The accompanying notes are an integral part
of these condensed financial statements.
The accompanying notes are an integral part
of these condensed financial statements.
The accompanying notes are an integral part
of these condensed financial statements.
During the nine months ended September 30, 2017, the Company issued
136,110 shares of common stock to its officers in satisfaction of $490,000 of accrued compensation at December 31, 2016.
During the nine months ended September 30, 2016, the Company issued 60,883 shares of common stock through net settlement cashless
exercise of warrants to purchase 118,959 shares at $2.20 per share when the closing prices on the date of exercises were a
weighted average of $4.51 per share.
The accompanying notes are an integral part
of these condensed financial statements.
Notes to Unaudited Condensed Financial Statements
Note 1 – Organization and Description of Business
ClearSign Combustion Corporation (ClearSign or the Company)
designs and is developing technologies for the purpose of improving key performance characteristics of combustion systems, including
emission and operational performance, energy efficiency and overall cost-effectiveness. The Company’s primary technology
is its Duplex™ technology, which achieves very low emissions without the need of external flue gas recirculation, selective
catalytic reduction, or higher excess air operation. Its other technology, Electrodynamic Combustion Control™ or ECC™,
introduces a computer-controlled electric field into the combustion region which may better control gas-phase chemical reactions
and improve system performance and cost-effectiveness. The Company is headquartered in Seattle, Washington and was incorporated
in the state of Washington in 2008.
Going Concern
The Company’s financial statements have been presented
on the basis that it is a going concern, which contemplates the realization of assets and satisfaction of liabilities in the
normal course of business. The Company’s Duplex technology is currently in various states of commercial application
regarding in three of the Company’s target markets and has generated nominal revenues from operations to date. Results
are encouraging but the Company continues to further refine and expand our Duplex technology range. The Company’s ECC technology
is in development stage and the Company has not had any commercial application of ECC technology to date. In order to
generate meaningful revenues, one of the technologies must be fully developed, gain market recognition and acceptance, and
develop a critical level of successful sales and product installations.
The Company has incurred losses since its inception totaling $47,418,000
and expects to experience operating losses and negative cash flow for the foreseeable future. As of September 30, 2017, the Company
had cash and cash equivalents totaling $3,511,000. The Company currently anticipates that its cash and cash equivalents will be
sufficient to fund the Company’s ongoing business activities into the first quarter of 2018. In order to continue business
operations beyond that point, the Company currently anticipates that it will need to raise additional capital. The Company has
historically financed its operations primarily through issuances of equity securities, and until the growth of revenue streams
increases to a level that covers operating expenses it is the Company’s plan to continue to fund operations in this manner.
Management believes that the successful growth and operation
of the Company’s business is dependent upon its ability to obtain adequate sources of funding through equity or debt
financing, co-development agreements or strategic partnering agreements to adequately support research and development
efforts, protect intellectual property, form relationships with strategic partners, and provide for working capital and
general corporate purposes. Management has made estimates of future results of operations, using a wide range of assumptions
regarding the level of revenue generated, operating expenses incurred, and future cash flows from financing activities and is
working to execute these plans. While historically the Company has had success in raising capital, there can be no assurances that
the Company will raise the necessary capital in the short-term in order to fund operations beyond the first quarter of 2018.
Furthermore, there can be no assurance that the Company will be successful in achieving its long-term plans, or that such
plans, if consummated, will enable the Company to obtain profitable operations or continue in the long-term as a going
concern.
Note 2 – Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited condensed financial statements have been
prepared in accordance with the rules and regulations of the Securities and Exchange Commission for Form 10-Q. Accordingly, certain
information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and regulations. The condensed balance sheet at December 31, 2016
has been derived from the Company’s audited financial statements.
In the opinion of management, these financial statements reflect
all normal recurring and other adjustments necessary for a fair presentation. These financial statements should be read in conjunction
with the audited financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2016. Operating
results for interim periods are not necessarily indicative of operating results for an entire fiscal year or any other future periods.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America 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 financial
statements and the reported amounts of sales and expenses during the reporting period. Actual results could differ from those
estimates.
