Indicate by check mark whether the registrant
is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth
company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting
company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
If an emerging growth company, indicate by check mark
if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting
standards provided pursuant to Section 13(a) of the Exchange Act.
☐
At March 7, 2018, the aggregate market
value of shares held by non-affiliates of the Registrant (based upon the closing sale price of such shares on OTCQB on March 7,
2018 of $0.002) was $1,800,000.
At March 7, 2018, there were 900,000,000
shares of the Registrant’s common stock outstanding.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE
1. DESCRIPTION OF BUSINESS, RECENT ACQUISITIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
Vape
Holdings, Inc. (“VAPE,” the “Company,” “we,” “us,” “our,” “our
company”) is a holding company with its primary focus in the manufacturing and distribution of healthy and sustainable vaporization
products. The Company designs, markets and distributes ceramic vaporization products under a unique brand. The Company has
introduced a nonporous, non-corrosive, chemically inert medical-grade ceramic vaporization element as a healthy, sustainable alternative
to traditional titanium and quartz vaporization materials, as well as lower-grade ceramic found in traditional electronic cigarettes
and vaporizers. This material can be used for a wide range of applications, including stand-alone vaporization products and “E-cigs.”
Electronic cigarettes come in a variety of designs ranging from those that look vastly like traditional cigarettes, to larger
vaporizer units which are capable of vaporizing liquid with varying viscosity. The process of vaporization is believed to
eliminate the smoke, tar, ash, and other byproducts of traditional smoking by utilizing lower temperatures in a controlled electronic
environment.
HIVE
CERAMICS
HIVE
Ceramics (“HIVE”) is the premier brand under the VAPE umbrella. HIVE outsource manufactures and distributes a proprietarily
blended ceramic vaporization element for torched, electronic and portable vaporizers with countless design and product crossover
capabilities in existing and emerging markets. HIVE is dedicated to bringing the healthiest and cleanest vaporization experience
possible to the market.
HIVE
Ceramics has seen a significant decrease in sales due to competition in the market and restricted operations. While sales channels
are still open, without an infusion, the revenues are not large enough to support HIVE Ceramics outside of its existing product
line.
REVIVAL
PRODUCTS
On
December 28, 2015, the Company created a new wholly-owned subsidiary, Revival Products, LLC (“Revival”), which is
in the business of portable vaporization devices. Revival will sell disposable cartridges that complement HIVE Ceramic’s
product lines utilizing its sales and distribution channels and via its own designated e-commerce site at
www.revivalvapes.com
.
Revival launched three signature products, The Calloway, The Cleo, and The Charleston in January 2016. The Company ceased
the Revival product line upon Justin Braun’s resignation.
BETTERCHEM
On
July 1, 2015, the Company entered into a Share Exchange Agreement with BetterChem Consulting, Inc. (“BetterChem”),
a Pennsylvania corporation, and its sole shareholder and the Company’s current Chief Science Officer Dr. Mark Scialdone
(“Dr. Scialdone”), whereby the Company acquired a controlling 80% interest in BetterChem from Dr. Scialdone in exchange
for up to 400,000 shares of the Company’s restricted common stock. In consideration for the issuance of the shares to Dr.
Scialdone, the Company acquired 80 shares of the common stock of BetterChem which represents 80% of the issued and outstanding
shares of BetterChem. Dr. Scialdone retained a 20% interest in BetterChem. The Share Exchange Agreement transaction closed concurrently
with its execution on July 1, 2015. At closing, the Company issued 250,000 shares of its common stock valued at $67,500 to BetterChem.
BetterChem had no identifiable assets and liabilities upon closing, and no significant revenues.
On
January 12, 2016, the Company unwound the transaction and curtailed the subsidiary’s operations in order to reduce overhead
costs and focus on HIVE Ceramics. An impairment of the acquisition of BetterChem of $69,250 was recorded during the year ended
September 30, 2015.
The
operations of Revival and Betterchem were insignificant.
VAPE
is organized and directed to operate strictly in accordance with all applicable state and federal laws. The immaterial operations
of Offset and Nouveau have been ceased.
BASIS
OF PRESENTATION
The
accompanying consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the
Securities and Exchange Commission (SEC) and Generally Accepted Accounting Principles. In the opinion of management, all adjustments
and disclosures necessary for a fair presentation of these consolidated financial statements have been included. Such adjustments
consist of normal recurring adjustments.
CONSOLIDATION
The
consolidated financial statements include the assets, liabilities, and operating results of the Company and its wholly-owned subsidiaries,
HIVE Ceramics, Revival Offset, and Nouveau after elimination of all material inter-company accounts and transactions. No
segment information is presented as the assets, liabilities, and results of HIVE represent over 95% of the Company’s operations.
USE
OF ESTIMATES
The
preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States
requires management to make certain estimates and assumptions that affect the reported 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. Significant estimates and assumptions
include losses for warrant contingencies and the valuation of conversion features in notes.
FAIR
VALUE OF FINANCIAL INSTRUMENTS
Fair
value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in
the principal or most advantageous market for the asset or liability in an orderly transaction between market participants as
of the measurement date. Applicable accounting guidance provides an established hierarchy for inputs used in measuring fair value
that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable
inputs be used when available. Observable inputs are inputs that market participants would use in valuing the asset or liability
and are developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect
the Company’s assumptions about the factors that market participants would use in valuing the asset or liability. There
are three levels of inputs that may be used to measure fair value:
|
Level 1 - Observable
inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.
|
|
Level 2 - Include
other inputs that are directly or indirectly observable in the marketplace.
|
|
Level 3 - Unobservable
inputs which are supported by little or no market activity.
|
The
fair value hierarchy also requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs
when measuring fair value. Derivative instruments include the convertible notes payable derivative liability and warrant liability
(Level 2). Derivative instruments are valued using standard calculations/models that are primarily based on observable inputs,
including volatilities and interest rates. Therefore, derivative instruments are included in Level 2.
Fair-value
estimates discussed herein are based upon certain market assumptions and pertinent information available to management as of September
30, 2016 and 2015. The respective carrying value of certain on-balance-sheet financial instruments approximated their fair values.
These financial instruments include cash, prepaid expenses, accounts payable, accrued liabilities, and notes payable. Fair values
for these items were assumed to approximate carrying values because of their short-term nature or they are payable on demand.
The
following table presents the Company’s fair value hierarchy for assets measured at fair value on a recurring basis at September
30, 2016:
|
|
Level
1
|
|
|
Level
2
|
|
|
Level
3
|
|
|
Total
|
|
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
Total assets measured at fair value
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivative instruments
|
|
$
|
-
|
|
|
$
|
2,755,544
|
|
|
$
|
-
|
|
|
$
|
2,755,544
|
|
Total liabilities measured at fair value
|
|
$
|
-
|
|
|
$
|
2,755,544
|
|
|
$
|
-
|
|
|
$
|
2,755,544
|
|
The
following table presents the Company’s fair value hierarchy for assets measured at fair value on a recurring basis at September
30, 2015:
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Total
|
|
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
273,904
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
273,904
|
|
Total assets measured at fair value
|
|
$
|
273,904
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
273,904
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivative instruments
|
|
$
|
-
|
|
|
$
|
3,220,465
|
|
|
$
|
-
|
|
|
$
|
3,220,465
|
|
Total liabilities measured at fair value
|
|
$
|
-
|
|
|
$
|
3,220,465
|
|
|
$
|
-
|
|
|
$
|
3,220,465
|
|
CONCENTRATION
Credit
Risk
At
times, the Company maintains cash balances at a financial institution in excess of the FDIC insurance limit. In addition, at we
extend credit to customers in the normal course of business, after we evaluate the credit worthiness. The Company does not expect
to take any unnecessary credit risks causing significant write-offs of potentially uncollectible accounts.
Customers
There
were no customer concentrations during the year ended September 30, 2016. One (1) customer accounted for 37% of our accounts receivable
as of September 30, 2015, but was less than 10% of consolidated sales. The loss of this customer has had a negative impact on
the Company’s financial results.
