Attached files
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2011
or
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File Number: 0-24836
PetroAlgae Inc.
(Exact name of registrant as specified in its charter)
Delaware | 33-0301060 | |
(State or other jurisdiction of incorporation) |
(IRS Employer Identification No.) | |
1901 S. Harbor City Blvd., Suite 600 Melbourne, FL |
32901 | |
(Address of principal executive offices) | (Zip Code) |
Registrants telephone number, including area code: 321-409-7500
Indicate by check mark whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. YES x NO ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨
Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company (as defined in Exchange Act Rule 12b-2).
Large accelerated filer | ¨ | Accelerated filer | ¨ | |||
Non-accelerated filer | ¨ | Smaller reporting company | x |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ¨ NO x
The number of shares outstanding of the registrants common stock as of May 13, 2011 was 106,920,730, all of one class.
PART I. FINANCIAL INFORMATION
ITEM 1. | FINANCIAL STATEMENTS |
PetroAlgae Inc.
(A Development Stage Company)
Consolidated Balance Sheets
March
31, 2011 (Unaudited) |
December 31, 2010 |
|||||||
ASSETS |
||||||||
Current assets: |
||||||||
Cash and cash equivalents |
$ | 689,473 | $ | 1,140,882 | ||||
Restricted cash |
| 2,325,000 | ||||||
Prepaid expenses |
124,697 | 102,016 | ||||||
Total current assets |
814,170 | 3,567,898 | ||||||
Property and equipment |
4,445,251 | 4,194,629 | ||||||
Accumulated depreciation |
(2,537,215 | ) | (2,292,952 | ) | ||||
Net property and equipment |
1,908,036 | 1,901,677 | ||||||
Deposits |
74,814 | 24,814 | ||||||
Other non-current assets |
830,375 | 830,375 | ||||||
Total assets |
$ | 3,627,395 | $ | 6,324,764 | ||||
LIABILITIES AND STOCKHOLDERS DEFICIT |
||||||||
Current liabilities: |
||||||||
Accounts payable |
$ | 1,359,602 | $ | 1,569,715 | ||||
Accrued expenses |
1,623,448 | 2,189,561 | ||||||
Accrued expenses - related party |
5,885,894 | 4,807,135 | ||||||
Deferred revenue |
500,000 | 500,000 | ||||||
Liabilities related to equity issuance |
| 100,000 | ||||||
Other current liability |
| 2,000,000 | ||||||
Total current liabilities |
9,368,944 | 11,166,411 | ||||||
Deferred rent |
10,780 | | ||||||
Notes payable - related party |
57,335,498 | 51,662,734 | ||||||
Total liabilities |
66,715,222 | 62,829,145 | ||||||
Stockholders deficit: |
||||||||
Preferred stock - $.001 par value, 25,000,000 shares authorized; no shares issued or outstanding |
| | ||||||
Common stock - $.001 par value, 300,000,000 shares authorized; 106,920,730 and 106,933,230 shares issued and outstanding at March 31, 2011 and December 31, 2010, respectively |
106,921 | 106,933 | ||||||
Paid in capital |
38,311,755 | 37,823,248 | ||||||
Deficit accumulated during the development stage |
(105,000,370 | ) | (98,022,859 | ) | ||||
PetroAlgae Inc. stockholders deficit |
(66,581,694 | ) | (60,092,678 | ) | ||||
Non-controlling interest |
3,493,867 | 3,588,297 | ||||||
Total stockholders deficit |
(63,087,827 | ) | (56,504,381 | ) | ||||
Total liabilities and stockholders deficit |
$ | 3,627,395 | $ | 6,324,764 | ||||
See the accompanying notes to the consolidated financial statements.
2
PetroAlgae Inc.
(A Development Stage Company)
Consolidated Statements of Operations
(Unaudited)
Three Months Ended March 31, | For the Period From September 22, 2006 (Inception) Through March 31, |
|||||||||||
2011 | 2010 | 2011 | ||||||||||
Revenue |
$ | | $ | | $ | | ||||||
Costs and expenses: |
||||||||||||
Selling, general and administrative |
2,715,268 | 3,776,108 | 53,381,697 | |||||||||
Research and development |
3,726,981 | 3,822,796 | 52,195,978 | |||||||||
Interest expenserelated party |
1,327,299 | 909,889 | 10,810,357 | |||||||||
Depreciation |
246,256 | 258,706 | 2,836,745 | |||||||||
Total costs and expenses |
8,015,804 | 8,767,499 | 119,224,777 | |||||||||
Net loss before non-controlling interest |
(8,015,804 | ) | (8,767,499 | ) | (119,224,777 | ) | ||||||
Net loss attributable to non-controlling interest |
1,038,293 | 1,560,614 | 14,224,407 | |||||||||
Net loss attributable to PetroAlgae Inc. |
$ | (6,977,511 | ) | $ | (7,206,885 | ) | $ | (105,000,370 | ) | |||
Basic and diluted common shares outstanding |
106,920,730 | 106,275,826 | ||||||||||
Basic and diluted loss per share |
$ | (0.07 | ) | $ | (0.07 | ) | ||||||
See the accompanying notes to the consolidated financial statements.
3
PetroAlgae Inc.
(A Development Stage Company)
Consolidated Statement of Changes in Stockholders Deficit
Period From Inception (September 22, 2006) to March 31, 2011
(Unaudited)
Common Stock Shares |
Amount | Paid
in Capital |
Non-Controlling Interest |
Deficit Accumulated During the Development Stage |
Total | |||||||||||||||||||
Shares issued at inception for cash |
100,000,000 | $ | 100,000 | $ | 388,532 | $ | | $ | | $ | 488,532 | |||||||||||||
Net loss |
| | | | (1,410,724 | ) | (1,410,724 | ) | ||||||||||||||||
BalanceDecember 31, 2006 |
100,000,000 | $ | 100,000 | $ | 388,532 | $ | | $ | (1,410,724 | ) | $ | (922,192 | ) | |||||||||||
Amortization of PA LLC interests to employees |
| | 276,986 | | | 276,986 | ||||||||||||||||||
Net loss |
| | | | (8,346,378 | ) | (8,346,378 | ) | ||||||||||||||||
BalanceDecember 31, 2007 |
100,000,000 | $ | 100,000 | $ | 665,518 | $ | | $ | (9,757,102 | ) | $ | (8,991,584 | ) | |||||||||||
Amortization of PA LLC interests to employees |
| | 2,240,041 | 200,000 | | 2,440,041 | ||||||||||||||||||
Shares issued for cash |
3,174,603 | 3,175 | 9,996,825 | | | 10,000,000 | ||||||||||||||||||
Shares issued for unearned services |
1,000,000 | 1,000 | (1,000 | ) | | | | |||||||||||||||||
Amortization of unearned services |
| | 43,750 | | | 43,750 | ||||||||||||||||||
Issuance of option as additional consideration for debt |
| | 1,453,000 | | | 1,453,000 | ||||||||||||||||||
Reverse merger |
99,586 | 99 | | | | 99 | ||||||||||||||||||
Loss attributable to non-controlling interest |
| | | (162,400 | ) | | (162,400 | ) | ||||||||||||||||
Net loss |
| | | | (19,987,850 | ) | (19,987,850 | ) | ||||||||||||||||
BalanceDecember 31, 2008 |
104,274,189 | $ | 104,274 | $ | 14,398,134 | $ | 37,600 | $ | (29,744,952 | ) | $ | (15,204,944 | ) | |||||||||||
Shares issued for services |
160,524 | 160 | 537,652 | | | 537,812 | ||||||||||||||||||
Shares issued for cash |
500,000 | 500 | 3,999,500 | | | 4,000,000 | ||||||||||||||||||
Shares issued with purchase price guaranty |
937,500 | 938 | (938 | ) | | | | |||||||||||||||||
Shares and warrants issued for other current assets |
357,143 | 357 | 3,017,787 | | | 3,018,144 | ||||||||||||||||||
Amortization of PA LLC interests to employees |
| | | 1,987,552 | | 1,987,552 | ||||||||||||||||||
Amortization of options issued to employees |
| | 588,653 | | | 588,653 | ||||||||||||||||||
Amortization of unearned services |
| | 1,575,000 | | | 1,575,000 | ||||||||||||||||||
Loss attributable to non-controlling interest |
| | | (6,554,358 | ) | | (6,554,358 | ) | ||||||||||||||||
Net loss |
| | | | (30,267,878 | ) | (30,267,878 | ) | ||||||||||||||||
BalanceDecember 31, 2009 |
106,229,356 | $ | 106,229 | $ | 24,115,788 | $ | (4,529,206 | ) | $ | (60,012,830 | ) | $ | (40,320,019 | ) | ||||||||||
Return of common stock for other current asset |