Revenue Recognition, Cost of Sales and Change in Accounting Principle
In September 2014, the Financial Accounting Standards Board issued
Accounting Standards Update No. 2014-09 (ASU No. 2014-09) regarding revenue recognition. The new standard provides authoritative
guidance clarifying the principles for recognizing revenue and developing a common revenue standard for U.S. generally accepted
accounting principles. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of
promised goods and services to customers in an amount that reflects the consideration to which the entity expects to be entitled
in the exchange for those goods or services. Additionally, the guidance requires improved disclosure to help users of financial
statements better understand the nature, amount, timing, and uncertainty of revenue that is recognized. It is effective January
1, 2018 and early adoption is permitted. Management has elected early adoption of this standard to minimize the eventual cost of
implementation.
The Company previously accounted for revenues from design and installation
of its products on the completed contract method. Revenues from contracts and related costs of goods sold were recognized once
the contract was completed or substantially completed. Contract costs included all direct material and labor costs and those indirect
costs related to contract performance, such as indirect labor, supplies, and depreciation costs. Provisions for estimated losses
on uncompleted contracts were made in the period in which such losses were determined.
The Company retroactively adopted ASU No. 2014-09 effective January
1, 2017. The Company reviewed each contract to identify contract rights, performance obligations, and transaction prices, including
the allocation of prices to separate performance obligations. Revenues and costs of sales are recognized once the goods or services
are delivered to the customer’s control and performance obligations are satisfied. Typically, the Company’s customer
contracts include performance obligations related to emission levels or other metrics that are measured at project completion.
Management analyzed prior year revenue recognition made under the completed contract method and determined that no changes in the
previously reported financial statements were required. Management elected to not apply the practical expedients in the adoption
of ASU No. 2014-09.
The Company’s contracts with customers have performance obligations
regarding air emissions and operational performance that are satisfied upon completion of service. Since this is the singular performance
obligation and cannot be achieved until the air emissions and operational performance have been successfully tested, revenue related
to the contracts is recognized upon project completion.
The Company’s contracts generally include progress payments
from the customer upon completion of defined milestones. As these payments are received they are offset against accumulated project
costs and recorded as either Contract assets or Contract liabilities. Upon completion of the performance obligations and acceptance
by the customer the projects can be recorded as revenue. The Company did not recognize any revenue from contracts during the quarter
ended September 30, 2017. The Company recognized revenue of $360,000 in the nine-month period ended September 30, 2017.
The Company’s contracts with customers contain no variable considerations
or incentives or discounts that would cause revenue to be allocated or adjusted over time. Therefore, no separate methods of evaluating
the contracts other than consideration of the price at achievement of the performance objectives was used in satisfying the review
requirements of ASU No. 2014-09.
Product Warranties
The Company warrants all installed products against defects in materials
and workmanship for a period specified in each contract by replacing failed parts. Accruals for product warranties are based on
historical warranty experience and current product performance trends, and are recorded at the time revenue is recognized as a
component of cost of sales. The warranty liabilities are reduced by material and labor costs used to replace parts over the warranty
period in the periods in which the costs are incurred. The Company periodically assesses the adequacy of its recorded warranty
liabilities and adjusts the amounts as necessary, and such adjustments could be material in the future if estimates differ significantly
from actual warranty expense. The warranty liabilities are included in accrued liabilities in the balance sheets.
Cash and Cash Equivalents
Highly liquid investments purchased with an original maturity of
three months or less are considered cash equivalents. Cash is maintained with a commercial bank where accounts are generally guaranteed
by the Federal Deposit Insurance Corporation up to $250,000. The Company’s deposits may at times exceed this limit. The Company
has not experienced losses in such accounts and believes it is not exposed to any significant credit risk on cash and cash equivalents.