Suppliers
All
purchases were from one (1) supplier during the year ended September 30, 2016. One (1) supplier accounted for 54% of our purchases
during the year ended September 30, 2015. We purchased $60,000 in high-end glass from Kyle Tracey for HIVE Glass, which accounted
for 10% of purchases during the year ended September 30, 2015. The loss of these suppliers would have a significant impact on
the Company’s financial results.
REVENUE
RECOGNITION
The
Company recognizes revenues from product sales when (a) persuasive evidence that an agreement exists; (b) the products have been
delivered; (c) the prices are fixed and determinable and not subject to refund or adjustment; and (d) collection of the amounts
due is reasonably assured. Revenue is recorded when sales orders are shipped.
ALLOWANCE
FOR DOUBTFUL ACCOUNTS
The
Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of the Company’s customers
to make required payments. The Company considers the following factors when determining if collection of required payments is
reasonably assured: customer credit-worthiness; past transaction history with the customer; current economic industry trends;
changes in customer payment terms; and bank credit-worthiness for letters of credit. If the Company has no previous experience
with the customer, the Company may request financial information, including financial statements or other documents, to determine
that the customer has the means of making payment. The Company may also obtain reports from various credit organizations to determine
that the customer has a history of paying its creditors. If these factors do not indicate collection is reasonably assured, revenue
is deferred as a reduction to accounts receivable until collection becomes reasonably assured, which is generally upon receipt
of cash. If the financial condition of the Company’s customers was to deteriorate, adversely affecting their ability to
make payments, additional allowances would be required.
INVENTORY
Inventory
is valued at the lower of cost or market, as determined primarily by the average cost inventory method, and are stated using the
first-in, first-out (FIFO) method. Management will record a provision for loss for obsolete or slow moving inventory to reduce
carrying amounts to net realizable value.
We
purchase product sourced from China which we are required to pay 50% upon placing the order. Amounts paid for products, which
have not been received, are recorded as prepaid inventory at September 30, 2015. There are no amounts paid which are in dispute
or considered impaired.
FIXED
ASSETS
Fixed
assets are recorded at cost and depreciation is provided over the estimated useful lives of the related assets using the straight-line
method for financial statement purposes. The estimated life of tooling related to our ceramic products is three (3) years. The
estimated life of our leasehold improvements is the lesser of the term of the related lease and useful life.
IMPAIRMENT
OF LONG-LIVED AND PURCHASED INTANGIBLE ASSETS
The
Company has adopted Accounting Standards Codification (“ASC”) 350 “Intangibles - Goodwill and Other.”
The Statement requires that long-lived assets and certain identifiable intangibles held and used by the Company be reviewed for
impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Events
relating to recoverability may include significant unfavorable changes in business conditions, recurring losses, or a forecasted
inability to achieve break-even operating results over an extended period. The Company evaluates the recoverability of long-lived
assets based upon forecasted undercounted cash flows. Should impairment in value be indicated, the carrying value of intangible
assets will be adjusted, based on estimates of future discounted cash flows resulting from the use and ultimate disposition of
the asset. ASC 350 also requires assets to be disposed of be reported at the lower of the carrying amount or the fair value less
costs to sell.
Long-lived
assets, such as fixed assets and purchased intangibles subject to amortization, are reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of the asset is
measured by comparison of its carrying amount to undiscounted future net cash flows the asset is expected to generate. If such
assets are considered to be impaired, the impairment to be recognized is measured as the amount by which the carrying amount of
the asset exceeds its fair market value. Estimates of expected future cash flows represent management’s best estimate based
on currently available information and reasonable and supportable assumptions. Any impairment recognized is permanent and may
not be restored. During the years ended September 30, 2016 and 2015, the Company recorded $0 and $22,133 of impairment of its
pending patents and $123,150 and $0 of its trademarks, respectively, as its expected cash flows did not exceed its carrying amounts
and none towards its trademarks as its expected future cash flows are in excess of their carrying amounts.
RESEARCH
AND DEVELOPMENT
Research
and development costs are expensed as incurred. The costs of materials and equipment that will be acquired or constructed for
research and development activities, and that have alternative future uses, both in research and development, marketing or sales,
will be classified as fixed assets and depreciated over their estimated useful lives. To date, research and development costs
include the research and development expenses related to prototypes of the Company’s products. During the years ended September
30, 2016 and 2015, research and development costs were $47,648 and $212,424, respectively.
CONVERTIBLE
DEBT
Convertible
debt is accounted for under the guidelines established by Accounting Standards Codification (“ASC”) 470-20,
Debt
with Conversion and Other Options
. ASC 470-20 governs the calculation of an embedded beneficial conversion, a derivative instrument,
which is treated as an additional discount to the instruments where derivative accounting does not apply. This applies during
the period for which embedded conversion features are either fixed, contingently convertible, or cash or net settlement is in
control of the Company.
If
the embedded conversion feature (ECF) price is adjustable based on the passage of time, certain events that our out of the Company’s,
including certain events of default, and there is no explicit limit on the number of shares that the holder can convert into,
we report the ECF as a derivate liability, at fair value. The excess of fair value of the embedded conversion feature, together
with the original issue discounts and issue costs over the face value of the debt, is recorded as an immediate charge in the accompanying
statements of operations and cash flows. Each reporting period, the Company will compute the estimated fair value of derivatives
and record changes to operations. The discounts are accreted over the term of the debt, which is generally nine months after the
notes become convertible, using the effective interest method. We accounted for the embedded conversion features in all of our
convertible notes as derivative liabilities during the periods presented. See Derivative Financial Instruments below.
ASC
470-50,
Extinguishments
, require entities to record an extinguishment when the terms of the original note are significantly
modified, defined as a greater than 10% change in expected cash flows. Significant modifications accounted for as extinguishments
are reported as a loss in the accompanying statements of operations.
DERIVATIVE
FINANCIAL INSTRUMENTS
Derivative
financial instruments, as defined in ASC 815, “Accounting for Derivative Financial Instruments and Hedging Activities”,
consist of financial instruments or other contracts that contain a notional amount and one or more underlying (e.g. interest rate,
security price or other variable), require no initial net investment and permit net settlement. Derivative financial instruments
may be free-standing or embedded in other financial instruments. Further, derivative financial instruments are initially, and
subsequently, measured at fair value and recorded as liabilities or, in rare instances, assets.
The
Company does not use derivative financial instruments to hedge exposures to cash-flow, market or foreign-currency risks. However,
the Company has issued financial instruments including convertible notes payable and freestanding stock purchase warrants with
features that are either (i) not afforded equity classification, (ii) embody risks not clearly and closely related to host contracts,
or (iii) may be net-cash settled by the counterparty. As required by ASC 815, in certain instances, these instruments are required
to be carried as derivative liabilities, at fair value, in our consolidated financial statements.
The
Company estimates the fair values of derivative financial instruments using various techniques (and combinations thereof) that
are considered to be consistent with objectively measuring fair values. In selecting the appropriate technique, consideration
is given to, among other factors, the nature of the instrument, the market risks that it embodies and the expected means of settlement.
For less complex derivative instruments, such as free-standing warrants, the Company generally uses the Black-Scholes option valuation
technique because it embodies all of the requisite assumptions (including trading volatility, estimated terms and risk free rates)
necessary to fair value these instruments. Estimating fair values of derivative financial instruments requires the development
of significant and subjective estimates that may, and are likely to, change over the duration of the instrument with related changes
in internal and external market factors. In addition, option-based techniques are highly volatile and sensitive to changes in
the trading market price of our common stock, which has a high-historical volatility. Since derivative financial instruments are
initially and subsequently carried at fair values, the Company’s operating results will reflect the volatility in these
estimate and assumption changes.
EARNINGS
/ LOSS PER COMMON SHARE
Basic
earnings per common share is computed by dividing net income available to common shareholders by the weighted-average number of
common shares outstanding during the reporting period. Diluted earnings per common share is computed by dividing net income available
to common shareholders by the combination of dilutive common share equivalents, comprised of shares issuable under the Company’s
share-based compensation plans and the weighted-average number of common shares outstanding during the reporting period. Dilutive
common share equivalents include the dilutive effect of in-the-money share equivalents, which are calculated, based on the average
share price for each period using the treasury stock method. Under the treasury stock method, the exercise price of an award,
if any, the amount of compensation cost, if any, for future service that the Company has not yet recognized, and the estimated
tax benefits that would be recorded in paid-in capital, if any, when an award is settled are assumed to be used to repurchase
shares in the current period.