(106,126 | ) | (106 | ) | (341,620 | ) | | | (341,726 | ) | ||||||||||||||
Shares issued for cash |
810,000 | 810 | 6,479,190 | | | 6,480,000 | ||||||||||||||||||
Shares issued with put option or purchase price guaranty, net of purchase price guaranty expirations |
| | 7,400,000 | | | 7,400,000 | ||||||||||||||||||
Amortization of PA LLC interests to employees |
| | (794 | ) | 12,903,744 | | 12,902,950 | |||||||||||||||||
Amortization of options issued to employees |
| | 922,549 | | | 922,549 | ||||||||||||||||||
Amortization of unearned services |
| | 1,531,250 | | | 1,531,250 | ||||||||||||||||||
Loss attributable to non-controlling interest |
| | | (6,469,356 | ) | | (6,469,356 | ) | ||||||||||||||||
PA LLC units returned for surrendered technology license |
| | (2,283,115 | ) | 1,683,115 | | (600,000 | ) | ||||||||||||||||
Net loss |
| | | | (38,010,029 | ) | (38,010,029 | ) | ||||||||||||||||
BalanceDecember 31, 2010 |
106,933,230 | $ | 106,933 | $ | 37,823,248 | $ | 3,588,297 | $ | (98,022,859 | ) | $ | (56,504,381 | ) | |||||||||||
Put option exercised by former executive |
(12,500 | ) | (12 | ) | 12 | | | | ||||||||||||||||
Amortization of PA LLC interests to employees |
| | (95 | ) | 943,863 | | 943,768 | |||||||||||||||||
Amortization of options issued to employees |
| | 488,590 | | | 488,590 | ||||||||||||||||||
Loss attributable to non-controlling interest |
| | | (1,038,293 | ) | | (1,038,293 | ) | ||||||||||||||||
Net loss |
| | | | (6,977,511 | ) | (6,977,511 | ) | ||||||||||||||||
BalanceMarch 31, 2011 |
106,920,730 | $ | 106,921 | $ | 38,311,755 | $ | 3,493,867 | $ | (105,000,370 | ) | $ | (63,087,827 | ) | |||||||||||
See the accompanying notes to the consolidated financial statements.
4
PetroAlgae Inc.
(A Development Stage Company)
Consolidated Statements of Cash Flows
(Unaudited)
Three Months Ended March 31, | For the Period From September 22, 2006 (Inception) Through March 31, |
|||||||||||
2011 | 2010 | 2011 | ||||||||||
Cash flows from operating activities: |
||||||||||||
Net loss |
$ | (8,015,804 | ) | $ | (8,767,499 | ) | $ | (119,224,777 | ) | |||
Adjustments to reconcile net loss to net cash used in operating activities: |
||||||||||||
Amortization of original issue discount |
| 140,500 | 1,453,000 | |||||||||
Amortization of Company options |
488,590 | 382,854 | 1,999,792 | |||||||||
Amoritization of unearned services |
| 393,750 | 3,150,000 | |||||||||
Amortization of PA LLC interests to employees |
943,768 | 490,323 | 18,551,297 | |||||||||
Expenses paid and interest added to notes payablerelated party |
247,764 | 235,300 | 10,597,247 | |||||||||
Expenses paid by issuance of common stock |
| | 1,214,230 | |||||||||
Depreciation |
246,256 | 258,706 | 2,836,745 | |||||||||
Impairment loss |
| | 179,099 | |||||||||
Loss on disposition of equipment |
2,694 | | 192,290 | |||||||||
Write-off of other non-current assets |
| | 456,389 | |||||||||
Decrease in restricted cash |
325,000 | | | |||||||||
(Increase) decrease in prepaid expenses |
(22,681 | ) | 32,433 | (144,311 | ) | |||||||
(Increase) in deposits |
(50,000 | ) | | (55,200 | ) | |||||||
(Increase) in other non-current assets |
| | (109,720 | ) | ||||||||
(Decrease) increase in accounts payable |
(210,113 | ) | 191,410 | 291,305 | ||||||||
Increase in accrued expenses |
512,646 | 684,462 | 5,319,245 | |||||||||
Increase in deferred rent |
10,780 | | 10,780 | |||||||||
Increase in deferred revenue |
| | 500,000 | |||||||||
Net cash used in operating activities |
$ | (5,521,100 | ) | $ | (5,957,761 | ) | $ | (72,782,589 | ) | |||
Cash flows from investing activities: |
||||||||||||
Proceeds from sale of asset |
400 | | 43,900 | |||||||||
Acquisition of property and equipment |
(255,709 | ) | (380,864 | ) | (5,160,070 | ) | ||||||
Net cash used in investing activities |
$ | (255,309 | ) | $ | (380,864 | ) | $ | (5,116,170 | ) | |||
Cash flows from financing activities: |
||||||||||||
Member contributions |
| | 488,532 | |||||||||
Reverse merger |
| | 99 | |||||||||
Exercise of put option |
(100,000 | ) | | (100,000 | ) | |||||||
Common stock and warrants issued for cash |
| 2,650,000 | 27,980,000 | |||||||||
Borrowings under notes payablerelated party |
5,425,000 | | 48,819,601 | |||||||||
PA LLC units returned for cash and surrendered technology license |
| | (600,000 | ) | ||||||||
Issuance of common stock and warrants for cash |
| 1,200,000 | 2,000,000 | |||||||||
Net cash provided by financing activities |
$ | 5,325,000 | $ | 3,850,000 | $ | 78,588,232 | ||||||
Net (decrease) increase in cash |
(451,409 | ) | (2,488,625 | ) | 689,473 | |||||||
Cash and cash equivalentsbeginning of period |
1,140,882 | 2,679,302 | | |||||||||
Cash and cash equivalentsend of period |
$ | 689,473 | $ | 190,677 | $ | 689,473 | ||||||
Non-cash investing and financing activities: |
||||||||||||
Liability incurred for other non-current asset |
$ | | $ | | $ | 721,000 | ||||||
Stock and warrants issued for other liabilities, net |
$ | (100,000 | ) | $ | 2,500,000 | $ | | |||||
Common stock issued for unearned services |
$ | | $ | | $ | 3,150,000 | ||||||
Issuance of shares for other current asset |
$ | | $ | | $ | 1,200,000 | ||||||
Return of common stock for other current asset |
$ | | $ | (342,000 | ) | $ | (342,000 | ) | ||||
Liability repaid with restricted cash |
$ | (2,000,000 | ) | $ | | $ | |
See the accompanying notes to the consolidated financial statements.
5
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements
March 31, 2011
(Unaudited)
Note 1 Organization
PetroAlgae Inc. (the Company) began its operations through its controlled subsidiary, PA LLC (formerly known as PetroAlgae LLC), on December 19, 2008, as a result of the reverse acquisition described below. PA LLC was formed by XL TechGroup, LLC (XL Tech, a related party and its sponsor and parent until December 19, 2008) on September 22, 2006 as a Delaware limited liability company to develop technologies to commercially grow, harvest and process micro-crops. PA LLC is a renewable energy and food company whose business model is to license and deploy this technology to large customers who will commercially produce this biomass, which in turn will be processed into three end-products: a carbohydrate-rich solid material suitable as a renewable fuel feedstock or as animal feed, and a protein supplement for animal feed and potentially human food products.
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim financial information and Rule 8.03 of Regulation S-X. They do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The consolidated results of operations for the periods presented are not necessarily indicative of the results to be expected for the year ending December 31, 2011 or any future period. For further information, refer to the consolidated financial statements of the Company included in the Companys Annual Report on Form 10-K which was filed with the Securities and Exchange Commission (the SEC) on March 31, 2011.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of the Company and its consolidated subsidiary, PA LLC. Non-controlling interests are accounted for based upon the value or cost attributed to their investment adjusted for the share of income or loss that relates to their percentage ownership of the entire Company. All intercompany transactions and balances have been eliminated in consolidation.
