NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
Note 1: Organization and summary
of significant accounting policies
Nature of business
ThermoEnergy Corporation (“the Company”)
was incorporated in January 1988 for the purpose of developing and marketing advanced municipal and industrial wastewater treatment
and carbon reducing power generation technologies.
The
Company’s wastewater treatment systems are based on its proprietary Controlled Atmosphere Separation
Technology (“CAST”) platform. The Company’s patented and proprietary platform technology is
combined with off-the-shelf technologies (the “Technologies”) to provide systems that are inexpensive,
easy to operate and reliable. The Company’s wastewater treatment systems have global applications in hydraulic
fracturing (“fracking”) in the oil and gas industry, food and beverage processing, metal finishing, pulp &
paper, petrochemical, refining, microchip and circuit board manufacturing, heavy manufacturing and municipal wastewater. The
CAST platform technology is owned by the Company’s subsidiary, CASTion Corporation (“CASTion”).
The
Company also owns patents on technology for the combustion of coal at high pressure using pure oxygen (oxy-combustion) for
clean, coal-fired power generation while producing near zero air emissions and removing and capturing carbon dioxide in
liquid form for sequestration or beneficial reuse. This technology is intended to be used to build new or to retrofit old
fossil fuel power plants. This technology is held in the Company’s subsidiary, ThermoEnergy Power Systems, LLC
(“TEPS”).
Principles of consolidation and basis
of presentation
The consolidated financial statements include
the accounts of the Company and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in
consolidation. The 15% third-party ownership interest in TEPS is recorded as a noncontrolling interest in the consolidated financial
statements. Financial results for Unity Power Alliance (“UPA”) as a Joint Venture are accounted for under the equity
method, as discussed in Note 4.
Certain prior year amounts have been reclassified
to conform to current year classifications.
The accompanying unaudited financial statements
have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”)
for interim financial information and with the instructions to Form 10-Q and Article 8-03 of Regulation S-X. Accordingly,
they do not include all of the information and footnotes required by GAAP for complete financial statements. In the
opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three-month period ended March 31, 2013 are not necessarily indicative of the results
that may be expected for the year ending December 31, 2013.
The preparation of these unaudited interim
consolidated financial statements in conformity with GAAP requires management to make 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 revenue and expenses during the reporting period. Actual results could differ from those estimates.
The balance sheet at December 31, 2012
has been derived from the audited financial statements at that date but does not include all of the information and footnotes required
by GAAP for complete financial statements. For further information, refer to the financial statements and footnotes thereto included
in the Annual Report on Form 10-K for the year ended December 31, 2012 of ThermoEnergy Corporation.
Revenue recognition
The Company recognizes revenues using the
percentage-of-completion method. Under this approach, revenue is earned in proportion to total costs incurred in relation to total
costs expected to be incurred. Contract costs include all direct material and labor costs and indirect costs related to contract
performance, such as indirect labor, supplies, tools, repairs and depreciation.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
Recognition of revenue and profit is dependent
upon a number of factors, including the accuracy of a variety of estimates made at the balance sheet date such as engineering progress,
materials quantities, the achievement of milestones, penalty provisions, labor productivity and cost estimates made. Due to uncertainties
inherent in the estimation process, actual completion costs may vary from estimates. Changes in job performance, job conditions
and estimated profitability may result in revisions to costs and income and are recognized beginning in the period in which they
become known. Provisions for estimated losses on uncompleted contracts are made in the period in which the estimated loss
first becomes known.
Certain long-term contracts include a number
of different services to be provided to the customer. The Company records separately revenues, costs and gross profit related to
each of these services if they meet the contract segmenting criteria in Accounting Standards Codification (“ASC”) 605-35.
This policy may result in different interim rates of profitability for each segment than if the Company had recognized revenues
using the percentage-of-completion method based on the project’s estimated total costs.
In circumstances when the Company cannot
estimate the final outcome of a contract, or when the Company cannot reasonably estimate revenue, the Company utilizes the percentage-of-completion
method based on a zero profit margin until more precise estimates can be made. If and when the Company can make more precise estimates,
revenues will be adjusted accordingly and recorded as a change in an accounting estimate.
Variable interest entities
The Company assesses whether its involvement
with another related entity constitutes a variable interest entity (“VIE”) through either direct or indirect variable
interest in that entity. If an entity is deemed to be a VIE, the Company must determine if it is the primary beneficiary (i.e.
the party that consolidates the VIE), in accordance with the accounting standard for the consolidation of variable interest entities.
The Company qualitatively evaluates if it is the primary beneficiary of the VIE’s based on whether the Company has (i) the
power to direct those matters that most significantly impacted the activities of the VIE; and (ii) the obligation to absorb losses
or the right to receive benefits of the VIE. See Note 4 for further discussion of UPA as a variable interest entity.