The
following is a summary of outstanding securities that would have been included in the calculation of diluted shares outstanding
since the exercise prices did not exceed the average market value of the Company’s common stock had the Company generated
net income for the years ended September 30, 2016 and 2015:
|
|
For the
Year Ended
|
|
|
For the
Year Ended
|
|
|
|
September 30,
|
|
|
September 30,
|
|
|
|
2016
|
|
|
2015
|
|
Series A Preferred stock
|
|
|
500,000
|
|
|
|
500,000
|
|
Common stock options
|
|
|
-
|
|
|
|
-
|
|
Common stock warrants
|
|
|
-
|
|
|
|
1,184,727
|
|
Convertible notes
|
|
|
878,368,698
|
|
|
|
79,699,946
|
|
|
|
|
878,868,698
|
|
|
|
81,384,673
|
|
The Company does not have
sufficient shares to accommodate the convertible notes.
STOCK-BASED
COMPENSATION
ASC
718, “Share-Based Payment” requires that compensation cost related to share-based payment transactions be recognized
in the consolidated financial statements. Share-based payment transactions within the scope of ASC 718 include stock options,
restricted stock plans, performance-based awards, stock appreciation rights, and employee share purchase plans.
The
Company adopted ASC 718, which requires disclosure of the fair value and other characteristics of stock options and more prominent
disclosure about the effects of an entity’s accounting policy decisions with respect to stock-based compensation on reported
net loss. The Company has reflected the expense of such stock based compensation based on the fair value at the grant date for
awards consistent with the provisions of ASC 718.
In
connection with the adoption of ASC 718, the fair value of our share-based compensation has been determined utilizing the Black-Scholes
pricing model. The fair value of the options granted is amortized as compensation expense on a straight line basis over the requisite
service period of the award, which is generally the vesting period. The fair value calculations involve significant judgments,
assumptions, estimates and complexities that impact the amount of compensation expense to be recorded in current and future periods.
Upon option exercise, the Company issues new shares of stock.
The
following weighted average variables were used in the Black Scholes model for all option issuances valued during the years ended
September 30, 2016 and 2015:
Year
Ended
September 30,
|
|
Stock Price at
Grant Date
|
|
|
Dividend
Yield
|
|
|
Exercise
Price
|
|
|
Risk Free
Interest Rate
|
|
|
Volatility
|
|
|
Average
Life
|
|
2016
|
|
$
|
-
|
|
|
|
-
|
%
|
|
$
|
-
|
|
|
|
-
|
%
|
|
|
-
|
%
|
|
|
-
|
|
2015
|
|
$
|
0.73
|
|
|
|
-
|
%
|
|
$
|
0.73
|
|
|
|
2.2
|
%
|
|
|
380
|
%
|
|
|
10.0
|
|
The
Company’s accounting policy for equity instruments issued to consultants and vendors in exchange for goods and services
follows the provisions of Emerging Issues Task Force (“EITF”) 96-18, “Accounting for Equity Instruments That
are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services”, codified into ASC
505-50. The measurement date for the fair value of the equity instruments issued is determined at the earlier of (i)
the date at which a commitment for performance by the consultant or vendor is reached or (ii) the date at which the consultant
or vendor’s performance is complete. In the case of equity instruments issued to consultants, the fair value
of the equity instrument is recognized over the term of the consulting agreement.
RECENT
ACCOUNTING PRONOUNCEMENTS
In
May 2014, the FASB issued Accounting Standards Update No. 2014-09, “Revenue from Contracts with Customers”, which
supersedes most of the current revenue recognition requirements. The core principle of the new guidance is that 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 these goods or services. New disclosures about the nature, amount,
timing and uncertainty of revenue and cash flows arising from contracts with customers are also required. This guidance is effective
for the Company in the first quarter of fiscal year 2018 and early application is not permitted. Entities must adopt the new guidance
using one of two retrospective application methods. The Company is currently evaluating the standard but does not expect it to
have a material impact on our financial position, results of operations or cash flows.
In
August 2014, the FASB issued ASU 2014-15, which provides guidance on determining when and how to disclose going-concern uncertainties
in the financial statements. The new standard requires management to perform interim and annual assessments of an entity’s
ability to continue as a going concern within one year of the date the financial statements are issued. An entity must provide
certain disclosures if “conditions or events raise substantial doubt about the entity’s ability to continue as a going
concern.” The ASU applies to all entities and is effective for annual periods ending after December 15, 2016, and interim
periods thereafter, with early adoption permitted.
The
Financial Accounting Standards Board issues Accounting Standard Updates (“ASUs”) to amend the authoritative literature
in Accounting Standards Codification (“ASC”). There have been a number of ASUs to date that amend the original text
of ASC. The Company believes those issued to date either (i) provide supplemental guidance, (ii) are technical corrections, (iii)
are not applicable to the Company or (iv) are not expected to have a significant impact on the Company.
RISKS
AND UNCERTAINTIES
The
Company has issued several convertible notes which are generally convertible after 180 days. The notes have conversion features
that adjustable over time or in the event of certain events of default, many of which are out of the control of the Company’s
management. The adjustment provisions do not explicitly limit the number of shares the notes are convertible into. Each of the
Company’s convertible noteholders is entitled to a “share reserve” per their agreements with the Company which
entitle them to reserve a certain allotment of common stock out of the authorized but unissued common stock of the Company for
future conversions of their notes. The Company is further obligated under the agreements to increase the Company’s authorized
share count to accommodate for a sufficient amount of share reserves. Due to the declining market price of the Company’s
common stock, the noteholders have reserve claims in excess of the common stock authorized at this time. The inability of the
Company to meet its share reserve obligations may be considered a technical violation of their agreements with the noteholders.
The Company’s ability to issue common stock other than those presently allocated to noteholders is restricted during this
time, since we have lost the ability to increase the share reserves due to the significantly increased outstanding held by convertible
noteholders and a shareholder vote is required to increase the authorized amount of shares the Company may issue. Further, the
combination of limited capital and depleted share reserves have severely damaged the Company’s ability to fund operations
or enable us to seek mergers or acquisitions. Also, see Note 2 Going Concern below.
AMENDMENT
We
have amended the previous year ended September 30, 2015 in this Form 10-K to correctly account for the following non-cash transactions:
In
August 2015 the Company entered into convertible notes without conversion floors resulting in an unlimited potential of shares
to be issued. Accordingly, we adjusted the consolidated financial statements to recognize the embedded conversion feature of the
instruments.
On
August 13, 2015 and August 26, 2015, the convertible notes due to Redwood and Typenex, respectively, were amended which removed
the fixed conversion floors per common share creating a potentially unlimited number of shares to be issued on the date of the
amendment. Accordingly, we amended this Form 10-K/A to account for the embedded conversion features as derivative financial instruments
at fair value upon their original issuance dates. This increased the loss on debt extinguishments and interest expense previously
recorded, as well as the derivative liabilities at fair value.