Use of Estimates
The accompanying consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America which require management to make estimates and assumptions. These estimates and assumptions 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 revenue and expense. Actual results may differ from these estimates.
Fair Value of Financial Instruments
Fair value estimates discussed herein are based upon certain market assumptions and pertinent information available to management as of March 31, 2011. The respective carrying values of certain financial instruments approximate their fair values. These financial instruments include cash and cash equivalents, accounts payable, and accrued expenses. Fair values are assumed to approximate carrying values for these financial instruments because they are short term in nature and their carrying amounts approximate the amounts expected to be received or paid.
The carrying value of the Companys fixed-rate notes payable-related party approximated their fair value based on the current market conditions for similar debt instruments.
Long-Lived Assets
The carrying value of long-lived assets is reviewed on a regular basis for the existence of facts and circumstances that suggest permanent impairment. Specifically, senior management of the Company considers in each reporting period the effectiveness of the Companys significant assets to determine if impairment indicators such as physical deterioration, process change or technological change have resulted in underperformance, obsolescence or a need to
6
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements(Continued)
March 31, 2011
(Unaudited)
replace such assets. When the Company identifies an impairment indicator, it measures the amount of the impairment based on the amount that the carrying value of the impaired asset exceeds its best internal estimate of the value of the asset while it remains in use, plus any proceeds expected from the eventual disposal of the impaired asset. Since the Company uses most of its property and equipment to demonstrate its technology to prospective customers and not to generate revenues or cash flows, a cash flow analysis of the categories above or the assets as a whole is not practicable. Instead, a depreciated replacement cost estimate is used for assets still in service and equipment secondary market quotes are obtained for assets planned for disposal.
Loss Per Share
Basic earnings (loss) per share is calculated by dividing net income (loss) by the weighted average number of common shares outstanding for the period. Diluted earnings (loss) per share is calculated by dividing net income (loss) by the weighted average number of common shares and dilutive common stock equivalents outstanding. During periods in which the Company incurs losses, common stock equivalents are not considered as their effect would be anti-dilutive.
The effect of 2,592,143 and 2,410,685 weighted average warrants and 1,569,806 and 1,194,111 weighted average options were not included for the three months ended March 31, 2011 and 2010, respectively, as they would have had an anti-dilutive effect.
Reverse Acquisition
On December 19, 2008, a reverse acquisition was completed under which, for accounting purposes, PA LLC was deemed to be the acquirer and PetroAlgae Inc., the legal acquirer, was deemed to be the acquired entity. No goodwill was recognized as PetroAlgae Inc. was a shell company before the acquisition. The former stockholders of PetroAlgae Inc. retained an aggregate of 99,586 shares of common stock which were recorded at par value of $99.
Recently Issued Accounting Pronouncements
Adoption of New Accounting Standards
Revenue Recognition
In April 2010, the FASB issued ASU 2010-17, Milestone Method of Revenue Recognition, a consensus of the FASB Emerging Issues Task Force (ASU 2010-17), which provides guidance on the criteria that should be met for determining whether the milestone method of revenue recognition is appropriate. ASU 2010-17 is effective on a prospective basis for milestones achieved in fiscal years, and interim periods within those years, beginning on or after June 15, 2010. The Companys adoption of ASU 2010-17 did not have a material effect on the Companys consolidated financial statements. The effect of ASU 2010-17 on the Companys expected future revenues will depend upon the structure of the Companys customer contracts, which is still being determined.
In October 2009, the FASB issued ASU 2009-13, Multiple-Deliverable Revenue Arrangements (ASU 2009-13). The new standard changes the requirements for establishing separate units of accounting in a multiple element arrangement and requires the allocation of arrangement consideration to each deliverable based on the relative selling price. The selling price for each deliverable is based on vendor-specific objective evidence (VSOE) if available, third-party evidence if VSOE is not available, or estimated selling price if neither VSOE or third-party evidence is available. ASU 2009-13 is effective for revenue arrangements entered into in fiscal years beginning on or after June 15, 2010. The adoption of this new guidance did not have a material effect on the Companys consolidated financial statements, but the effect on the Companys expected future revenues, which in turn depends upon the final structure of the Companys contracts with customers, is still being determined.
Fair Value
In January 2010, the FASB issued ASU 2010-6, Improving Disclosures About Fair Value Measurements (ASU 2010-6), which requires reporting entities to make new disclosures about recurring or nonrecurring fair-value measurements, including significant transfers into and out of Level 1 and Level 2 fair-value measurements and information on purchases, sales, issuances, and settlements on a gross basis in the reconciliation of Level 3 fair-value measurements. ASU 2010-6 is effective for annual reporting periods beginning after December 15, 2009, except for Level 3 reconciliation disclosures which are effective for annual periods beginning after December 15,
7
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements(Continued)
March 31, 2011
(Unaudited)
2010. The adoption of ASU 2010-6 did not have a material impact on the Companys consolidated financial statements.
Accounting Standards Not Yet Effective
There are currently no new accounting standards that the Company will be required to adopt.
Note 2 Going Concern
The Company is currently in the development stage at March 31, 2011 as it is continuing the development of its product and has not yet recognized any revenues. The Company intends to transition from the development stage to operational status during 2011 depending upon the timing and extent of success achieved in accomplishing its business development milestones. The Companys consolidated financial statements are presented on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business.
The Company has never been profitable and has incurred significant losses and cash flow deficits. For the three months ended March 31, 2011 and 2010, and the period from September 22, 2006 (inception) to March 31, 2011, it reported net losses before non-controlling interest of $8.0 million, $8.8 million, and $119.2 million, respectively, and negative cash flow from operating activities of $5.5 million, $6.0 million, and $72.8 million, respectively. As of March 31, 2011, the Company has an aggregate accumulated deficit of $105.0 million. The Company anticipates that operations will continue to report losses and negative cash flow during the remainder of 2011. As a result of these net losses, cash flow deficits, and other factors, there is a substantial doubt about the Companys ability to continue as a going concern.
The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. Our ability to continue as a going concern is dependent upon generating sufficient cash flow from operations and obtaining additional capital and financing. The Company is currently dependent on funding from its principal shareholder. If our ability to generate cash flow from operations is delayed beyond 2011 and we are unable to raise additional funding (including from our principal shareholder), we will be unable to continue in business.
Note 3 Accrued Expenses
Accrued expenses are comprised of the following components:
March
31, 2011 |
December
31, 2010 |
|||||||
Accrued payroll and bonus |
$ | 472,214 | $ | 806,860 | ||||
Accrued vacation compensation |
$ | 562,822 | $ | 579,810 | ||||
Accrued legal, accounting and engineering fees |
$ | 319,131 | $ | 497,265 | ||||
Other accruals |
$ | 269,281 | $ | 305,626 | ||||
Total Accrued Expenses |
$ | 1,623,448 | $ | 2,189,561 | ||||
Note 4 Other Current Liability
In December 2009, the Company entered into an agreement with Green Science Energy, LLC (the Licensee) under which the Company received $2.0 million in exchange for the Licensees right to market and sell sub-licenses in Egypt and Morocco. In January 2011, the Company received timely notice from the Licensee of its election to surrender these licensing rights and to comply with related provisions of the original contract in exchange for return of the $2.0 million it had paid, which the Company had placed in escrow. Accordingly, the $2.0 million was disbursed from escrow to the Licensee in January 2011.