Accounts receivable, net
Accounts receivable are recorded at their
estimated net realizable value. Receivables related to the Company’s contracts have realization and liquidation periods of
less than one year and are therefore classified as current assets.
The Company maintains allowances for specific
doubtful accounts based on estimates of losses resulting from the inability of customers to make required payments and records
these allowances as a charge to general and administrative expense. The Company’s method for estimating its allowance for
doubtful accounts is based on judgmental factors, including known and inherent risks in the underlying balances, adverse situations
that may affect the customer’s ability to pay and current economic conditions. Amounts considered uncollectible are written
off based on the specific customer balance outstanding. The Company did not have any allowance for doubtful accounts as of March
31, 2013 and December 31, 2012.
Inventories
Inventories are stated at the lower of
cost or net realizable value using the first-in, first-out method and consist exclusively of raw materials.
The Company evaluates its inventory for
excess quantities and obsolescence on a periodic basis. In preparing its evaluation, the Company looks at the expected
demand for its products for the next three to twelve months. Based on this evaluation, the Company records provisions
to ensure that inventory is appropriately stated at the lower of cost or net realizable value.
Property and equipment
Property and equipment are stated at cost
and are depreciated over the estimated useful life of each asset. Depreciation is computed using the straight-line method. The
Company evaluates long-lived assets based on estimated future undiscounted net cash flows or other fair value measures whenever
significant events or changes in circumstances occur that indicate the carrying amount may not be recoverable. If that evaluation
indicates that an impairment has occurred, a charge is recognized to the extent the carrying amount exceeds the undiscounted cash
flows or fair values of the asset, whichever is more readily determinable.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
The Company recorded a loss of $131,000
in the first quarter of 2012 related to the disposal of a system previously used for pre-sales testing. This loss is included in
sales and marketing expense on its Consolidated Statement of Operations for the three-month period ended March 31, 2012.
Contingencies
The Company accrues for costs relating
to litigation, including litigation defense costs, claims and other contingent matters, including liquidated damage liabilities,
when such liabilities become probable and reasonably estimable. Such estimates may be based on advice from third parties or on
management’s judgment, as appropriate. Revisions to accruals are reflected in earnings (loss) in the period in which different
facts or information become known or circumstances change that affect the Company’s previous assumptions with respect to
the likelihood or amount of loss. Amounts paid upon the ultimate resolution of such liabilities may be materially different from
previous estimates and could require adjustments to the estimated liability to be recognized in the period such new information
becomes known.
Stock options
The Company accounts for stock options
in accordance with Accounting Standards Codification (“ASC”) Topic 718, “Compensation – Stock Compensation”.
This topic requires that the cost of all share-based payments to vendors and employees, including grants of employee stock options,
be recognized in the consolidated financial statements based on their fair values on the measurement date, which is generally the
date of grant. Such cost is recognized over the vesting period of the awards. The Company uses the Black-Scholes option pricing
model to estimate the fair value of “plain vanilla” stock option awards.
Fair value of financial instruments
and fair value measurements
The carrying amount of cash, accounts receivable,
other current assets, accounts payable, short-term borrowings and other current liabilities in the consolidated financial statements
approximate fair value because of the short-term nature of the instruments. The carrying amount of the Company’s convertible
debt was $3,187,000 and $3,088,000 at March 31, 2013 and December 31, 2012, respectively, and approximates its fair value, as the
interest rate on this debt approximates the interest rate of the Company’s recent borrowings. The Company’s derivative
liabilities are recorded at fair value.
The Company's liabilities carried at fair
value are categorized using inputs from the three levels of the fair value hierarchy, as follows:
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.
Level
3: Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the
liabilities.
Net income (loss) per share
Basic
income (loss) per share (“EPS”) is computed by dividing the net income (loss) attributable to the common stockholders
(the numerator) by the weighted average number of shares of common stock outstanding (the denominator) during the reporting periods.
Fully diluted income per share is computed by increasing the denominator by the weighted average number of additional shares
that could have been outstanding from securities convertible into common stock, such as stock options and warrants (using the “treasury
stock” method), and convertible preferred stock and debt (using the “if-converted” method), unless the effect
on net income per share is antidilutive. Under the “if-converted” method, convertible instruments are assumed to have
been converted as of the beginning of the period or when issued, if later.
The computations of diluted net loss per share
do not include 333,169 and 414,291 options and warrants which were outstanding as of the three-month periods ended March 31, 2013
and 2012, respectively, as the inclusion of these securities would have been anti-dilutive.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
Note 2: Management's consideration
of going concern matters
The accompanying financial
statements have been prepared in conformity with accounting principles generally accepted in the United States of America,
which contemplate continuation of the Company as a going concern. However, the Company has sustained substantial losses
from operations in recent years, and such losses have continued through the three-month period ended March 31, 2013.