The
following was the effect on the previously reported consolidated financial statements.
|
|
As
Previously
Reported
|
|
|
|
|
|
As Restated
|
|
|
|
September 30,
2015
|
|
|
Change
|
|
|
September 30,
2015
|
|
LIABILITIES AND STOCKHOLDERS' DEFICIT
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
$
|
2,551,345
|
|
|
$
|
1,491,836
|
|
|
$
|
4,043,181
|
|
Total liabilities
|
|
$
|
3,128,736
|
|
|
$
|
1,361,946
|
|
|
$
|
4,490,682
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stockholders' deficit
|
|
$
|
(2,121,284
|
)
|
|
$
|
(1,361,946
|
)
|
|
$
|
(3,483,230
|
)
|
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT
|
|
$
|
1,007,452
|
|
|
$
|
-
|
|
|
$
|
1,007,452
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
$
|
(1,745,408
|
)
|
|
$
|
586,818
|
|
|
$
|
(1,158,590
|
)
|
Loss from the effects of derivative liabilities
|
|
$
|
2,315,916
|
|
|
$
|
(1,693,993
|
)
|
|
$
|
621,923
|
|
Loss on debt extinguishment, net
|
|
$
|
(971,560
|
)
|
|
$
|
343,200
|
|
|
$
|
(628,360
|
)
|
Net loss
|
|
$
|
(2,785,850
|
)
|
|
$
|
(763,975
|
)
|
|
$
|
(3,549,825
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss available to common shareholders
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share - basic
|
|
$
|
0.24
|
|
|
|
|
|
|
$
|
(0.31
|
)
|
Loss per common share - diluted
|
|
$
|
0.24
|
|
|
|
|
|
|
$
|
(0.31
|
)
|
NOTE
2. GOING CONCERN
VAPE’s
consolidated financial statements reflect a net loss of $6,093,948 during the year ended September 30, 2016. As of September 30,
2016, we had no cash, a working capital deficit of $5,031,000, and an accumulated deficit of $35,024,668. In addition, the ongoing
need to obtain financing to fund operations also raise substantial doubt about the ability of Vape to continue as a going concern.
Management expects to obtain funding for the new operations for the foreseeable future; however, there are no assurances that
the Company will obtain such funding. VAPE’s financial statements do not include any adjustments to reflect the possible
effects on recoverability and classification of assets or the amounts and classification of liabilities that may result from the
inability to continue as a going concern. See Note 11 for subsequent events regarding financing activities.
NOTE
3. FIXED ASSETS
The
following is a summary of fixed assets as of September 30, 2016 and 2015:
|
|
September 30,
2016
|
|
|
September 30,
2015
|
|
Molds and Tooling
|
|
$
|
-
|
|
|
$
|
176,015
|
|
Leasehold improvements
|
|
|
-
|
|
|
|
29,795
|
|
Accumulated depreciation
|
|
|
-
|
|
|
|
(87,483
|
)
|
|
|
$
|
-
|
|
|
$
|
118,327
|
|
During
the years ended September 30, 2016 and 2015, depreciation expense included in cost of revenue were $161,427 and $71,305, respectively,
which includes a charge in 2016 for tooling and equipment in China we abandoned, and thus we have no remaining assets of significance.
NOTE
4. ACCRUED EXPENSES
The
following is a summary of accrued expenses as of September 30, 2016 and 2015:
|
|
September 30,
2016
|
|
|
September 30,
2015
|
|
Accrued interest
|
|
$
|
183,390
|
|
|
$
|
46,337
|
|
Accrued interest - related party
|
|
|
43,162
|
|
|
|
24,538
|
|
Accrued wages and taxes
|
|
|
324,086
|
|
|
|
112,322
|
|
Other
|
|
|
5,356
|
|
|
|
24,412
|
|
|
|
$
|
555,994
|
|
|
$
|
207,609
|
|
As
of September 30, 2016 and 2015, the Company recorded accrued wages and taxes for Kyle Tracey of $25,000 and $55,000, Joe Andreae
of $16,667 and $14,667, Allan Viernes of $56,381 and $1,833, Benjamin Beaulieu of $58,048 and $1,833, Michael Cook of $43,742
and $0, and Justin Braune of $45,000 and $0, respectively.
NOTE
5. CONVERTIBLE NOTES PAYABLE
At
September 30, 2015, convertible notes payable consisted of the following:
Couterparty
|
|
Principal Amount
|
|
|
Unamortized Discount
|
|
|
Carrying Value
|
|
|
Accrued Interest
|
|
|
Derivative Liability
|
|
|
Interest Expense
|
|
Typenex
|
|
$
|
368,666
|
|
|
$
|
107,722
|
|
|
$
|
260,944
|
|
|
$
|
9,945
|
|
|
$
|
734,583
|
|
|
$
|
495,389
|
|
Redwood
|
|
|
596,590
|
|
|
|
353,400
|
|
|
|
243,190
|
|
|
|
38,086
|
|
|
|
1,231,399
|
|
|
|
484,687
|
|
Adar Bays
|
|
|
125,000
|
|
|
|
108,333
|
|
|
|
16,667
|
|
|
|
1,556
|
|
|
|
229,809
|
|
|
|
18,222
|
|
Darling Capital
|
|
|
105,000
|
|
|
|
87,333
|
|
|
|
17,667
|
|
|
|
1,143
|
|
|
|
192,742
|
|
|
|
18,810
|
|
JMJ Financial
|
|
|
154,000
|
|
|
|
129,375
|
|
|
|
24,625
|
|
|
|
2,875
|
|
|
|
273,006
|
|
|
|
27,500
|
|
JSJ Investments
|
|
|
112,000
|
|
|
|
93,334
|
|
|
|
18,666
|
|
|
|
2,091
|
|
|
|
283,157
|
|
|
|
20,757
|
|
LG Capital
|
|
|
75,000
|
|
|
|
62,500
|
|
|
|
12,500
|
|
|
|
933
|
|
|
|
137,884
|
|
|
|
13,433
|
|
Union Capital
|
|
|
75,000
|
|
|
|
62,500
|
|
|
|
12,500
|
|
|
|
933
|
|
|
|
137,884
|
|
|
|
13,433
|
|
Scott Hastings
|
|
|
30,000
|
|
|
|
-
|
|
|
|
30,000
|
|
|
|
1,010
|
|
|
|
-
|
|
|
|
6,420
|
|
Other
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
59,939
|
|
|
|
$
|
1,641,256
|
|
|
$
|
1,004,497
|
|
|
$
|
636,759
|
|
|
$
|
58,572
|
|
|
$
|
3,220,465
|
|
|
$
|
1,158,590
|
|
At
September 30, 2016, convertible notes payable consisted of the following:
Couterparty
|
|
Principal Amount
|
|
|
Unamortized Discount
|
|
|
Carrying Value
|
|
|
Accrued Interest
|
|
|
Derivative Liability
|
|
|
Interest Expense
|
|
GHS Investments
|
|
$
|
248,926
|
|
|
$
|
88,075
|
|
|
$
|
160,852
|
|
|
$
|
124,872
|
|
|
$
|
1,255,774
|
|
|
$
|
1,323,000
|
|
Adar Bays
|
|
|
187,500
|
|
|
|
(0
|
)
|
|
|
187,500
|
|
|
|
25,042
|
|
|
|
610,117
|
|
|
|
153,174
|
|
JMJ Financial
|
|
|
171,666
|
|
|
|
16,605
|
|
|
|
155,060
|
|
|
|
23,174
|
|
|
|
578,288
|
|
|
|
211,790
|
|
Union
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
90,909
|
|
LG Capital
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
91,017
|
|
Oddyssey Research
|
|
|
90,000
|
|
|
|
15,000
|
|
|
|
75,000
|
|
|
|
-
|
|
|
|
311,365
|
|
|
|
75,341
|
|
|
|
$
|
698,092
|
|
|
$
|
119,680
|
|
|
$
|
578,412
|
|
|
$
|
173,088
|
|
|
$
|
2,755,544
|
|
|
$
|
1,945,231
|
|
Typenex
On December 3, 2014, the
Company issued an unsecured convertible promissory note in the principal amount of $560,000 less an original issue discount (“OID”)
of $50,000 and transaction expenses of $10,000 for a total purchase price of $500,000. The stated rate interest on the note was
10%, per annum, with a default rate of 22%, per annum. The Company also paid a finder’s fee in the amount of $25,000 in
connection with this transaction, which was recorded as a discount to the note as it was paid from the proceeds; the Company received
$475,000 net proceeds after transactions costs. The note was convertible into common stock after 180 days at a discount,
subject to change, to the lowest trading price during the prior 15 days from the date of notice to convert, subject to a floor
of $0.50 per share, unless certain events of default occur, which were generally outside of the control of management. There was
no explicit limit on the number of shares that may be issued under the terms of the note. Accordingly, the Company recorded the
ECF as a derivative liability at fair value of $441,034, a discount of $342,000 reducing the note to zero, and the excess in fair
value of $99,034 to loss from effects of derivative liabilities.