Note 5 Notes Payable - Related Party
During the three months ended March 31, 2011, PetroTech Holdings Corp. (PetroTech), a holding company controlled by the Companys principal shareholder, funded a total of $5.4 million to PA LLC pursuant to the terms
8
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements(Continued)
March 31, 2011
(Unaudited)
of separate senior secured term notes, all of which are included in the $27.8 million notes payable in the following table. Notes payable consist of the following as of:
March 31, 2011 |
December 31, 2010 |
|||||||
Note Payable to Valens U.S. SPV I, LLC |
$ | 417,512 | $ | 417,512 | ||||
- Interest accrues monthly, at 12% per annum |
||||||||
- Note is due on June 30, 2012 |
||||||||
Notes Payable to PetroTech |
27,847,089 | 22,422,089 | ||||||
- Interest accrues monthly, at 12% per annum |
||||||||
- Notes are due on June 30, 2012 |
||||||||
Convertible Note Payable to PetroTech |
10,000,000 | 10,000,000 | ||||||
- Interest accrues monthly at 12% per annum |
||||||||
- Note is due on June 30, 2012 if not converted to common shares as described below |
||||||||
Up to $25,000,000 Note Payable to PetroTech |
19,070,897 | 18,823,133 | ||||||
- Interest payable monthly and is drawn into note on a monthly basis at Prime + 2% (5.25% at March 31, 2011) |
||||||||
- Note is due on June 30, 2012 |
||||||||
- Permits additional draws to fund interest. Maximum balance of this note is limited to $25,000,000 |
||||||||
Total |
$ | 57,335,498 | $ | 51,662,734 | ||||
The notes payable - related party are secured by all of the Companys assets. The convertible note allows the holder to convert all or any portion of the issued and outstanding principal amount and/or accrued interest and fees then due into shares of common stock at a fixed conversion price of $5.43 per share.
Each note payable and the related master security agreement and equity pledge and corporate guaranty agreement contain provisions that specify events of default which could lead to acceleration of the maturity of the debt. These provisions prohibit the encumbrance or sale of the Companys assets and require maintenance and insurance of the assets. The loan agreements do not contain any required financial ratios or similar debt covenants. Generally, an event of default would arise if the Company became insolvent, filed for bankruptcy, allowed a change in control or had unresolved judgments against its assets. Through the date of this quarterly report, none of these events have occurred.
As of March 31, 2011 and December 31, 2010, interest in the amount of $5.9 million and $4.8 million, respectively, was accrued related to the notes payable - related party and is recorded in accrued expenses - related party on the accompanying consolidated balance sheets. During the three months ended March 31, 2011, additional accrued interest of $0.2 million was added to the principal balance of the floating-rate note and is recorded in notes payable-related party on the accompanying consolidated balance sheets.
Interest charged to operations on these notes was $1.3 million, $0.9 million, and $10.8 million during the three months ended March 31, 2011 and 2010, and the period from September 22, 2006 (inception) to March 31, 2011, respectively. No interest was capitalized during these periods.
9
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements(Continued)
March 31, 2011
(Unaudited)
Note 6 Stockholders Deficit
The Companys equity consists of 300,000,000 shares of $.001 par value common stock, of which 106,920,730 and 106,933,230 shares had been issued and were outstanding as of March 31, 2011 and December 31, 2010, respectively. In addition, the Company may issue up to 25,000,000 shares of preferred stock. No preferred stock is outstanding.
Estimation of Common Stock Fair Value
In each reporting period, the Company has determined its best estimate of the fair value of its common stock by considering the following indicators of value:
| Level 3 valuations based upon a discounted cash flow analysis using inputs which were not externally observable, in this case the Companys estimate of future cash flows from the Companys business; and |
| Prices paid in cash for shares of stock or securities units comprised of equity shares and five-year warrants to purchase equity shares; and |
| Over-The-Counter (OTC) quotation closing price and related statistics such as trading volume, volatility and recent price ranges. |
Level 3 estimated cash flow valuations. The Level 3 fair value estimate of the Companys equity value applied discounted cash flow valuation techniques to expected future cash flows from the Companys business as of each valuation date. Key assumptions utilized in determining this fair value estimate include the expected amount and timing of revenue from expected future sales of the Companys technology along with the associated cost of sales and other operating cash outflows. These cash flows are discounted back to present value using a discount rate consistent with development stage technology companies and the resulting enterprise value was converted to an equity value per outstanding share.
The most significant uncertainty inherent in these calculations is the risk of obtaining and performing the contracts necessary to produce the estimated future revenues. In addition, the risk of collection of amounts that are expected to be due under projected contracts, the risk of unanticipated product development or delivery costs or timing delays and the risk of increased operating and overhead costs may each cause the estimates of future revenues to vary from the assumptions that are made in these projections, and these variations may be material. Since the Company has not obtained or performed any commercial contracts to date, it does not have historical data on which to base its estimate of future revenues.
Because the Level 3 indications of value were able to take into account important information pertaining to the amount, timing and risk of Company cash flows, they were given the most weight in our estimate of share value.
Third party transactions. The Company has completed several private sales of equity shares and securities units comprised of both equity shares and warrants to purchase additional equity shares over the reporting periods. The transactions were completed with both related and unrelated parties in exchange for cash. Given the size of these transactions and the sophisticated nature of the parties involved in their negotiation, these indications of value were given significant weight in the Companys estimate of share value. However, because most of these transactions were with affiliates, sole or primary reliance was not placed on these values.
OTC Values. The Companys common stock is currently traded on the OTC Pink Sheets. The shares became public through a reverse acquisition and a very small percentage of the issued and outstanding shares are available for active trading since approximately 94% of our outstanding shares are held by our controlling shareholder. Due to the very limited size of our public float and the resulting low trading volume in the Companys common stock, its public shares are susceptible to unusual swings in price based on very few trades. As a result of these considerations, value indications provided by the OTC Pink Sheets were given the least weight of the three factors in the Companys estimate of share value.
Estimation of Warrant Fair Value
The Company estimates the fair value of warrants using the Black-Scholes valuation model, based on the estimated fair value of the common stock on the valuation date, an expected dividend yield of 0%, a risk-free interest rate based on constant maturity rates published by the U.S. Federal Reserve applicable to the remaining term of the instruments, an expected life equal to the remaining term of the instruments and an estimated volatility of 75.2%.
10
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements(Continued)
March 31, 2011
(Unaudited)
Issuance of Common Stock and Warrants
On November 1, 2010, in anticipation of Mr. Rob Harris impending employment as President and Chief Operating Officer, the Company issued and sold 12,500 shares of its common stock to Mr. Harris at a price of $8.00 per share. The shares contained a put option which gave Mr. Harris the option to sell any or all of the shares back to the Company for a purchase price of $8.00 at any time within one year of the original transaction. In accordance with ASC 480-10-25-8, the proceeds were recorded as liabilities related to equity issuance on the accompanying consolidated balance sheet as of December 31, 2010. During January 2011, Mr. Harris exercised his right to have the Company repurchase all 12,500 shares of common stock for $100,000.
PA LLC Equity Incentive Plan and Non-controlling Interest
PA LLC has an equity compensation plan which allows it to grant employees and consultants awards of profits interests in restricted Class B ownership units (the Interests) and is limited to 14% of the total outstanding units.
The Company granted 2,816,471 and 674,500 Interests during 2008 and 2007, respectively, to the majority of its employees as of the date that they began employment with the Company. As of March 31, 2011 and 2010, the granted Interests, net of Interests forfeited and repurchased by the Company, totaled approximately 2.8 million and 3.0 million, respectively, or 12.9% and 12.8%, respectively, of total outstanding units. These Interests give the recipient the right to participate in the income of PA LLC and any distribution that may arise from a liquidity event to the extent that such realized amounts exceed the ownership unit fair value at the date of grant.
The Company determined the fair value of these grants by estimating the proceeds that it may obtain from a range of possible future liquidity events such as a public equity offering or a Company sale. The timing of such liquidity events and the likelihood of their achievement was estimated based upon the information that existed as of the grant or valuation date. The weighted average future cash value was then discounted using a 60% per annum discount rate and the weighted average time from grant or valuation date to the liquidity event. This estimated cash present value was converted to a per share cash value and, based on the structure of the grant, the carrying amount per LLC unit was subtracted to determine the fair value of each of the Interests.
The grants of Interests contain restrictions that allow the Company to repurchase the units for $0.01 per unit until a service period or other condition is met. This restriction is removed over a service period (generally four years) with regard to approximately 2.15 million Interests. On March 4, 2011, the Company modified the terms of the Interests granted to a former employee, causing the Interests to be immediately vested. This decision required a revaluation of the Interests and immediate recognition of additional compensation cost in the amount of $0.8 million, recorded as research and development expense, based upon the nature of the former employees role with the Company.