Furthermore, as discussed in Note 3, the Company’s contract with the New York City Department of Environment
Regulation (“NYCDEP”) was terminated for convenience effective November 29, 2012.
At March 31, 2013, the Company had cash
of approximately $2.3 million, a decrease of approximately $2.4 million from December 31, 2012. The Company has incurred net losses
since inception, including a net loss of approximately $1.1 million during the three-month period ended March 31, 2013 and had
an accumulated deficit of approximately $122 million at March 31, 2013.
In view of the matters described in the
preceding paragraph, recoverability of a major portion of the recorded asset amounts shown in the accompanying balance sheet is
dependent upon continued operations of the Company, which in turn is dependent upon the Company’s ability to meet its financing
requirements on a continuing basis, to maintain present financing, and to succeed in its future operations.
The financial
statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or amounts
and classification of liabilities that might be necessary should the Company be unable to continue in existence.
These uncertainties raise substantial doubt
about the Company's ability to continue as a going concern. The financial statements included in this Form 10-Q have been prepared
on a going concern basis and as such do not include any adjustments that might result from the outcome of this uncertainty.
Management is actively pursuing commercial
contracts to generate operating revenue. Management has determined that the financial success of the Company is dependent upon
the Company’s ability to obtain profitability from contracts with financially sound third parties to pursue projects involving
the Technologies. In addition, management is considering opportunities to raise substantial funding through additional equity or
debt financing that will allow the Company to operate until it becomes cash flow positive from operations.
As more fully
described in Note 11, on April 5, 2013, the Company issued shares of Series C Convertible Preferred Stock in exchange for the entire
principal and accrued interest amounts of the Company’s December 2011 Bridge Notes and the Company’s November 2012
Bridge Notes.
Note 3: Risks and Uncertainties
On August 22, 2012, the NYCDEP
issued a stop work order to the Company relative to its contract to install an Ammonia Removal Process (“ARP”)
system at the NYCDEP’s wastewater treatment facility in the 26
th
Ward. The NYCDEP terminated the
contract for convenience, effective November 29, 2012.
Upon notification of the contract termination, the
Company cancelled all orders from its major vendors. The Company ceased recognition of revenues as of November 29, 2012 and has
recorded all incremental costs as period costs on its Consolidated Statement of Operations.
The Company has billed
approximately $16.0 million to the NYCDEP related to this contract as of March 31, 2013. Of this amount, approximately $15.5
million has been paid and approximately $536,000 was outstanding. The NYCDEP paid approximately $456,000 against the
outstanding amounts due in April 2013 and paid the remaining $80,000 in May 2013. The Company has accounts receivable of
approximately $536,000, deposits of $151,000, accrued contract costs of $80,000 and billings in excess of costs of
approximately $4.9 million related to this contract as of March 31, 2013.
The Company delivered all equipment, including all
material from third party vendors, to the NYCDEP during the first quarter of 2013. The Company believes its contractual
obligations under the agreement have been met, and the Company continues to work through the termination process with the
NYCDEP. While there may be additional billings or adjustments related to this termination process, the Company does not
expect to incur any additional expenses related to this project in future periods. Accordingly, the Company cannot
determine a final outcome at this time; however, the Company does not believe its exposure extends beyond the amounts
reported on its Consolidated Balance Sheet at March 31, 2013.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
Because of this contract termination, the
Company's revenues, expenses, and income will be adversely affected in future periods, as this contract represented approximately
73% of the Company's revenues for the year ended December 31, 2012.
Note 4: Joint Ventures
Babcock-Thermo Clean Combustion LLC
On February 25, 2009, the Company’s
majority-owned subsidiary, TEPS, and Babcock Power Development, LLC (“BPD”), a subsidiary of Babcock Power, Inc., entered
into a Limited Liability Company Agreement (the “LLC Agreement”) establishing Babcock-Thermo Carbon Capture LLC, a
Delaware limited liability company now known as Babcock-Thermo Clean Combustion LLC (the “Joint Venture”) for the purpose
of developing and commercializing its pressurized oxy-combustion technology.
On March 2, 2012, TEPS entered into a Dissolution
Agreement with BPD to terminate the Limited Liability Company Agreement and dissolve the Joint Venture. The BTCC Board of Managers
is supervising the wind down and dissolution process, and the Company expects the Joint Venture to be dissolved in the second quarter
of 2013.
Unity Power Alliance LLC
On March 8, 2012, the Company
announced the formation of Unity Power Alliance LLC (“UPA”). UPA was formed with the intention to work with
partners and stakeholders to develop and commercialize its pressurized oxycombustion technology. On July 16, 2012, Itea
S.p.A. (‘‘Itea”) acquired a 50% ownership interest in UPA.