On August 26, 2015, the Company and holder entered into an Amendment
whereby the conversion rate of the note was amended to 55% of the lowest price of the prior fifteen (15) trading days and conversion
floor removed which amendment was triggered by the dilutive issuances of the August 2015 convertible note financing thereby entitling
holder to the lowest conversion rate granted during the year ended September 30, 2015 per the terms of the agreement. On August
13, 2015, the carrying value on the note was $342,000. The Company recorded a loss on debt extinguishment of $366,068.
On December 10, 2015,
the Company and the holder entered into a forbearance agreement regarding the holder’s convertible note and added $105,000
to the principal and immediately charged to interest expense. On February 26, 2016, the note was assigned to GHS. The note was fully satisfied in 2016.
During the years
ended September 30, 2016 and 2015, the Company converted $497,687 and zero, and $191,334 and $33,166, respectively, of
principal and accrued interest into 196,418,367 shares and 3,265,987 shares, respectively. The note was fully satisfied in
2016. The note was fully satisfied in 2016.
Redwood
On
February 10, 2015, the Company issued an unsecured convertible promissory note in the principal amount of $2,000,000 less an OID
of $182,000 and transaction expenses of $10,000 for a total purchase price of $1,808,000. The stated rate interest on the note
was 10%, per annum; default rate 22%, per annum. During the year ended September 30, 2015, the Company received $800,000 under
the note with an original issue discount of $148,600 and transaction costs for net proceeds of $651,395.
The
note was convertible into common stock after 180 days at a discount, subject to change, to the lowest trading price during the
prior 15 days from the date of notice to convert, subject to a floor of $0.50 per share, unless certain events of default occur,
which are generally outside of the control of management. There is no explicit limit on the number of shares that may be issued
under the terms of the note. Accordingly, the Company recorded the ECF as a derivative liability at fair value of $867,244, a
discount of $475,000 reducing the note to zero, and the excess in fair value of $614,559 to derivative liability loss. During
the year ended September 30, 2015, the Company amortized $291,872 of the discount to interest expense prior to extinguishment
below.
On August 13, 2015,
the Company entered into an amendment whereby the conversion rate of the note was amended to 55% of the lowest price of the prior
fifteen (15) trading days and conversion floor removed which amendment was triggered by the dilutive issuances of the August 2015
convertible note financing thereby entitling Investor to the lowest conversion rate granted during the year ended September 30,
2015 per the terms of the $2M Securities Purchase Agreement. On August 13, 2015, the carrying value on the note was $614,559.
.The Company recorded a loss on debt extinguishment of $614,010.
On February 23, 2016,
the note was assigned to an investor, the same investor in the preceding section, and $36,038 was added to the principal balance
and immediately charged to interest expense.
During the years ended September 30, 2016 and 2015, the Company converted $632,629
and $13,814, and $203,410 and zero, respectively, of principal and accrued interest into 160,498,119 shares and 4,456,404 shares,
respectively. The note was fully satisfied in 2016.
Convertible
Note Financings – August 2015
On
August 5, 2015 through August 12, 2015, the Company entered into a series of convertible note financings with an aggregate face
value of $646,000 for net proceeds of $541,000. The stated rates of interest on the notes range from 8% to 12%, per annum; one
note had a one-time charge of 12% on principal. The notes are subject to default rates of interest of up to 22%, per annum. In
the event of default, the principal and accrued interest increase 150%.
The
notes have prepayment premiums ranging from zero percent to148% at or near 180 days, together with stated rates of interest. In
the event of default, the note increases 150% of the principal and accrued interest. After 180 days, the notes become convertible
into common stock based on a discount of 58% of the lowest trading price over a prior 13 to 20 days, subject to further adjustment
to 48% of lowest traded price under certain conditions. There is no explicit limit on the number of shares that may be issued
under the terms of the note. Accordingly, the Company recorded the ECF as a derivative liability at fair value of $768,776, a
discount of $628,500 reducing the note to zero, and the excess in fair value of $140,276 to derivative liability loss.
We
amortized the discount over the expected life of the related debt, which was estimated in the range of 12 to 18 months. During
the years ended September 30, 2016 and 2015, the Company amortized $527,917 and $100,583, respectively, of the discount to interest
expense. During 2016, the Company recorded a loss on the change in fair value of the derivative liability of $300,884
.
On
March 7, 2016, an August 5, 2015 note with a face value of $112,000, together with accrued interest of $7,806 was assigned to
a third party, or a total of $119,706.
In the event
the notes are not repaid at 180 days at a premium, the notes become convertible into common stock based on a discount of 45% of
the lowest trading price over prior 20 days trading, subject to an additional 10% discount in certain events. In the event of
default, the note increased 150% of the principal and accrued interest. There is no explicit limit on the number of shares that
the note is convertible into. As of September 30, 2016, the note was fully converted.
See Note 7 for two notes (Union and
LG Capital) that resulted in settlements and are included in Settlement Liabilities in the accompanying balance sheet at September
30, 2016 aggregating $322,000.
December
15, 2015 Convertible Note
On
December 15, 2015, an accredited investor provided the Company with $50,000 in additional proceeds under the same terms of their
original convertible note with a term of two years in August 2015. A one-time interest charge of 12% and an original issue discount
of 10%, aggregating $11,600, was added to the principal of the note. The total face amount of the note was $61,600 as of December
15, 2015. The note was subject to a default rate of interest of 18%, per annum. The note had default penalty of 150% principal
and accrued interest. In the event the notes were not repaid at 180 days, the notes become convertible into common stock based
on a discount of 60% of the lowest trading price over the 20 days prior to notice of conversion, subject to further adjustment
of up to 15% in certain events. There is no explicit limit on the number of shares that the note is convertible into.
The
Company recorded the note as a derivative liability at fair value of $144,127, a derivative discount of $61,600, and the excess
in fair value of $82,527 to Loss from Effects of Derivatives in the accompanying statement of operations. During the year ended
September 30, 2016, the Company converted $119,807 principal and $1,594 of accrued interest into 48,223,268 shares of common stock.
The
note was in default during the period, thus the Company recorded 150% of the principal and accrued interest as a charge to operations
totaling $30,800. During the year ended September 30, 2016, the Company converted $102,741 of principal into 144,242,185 shares
of common stock. Subsequent to such date, the Company converted $70,795 of principal and interest into 36,398,894 shares of common
stock and was fully satisfied
.
GHS
Convertible Note
On
April 19, 2016, the Company entered into convertible note financing transaction in the principal amount of $193,765, less fees
and costs. The convertible note bears interest at the stated rate of 10%, per annum, subject to a default rate of 22%, per annum.,
and is convertible into common stock of the Company at any time after 180 days from issuance of the note at a conversion price
per share equal to 45% of the lowest trading price in the 20 trading days immediately preceding the applicable conversion date.
The conversion rate will increase to 55% from 45% in certain conditions. The Company had the option to prepay the convertible
note in the first 180 days from closing subject to a prepayment penalty of 150% of principal plus interest. The maturity date
of the convertible note was January 19, 2017. In the event of default, the principal and accrued interest increases by 150%. There
is no explicit limit on the number of shares that the note is convertible into.
The
Company
recorded the note as a derivative liability at fair value of $566,977, a discount of $176,150, and the excess in fair value
of the embedded conversion feature of $390,827 to Loss from Effects of Derivatives in the accompanying statement of
operations. During the year ended September 30, 2016, no amounts were converted into shares of common stock.
The Company recorded the prepayment penalty of $91,011 as a discount
to the convertible note and fully amortized it to interest expense during the year ended September 30, 2016. Amortization of derivative
discounts in the accompanying statement of operations totaling $88,075. As a result, as of September 30, 2016, $160,851 is classified
as current on the accompanying consolidated balance sheet.
Oddyssey
Investment
On December 10, 2015, the
Investor purchased $90,000 in common stock at a purchase price equal to 90% of the average of the closing prices of the common
stock for the three (3) trading days immediately preceding the date that is six (6) months from the date of the agreement. As of
June 7, 2016, the Company entered into an agreement for proceeds of $90,000 to be recorded as a convertible note payable with a
conversion feature of 55% of the lowest trading price for the prior twenty (20) days. The Company recorded the ECF in the note
as a derivative liability at estimated fair value of $118,722, a derivative discount of $90,000, and the excess in fair value of
$28,722 to Loss from Effects of Derivatives in the accompanying statement of operations.