For the three months ended March 31, 2011 and 2010, compensation expense related to these Interests was $0.9 million and $0.5 million, respectively. For the period from September 22, 2006 (inception) to March 31, 2011, compensation expense related to these Interests was $7.2 million. The related compensation expense is recognized as selling, general and administrative expense or research and development expense depending upon the recipients role in the Company. Amounts recognized as selling, general and administrative expense were $0.0 million, $0.3 million, and $3.2 million for the three months ended March 31, 2011 and 2010, and the period from September 22, 2006 (inception) to March 31, 2011, respectively. Amounts recognized as research and development expense were $0.9 million, $0.2 million, and $3.9 million for the three months ended March 31, 2011 and 2010, and the period from September 22, 2006 (inception) to March 31, 2011, respectively. Unrecognized compensation cost related to 142,255 Interests which remain restricted totaled approximately $0.7 million as of March 31, 2011 and is expected to be expensed over the next 19 months. An aggregate of 29,000, 20,000, and 682,000 of these Interests were forfeited during the three months ended March 31, 2011 and 2010, and the period from September 22, 2006 (inception) to March 31, 2011, respectively.
Five senior officers were granted an aggregate 1.34 million Interests that were subject to repurchase for $0.01 per unit until a significant liquidity event occurred. As of December 31, 2010, the Companys principal shareholder authorized the modification of the terms of the grant to remove the right of the Company to repurchase the Interests held by all five officers, causing these grants to be immediately vested. This decision required a revaluation of the Interests held by the officers and immediate recognition of the calculated expense. Based upon current estimates and applying the same discounted cash flow methodology used as of the prior valuation dates, the compensation cost recognized during the fourth quarter of 2010 was $11.4 million, recorded as selling, general and administrative
11
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements(Continued)
March 31, 2011
(Unaudited)
expense ($9.1 million) or research and development expense ($2.3 million) depending upon each officers role in the Company.
As of March 31, 2011 and 2010, non-controlling interests collectively owned approximately 12.9% and 17.8%, respectively, of PA LLC, and have absorbed their respective portion of the loss of PA LLC. The amount of loss absorbed was $1.0 million, $1.6 million, and $14.2 million for the three months ended March 31, 2011 and 2010, and for the period from September 22, 2006 (inception) to March 31, 2011.
Stock Options
On June 17, 2009, the Company adopted the 2009 Equity Compensation Plan (the 2009 Plan). The 2009 Plan is intended to provide employees, consultants and others the opportunity to receive incentive stock options and is limited to 4,000,000 shares of the Companys common stock. The exercise price shall be equal to or greater than the fair value of the underlying common stock on the date the option is granted and its term shall not exceed 10 years. Awards shall not vest in full prior to the third anniversary of the award date.
On January 1, 2011, the Company granted its employees 623,000 options, in the aggregate, to purchase common shares at an exercise price of $8.00 per share. The options generally vest over a period of four years from the grant date and expire 10 years from the grant date. The grant date fair value of the options aggregated to $1.9 million and was calculated using the following assumptions determined as of the date of grant: estimated fair value of the common stock of $5.10, expected term of 6.25 years, risk free interest rate of 2.0%, an estimated volatility of 75.2%, and a dividend yield of 0%. The expected term of options granted to employees was based upon the simplified method allowed for plain vanilla options as described by SEC SAB No. 107. The fair value will be charged to operations over the remaining vesting periods commencing on the grant date.
The weighted average period over which options not vested through March 31, 2011 are expected to vest is 34 months. During the three months ended March 31, 2011 and 2010, approximately $0.5 million and $0.4 million, respectively, was charged to operations related to all of these outstanding options. The fair value related to unexercisable stock options as of March 31, 2011 totaled approximately $3.2 million and is expected to be expensed over the next three years.
A summary of stock option activity is as follows:
Number of Shares |
Weighted Average Exercise Price |
Weighted Average Fair Value |
||||||||||
Balance at December 31, 2008 |
| $ | | $ | | |||||||
Granted June 2009 |
1,072,500 | $ | 8.50 | $ | 2.36 | |||||||
Granted July 2009 |
45,000 | $ | 8.00 | $ | 2.54 | |||||||
Forfeited |
(200,000 | ) | $ | (8.50 | ) | $ | (2.36 | ) | ||||
Balance at December 31, 2009 |
917,500 | $ | 8.48 | $ | 2.37 | |||||||
Granted January 2010 |
322,000 | $ | 8.00 | $ | 3.53 | |||||||
Forfeited |
(247,750 | ) | $ | (8.35 | ) | $ | (2.63 | ) | ||||
Balance at December 31, 2010 |
991,750 | $ | 8.35 | $ | 2.68 | |||||||
Granted January 2011 |
623,000 | $ | 8.00 | $ | 3.03 | |||||||
Forfeited |
(118,000 | ) | $ | (8.23 | ) | $ | (2.86 | ) | ||||
Balance at March 31, 2011 |
1,496,750 | $ | 8.22 | $ | 2.81 |
The weighted average grant date fair value for vested options as of March 31, 2011 was $2.63. The weighted average grant date fair value for unvested options as of March 31, 2011 was $2.88.
The weighted average contractual life of outstanding stock options at March 31, 2011 was 9.0 years. The weighted average contractual life of vested and unvested stock options at March 31, 2011 was 8.5 years and 9.1 years, respectively. As of March 31, 2011, a total of 386,896 of the options granted were exercisable and the fair value of such options was $1.0 million. Because the Company has very little history from which to estimate forfeiture of options or grants, it accounts for such forfeitures prospectively, that is, in the period in which they actually occur.
12
PetroAlgae Inc.
(A Development Stage Company)
Notes to Consolidated Financial Statements(Continued)
March 31, 2011
(Unaudited)
Inputs to both the Interests fair value calculation and the stock option Black-Scholes model are subjective and generally require significant judgment to determine. If, in the future, the Company determines that another method for calculating the fair value of its stock-based compensation is more reasonable, or if another method for calculating these input assumptions is prescribed by authoritative guidance, the fair value calculated for stock-based compensation could change significantly. Regarding stock options, higher volatility and longer expected terms generally result in an increase to stock-based compensation expense determined at the date of grant.
As of March 31, 2011, the aggregate intrinsic value of all stock options outstanding and expected to vest was $0.00 and the aggregate intrinsic value of currently exercisable stock options was $0.00. The intrinsic value of each option share is the difference between the estimated fair value of the Companys stock and the exercise price of such option.
No stock options have been exercised as of March 31, 2011.
In November 2010, the Company issued one million Stock Appreciation Rights (or SARs) to its President and Chief Operating Officer under the 2009 Plan. The vesting of these SARs was tied to continued employment with the Company and the accomplishment of certain milestones. This executive resigned from the Company during the first quarter of 2011, forfeiting all such SARs. The impact on all periods presented was not material.
Note 7 Subsequent Events
On April 11, 2011, April 27, 2011 and May 6, 2011, PetroTech funded $2.2 million, $1.0 million and $2.2 million, respectively, to PA LLC pursuant to the terms of separate senior secured term notes. Each of these notes provide for interest at 12%, which is accrued as a payment-in-kind liability, and are due on June 30, 2012.
ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
The following discussion contains forward-looking statements that involve numerous risks and uncertainties, such as statements of the Companys plans, objectives, expectations, and intentions. Actual results could differ materially from those anticipated in the forward-looking statements. The following discussion and analysis should be read in conjunction with the Companys financial statements and related notes, each included elsewhere in this report.
Business
PetroAlgae Inc. (the Company) is a renewable energy and food company licensing and deploying the leading biomass production platform to use renewable sources to address the existing and growing unmet needs in the global energy and agriculture markets with technology that is both renewable and sustainable. The Companys proprietary technology, which includes light and growth management systems, allows its customers to consistently grow aquatic microorganisms at rates which are multiple times their natural growth rates. This enables the economically-feasible commercial-scale production of three end-products: a fuel feedstock (which the Company refers to as biocrude), a protein, and lemna meal products. The fuel feedstock is intended to be used either by existing refineries to produce renewable fuels, which are identical to the petroleum-based fuels it would replace, or to produce transportation fuels (diesel, jet fuel, or gasoline) at the production facility without the need for a refinery. The high productivity afforded by the Companys technology produces a low cost fuel feedstock, which the Company expects will increase the profitability of refineries without the requirement for any government subsidies. The protein is a high purity food supplement, which is comparable to existing commercial high valued products. The lemna meal has demonstrated its ability to act as a substitute for commercial animal feed product (e.g., alfalfa).