UPA is governed by a Board of Directors,
with half of the directors nominated by each of the Company and Itea. Administrative expenses of UPA are borne jointly by the Company
and Itea, and financing for development expenses will be obtained from third parties.
On June 20, 2012, the Company and Itea
entered into a License Agreement whereby the Company and the Company’s majority-owned subsidiary, TEPS, and Itea granted
a non-exclusive, non-transferable royalty-free license to UPA to use their intellectual property relating to pressurized oxycombustion.
The licenses to UPA became effective upon Itea’s acquisition of its ownership interest in UPA. The License Agreement further
provides that, if UPA successfully obtains funding and project support to construct the pilot plant, the parties may grant licenses
of their respective intellectual property and know-how to each other or to third parties for the operation of power plants based
on such intellectual property and know-how, and royalties will be shared as defined in the License Agreement.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
In September 2012, UPA was awarded
a $1 million Phase 1 grant from the U.S. Department of Energy to help fund a project on a cost-sharing basis under a
special DOE program to advance technologies for efficient, clean coal power and carbon capture. As part of UPA's project, in
October 2012, the Company received a $900,000 contract from UPA to build a bench-scale “flameless” combustion
reactor under the grant. UPA and its subcontractors received contract definitization during the first quarter of 2013 and
began to receive funding. Accordingly, UPA has received funding totaling $170,000 related to this grant. The Company
recorded revenues totaling $157,000 on a time and materials basis related to this contract in the first quarter of 2013.
In accordance with ASC 810,
Consolidation
,
the Company determined that it held a variable interest in UPA and that UPA was a variable-interest entity. However, the Company
has concluded that it is not required to consolidate the financial statements of UPA as of and for the three-month period ended
March 31, 2013. The Company reviewed the most significant activities of UPA and determined that because the Company shares the
power to direct the activities of UPA with Itea, it is not the primary beneficiary of UPA. Accordingly, the financial results of
UPA is accounted for under the equity method of accounting. The carrying value of the Company’s investment in the Joint Venture
is a shortfall of $164,000 and $109,000 as of March 31, 2013 and December 31, 2012, respectively, and is classified as Other Long
Term Liabilities on the Company’s Consolidated Balance Sheets.
Note 5: Short term borrowings
Short term borrowings consisted of the
following at March 31, 2013 and December 31, 2012 (in thousands):
|
|
|
March
31,
2013
|
|
|
December
31,
2012
|
|
|
Project financing line of credit and
accrued costs
|
|
|
714
|
|
|
|
491
|
|
|
November 2012 Bridge Notes, 8%, due April 15, 2013
|
|
|
3,700
|
|
|
|
3,700
|
|
|
|
|
$
|
4,414
|
|
|
$
|
4,191
|
|
Project Financing Line of Credit
On October 4, 2012, the Company
entered into a Loan Agreement (the “Loan Agreement”) with C13 Thermo LLC (the “Lender”), a related
party whose owners are related to an officer of the Company. Under this Loan Agreement, the Lender established a credit
facility allowing the Company to borrow up to $700,000 (the “Credit Facility”) to finance the fabrication and
testing of an Ammonia Reduction Process system utilizing the Company’s proprietary technology (the
“Project”). The Company issued to the Lender a promissory note in the principal amount of $700,000 (the
“Note”). The Company borrowed approximately $680,000 and $491,000 against this Credit Facility as of March 31,
2013 and December 31, 2012, respectively, and the Company agreed to reimburse legal fees of $34,000 to the Lender in 2013.
Amounts borrowed under the Credit Facility
will not bear interest (except in the case of an event of default, in which case all amounts borrowed, together with all fees,
expenses and other amounts due, shall bear interest at the default rate of 8% per annum). Upon maturity of the Note, the Company
will be charged a commitment fee equal to 10% of the aggregate principal amount borrowed under the Credit Facility. The Credit
Facility expires, and all amounts due under the Note, together with all commitment fees incurred under the Loan Agreement, will
become due and payable, on the earlier of (i) March 4, 2013 or (ii) the date on which the Company first draws against an irrevocable
documentary letter of credit that has been issued for the Company’s benefit in connection with the Project. The Credit Facility
was amended in March 2013 to extend the expiration date to the earlier of (i) April 5, 2013 or (ii) one business day following
the date the Company first draws against the irrevocable documentary letter of credit. The Company may repay the Note in whole
or in part at any time without premium or penalty. The Credit Facility is secured by all of the Company’s assets. The Credit
Facility contains certain non-financial covenants, and the Company believes it is in compliance with these covenants as of March
31, 2013.
On April 5, 2013 the Company repaid in
full all outstanding principal and accrued commitment fees related to this Credit Facility.