The following weighted
average variables were used in the Black Scholes model for the derivative liabilities as of September 30, 2016 and 2015:
Balance Sheet Date
|
|
Stock Price at
Valuation Date
|
|
|
Dividend
Yield
|
|
|
Exercise
Price
|
|
|
Risk Free
Interest Rate
|
|
|
Volatility
|
|
|
Average
Life
|
|
September 30, 2016
|
|
$
|
0.004
|
|
|
|
-
|
%
|
|
$
|
0.001
|
|
|
|
0.45
|
%
|
|
|
298
|
%
|
|
|
0.5
|
|
September 30, 2015
|
|
$
|
0.039
|
|
|
|
-
|
%
|
|
$
|
0.015
|
|
|
|
0.08
|
%
|
|
|
146
|
%
|
|
|
1.0
|
|
NOTE
6. RELATED PARTY DEBT
Related
Party Note Payable
The
Company had outstanding accounts payable balance to a related party (shareholder of the Company) in the amount of $15,000 as of
September 30, 2013. This payable was converted into a note payable on December 7, 2013. The note payable bears interest
of 6% per annum with a maturity date of December 1, 2016. As of September 30, 2016, there is $2,560 in accrued interest expense
related to this note and the Company recorded $915 and $913 in interest expense related to this note during the years ended September
30, 2016 and 2015.
Related
Party Convertible Notes Payable
On
December 10, 2015, the Company entered into two Secured Series B Preferred Stock Convertible Notes (the “Series B Notes”)
for an aggregate principal of $300,000 including 1) $50,000 from Hive Ceramics, LLC in new capital to the Company and 2) an amended
and restated note for Hive Ceramics LLC in the amount of $250,000 for capital previously contributed which is soon to be due and
payable.
The
Company failed to pay the Series B Note and the Amended Note on the Maturity Date (December 10, 2016). On December 15, 2016, the
Company received a Notice of Default from counsel for Holder. Holder’s counsel demanded that all amounts owed under the
Series B Note and the Amended Note be paid no later than December 20, 2016. The Company was unable to pay the demanded amounts
by December 20, 2016. The Company believes that the Holder intends to execute on the security for the Series B Note and the Amended
Note, namely, all of the assets of the Company. The Company is attempting to negotiate a resolution that does not include seizure
of the Company’s assets however there is no guarantee that the Company will be able to work out a satisfactory resolution
that does not include seizure of the Company’s assets.
The
Series B Notes accrue interest at eight percent (8%) per annum, mature one (1) year from issuance and are secured by all of the
assets and property of the Company. Upon the election of the noteholder, the Series B Notes are convertible into newly created
Series B Preferred Stock on a one-for-one (1:1) basis into shares of common stock of the Company at a fixed price per share of
$0.01.
Concurrently,
the Company filed a Certificate of Designation with the Delaware Secretary of State on the Series B Preferred Stock which provides,
in pertinent part, for the following rights and privileges:
Authorized
Amount of Series B Preferred Stock
: There are authorized 30,000,000 shares of Series B Preferred Stock, subject to the Certificate
of Designation. There shall be no additional Series B Shares authorized or issued.
Voting
Rights
: Each share of Series B shall be entitled to five (5) votes for every one (1) vote entitled to each share of Common
Stock.
Rank
:
All shares of Series B shall rank (i) senior to the Company’s Common Stock, (ii)
pari passu
with all other
series of preferred stock whether currently outstanding or hereafter created, including the Series A Preferred Stock, and specifically
ranking, by its terms, on par with Series B, and (iii) junior to any class or series of capital stock of the Company hereafter
created specifically ranking, by its terms, senior to the Series B, in each case as to the distribution of assets upon liquidation,
dissolution or winding up of the Company, whether voluntary or involuntary.
During
the year ended September 30, 2016, the Company recorded $17,708 of interest expense related to the notes. As of September 30,
2016, $300,000 of the Series B Notes along with $40,602 of accrued interest are outstanding. The Board of Directors authorized
the designation of the Series B Preferred Stock pursuant to the authority of the Certificate of Incorporation, which confers said
authority on the Board, and the issuance of the Series B Notes pursuant to a unanimous written consent of the Board dated December
10, 2015. The value ascribed to the Series B Notes were based on the fixed conversion price of the instruments into common
stock and such no beneficial conversion feature was recorded. See Note 11 for subsequent events related to this note.
NOTE
7. COMMITMENTS AND CONTINGENCIES
Warrant
Liability
The
Company recorded the estimated settlement liability as of March 31, 2014 for the Warrant Shares issued and the Warrants that remain
outstanding and unexercised that would be entitled to the same settlement based on the number of shares expected to be issued
and the market price of the Company’s common stock on the dates of the actual settlements from $4.72 per share to $7.25
per share, and market price of the first settlement of $7.25 for the unsettled claims. We believe the issuance of convertible
notes in the three months ended March 31, 2014 triggered the full ratchet anti-dilution adjustment; before the provision was triggered,
the fair value of the warrant liability was not significant as the exercise was so far out of the money. As a result of the above
settlements with warrant holders, the Company recorded a loss on settlement of warrants of $29,528,844 during the six months ended
March 31, 2014 and a long-term warrant liability of $29,430,022 as of March 31, 2014 based on 4,407,200 shares of common stock
under the settlement at the Company’s closing stock prices discussed above. As of September 30, 2016, the estimated
settlement liability is $0 due to the warrants expiration in May 2016, and the Company recorded a gain on the change in warrant
liability of $31,401 during the year ended September 30, 2016.
Settlement
LiabilitIES
On
or about December 1, 2016, LG Capital Funding, LLC (“LG Capital”) obtained a judgment in the amount of $151,000. On
or about December 10, 2016, the Company learned that LG Capital had placed a judgment lien on the Company’s operating account.
The effect of the lien was that the Company’s operating account was frozen for an amount twice the judgment, or approximately
$300,000. In or around December 2016 and continuing into early January 2017, GHS Investments, LLC (“GHS”) and LG Capital
negotiated a transaction whereby GHS purchased the rights to the LG Capital Convertible Promissory Note and/or the right to collect
on the LG Capital judgment for $161,000. As of September 30, 2016, the Company recorded a settlement liability of $151,000.
On
February 22, 2016, a convertible promissory note holder, Union Capital, LLC (“Union”), filed suit against the Company
in the United States District Court for the Southern District of New York claiming breach of contract and conversion and seeking
specific performance, permanent injunction, and damages arising from the Company’s rejection of certain conversion notices
submitted by Union. The Company and Union subsequently settled this matter without further court proceedings for $170,000 in 2017.
As of September 30, 2016, the Company recorded a settlement liability of $170,000.
Justin
Braune v. Vape Holdings, Inc. et.al.
On
May 16, 2017, Justin Braune, the Company’s former Chief Executive Officer filed a civil lawsuit in Los Angeles County Superior
Court against the Company, Allan Viernes and Ben Beaulieu claiming breach of Mr. Braune’s employment contract, including,
but not limited to failure to pay wages including deferred salary and commissions, and wages upon separation of employment and
seeking damages arising from the Company’s breach. The Company and Justin Braune subsequently settled this matter without
further court proceedings. On September 25, 2017, the parties participated in a full-day mediation and agreed to settle and resolve
all matters including the lawsuit. On December 6, 2017, the parties entered into a Settlement Agreement whereby, the Allan Viernes
and Ben Beaulieu 1) shall pay the sum of $15,000 by December 8, 2017 and the Company shall, 2) $40,000 on or before December 31,
2018, and 3) a convertible promissory note in the amount of $100,000.00. The convertible note and/or any shares issued in connection
shall have a buyout cash value of no less than 125% of the cash value. The Company recorded a provision for loss of approximately
$165,000 during the year ended September 30, 2016.
SETTLEMENT OF COMPNAY LEGAL CLAIMS.