The Companys prospective customer licensees are comprised primarily of well-capitalized national oil companies, multinational agriculture companies, independent refiners, and power companies that have the ability to rapidly deploy one or more of its standard license units, each consisting of a 5,000 hectare micro-crop production facility.
To date, the Company has signed non-binding memoranda of understanding (MOUs) with five prospective customer licensees representing up to 18 license units.
13
The Company intends to generate licensing fees and royalties from customer licensees in the global energy and agriculture markets. The Companys licensing approach is designed to provide the Company with a steady, highly-profitable and reliable revenue stream, while requiring only minimal capital expenditures, as its customer licensees incur the costs associated with the development and construction of bioreactors and the associated processing facilities. On occasion, the Company may consider entering into alternative arrangements, which it would expect to be at least as favorable to the Company as its licensing model. In such situations, the Company would generally reduce or eliminate its license fees and royalties in return for a greater share of the operations profits, but with no direct exposure to capital requirements.
The End-Products Produced By the Companys Technology
The Companys biocrude is a renewable cellulosic feedstock. Pilot scale testing has demonstrated it can be efficiently converted to diesel, jet fuel, and other fuel products in the existing refinery infrastructure. The Companys biocrude is also suitable as a feedstock for the production of py oil and as a combustible fuel for power generation. The resulting end-products are drop-in fuel products that are functionally compatible with petroleum-based fuels and can be used in the existing petroleum distribution infrastructure. In addition, the feedstock can be converted directly into hydrocarbon transportation fuels at the production facility without the need for a refinery (e.g., combination of pyrolysis and hydroprocessing). The Companys biocrude addresses both mandates for renewable content in fuels, as well as the environmental and political desires for fuel independence within the approximately $2.5 trillion fuels market.
The Companys protein product is a high quality protein source for animal feed and eventually human nutrition. Subject to the receipt of requisite regulatory approvals, the Companys current protein product can be delivered directly into the existing supply chains for animal feed. In addition, the Company is developing a protein product targeted for human consumption thereby allowing its customer licensees to address the global protein shortage, which is currently $63 billion annually.
The new lemna meal product targets the rapidly growing demand for ruminant feed, which is driven primarily by the growth of dairy and beef in developing markets. Shortages of forage are projected to develop as this demand grows, and forage prices increase rapidly. As a nearly direct replacement for alfalfa, lemna meal provides a valuable alternative to fill this gap.
For customer licensees engaged in the energy market, the value of the Companys protein and lemna meal products offsets the cost of production, resulting in biocrude produced at a low marginal cost. The profitability of the Companys license units is not dependent on government subsidies or historically high oil prices. Similarly, for protein and lemna meal-focused customer licensees, the value of the Companys biocrude offsets the cost of producing its protein product and lemna meal product.
Revenues
The Company expects to generate revenues from license fees and royalties that it will earn from license agreements, pursuant to which customer licensees will license from the Company the right to build and operate the bioreactors and associated processing facilities that make up the Companys technology platform. The Company expects these license agreements will provide for the payment of license fees generally over the three-year construction period of its customer licensees facilities. As these facilities become operational, the Company also expects to earn royalties on its customer licensees sales of the biocrude and protein end-products produced by its technology.
Development
The Company is a holding company whose sole asset is its controlling equity interest in its majority-owned operating subsidiary, PA LLC. PA LLC was originally founded in September 2006 by XL TechGroup, Inc. (XL Tech) as a company focused on developing technologies for the renewable energy market. In August 2008, XL Tech exchanged certain of its assets, including the equity it held in PA LLC, for the outstanding debt of XL Tech that was held by the Companys principal shareholder. Subsequent to that exchange, the Companys principal shareholder transferred the equity it received and certain related debt to PetroTech Holdings Corp. (PetroTech), a holding company controlled by the Companys principal shareholder. In December 2008, PetroTech acquired a shell company that traded on the OTC Bulletin Board and assigned its interest in PA LLC to this shell company, which it then renamed PetroAlgae Inc.
14
The Company has achieved a number of significant milestones since it was founded in September 2006. The Companys focus has been on the creation and development of growth and harvesting technologies for the commercial-scale production of micro-organism biomass that can be processed for sale into existing energy and agriculture markets. To do this, the Company committed significant resources to research and development efforts, including completing a working demonstration facility in June 2009 to test, refine and exhibit the Companys technology and processes. Since the completion of its working demonstration facility, the Company has conducted extensive internal and third-party testing (both customer and academic) of its biocrude, protein and lemna meal end-products to validate their commercial viability. Although the Company continues to test and refine its technology and processes, the Company is now also focused on building its customer pipeline and entering into MOUs and ultimately license agreements with its prospective customer licensees.
The Companys key milestone achievements to date are as follows:
| Over the past five years, the Company has spent $52.2 million on the research and development of its growth and harvesting technologies. The Company spent these funds on experimentation and testing, developing processes and equipment, and building the infrastructure and databases necessary to support its technology, including the construction of its working demonstration facility. |
| During 2007 and 2008, the Company developed its proprietary growth algorithmsthe complex mathematical formulas it uses to determine the correct harvesting density and sunlight exposure of the biomass. |
| During 2009, the Company built its business development team and signed its first MOU with a prospective customer licensee. To date, the Company has signed MOUs with five prospective customer licensees representing up to 18 license units. |
| In June 2009, the Company completed its working demonstration facility consisting of two full-scale bioreactors (approximately one hectare each) that display its technology and processes and demonstrate the micro-crop yield that each bioreactor can generate. |
| In November 2009, the Indonesian Ministry of Agriculture cleared the Companys protein product as an approved raw material for use in animal feed. The Company is in the process of obtaining additional animal feed approvals in other jurisdictions. |
| In December 2009, PetroAlgae entered into an MOU with Foster Wheeler USA Corporation (Foster Wheeler), a global leader in energy engineering solutions, which contemplates a strategic partnership to develop and co-market coker solutions for the large-scale production of green renewable gasoline, diesel, and jet fuel in existing petroleum refineries. Foster Wheeler has also provided the Company access to commercial cokers for future large-scale conversion testing. |
| In November 2010, the Company furthered arrangements to deploy a licensed system in South America, with initial construction expected in 2011. |
| In October 2010, the Company signed an agreement with CECEP-CQ, pursuant to which CECEP-CQ has agreed to build the first stage of a commercial facility in Hainan province, China. |
| During 2009 and 2010, independent laboratories tested the Companys products with the following positive results: |
| combustion firing of the Companys biocrude for the production of power; |
| coker testing of the Companys biocrude at a U.S.-based testing facility jointly owned and managed by over 30 large refiners and industry participants; |
| pyrolysis testing on a preliminary basis at two commercial testing facilities and one government testing facility; |
| initial fermentation testing conducted using tailored enzymes; |
| protein yield and composition testing; and |
| protein testing for digestibility, palatability and efficacy in a number of animal species. |
15
Sales Cycle
In order to be successful, the Company will need to demonstrate to prospective customer licensees that the economic returns from a standard license unit are sufficient to justify the significant capital required to construct its licensed facilities. Because of the significant financial commitment required by its customer licensees, the Company expects that its sales cycle will often exceed 12 months and will generally include:
| extensive due diligence by its prospective customer licensees, including site visits to the Companys working demonstration facility, a review of the technical aspects of the Companys technology and processes, an economic analysis that provides an understanding of operational growth, harvest and processing, and customer specific deployment considerations; |
| the entry into an MOU that sets forth the basic commercial terms of the Companys relationship with the prospective customer licensee; |
| the Companys participation and assistance with customer-specific site selection and the preparation of a tailored operational and economic model that takes into account local environmental conditions, costs of labor and other material expenses; and |
| the entry into a final license agreement that sets forth final terms to enable the Companys customer licensees to begin constructing its license units. |
At least for the Companys early customer licensees, the Company may agree to the establishment of various technical milestones validating the productivity of its technology and processes at commercial scale. In such instances, those initial customer licensees would generally only be obligated to pay the Company license fees if its technology and processes meet contractually prescribed criteria, such as targeted growth rates, during an initial validation phase.
As the number of license units deployed worldwide increases, the Company expects to hire and train additional deployment teams. Management believes that its capital-light approach will result in sufficient gross margins to the Company, enabling its expected rapid growth.