November 2012 Bridge Note Financing
On November 30, 2012 the Company entered
into Bridge Loan Agreements with six of its principal investors pursuant to which the Investors agreed to make bridge loans to
the Company of $3.7 million in exchange for 8% Promissory Notes (the “November 2012 Bridge Notes”). The
November 2012 Bridge Notes bear interest at the rate of 8% per year and are due and payable on April 15, 2013.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
The November 2012 Bridge Notes contain
other conventional terms, including representations and warranties regarding the Company’s business and assets and its authority
to enter into such agreements, and provisions for acceleration of the Company’s obligations upon the occurrence of certain
specified events of default.
As further discussed in Note 11, on April
5, 2013 the Investors tendered these November 2012 Bridge Notes for shares of the Company’s Series C Convertible Preferred
Stock and Warrants.
Note 6: Convertible debt
Unsecured convertible debt consisted of
the following at March 31, 2013 and December 31, 2012 (in thousands):
|
|
|
March 31,
2013
|
|
|
December 31,
2012
|
|
|
December 2011 Convertible Promissory
Notes, 12.5%, due on demand on or after January 31, 2013
|
|
|
1,250
|
|
|
|
1,250
|
|
|
Roenigk 2012 Convertible Promissory Note, 8%, due March 31, 2014, less discount of $86 at March 31, 2013 and $106 at December 31, 2012
|
|
|
1,937
|
|
|
|
1,838
|
|
|
|
|
|
3,187
|
|
|
|
3,088
|
|
|
Less: Current portion
|
|
|
(3,187
|
)
|
|
|
(1,250
|
)
|
|
|
|
$
|
—
|
|
|
$
|
1,838
|
|
December 2011 Convertible Promissory
Notes
On December 2, 2011 the Company entered
into Bridge Loan Agreements with four of its principal investors pursuant to which the Investors agreed to make bridge loans to
the Company of $1.25 million in exchange for 12.5% Promissory Notes (the “December 2011 Bridge Notes”). The
December 2011 Bridge Notes bear interest at the rate of 12.5% per year and were due and payable on December 31, 2012. The entire
unpaid principal amount, together with all interest then accrued and unpaid under each December 2011 Bridge Note, is convertible
into shares of a future series of Preferred Stock.
The December 2011 Bridge Notes contain
other conventional provisions, including the acceleration of repayment obligations upon the occurrence of certain specified Events
of Default.
On November 30, 2012, in conjunction with
the issuance of the November 2012 Bridge Notes (see Note 5), the investors who participated in the December 2011 Bridge Note financing
agreed to extend the maturity date such that the December 2011 Bridge Notes are due on demand on or after January 31, 2013. The
Company accounted for this amendment as a debt modification.
As further discussed in Note 11, on April
5, 2013 the Investors exchanged these December 2011 Bridge Notes for shares of the Company’s Series C Convertible Preferred
Stock and Warrants.
Roenigk 2012 Convertible Promissory
Note
On June 20, 2012, the Company issued a
Convertible Promissory Note dated April 1, 2012 in the principal amount of $1,877,217 in exchange for a 5% Convertible Promissory
Note issued on March 21, 2007 and due March 21, 2013 and a 5% Convertible Promissory Note issued on March 7, 2008 and due March
7, 2013 (the “Old Notes”). The Note bears interest at the rate of 5% per annum from April 1, 2012 through May 31, 2012,
then bears interest at the rate of 8% per annum until the maturity date, March 31, 2014. The principal amount and accrued interest
on the Note is convertible into shares of Common Stock at a conversion price of $0.50 per share at any time at the election of
the holder. Interest on the Note is payable semi-annually. The Company may, at its discretion, defer any scheduled interest payment
until the maturity date of the Note upon payment of a $5,000 deferral fee. The Company added $79,000 of accrued interest to the
principal balance of the Note during the three months ended March 31, 2013.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
Note 7: Equity
On March 20, 2013, the Company’s
shareholders approved an amendment to the Certificate of Incorporation to effect the following changes:
|
|
·
|
To increase the number of authorized shares
of Common Stock to 800,000,000 and to increase the number of authorized shares of Preferred Stock to 50,000,000;
|
|
|
·
|
To reduce the number of shares of Preferred
Stock designated as “Series B Convertible Preferred Stock” from 12,000,000 to 1,000,000 and to re-designate the remaining
11,000,000 shares heretofore designated as “Series B Convertible Preferred Stock” as “Series B-1 Convertible
Preferred Stock”, with the shares in each sub-series having identical voting powers, designations, preferences and relative,
participating, optional or other special rights, and qualifications, limitations and restrictions except that the shares of Series
B-1 Convertible Preferred Stock shall have priority in liquidation; and
|
|
|
·
|
To designate 15,000,000 shares of the
previously authorized but undesignated shares of Preferred Stock as “Series C Convertible Preferred Stock”.
|
The amendment to the Certificate of Incorporation
became effective on April 5, 2013.