Accounts Receivable and Allowance for Doubtful Accounts
Accounts receivable are recorded at the invoiced amount. An allowance
for doubtful accounts is established, as necessary, based on past experience and other factors which, in management’s judgment,
deserve current recognition in estimating bad debts. The determination of the collectability of amounts due from customer accounts
requires the Company to make judgments regarding future events and trends. Allowances for doubtful accounts are determined based
on assessing the Company’s portfolio on an individual customer and on an overall basis. This process consists of a review
of historical collection experience, current aging status of the customer accounts, and the financial condition of the Company’s
customers. Based on a review of these factors, the Company may establish or adjust the allowance for specific customers and the
accounts receivable portfolio as a whole.
Fixed Assets and Change in Accounting Principle for Leases
Fixed assets are recorded at cost. As disclosed in Note 3,
in 2017 the Company retroactively adopted Accounting Standards Update No. 2016-02 (ASU No. 2016-02) regarding leases. For those
leases with a term greater than one year, the Company recognizes on the balance sheet at the time of lease inception or modification
a right-of-use asset and a lease liability, initially measured at the present value of the lease payments. Lease costs are recognized
in the income statement over the lease term on a straight-line basis. Operating leases with a term of 1 year or less (short-term
leases) are recognized on a straight line basis over the term. Depreciation is computed using the straight-line method over the
estimated useful lives of the respective assets. Leasehold improvements are depreciated over the life of the lease or their useful
life, whichever is shorter. All other fixed assets are depreciated over two to four years. Maintenance and repairs are expensed
as incurred.
Patents and Trademarks
Patents and trademarks are recorded at cost. Amortization is computed
using the straight-line method over the estimated useful lives of the assets once they are awarded.
Impairment of Long-Lived Assets
The Company tests long-lived assets for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may not be recoverable through the estimated undiscounted
cash flows expected to result from the use and eventual disposition of the assets. In that event, a loss is recognized based on
the amount by which the carrying amount exceeds the fair value of the long-lived assets. Fair value is determined based on the
present value of estimated expected cash flows using a discount rate commensurate with the risks involved, quoted market prices,
or appraised values depending upon the nature of the assets. Loss on long-lived assets to be disposed of is determined in a similar
manner, except that fair values are reduced for the cost of disposal.
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. Assets and liabilities
measured at fair value are categorized based on whether or not the inputs are observable in the market and the degree that the
inputs are observable. The categorization of financial assets and liabilities within the valuation hierarchy is based upon the
lowest level of input that is significant to the fair value measurement. The three levels of inputs used to establish fair value
are the following:
|
·
|
Level
1 – Quoted prices in active markets for identical assets or liabilities,
|
|
·
|
Level 2 – Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and
|
|
·
|
Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
|
The Company’s financial instruments primarily consist of cash and
cash equivalents, accounts payable and accrued expenses. As of the balance sheet dates, the estimated fair values of the financial
instruments were not materially different from their carrying values as presented on the balance sheets. This is primarily attributable
to the short-term maturities of these instruments.
In adopting ASU 2016-02 as described in Note 3, the Company recorded
lease liabilities for the estimated present value of the lease payments under the lease agreements. The Company determined the
interest rate based on an estimated incremental borrowing rate. The lease liabilities are classified within Level 3.
The Company did not identify any other non-recurring assets and
liabilities that are required to be presented in the balance sheets at fair value.
Research and Development
The cost of research and development is expensed as incurred. Research
and development costs consist of salaries, benefits, share-based compensation, consulting fees, rent, utilities, depreciation,
and consumables.
Income Taxes
The Company accounts for income taxes using an asset and liability
approach which allows for the recognition and measurement of deferred tax assets based upon the likelihood of realization of tax
benefits in future years. Under the asset and liability approach, deferred taxes are provided for the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income
tax purposes. A valuation allowance is provided for deferred tax assets if it is more likely than not these items will either expire
before the Company is able to realize their benefits, or that future deductibility is uncertain. Tax benefits from a tax position
are recognized only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities
based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are
measured based on the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate resolution.
Share-Based Compensation
The costs of all employee stock options, as well as other equity-based
compensation arrangements, are reflected in the financial statements based on the estimated fair value of the awards on the grant
date. That cost is recognized over the period during which an employee is required to provide service in exchange for the award.