On December 15, 2014,
the Company recorded a gain on settlement of $257,930 for a confidential settlement by and between the Company and certain shareholders
and related parties as settlement for certain potential legal claims held by the Company. As a result of the settlement, the Company
received net proceeds of $62,930 and vendor credits of $200,000 during the year ended September 30, 2015. A total of $325,000
in vendor credits has been received in connection with the settlement and no further credits will be given. In January 2015, the
Company received 440,625 shares from the settlement that was assigned to officers of the Company. The officers decided it was
in the best interest of the Company to return these shares to the Company to be used for future strategic issuances. Accordingly,
the 440,625 shares valued at $367,531 were recorded as treasury stock as of September 30, 2015, and the Company recorded a gain
on settlement of $625,461 during the year ended September 30, 2015.
NOTE
8. INCOME TAXES
The
following table presents the current and deferred income tax provision for federal and state income taxes for the years ended
September 30, 2016 and 2015:
|
|
2016
|
|
|
2015
|
|
Current tax provision (benefit):
|
|
|
|
|
|
|
Federal
|
|
$
|
-
|
|
|
$
|
-
|
|
State
|
|
|
1,800
|
|
|
|
2,209
|
|
Total
|
|
|
1,800
|
|
|
|
2,209
|
|
Deferred tax provision (benefit)
|
|
|
|
|
|
|
|
|
Federal
|
|
|
(790,000
|
)
|
|
|
(376,000
|
)
|
State
|
|
|
-
|
|
|
|
-
|
|
Valuation allowance
|
|
|
790,000
|
|
|
|
376,000
|
|
Total
|
|
|
-
|
|
|
|
-
|
|
Total provision (benefit) for income taxes
|
|
$
|
1,800
|
|
|
$
|
2,209
|
|
Reconciliations
of the U.S. federal statutory rate to the actual tax rate for the years ended September 30, 2016 and 2015:
|
|
2016
|
|
|
2015
|
|
US federal statutory income tax rate
|
|
|
(34.0
|
%)
|
|
|
(34.0
|
%)
|
State tax
–
net of benefit
|
|
|
(6.0
|
%)
|
|
|
(6.0
|
%)
|
|
|
|
(40.0
|
%)
|
|
|
(40.0
|
%)
|
|
|
|
|
|
|
|
|
|
Permanent differences:
|
|
|
|
|
|
|
|
|
Stock-based compensation
|
|
|
0.03
|
%
|
|
|
13.9
|
%
|
Amortization of debt discounts and non-cash interest
|
|
|
12.1
|
%
|
|
|
24.8
|
%
|
Non-deductible gains and losses
|
|
|
12.2
|
%
|
|
|
(12.2
|
)%
|
Increase in valuation allowance
|
|
|
15.4
|
%
|
|
|
13.5
|
%
|
Effective tax rate
|
|
|
-
|
%
|
|
|
-
|
%
|
The
Company incurred certain non-cash transactions which are not includable or deductible for income tax reporting purposes, such
the change in fair value of warrant liability, certain stock-based compensation and accretion of debt discounts.
The
components of the Company’s deferred tax assets and (liabilities) for federal and state income taxes as of September 30,
2016 and 2015:
|
|
As of September 30,
|
|
|
|
2016
|
|
|
2015
|
|
Current deferred tax assets (liabilities):
|
|
|
|
|
|
|
Accrued expenses and other
|
|
$
|
-
|
|
|
$
|
-
|
|
Total current deferred tax assets
|
|
|
-
|
|
|
|
-
|
|
Non-current deferred tax assets and liabilities:
|
|
|
|
|
|
|
|
|
Property, plant and equipment
|
|
|
-
|
|
|
|
29,000
|
|
Net operating losses
|
|
|
1,457,000
|
|
|
|
638,000
|
|
Total non-current deferred tax assets
|
|
|
1,457,000
|
|
|
|
667,000
|
|
Valuation allowance
|
|
|
(1,457,000
|
)
|
|
|
(667,000
|
)
|
Total non-current deferred tax assets
|
|
|
-
|
|
|
|
-
|
|
Net deferred tax assets
|
|
$
|
-
|
|
|
$
|
-
|
|
During
the years ended September 30, 2016 and 2015 the valuation allowance increased by $790,000 and $376,000, respectively. At September
30, 2016, the Company had approximately $1,457,000 of federal and state gross net operating losses allocated to continuing operations
available. The net operating loss carry forwards, if not utilized, will begin to expire in 2033 for federal purposes and 2031
for state purposes.
Based
on the available objective evidence, including the Company’s limited operating history and current liabilities in excess
of assets, management believes it is more likely than not that some of the net deferred tax assets, specifically certain net operating
losses, at September 30, 2016 will not be fully realizable. In addition, subsequent to year end significant shares were issued
to shareholders in connection with the conversion of notes payable and a subscription for the purchase of common stock. In connection,
with these issuances the Company determined that the historical NOLs have probably been impaired due to IRS Section 382 limitations.
Due to the uncertainty surrounding realization of the remaining deferred tax assets, specifically the NOLs, the Company has provided
a valuation allowance of $1,457,000 and $667,000 against its net deferred tax assets at September 30, 2016 and 2015, respectively.
We will continue to monitor the recoverability of our net deferred tax assets.
As
of September 30, 2016 and 2015, the Company has a State tax liability of $0 and $0, respectively. As of September 30, 2016 and
2015, the Company recorded no estimated taxes payable for Federal and State.
The
Company has filed all United States Federal and State tax returns. The Company has identified the United States Federal tax returns
as its “major” tax jurisdiction. The United States Federal return years 2015 through 2016 are still subject to tax
examination by the United States Internal Revenue Service; however, we do not currently have any ongoing tax examinations. The
Company is subject to examination by the California Franchise Tax Board for the years ended 2015 through 2016 and currently does
not have any ongoing tax examinations.
NOTE
9. STOCKHOLDERS’ DEFICIT
COMMON
STOCK
On
November 27, 2013, the Board and shareholders approved an increase in the authorized number of shares of common and preferred
stock which may be issued by the Company to 1,000,000,000 shares and 100,000,000 shares, respectively. On December
3, 2013, the certificate of amendment was filed with the Secretary of State of Delaware to reflect the increase in authorized.
The Company is in excess of their authorized shares.
PREFERRED
STOCK
On
April 1, 2014, the Board formally approved the filing of a Preferred Stock Designation in connection with the commitment of 500,000
Series A Shares to HIVE on March 27, 2014 pursuant to its authority to issue blank check preferred stock as provided in the Company’s
Certificate of Incorporation. Per the Certificate of Designation (the “Designation”), there are 100,000,000
shares of preferred stock authorized by the Company’s Certificate of Incorporation. The Company is authorized to issue 500,000
shares of Series A Shares pursuant to the Designation. As provided in the Designation (and as set forth in the HIVE
Asset Purchase Agreement), Series A Shares are entitled to vote at a 15-1 ratio to Common Stock. Each share of preferred
stock shall initially be convertible into one share of common stock (500,000 shares of common stock in the aggregate). On
the two year anniversary of the transaction of HIVE, the preferred stock conversion ratio shall be adjusted as follows: a one-time
pro rata adjustment of up to ten-for-one (10-1) based upon the Company generating aggregate gross revenues over the two years
of at least $8,000,000 (e.g. If the Company generates only $4,000,000 in aggregate gross revenues over the two year period then
the convertible ratio will adjust to 5-1). In no event will the issuance convert into more than 5,000,000 shares of common
stock of the Company.
On
June 19, 2014, the Company formally issued the 500,000 Series A Shares to HIVE.
The
value ascribed to the Series A Shares was based on the historical costs of the assets acquired on March 27, 2014 from HIVE since
the transfer of assets was made among entities under common control.
On
December 10, 2015, the Company approved the filing of a Preferred Stock Designation for up to 30,000,000 shares of Series B Preferred
Stock. No Series B Preferred Stock are issued or outstanding. See discussion of designation of Series B Preferred Stock in Note
6.