Common Stock
At March 31, 2013, approximately 270 million
shares of Common Stock were reserved for future issuance under convertible debt and warrant agreements, stock option arrangements
and other commitments.
See Note 11 for discussion of issuances
of Common Stock on April 5, 2013.
Stock Options
On March 20, 2013,
the Company’s shareholders approved amendments to the 2008 Plan to increase the number of shares available for grant
to 40,000,000 and to increase the number of shares with respect to which automatic stock options are granted to non-employee
Directors to 100,000.
During the three-month period ended March
31, 2013, the Board of Directors awarded employees and an advisor to the Board of Directors a total of 14,350,000 stock options
under the Company’s 2008 Incentive Stock Plan. The options are exercisable at $0.054 - $0.089 per share for a ten year period.
The exercise price was equal to or greater than the market price on the respective grant dates. Options granted to non-employee
directors vest on the date of the Company’s 2013 Annual Meeting of Stockholders; options granted to employees vest ratably
over a four-year period.
The following table presents option expense
included in expenses in the Company’s Consolidated Statements of Operations for the three-month periods ended March 31, 2013
and 2012:
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Cost of revenue
|
|
$
|
—
|
|
|
$
|
4
|
|
|
General and administrative
|
|
|
127
|
|
|
|
137
|
|
|
Engineering, research and development
|
|
|
16
|
|
|
|
25
|
|
|
Sales and marketing
|
|
|
14
|
|
|
|
(3
|
)
|
|
Option expense before tax
|
|
|
157
|
|
|
|
163
|
|
|
Benefit for income tax
|
|
|
—
|
|
|
|
—
|
|
|
Net option expense
|
|
$
|
157
|
|
|
$
|
163
|
|
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
The fair value of options granted during
the three-month periods ended March 31, 2013 and 2012 were estimated at the date of grant using a Black-Scholes option pricing
model with the following assumptions:
|
|
|
2013
|
|
|
2012
|
|
|
Risk-free interest rate
|
|
|
1.01
|
%
|
|
|
1.1% - 1.2%
|
|
|
Expected option life (years)
|
|
|
6.25
|
|
|
|
6.25
|
|
|
Expected volatility
|
|
|
90
|
%
|
|
|
92%
|
|
|
Expected dividend rate
|
|
|
0
|
%
|
|
|
0%
|
|
The risk-free interest rate is based on
the U.S. Treasury yield curve in effect at the time of grant for periods over the expected life of the option. The expected option
life represents the weighted average period of time that options granted are expected to be outstanding giving consideration to
vesting schedules and the Company’s historical exercise patterns. Expected volatility is based on the historical volatility
of the Company’s common stock over the expected life of the option granted.
Option expense for the three-month periods
ended March 31, 2013 and 2012 was calculated using an expected forfeiture rate of 5%.
A summary of the Company’s stock
option activity and related information for the three-month periods ended March 31, 2013 and 2012 follows:
|
|
|
2013
|
|
|
2012
|
|
|
|
|
Number of
Shares
|
|
|
Wtd. Avg.
Exercise
Price per
Share
|
|
|
Number of
Shares
|
|
|
Wtd. Avg.
Exercise
Price per
Share
|
|
|
Outstanding, beginning of year
|
|
|
24,896,678
|
|
|
$
|
0.32
|
|
|
|
19,674,102
|
|
|
$
|
0.38
|
|
|
Granted
|
|
|
14,350,000
|
|
|
$
|
0.09
|
|
|
|
1,530,000
|
|
|
$
|
0.24
|
|
|
Canceled
|
|
|
(5,151,102
|
)
|
|
$
|
0.29
|
|
|
|
(521,250
|
)
|
|
$
|
0.31
|
|
|
Outstanding, end of period
|
|
|
34,095,576
|
|
|
$
|
0.32
|
|
|
|
20,682,852
|
|
|
$
|
0.37
|
|
|
Exercisable, end of period
|
|
|
15,248,701
|
|
|
$
|
0.38
|
|
|
|
9,540,783
|
|
|
$
|
0.51
|
|
The weighted average fair value of options
granted was approximately $0.07 and $0.18 per share for the three-month periods ended March 31, 2013 and 2012, respectively. The
weighted average fair value of options vested was approximately $144,000 and $141,000 for the three-month periods ended March 31,
2013 and 2012, respectively.
Exercise prices for options outstanding
as of March 31, 2013 ranged from $0.054 to $1.50. The weighted average remaining contractual life of those options was approximately
8.1 years at March 31, 2013. The weighted average remaining contractual life of options vested and exercisable was approximately
5.8 years at March 31, 2013.