Share-based compensation for shares granted to non-employees is determined as the fair value of the consideration received or the
fair value of equity instruments issued, whichever is more reliably measured.
Net Loss per Common Share
Basic loss per share is computed by dividing loss available to common
stockholders by the weighted-average number of common shares outstanding. Diluted loss per share is computed similar to basic loss
per share except that the denominator is increased to include additional common shares available upon exercise of stock options
and warrants using the treasury stock method, except for periods for which no common share equivalents are included because their
effect would be anti-dilutive. At September 30, 2017 and 2016, potentially dilutive shares outstanding amounted to 3,474,094 and
1,335,363, respectively.
In connection with the January 2017 rights offering (see Note 6),
the Company evaluated the financial impact of FASB ASC 260, “Earnings per Share,” which states, among other things,
that if a rights issue is offered to all existing stockholders at an exercise price that is less than the fair value of the stock,
then the weighted average shares outstanding and basic and diluted earnings per share shall be adjusted retroactively to reflect
the bonus element of the rights offering for all periods presented. The Company determined that the application of this specific
provision of ASC 260 was immaterial to previously issued financial statements and, therefore, did not retroactively adjust previously
reported weighted average shares outstanding and basic and diluted earnings per share.
Recently Issued Accounting Pronouncements
In May 2017, the FASB issued ASU 2017-09,
Compensation - Stock
Compensation (Topic 718)
: Scope of Modification Accounting. This ASU provides clarity and reduces both (1) diversity in practice
and (2) cost and complexity when applying the guidance in Topic 71 to a change to the terms or conditions of a share-based payment
award. The amendments in this ASU are effective for public entities for fiscal years and interim periods beginning after December
15, 2017, with early adoption permitted. The ASU should be applied prospectively on and after the effective date. The Company is
evaluating the impact of this ASU.
Management does not believe that any other recently issued, but
not yet effective, authoritative guidance, if currently adopted, would have a material impact on the Company’s financial
statement presentation or disclosures.
Emerging Growth Company
The Company is an emerging growth company as defined under
the
Jumpstart Our Business Startups Act of 2012 (JOBS Act)
.
An emerging
growth company may delay the adoption of certain accounting standards until those standards would otherwise apply to private companies.
The Company will remain an emerging growth company until December 31, 2017, although it will lose that status sooner if its revenues
exceed $1.07 billion, if it issues more than $1 billion in non-convertible debt in a three-year period, or if the market value
of its common stock that is held by non-affiliates exceeds $700 million as of any June 30. At June 30, 2017, the market value of
the Company’s common stock held by non-affiliates totaled $57 million.
Note 3 – Fixed Assets
Fixed assets are summarized as follows:
|
|
September 30,
|
|
|
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
(unaudited)
|
|
|
|
|
Machinery and equipment
|
|
$
|
801,000
|
|
|
$
|
662,000
|
|
Office furniture and equipment
|
|
|
163,000
|
|
|
|
141,000
|
|
Leasehold improvements
|
|
|
145,000
|
|
|
|
134,000
|
|
Right of use asset-operating leases
|
|
|
518,000
|
|
|
|
518,000
|
|
Accumulated depreciation and amortization
|
|
|
(1,073,000
|
)
|
|
|
(894,000
|
)
|
|
|
|
554,000
|
|
|
|
561,000
|
|
Construction in progress
|
|
|
-
|
|
|
|
83,000
|
|
|
|
$
|
554,000
|
|
|
$
|
644,000
|
|
In February 2016, the Financial Accounting Standards Board issued
ASU No. 2016-02 regarding leases for the purpose of providing more comprehensive and standardized presentation of an entity’s
cost of property essential to its operations and its related funding. The new standard requires lessee recognition on the balance
sheet of a right-of-use asset and a lease liability, initially measured at the present value of the lease payments. It further
requires recognition in the income statement of a single lease cost, calculated so that the cost of the lease is allocated over
the lease term on a generally straight-line basis. Finally, it requires classification of all cash payments within operating activities
in the statements of cash flows. It is effective for fiscal years commencing after December 15, 2018 and early adoption is permitted.