COMMON
STOCK ISSUED FOR ACCRUED WAGES
On
October 22, 2015, the Company’s Board of Directors issued 2,083,333 shares of restricted common stock to Kyle Tracey at
$0.024 per share for payment of $50,000 in accrued wages. On October 22, 2015, the Company’s Board of Directors issued 555,555
shares of restricted common stock to Joe Andreae at $0.024 per share for payment of $13,333 in accrued wages. On October 22, 2015,
the Company’s Board of Directors issued 1,250,000 shares of restricted common stock to Michael Cook at $0.024 per share
for payment of $30,000 in accrued wages.
In
February 2016, Justin Braune elected to take $15,000 of wages as common stock. The shares will formally be issued once the debt
conversions and capital structure restrictions have been resolved.
On
March 31, 2016, the Company’s Board of Directors issued 250,000 shares of restricted common stock to Justin Braune at $0.009
per share for payment of $2,375 in accrued wages.
To
date, the Company has issued but not delivered 3,000,000 shares of common stock to Justin Braune in accrued wages. The Company
and Justin Braune, through Mr. Braune’s counsel, are attempting to negotiate a resolution of Mr. Braune’s assertions
that the Company breached its agreements with Mr. Braune.
COMMON
STOCK ISSUED FOR BONUSES
On
October 22, 2015, the Company’s Board of Directors issued bonus stock grants of 600,000 shares of restricted common stock
each to Allan Viernes and Benjamin Beaulieu at $0.024 per share. In addition, the Company issued 300,000 shares of restricted
common stock to employees at $0.024 per share. These issuances were based on the fair market value on the date of issuance immediately
vested and resulted in $4,800 being charged to selling and administrative expense, and $31,199 being charged to general and administrative
expense during the year ended September 30, 2016.
On
October 22, 2015, the Company’s Board of Directors issued bonus stock grants of 1,250,000 shares of restricted common stock
an outside sales consultant at $0.024 per share. The issuance was based on the fair market value on the date of issuance immediately
vested and resulted in $30,000 being charged to sales and marketing expense during the year ended September 30, 2016.
COMMON
STOCK ISSUED FOR SERVICES
On
November 25, 2015, the Company’s Board of Directors issued stock grants of 49,760 shares of restricted common stock a business
development consultant at $0.011 per share. These issuances were based on the fair market value on the date of issuance immediately
vested and resulted in $547 being charged to general and administrative expense during the year ended September 30, 2016.
On
December 23, 2015, the Company’s Board of Directors issued stock grants of 142,857 shares of restricted common stock a business
development consultant at $0.008 per share. These issuances were based on the fair market value on the date of issuance immediately
vested and resulted in $1,143 being charged to general and administrative expense during the year ended September 30, 2016.
COMMON
STOCK SURRENDERED
On
October 22, 2015, Joe Andreae surrendered 130,000 shares of restricted common stock valued at $3,120 and were recorded as treasury
stock. In addition, on October 22, 2015, an employee also surrendered 15,000 shares valued at $360, which was recorded as treasury
stock.
On
December 20, 2015, Kyle Tracey surrendered 130,000 shares of restricted common stock valued at $1,170 and were recorded as treasury
stock.
On
December 21, 2015, the Allan Viernes and Benjamin Beaulieu each surrendered 30,000 shares of restricted common stock valued at
$420, which was recorded as treasury stock.
WARRANTS
All
1,184,726 warrants expired during the year ended September 30, 2016.
NOTE
10. INTELLECTUAL PROPERTY
On
March 27, 2014, the Company and Stone Arch Studio, LLC entered into a Trademark Assignment Agreement whereby the Company acquired
all right, title, priority and interest to the HIVE trademark U.S. Registration No. 44513069 as registered with the U.S. Patent
and Trade Office (“USPTO”). This acquisition further protects the Company’s HIVE Ceramics brand vaporization
line. As of September 30, 2016, the Company has impaired the $123,150 capitalized in costs paid related to the trademarks due
to the expected cash flows less than their carrying values.
NOTE
11. SUBSEQUENT EVENTS
Securities
Purchase Agreement with Typenex Co-Investment, LLC
On
November 1, 2016, the Company closed a Securities Purchase Agreement (the “Typenex Agreement”) with Typenex. Pursuant
to the Typenex Agreement, Typenex purchased a Convertible Promissory Note from the Company in the original principal amount of
up to $1,413,000 (the “Typenex Note”), at an interest rate of ten percent (10%) per annum. The Typenex Note is unsecured.
The principal amount of the Typenex Note included an original issue discount of $128,000 and a transaction fee of $5,000.
The
investment from Typenex is scheduled to occur in a series of sixteen (16) tranches, represented each by a separate Secured Investor
Promissory Note (the “Tranche Notes”) in varying amounts. The first Tranche Note of $40,000 is memorialized in Secured
Promissory Note #1, the funding of which occurred on or immediately after the execution of the Typenex Agreement.
Each
Tranche Note, or any part of it, is convertible into fully paid and non-assessable $0.00001 par value common stock of the Company.
The Conversion Price is as described in the Typenex Agreement and is based on at least a 45% discount to the trading price of
the Company’s common stock.
As
a part of the Typenex Agreement, the Company agreed to use its best efforts to cause its authorized but unissued stock to be increased
in order for the Company to create a reserve sufficient to meet its conversion obligations under the Typenex Note. The Company
is in the process of taking steps in order to increase its authorized but unissued stock to meet its obligations.
There
is no guarantee that Typenex will fund the remainder of the Typenex Note and in fact it is within Typenex’s sole and absolute
discretion whether it ultimately funds Tranche Notes #2- #12. However, in order to secure Typenex’s performance of its obligations
under the Typenex Note, as well as any subsequent Tranche Notes, Typenex agreed to pledge a 40% membership interest in Typenex
Medical, LLC, an Illinois limited liability company. Should Typenex decide it won’t fund the remainder of the Tranche Notes,
the Company’s operating results will suffer and its ability to remain a going concern will be jeopardized.
Securities
Purchase Agreement with GHS Investments, LLC
On
October 28, 2016, the Company closed a Securities Purchase Agreement (the “GHS Purchase Agreement”) with GHS. Pursuant
to the GHS Purchase Agreement, GHS agreed to purchase and the Company agreed to sell up to $1,105,000 of convertible securities,
in the form of a Convertible Promissory Note (the “GHS Note”), at an interest rate of ten percent (10%) per annum.
The GHS Note is also attached as Exhibit 10.6 to the 12/27/16 Form 8K and is incorporated herein by this reference. The GHS Note
included a ten percent (10%) original issuance discount (i.e., $100,000) and a $5,000 initial transaction fee, as defined in the
GHS Purchase Agreement. Upon the closing of the GHS Purchase Agreement, GHS funded $40,000 to the Company (the “Initial
Tranche”). Within 15 days of certain conditions being met, an additional $40,000 shall be disbursed by GHS to the Company,
in its sole discretion (“Second Tranche”). Within 30 days from the Second Tranche’s issuance, so long as there
are no defaults under the GHS Note, GHS in its discretion may fund an additional $50,000 to the Company every 30 days (“Subsequent
Tranches”) until $1,000,000 has been funded to the Company.
The
principal sum and corresponding interest due to GHS shall be prorated based on the consideration actually paid by GHS to the Company
in accordance with the GHS Purchase Agreement.
Each
GHS Note, or any part of it, is convertible into fully paid and non-assessable $0.00001 par value common stock of the Company.
The Conversion Price is as described in the GHS Purchase Agreement and is based on at least a 45% discount to the trading price
of the Company’s common stock.
As
a part of the GHS Purchase Agreement, the Company agreed to use its best efforts to cause its authorized but unissued stock to
be increased in order for the Company to create a reserve sufficient to meet its conversion obligations.
There
is no guarantee that GHS will fund the remainder of the Subsequent Tranches and in fact it is within GHS’s sole and absolute
discretion whether it ultimately funds the Subsequent Tranches. Should GHS decide it won’t fund the Subsequent Tranches,
the Company’s operating results will suffer and its ability to remain a going concern will be jeopardized.
Subsequent to year end,
GHS elected to convert $365,266 of principal and interest into 191,162,022 shares of common stock. Another shareholder received
120,000,000 shares of common stock pursuant to a note assignment agreement executed subsequent to year end.