As of March 31, 2013, there was approximately
$1.3 million of total unrecognized compensation cost related to non-vested share-based compensation arrangements granted under
the Company’s stock option plans. That cost is expected to be recognized over a weighted-average period of 1.5 years. The
Company recognizes stock-based compensation on the graded-vesting method.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
Warrants
At March 31, 2013, there were outstanding
warrants for the purchase of 98,370,113 shares of the Company’s Common Stock at prices ranging from $0.01 per share to $0.55
per share (weighted average exercise price was $0.40 per share). The expiration dates of these warrants are as follows:
|
Year
|
|
Number of
Warrants
|
|
|
2013
|
|
|
7,396,554
|
|
|
2014
|
|
|
6,159,436
|
|
|
2015
|
|
|
6,188,879
|
|
|
2016
|
|
|
42,795,244
|
|
|
2017
|
|
|
34,487,500
|
|
|
After 2017
|
|
|
1,342,500
|
|
|
|
|
|
98,370,113
|
|
Note 8: Derivative Liabilities
The Company has periodically issued Common
Stock and Common Stock purchase warrants with anti-dilution provisions as additional consideration with certain debt instruments.
Additionally, certain debt instruments have been convertible into shares of the Company’s Series B Convertible Preferred
Stock, which are convertible into shares of the Company’s Common Stock and have anti-dilution provisions and liquidation
preferences. Because these instruments contain provisions that are not indexed to the Company’s stock, the Company is required
to record these as derivative instruments.
Liabilities measured at fair value on a
recurring basis as of March 31, 2013 are as follows: (in thousands)
|
|
|
|
|
|
Fair Value Measurements at Reporting Date Using
|
|
|
Description
|
|
Balance as of
March 31, 2013
|
|
|
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
|
|
|
Significant
Other
Observable
Inputs
(Level 2)
|
|
|
Significant
Unobservable
Inputs
(Level 3)
|
|
|
Derivative liabilities – current portion
|
|
$
|
1,327
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
1,327
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,327
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
1,327
|
|
The Monte Carlo Simulation lattice model
was used to determine the fair values at March 31, 2013. The significant assumptions used were: exercise prices between $0.10 and
$0.36; the Company’s stock price on March 28, 2013, $0.0499; expected volatility of 55% - 60%; risk free interest rate between
0.14% and 0.57%; and a remaining contract term between 2 months and 52 months.
Liabilities measured at fair value on a
recurring basis as of December 31, 2012 are as follows: (in thousands)
|
|
|
|
|
|
Fair Value Measurements at Reporting Date Using
|
|
|
Description
|
|
Balance as of
December 31,
2012
|
|
|
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
|
|
|
Significant
Other
Observable
Inputs
(Level 2)
|
|
|
Significant
Unobservable
Inputs
(Level 3)
|
|
|
Derivative liabilities – current portion
|
|
$
|
20
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
20
|
|
|
Derivative liabilities – long-term portion
|
|
|
2,214
|
|
|
|
-
|
|
|
|
-
|
|
|
|
2,214
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
2,234
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
2,234
|
|
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
The Monte Carlo Simulation lattice model
was used to determine the fair values at December 31, 2012. The significant assumptions used were: exercise prices between $0.10
and $0.36; the Company’s stock price on December 31, 2012, $0.09; expected volatility of 55% - 75%; risk free interest rate
between 0.16% and 0.72%; and a remaining contract term between 5 months and 55 months.
The following table sets forth a reconciliation of changes in
the fair value of the Company’s derivative liabilities classified as Level 3 for the three-month periods ended March 31,
2013 and 2012 (in thousands):
|
|
|
2013
|
|
|
2012
|
|
|
Balance at beginning of period
|
|
$
|
2,234
|
|
|
$
|
807
|
|
|
Change in fair value
|
|
|
(907
|
)
|
|
|
(175
|
)
|
|
|
|
$
|
1,327
|
|
|
$
|
632
|
|
Note 9: Segments
Operating segments are identified as
components of an enterprise about which separate discrete financial information is available to the chief operating decision
maker, or decision-making group, in assessing performance and allocating resources. The Company has two operating segments:
the design and manufacture of wastewater treatment systems and the development of carbon reducing clean energy technologies.
The Company currently generates almost all of its revenues from the sale and application of its water treatment
technologies. Revenues from its clean energy technologies have been limited to grants received from governmental and other
agencies for continued development.
In 2009, the Company established BTCC,
a joint venture with Babcock Power Development, LLC, for the purpose of developing and commercializing the Company’s clean
energy technology. This joint venture is currently in the dissolution process. In March 2012, the Company established UPA to work
with partners and stakeholders to develop and commercialize its pressurized oxycombustion technology, and in July 2012, Itea acquired
a 50% ownership interest in UPA, making it a joint venture.