Management has elected early adoption of this standard to minimize the eventual cost of implementation.
The Company has a triple net operating lease for office and laboratory
space in Seattle, Washington through March 2020. This lease was modified in November 2016 to extend its term from February 2017
to March 2020. Rent escalated annually by 3% through February 2017 and remains at a constant rate thereafter of $12,000 per month
plus triple net operating costs. The Company also has a triple net operating lease for office space in Tulsa, Oklahoma with
a term that began in September 2016 and will expire in August 2019 with monthly rent of $2,000 per month plus triple net operating
costs. Both leases include lessee renewal options for three years at the then prevailing market rate.
With the retroactive adoption of ASU No. 2016-02, the new lease
standard was applied to the Tulsa lease in September 2016, the commencement of the lease term, and to the Seattle lease in November
2016, the time of the lease modification. A leasehold interest and corresponding lease liability was recognized related to the
Tulsa lease and the Seattle lease retroactively in 2016 in the amounts of $71,000 and $447,000, respectively. These reflect the
lease commitments over the lease term discounted at the Company’s estimated incremental borrowing rate of 5% per annum. The
lessee renewal options were not included in the lease term as they were not considered to be reasonably probable of exercise nor
measurable. In 2016, accumulated amortization of these assets amounted to $19,000 and principal payments of the lease liabilities
amounted to $17,000. There was no meaningful effect on the 2016 results of operations or the December 31, 2016 accumulated deficit.
Management elected to apply the practical expedients in the adoption of ASU No. 2016-02 and to not apply the standard to short-term
leases.
Lease costs for the three and nine months ended September 30, 2017
and 2016 and other quantitative disclosures are as follows:
|
|
For the three months ended
September
30,
|
|
|
For the nine months ended
September 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
Lease cost:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating lease cost
|
|
$
|
54,000
|
|
|
$
|
42,000
|
|
|
$
|
161,000
|
|
|
$
|
122,000
|
|
Short-term lease cost
|
|
|
40,000
|
|
|
|
4,000
|
|
|
|
47,000
|
|
|
|
21,000
|
|
Total lease cost
|
|
$
|
94,000
|
|
|
$
|
46,000
|
|
|
$
|
208,000
|
|
|
$
|
143,000
|
|
Other information:
|
|
|
|
|
Cash paid for amounts included in the measurement of lease liabilities:
|
|
|
|
|
Operating cash flows from operating leases
|
|
$
|
129,000
|
|
|
|
|
|
|
Right-of-use assets obtained in exchange for new operating lease liabilities
|
For operating lease:
|
|
|
|
|
Weighted average remaining lease term (in years)
|
|
|
2.43
|
|
Weighted average discount rate
|
|
|
5.00
|
%
|
Minimum future payments under the Company’s leases at September
30, 2017 and their application to the corresponding lease liabilities are as follows:
|
|
|
|
|
Payments due
|
|
|
|
Discounted lease
|
|
|
under lease
|
|
|
|
liability payments
|
|
|
agreements
|
|
2017
|
|
$
|
38,000
|
|
|
$
|
43,000
|
|
2018
|
|
|
159,000
|
|
|
|
173,000
|
|
2019
|
|
|
158,000
|
|
|
|
164,000
|
|
2020
|
|
|
37,000
|
|
|
|
37,000
|
|
Total
|
|
$
|
392,000
|
|
|
$
|
417,000
|
|
Note 4 – Patents and Other Intangible Assets
Patents and other intangible assets are summarized as follows:
|
|
September 30,
|
|
|
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
(unaudited)
|
|
|
|
|
Patents
|
|
|
|
|
|
|
|
|
Patents pending
|
|
$
|
1,163,000
|
|
|
$
|
1,040,000
|
|
Issued patents
|
|
|
862,000
|
|
|
|
747,000
|
|
|
|
|
2,025,000
|
|
|
|
1,787,000
|
|
Trademarks
|
|
|
|
|
|
|
|
|
Trademarks pending
|
|
|
36,000
|
|
|
|
23,000
|
|
Registered trademarks
|
|
|
23,000
|
|
|
|
23,000
|
|
|
|
|
59,000
|
|
|
|
46,000
|
|
Other
|
|
|
8,000
|
|
|
|
8,000
|
|
|
|
|
2,092,000
|
|
|
|
1,841,000
|
|
Accumulated amortization
|
|
|
(256,000
|
)
|
|
|
(106,000
|
)
|
|
|
$
|
1,836,000
|
|
|
$
|
1,735,000
|
|
During the three and nine months ended September 30, 2017 and 2016,
the Company recorded impairment losses of $0, $0, $1,739,000, and $1,971,000 respectively, of capitalized patents pending.
