
|
|
|
12.3%
|
|
Adjustments to prior deferred tax balances
|
|
(0.5%)
|
|
|
(20.7%)
|
|
Change in valuation allowance
|
|
36.0%
|
|
|
46.4%
|
|
|
|
|
|
|
|
|
Income tax provision (benefit)
|
|
0.0%
|
|
|
0.0%
|
|
13. Subsequent Events
The Company evaluates events that have occurred after the balance sheet date but before the financial statements are issued. Based upon the evaluation, the Company did not identify any recognized or non-recognized subsequent events that would have required adjustment or disclosure in the consolidated financial statements, except as disclosed.
Effective January 16, 2017, Mr. Jeffrey Holtmeier, Chief Executive Officer of the Company, has left the Company to pursue other interests, and in connection with his departure, has also resigned his position as a director of the Company. On January 19, 2017, the Company and Mr. Holtmeier entered into a Separation and Release Agreement in connection with his departure. Mr. Holtmeier will be paid his current salary for the period up to and including the day which is thirty days after the Termination Date, at the rate in effect as of the Termination Date. In addition, the Company will pay Mr. Holtmeier an annual bonus for the 2016 year of $43,750 which was accrued as of December 31, 2016. The salary (less appropriate withholding for benefits, taxes and any other required withholdings) will be made in accordance with normal Company payroll timing and practices. The bonus (less appropriate withholding for benefits, taxes and any other required withholdings) will be paid and in ten equal monthly payments, beginning February 1, 2017. As of December 31, 2016, the Company has accrued $66,950 of costs related to Mr. Holtmeier's incurred expenses which will be paid in ten equal monthly payments during 2017.
On January 18, 2017, the Board of Directors of the Company appointed John C. Pauly as the Chief Operating Officer and interim President and Chief Executive Officer of the Company. Subsequently, the Company and Mr. Pauly entered into a written agreement outlining compensation and other terms of Mr. Pauly's employment by which Mr. Pauly will be paid an annual salary of $100,000. The term of Mr. Pauly's employment with the Company shall be for a period commencing on January 18, 2017, and continuing through the close of business on December 31, 2017, unless and until terminated as provided. The agreement shall renew for subsequent one year terms unless terminated by either party.
On February 28, 2017, the Company and
Melrose Capital Advisors, LLC (the "Lender")
entered into a Fifth Amendment to Amended and Restated Promissory Note (the "Senior Note"), pursuant to which the Lender agreed to extend the maturity date of the Senior Note from February 28, 2017 to March 30, 2017. The principal amount and all unpaid accrued interest on the Senior Note is payable on March 31, 2017, or earlier in the event of default or a sale or liquidation of the Company. The Loan may be prepaid in whole or in part at any time by the Company without penalty.
On March 3, 2017, the Company and Steven Deixler entered into a Third Amendment to Promissory Note effective as October 31, 2016 which extended the maturity date of the payable from October 31, 2016 to March 31, 2017. The Company will make monthly payments of accrued interest on the first day of every month beginning October 31, 2016, and continuing on the first day of each month thereafter. On March 31, 2017, the entire unpaid principal sum of the note and all accrued and unpaid interest shall be due and payable in full. The Company's payment and other obligations under this Note shall be unsecured.
On March 15, 2017, the Company entered into a settlement agreement (the "Settlement Agreement") by and between the Company and Lalit Dhadphale ("Dhadphale) relating to a claim filed by Dhadphale in Lalit Dhadphale v. Healthwarehouse.com, Inc., Boone County, Kentucky Circuit Court, Civil Action No. 16-CI-01628 (the "Complaint") alleging failure to pay certain severance payments pursuant to the employment agreement by and between the Company and Dhadphale. Pursuant to the Settlement Agreement, the Company agreed to pay Dhadphale $200,000 in return for a full release of any and all future claims and a dismissal with prejudice of the Complaint within seven business days of the execution of the Settlement Agreement. The Company has agreed to pay Mr. Dhadphale $30,000 within sixty days of the execution of the Agreement with the remaining $170,000 payable in equal semi-monthly payments over eighteen months beginning March 15, 2017. As of December 31, 2016, the Company had accrued $190,000 related to this liability.
In February 2017, the Company received a letter from a former employee asking for payment of $100,000, plus interest for the contribution of certain equipment to the Company in 2008. The Company is in the preliminary process of investigating the claim to determine the validity of the claim.