As discussed in Note 4, the Company received
a $900,000 contract from UPA to build a bench-scale “flameless” combustion reactor under UPA’s grant from the
Department of Energy. The Company recorded revenues totaling $157,000 and cost of sales totaling $123,000 related to this contract
in the first quarter of 2013. All other financial information presented in these financial statements relates to the Company’s
water treatment technologies.
The Company’s operations
are currently conducted solely in the United States. While the Company has begun marketing and selling its products in South
America, Asia and Europe, the Company has not generated any revenues from such activities. The Company will continue to
evaluate how its business is managed and, as necessary, adjust the segment reporting accordingly.
Note 10: Commitments and contingencies
On July 16, 2012, Andrew T. Melton, the
Company’s former Executive Vice President and Chief Financial Officer (“Melton”), filed a Complaint in the United
States District Court, Eastern District of Arkansas alleging, among other things, wrongful termination of employment. Mr. Melton
is claiming damages in the aggregate amount of approximately $2.2 million, including unpaid salary, reimbursement of expenses,
and other payments under his employment agreement. The Company is currently in the discovery process and intends to vigorously
defend this litigation.
The Company is involved from time to time
in litigation incidental to the conduct of its business. Judgments could be rendered or settlements entered that could adversely
affect the Company’s operating results or cash flows in a particular period. The Company routinely assesses all of its litigation
and threatened litigation as to the probability of ultimately incurring a liability and records its best estimate of the ultimate
loss in situations where it assesses the likelihood of loss as probable.
THERMOENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2013
(Unaudited)
Note 11: Subsequent events
On April 5, 2013, following the filing
of the Certificate of Amendment to the Company’s Articles of Incorporation, the Company effected the following transactions:
|
|
·
|
Investors in the Company’s December
2011 Bridge Notes and the Company’s November 2012 Bridge Notes exchanged such Notes with an aggregate principal amount of
$4,950,000 plus accrued interest totaling $314,177 for a total of 6,926,553 shares of the Company’s Series C Convertible
Preferred Stock and Warrants for the purchase of a total of 69,265,530 shares of Common Stock.
|
The effective price of the Series
C Convertible Preferred Stock was $0.76 per share (or $0.076 per equivalent share of Common Stock). The Warrants entitle the holders
to purchase, at any time on or before April 5, 2018 , shares of Common Stock at an exercise price of $0.114 per share. The Warrants
contains other conventional terms, including provisions for adjustment in the Exercise Price and/or the securities issuable upon
exercise in the event of certain specified extraordinary corporate events, such as stock splits, combinations, and stock dividends.
|
|
·
|
As additional consideration to the Investors
for their participation in the Bridge Note issuances mentioned above, for each $100 of principal and interest converted into Series
C Convertible Preferred Stock and Warrants, each Investor exchanged 41.67 shares of Series B Convertible Preferred Stock held for
131.58 additional shares of Series C Convertible Preferred Stock (the number of shares of Series C Convertible Preferred Stock
that would be purchased for $100 at a purchase price of $0.76 per share). Accordingly, the Company issued an aggregate of 6,926,553
additional shares of Series C Convertible Preferred Stock in exchange for an aggregate of 2,193,414 previously-outstanding shares
of Series B Convertible Preferred Stock. The additional shares of Series C Convertible Preferred Stock were issued without Warrant
coverage. The shares of Series B Convertible Preferred Stock surrendered were cancelled and are no longer outstanding.
|
|
|
·
|
Because the effective issuance price of
the Shares was less than $0.10 per Common Share-equivalent, the Company issued to those Investors who purchased shares of the Company’s
Common Stock and Warrants at closings on July 11, 2012, August 9, 2012 and October 9, 2012 (the “PIPE”), for no additional
consideration, a sufficient number of additional shares of Common Stock so that the effective price per share of Common Stock paid
by the PIPE Investors equals the effective issuance price of the shares of Series C Convertible Preferred Stock on an as-converted
basis ($0.076 per share). Accordingly, the Company issued a total of 9,274,364 shares of Common Stock to the PIPE Investors.
|
|
|
·
|
In 2011, as an inducement to certain holders
of Common Stock Purchase Warrants to exercise such warrants or to surrender such warrants in exchange for shares of Common Stock,
the Company agreed to allow such holders to exchange shares of Series B Convertible Preferred Stock for an equal number of shares
of Series B-1 Convertible Preferred Stock. On April 5, 2013, the Company issued an aggregate of 6,031,577 shares of Common Stock
as consideration for the surrender of Warrants for the purchase of an aggregate of 39,205,234 shares. Accordingly, the Company
issued an aggregate of 8,839,500 shares of Series B-1 Convertible Preferred Stock in exchange for an equal number of shares of
Series B Convertible Preferred Stock.
|
On April 5, 2013, the Company repaid in
full all outstanding principal and accrued interest totaling $785,059 related to its Loan Agreement with C13 Thermo, LLC.