Future amortization expense associated with issued patents and registered
trademarks as of September 30, 2017 is estimated as follows:
2017
|
|
$
|
54,000
|
|
2018
|
|
|
215,000
|
|
2019
|
|
|
193,000
|
|
2020
|
|
|
109,000
|
|
2021
|
|
|
38,000
|
|
Thereafter
|
|
|
29,000
|
|
|
|
$
|
638,000
|
|
Note 5 – Sales, Contract Assets and
Contract Liabilities
In the three months ended September 30, 2016,
the Company entered into
a multi-flare contract with a third-party contractor to supply its
Duplex technology to a major California oil producer to retrofit its enclosed wellhead ground flares. This contract is
valued at $900,000 and includes certain performance requirements related to emission levels. As such, each flare retrofit is considered
a separate transaction where revenues are recognized upon delivery of the unit and satisfaction of the performance obligation.
In the three months ended March 31, 2017, revenue totaling $360,000 was recognized with the completion of the performance obligations.
The remaining units with a contract value totaling $540,000 are in progress. The Company also has contracts with two oil producing
companies for the installation of its Duplex technology with a total value of approximately $280,000. At September 30, 2017, the
Company had contract assets of $126,000 and contract liabilities of $0.
Note 6 – Stockholders’ Equity
Common Stock and Preferred Stock
The Company is authorized to issue 62,500,000 shares of common stock
and 2,000,000 shares of preferred stock. Preferences, limitations, voting powers and relative rights of any preferred stock to
be issued may be determined by the Company’s Board of Directors. The Company has not issued any shares of preferred stock.
In January 2017, the Company completed a rights offering and public
offering of units comprised of common stock and warrants at $4.00 per unit (the Rights Offering) whereby 2,395,471 shares of common
stock and warrants for the purchase of 2,395,471 shares of common stock were issued. The warrants allow each holder to purchase
one share of common stock at an exercise price of $4.00 per share, are non-callable, expire on January 25, 2019, and are publicly
traded on the NASDAQ Capital Market under the symbol “CLIRW”. Gross proceeds from the Rights Offering totaled $9.6
million and net cash proceeds approximated $8.7 million. Expenses of the Rights Offering approximated $915,000, including dealer-manager
and placement agent fees of $575,000 paid to MDB Capital Group LLC (MDB) and MDB’s legal fees of $60,000.
Equity Incentive Plan
The Company has an Equity Incentive Plan (the Plan) which provides
for the granting of options to purchase shares of common stock, stock awards to purchase shares at no less than 85% of the value
of the shares, and stock bonuses to officers, employees, board members, consultants, and advisors. The Compensation Committee of
the Board of Directors is authorized to administer the Plan and establish the grant terms, including the grant price, vesting period
and exercise date. As of September 30, 2017, the number of shares of common stock reserved for issuance under the Plan totaled
1,657,972. The Plan provides for quarterly increases in the available number of authorized shares equal to the lesser of 10% of
any new shares issued by the Company during the quarter immediately prior to the adjustment date or such lesser amount as the Board
of Directors shall determine.