The Company expects to continue to incur losses in 2011. The amount and timing of its future losses are highly uncertain. The Companys ability to achieve and thereafter sustain profitability will be dependent upon, among other things, entering into license agreements and receiving milestone payments from customers.
Results of Operations
Three Months Ended March 31, 2011 Compared to Three Months Ended March 31, 2010
Revenue. No revenue has been recognized in either of the three month periods ended March 31, 2011 or 2010.
Total costs and expenses. Total costs and expenses decreased by $0.8 million, or 8.6%, to $8.0 million in the three months ended March 31, 2011 as compared to the same period in 2010. The decrease was primarily due to a $1.1 million decrease in selling, general and administrative expenses, partially offset by a $0.4 million increase in interest expense.
Selling, general and administrative expenses. Selling, general and administrative expenses decreased $1.1 million, or 28.1%, to $2.7 million in the three months ended March 31, 2011 as compared to the same period in 2010. Selling, general and administrative expenses include senior management and overhead costs, business development expenditures, system infrastructure support costs, finance and accounting costs, and intellectual property management costs. Expenses related to external consultants were reduced $0.7 million for the three months ended March 31, 2011 as compared to the same period in 2010 in an effort to improve the efficiency of the Companys operations. Equity compensation expense decreased by $0.2 million during the first quarter of 2011 as compared to 2010, primarily due to termination-related forfeitures of employees whose roles were classified as selling, general and administrative.
Research and development expenses. Research and development expenses decreased slightly, by $0.1 million, or 2.5%, to $3.7 million in the three months ended March 31, 2011 as compared to the same period in 2010. These costs include the research and experimentation of the various system components and the design and construction of the commercial-scale pilot system for customer demonstration. During the three months ended March 31, 2011 as compared to the same period in 2010, equity compensation expense increased $0.7 million, which was primarily related to the accelerated vesting of restricted ownership units previously issued to an employee of the Company as well as the stock options issued on January 1, 2011. This increase was partially offset by a $0.3 million, or 61%, decrease in external consulting costs. Also, during the three-month period ended March 31, 2011 as compared to the same
16
period in 2010, the Company decreased spending by $0.2 million as more cost-effective materials and supplies were sourced for research and development.
Interest expense related party. Interest expense on notes payable related party increased by $0.4 million, or 45.9%, to $1.3 million in the three months ended March 31, 2011 from $0.9 million for the same period in 2010. This increase was due to additional funding of the Companys operations through notes payable from related parties over the last year. The balance of these notes totaled $57.3 million at March 31, 2011 and $35.5 million at March 31, 2010.
Depreciation expense. Depreciation expense decreased by $13,000, or 4.8%, to $246,000 in the three months ended March 31, 2011 from $259,000 in the same period in 2010. The decrease during the three months ended March 31, 2011 as compared to the three months ended March 31, 2010 was due to assets which were fully depreciated or impaired over the last year, offset by the addition of new capital assets.
Non-controlling interest. As of March 31, 2011 and 2010, non-controlling interests collectively owned approximately 12.9% and 17.8% of PA LLC, respectively, and have been attributed their respective portion of the loss of PA LLC. The amount of loss assigned to non-controlling interests was $1.0 million and $1.6 million for the three months ended March 31, 2011 and 2010, respectively. The decrease in non-controlling interests ownership percentage from 2010 to 2011 was primarily due to the June 2, 2010 transaction with Arizona Technology Enterprises, LLC, as discussed in the Companys Annual Report on Form 10-K which was filed with the Securities and Exchange Commission (the SEC) on March 31, 2011.
Liquidity and Capital Resources
Overview
To date, the Company has financed its operations primarily through loans from, and debt securities issued to, its principal shareholder. To a lesser extent, the Company has also raised funds by issuing equity securities to unrelated third parties. Since its inception through March 31, 2011, the Company has raised in the aggregate $87.2 million in debt and equity investments, with $77.3 million of this total raised from its principal shareholder and $9.9 million raised from unrelated third parties.
Sources and Uses of Cash
At March 31, 2011, the Company had unrestricted cash and cash equivalents of $0.7 million, compared to $1.1 million at December 31, 2010.
Cash flows used in operating activities totaled $5.5 million in the three months ended March 31, 2011 compared to $6.0 million in the same period in 2010. The decrease in cash usage was primarily attributed to cost savings in the area of external consultants used by the Company, totaling $1.0 million for the three months ended March 31, 2011 as compared to the same period in 2010.
Cash flows used in investing activities totaled $0.3 million in the three months ended March 31, 2011, compared to $0.4 million in the same period last year. The decline in expenditures between the two periods reflects the purchase of less equipment in the first three months of 2011 than the first three months of 2010.
Cash flows provided by financing activities totaled $5.3 million in the three months ended March 31, 2011, compared to $3.9 million during the three months ended March 31, 2010. For the three months ended March 31, 2011 and 2010, cash raised from issuance of common stock and warrants decreased by $4.0 million while borrowings under notes payable-related party increased by $5.4 million.
17
Senior Secured Credit Financings
Affiliates of the Company have provided borrowings under a senior secured structure, as described in more detail below:
As of March 31, 2011 |
||||
Note Payable to Valens U.S. SPV I, LLC |
$ | 417,512 | ||
- Interest accrues monthly, at 12% per annum |
||||
- Note is due on June 30, 2012 |
||||
Notes Payable to PetroTech |
||||
- Interest accrues monthly, at 12% per annum |
27,847,089 | |||
- Notes are due on June 30, 2012 |
||||
Convertible Note Payable to PetroTech |
||||
- Interest accrues monthly at 12% per annum |
10,000,000 | |||
- Note is due on June 30, 2012 if not converted to common shares as described below |
||||
Up to $25,000,000 Note Payable to PetroTech |
19,070,897 | |||
- Interest payable monthly and is drawn into note on a monthly basis at Prime + 2% (5.25% at March 31, 2011) |
||||
- Note is due on June 30, 2012 |
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- Permits additional draws to fund interest. Maximum balance of this note is limited to $25,000,000 |
||||
Total Notes Payable - Related Party |
$ | 57,335,498 | ||
The notes payable related party are secured by all of the Companys assets. The convertible note payable allows the holder to convert all or any portion of the issued and outstanding principal amount and/or accrued interest and fees then due into shares of the Companys common stock at a fixed conversion price of $5.43 per share.
Each note payable and the related master security agreement and equity pledge and corporate guaranty agreement contain provisions that specify events of default which could lead to acceleration of the maturity of the debt. These provisions prohibit the encumbrance or sale of the Companys assets and require maintenance and insurance of the Companys assets. The loan agreements do not contain any required financial ratios or similar debt covenants. Generally, an event of default would arise if the Company became insolvent, filed for bankruptcy, allowed a change in control or had unresolved judgments against its assets. As of March 31, 2011, none of these events have occurred.
Interest charged to operations on these notes, including amortization of original issue discount, was $1.3 million, $0.9 million, and $10.8 million during the three months ended March 31, 2011, 2010, and the period from September 22, 2006 (inception) to March 31, 2011, respectively.
The principal amount of debt obligations as of March 31, 2011 is $57.3 million, of which $19.1 million was outstanding at a floating rate of 2% over the prime interest rate and $38.2 million was outstanding at a fixed rate of 12%. Floating rate borrowings will lead to additional interest expense if interest rates increase. The Company enters into loan arrangements when needed and borrowings are subject to interest rate risk because changes in the prime interest rate may have an effect on interest rate expense.