In February 2017, the Company issued 83,334 shares of common stock
under the Plan to its three independent directors in accordance with agreements entered into with each director. The common stock
is subject to repurchase rights by the Company at $0.0001 per share through February 10, 2018 upon the termination of the individual’s
services as a director or other circumstances as set forth in the award agreements. The fair value of the stock at the time of
grant was $3.60 per share for a total value of $300,000. The Company recognized $225,000 in general and administrative expense
for the nine months ended September 30, 2017 and will recognize the remaining $75,000 during the remainder of 2017.
In the nine months ended September 30, 2017, the Company granted
107,000 stock options under the Plan to employees. The stock options have exercise prices at the grant date fair value of $3.80
per share, contractual lives of 10 years, and vest over 4 years. The fair value of stock options granted estimated on the date
of grant using the Black-Scholes option valuation model was $224,000. The recognized compensation expense associated with these
grants for the nine months ended September 30, 2017 was $28,000. The following weighted-average assumptions were utilized in the
calculation of the fair value of the stock options:
Expected life
|
|
|
6.25
years
|
|
Weighted average volatility
|
|
|
69
|
%
|
Forfeiture rate
|
|
|
13
|
%
|
Weighted average risk-free interest rate
|
|
|
1.90
|
%
|
Expected dividend rate
|
|
|
0
|
%
|
Outstanding stock option grants at September 30, 2017 and December
31, 2016 totaled 978,310 shares and 882,815 shares, respectively, with the right to purchase 720,643 shares and 547,532 shares
being vested and exercisable at September 30, 2017 and December 31, 2016, respectively. The intrinsic value of the exerciseable
shares was $194,000 as of September 30, 2017. The recognized compensation expense associated with these grants for the three and
nine months ended September 30, 2017 and 2016 totaled $140,000, $509,000, $199,000 and $604,000, respectively. At September 30,
2017 the number of shares reserved under the Plan but unissued totaled 202,648. At September 30, 2017, in addition to the $75,000
of director share-based compensation to be recognized in 2017, there was $499,000 of total unrecognized compensation cost related
to non-vested share-based compensation arrangements granted under the Plan. That cost is expected to be recognized over a weighted
average period of 2.6 years.
Consultant Stock Plan
The Company has a Consultant Stock Plan (the Consultant Plan) which
provides for the granting of shares of common stock to consultants who provide services related to capital raising, investor relations,
and making a market in or promoting the Company’s securities. The Company’s officers, employees, and board members
are not entitled to receive grants from the Consultant Plan. The Compensation Committee of the Board of Directors is authorized
to administer the Consultant Plan and establish the grant terms. The number of shares reserved for issuance under the Consultant
Plan on September 30, 2017 totaled 142,384 with 101,634 of those shares unissued. The Consultant Plan provides for quarterly increases
in the available number of authorized shares equal to the lesser of 1% of any new shares issued by the Company during the quarter
immediately prior to the adjustment date or such lesser amount as the Board of Directors shall determine. In August 2017,
the Company granted 10,000 shares of common stock under the Consultant Stock Plan to a consultant for services from June 2017 to
May 2018 and subject to completion of service each quarter. The fair value of the stock at the time of grant was $3.50 per share
for a total value of $35,000 which the Company recognizes in general and administrative expense on a pro-rated quarterly basis.
The Consultant Plan expense for the three and nine months ended September 30, 2017 and 2016 was $9,000 and $33,000 and $12,000
and $32,000, respectively.
Warrants
The Company has the following warrants outstanding at September
30, 2017:
|
|
|
Total Outstanding Warrants
|
|
Exercise Price
|
|
|
Warrants
|
|
|
Wtd. Avg.
Exercise
Price
|
|
|
Remaining
Life
(in years)
|
|
$
|
1.80
|
|
|
|
80,000
|
|
|
$
|
1.80
|
|
|
|
3.38
|
|
$
|
4.00
|
|
|
|
2,395,471
|
|
|
$
|
4.00
|
|
|
|
1.32
|
|
$
|
10.00
|
|
|
|
20,313
|
|
|
$
|
10.00
|
|
|
|
1.43
|
|
|
|
|
|
|
2,495,784
|
|
|
$
|
3.98
|
|
|
|
|
|
The intrinsic value of the outstanding warrants was $140,000 as
of September 30, 2017.
Note 7 – Related Party Transactions
In connection with the January 2017 Rights Offering, the Company
paid MDB, the dealer-manager and placement agent, fees of $575,000 and legal fees and other costs of $60,000. MDB and its chief
executive officer own a significant number of shares of the Company’s common stock.
Note 8 – Commitments
On February 3, 2015, the Company and its Chief Executive Officer,
Stephen E. Pirnat, entered into an employment agreement (the Agreement) which terminates on December 31, 2017, unless earlier terminated.
Compensation under the Agreement includes an annual salary of $350,000 with annual cost-of-living adjustments, a grant of stock
options to purchase 300,000 shares of the Company’s common stock, annual cash bonuses that may equal up to 60% of his annual
salary and equity bonuses based on performance standards established by the Compensation Committee of the Board of Directors, medical
and dental benefits for Mr. Pirnat and his family, other employee benefits offered to employees generally and relocation expenses
up to approximately $100,000. The Agreement may be terminated by the Company without cause under certain circumstances, as defined
in the Agreement, whereby a severance payment would be due in the amount of compensation that would have been due had employment
not been terminated or one year of the current annual compensation, whichever is greater. In the event of a change in control,
Mr. Pirnat would receive one year’s compensation and all previously granted stock options would vest in full. On October
30, 2017 this agreement was extended through December 31, 2018.
The Company has a field test agreement with a customer that was
established to demonstrate and test the Duplex technology in a once through steam generator (OTSG) used to facilitate a thermally
enhanced oil recovery process. Under the terms of the agreement, the Company has retrofitted an OTSG unit in order to achieve certain
performance criteria. The agreement also includes time-sensitive pricing, delivery and installation terms, if elected, that will
apply to future purchases of this Duplex application by this customer.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS AND OTHER
INFORMATION
CONTAINED IN THIS REPORT
This report contains forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 and the provisions of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements give
our current expectations or forecasts of future events. You can identify these statements by the fact that they do not relate strictly
to historical or current facts. You can find many (but not all) of these statements by looking for words such as “approximates,”
“believes,” “hopes,” “expects,” “anticipates,” “estimates,” “projects,”
“intends,” “plans,” “would,” “should,” “could,” “may,”
“will” or other similar expressions in this report. In particular, these include statements relating to future actions;
prospective products, applications, customers, or technologies; future performance or results of anticipated products; anticipated
expenses; and future financial results. These forward-looking statements are subject to certain risks and uncertainties that could
cause actual results to differ materially from our historical experience and our present expectations or projections. Factors that
could cause actual results to differ materially from those discussed in the forward-looking statements include, but are not limited
to:
|
•
|
our limited cash and our history of losses;
|
|
•
|
our ability to successfully develop and implement our technology and achieve profitability;
|
|
•
|
our limited operating history;
|
|
•
|
emerging competition and rapidly advancing technology in our industry that may outpace our technology;
|
|
•
|
customer demand for the products and services we develop;
|
|
•
|
the impact of competitive or alternative products, technologies and pricing;
|
|
•
|
our ability to manufacture any products we design;
|
|
•
|
general economic conditions and events and the impact they may have on us and our potential customers;
|
|
•
|
our ability to obtain adequate financing in the future;
|
|
•
|
our ability to continue as a going concern;
|
|
•
|
our success at managing the risks involved in the foregoing items; and
|
|
•
|
other factors discussed in this report and in the section titled “Risk Factors” in our Annual Report on Form 10-K.
|
Forward-looking statements may appear throughout
this report, including, without limitation, Item 2 “Management’s Discussion and Analysis of Financial Condition and
Results of Operations.” The forward-looking statements are based upon management’s beliefs and assumptions and are
made as of the date of this report. We undertake no obligation to publicly update or revise any forward-looking statements included
in this report. You should not place undue reliance on these forward-looking statements.
Unless otherwise stated or the context otherwise
requires, the terms “ClearSign,” “we,” “us,” “our” and the “Company”
refer to ClearSign Combustion Corporation.