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The following table discloses aggregate information about our contractual obligations and period in which payments are due as of March 31, 2011:
Payments due by Period | ||||||||||||||||||||
Total | Less than 1 year |
1-3 years | 3-5 years | More than 5 years |
||||||||||||||||
Debt: principal |
$ | 57,335,498 | $ | | $ | 57,335,498 | $ | | $ | | ||||||||||
Debt: accrued interest to date (1) |
5,879,331 | | 5,879,331 | | | |||||||||||||||
Debt: estimated future interest (2) |
7,030,282 | 5,617,421 | 1,412,861 | | | |||||||||||||||
Operating lease commitments |
1,195,807 | 556,870 | 638,938 | | | |||||||||||||||
Total contractual obligations |
$ | 71,440,918 | $ | 6,174,291 | $ | 65,266,628 | $ | | $ | | ||||||||||
(1) | Represents the amount of interest that has been accrued through the balance sheet date on approximately $38.2 million of outstanding debt at an annual rate of 12%. This amount is due at the June 30, 2012 maturity date of the related debt. |
(2) | Estimated future interest represents the amount of interest expected to accrued until the maturity date of the related debt, which in all cases is June 30, 2012. The estimated amount is calculated from the current balance sheet date through maturity based upon the principal balance of each note and the applicable interest rate, which is compounded monthly at prime + 2% (assumed to be 5.25%) on approximately $19.1 million of debt and calculated on a non-compounded basis at 12% on the remaining principal amount. |
The Company is currently in the development stage at March 31, 2011 as it is continuing the development of its product and has not yet recognized any revenues. The Company intends to transition from the development stage to operational status during 2011 depending upon the timing and extent of success achieved in accomplishing its business development milestones. The Companys consolidated financial statements are presented on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business.
The Company has never been profitable and has incurred significant losses and cash flow deficits. For the three months ended March 31, 2011 and 2010, and the period from September 22, 2006 (inception) to March 31, 2011, it reported net losses before non-controlling interest of $8.0 million, $8.8 million, and $119.2 million, respectively, and negative cash flow from operating activities of $5.5 million, $6.0 million, and $72.8 million, respectively. As of March 31, 2011, the Company has an aggregate accumulated deficit of $105.0 million. The Company anticipates that operations will continue to report losses and negative cash flow during the remainder of 2011. As a result of these net losses, cash flow deficits, and other factors, there is a substantial doubt about the Companys ability to continue as a going concern.
The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. Our ability to continue as a going concern is dependent upon generating sufficient cash flow from operations and obtaining additional capital and financing. The Company is currently dependent on funding from its principal shareholder. If our ability to generate cash flow from operations is delayed beyond 2011 and we are unable to raise additional funding (including from our principal shareholder), we will be unable to continue in business.
Off-Balance Sheet Arrangements
As of March 31, 2011, the Company did not have any significant off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.
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Critical Accounting Policies
Fair Value of Financial Instruments
Fair value estimates discussed herein are based upon certain market assumptions and pertinent information available to management as of March 31, 2011. The respective carrying values of certain financial instruments approximate their fair values. These financial instruments include cash and cash equivalents, accounts payable, and accrued expenses. Fair values are assumed to approximate carrying values for these financial instruments because they are short term in nature and their carrying amounts approximate the amounts expected to be received or paid.
The carrying value of the Companys fixed-rate notes payable-related party approximated their fair value based on the current market conditions for similar debt instruments.
Long-Lived Assets
The carrying value of long-lived assets is reviewed on a regular basis for the existence of facts and circumstances that suggest permanent impairment. Specifically, senior management of the Company considers in each reporting period the effectiveness of the Companys significant assets to determine if impairment indicators such as physical deterioration, process change or technological change have resulted in underperformance, obsolescence or a need to replace such assets. When the Company identifies an impairment indicator, it measures the amount of the impairment based on the amount that the carrying value of the impaired asset exceeds its best internal estimate of the value of the asset while it remains in use, plus any proceeds expected from the eventual disposal of the impaired asset. Since the Company uses most of its property and equipment to demonstrate its technology to prospective customers and not to generate revenues or cash flows, a cash flow analysis of the categories above or the assets as a whole is not practicable. Instead, a depreciated replacement cost estimate is used for assets still in service and equipment secondary market quotes are obtained for assets planned for disposal.
Loss Per Share
Basic earnings (loss) per share is calculated by dividing net income (loss) by the weighted average number of common shares outstanding for the period. Diluted earnings (loss) per share is calculated by dividing net income (loss) by the weighted average number of common shares and dilutive common stock equivalents outstanding. During periods in which the Company incurs losses, common stock equivalents are not considered as their effect would be anti-dilutive.
The effect of 2,592,143 and 2,410,685 weighted average warrants and 1,569,806 and 1,194,111 weighted average options were not included for the three months ended March 31, 2011 and 2010, respectively, as they would have had an anti-dilutive effect.
Stock-Based Compensation
The Company accounts for stock-based compensation in accordance with ASC 718, Stock Compensation. This Statement requires that the cost resulting from all stock-based transactions be recorded in the consolidated financial statements. The Statement establishes fair value as the measurement objective in accounting for stock-based payment arrangements and requires all entities to apply a fair-value-based measurement in accounting for stock-based payment transactions with employees. The Statement also establishes fair value as the measurement objective for transactions in which an entity acquires goods or services from non-employees in stock-based payment transactions. (See Note 6 in the accompanying consolidated financial statements).
Recently Issued Accounting Pronouncements
Adoption of New Accounting Standards
Revenue Recognition
In April 2010, the FASB issued ASU 2010-17, Milestone Method of Revenue Recognition, a consensus of the FASB Emerging Issues Task Force (ASU 2010-17), which provides guidance on the criteria that should be met for determining whether the milestone method of revenue recognition is appropriate. ASU 2010-17 is effective on a prospective basis for milestones achieved in fiscal years, and interim periods within those years, beginning on or after June 15, 2010. The Companys adoption of ASU 2010-17 did not have a material effect on the Companys consolidated financial statements. The effect of ASU 2010-17 on the Companys expected future revenues will depend upon the structure of the Companys customer contracts, which is still being determined.
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In October 2009, the FASB issued ASU 2009-13, Multiple-Deliverable Revenue Arrangements (ASU 2009-13). The new standard changes the requirements for establishing separate units of accounting in a multiple element arrangement and requires the allocation of arrangement consideration to each deliverable based on the relative selling price. The selling price for each deliverable is based on vendor-specific objective evidence (VSOE) if available, third-party evidence if VSOE is not available, or estimated selling price if neither VSOE or third-party evidence is available. ASU 2009-13 is effective for revenue arrangements entered into in fiscal years beginning on or after June 15, 2010. The adoption of this new guidance did not have a material effect on the Companys consolidated financial statements, but the effect on the Companys expected future revenues, which in turn depends upon the final structure of the Companys contracts with customers, is still being determined.
Fair Value
In January 2010, the FASB issued ASU 2010-6, Improving Disclosures About Fair Value Measurements (ASU 2010-6), which requires reporting entities to make new disclosures about recurring or nonrecurring fair-value measurements, including significant transfers into and out of Level 1 and Level 2 fair-value measurements and information on purchases, sales, issuances, and settlements on a gross basis in the reconciliation of Level 3 fair-value measurements. ASU 2010-6 is effective for annual reporting periods beginning after December 15, 2009, except for Level 3 reconciliation disclosures which are effective for annual periods beginning after December 15, 2010. The adoption of ASU 2010-6 did not have a material impact on the Companys consolidated financial statements.
Accounting Standards Not Yet Effective
There are currently no new accounting standards that the Company will be required to adopt.
Subsequent Events
On April 11, 2011, April 27, 2011 and May 6, 2011, PetroTech funded $2.2 million, $1.0 million and $2.2 million, respectively, to PA LLC pursuant to the terms of separate senior secured term notes. Each of these notes provide for interest at 12%, which is accrued as a payment-in-kind liability, and are due on June 30, 2012.
ITEM 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
Interest Rate Risk
The Companys exposure to interest rate risk is related to its borrowings. The principal amount of the Companys debt obligations as of March 31, 2011 was $57.3 million, of which $19.1 million was outstanding at a floating rate of 2% over the prime interest rate and $38.2 million was outstanding at a fixed rate of 12%. Floating rate borrowings will lead to additional interest expense if interest rates increase. The Company enters into loan arrangements when needed and borrowings are subject to interest rate risk because changes in the prime interest rate will have an effect on interest rate expense.
Exchange Rate Risk
The Company is currently not subject to foreign exchange risk as a result of exposures to changes in currency exchange rates. Under the license agreements that the Company expects to enter into in the future with non-U.S. customer licensees, a portion of its license and royalty fee revenue may be denominated in currencies other than the U.S. dollar. Many of the Companys costs, however, including most of the costs of its employees who the Company expects to support the operations of its customer licensees, and its research and development costs, will be denominated in U.S. dollars. The Company expects that fluctuations in the value of these revenues and expenses as measured in U.S. dollars will affect its results of operations, and adverse currency exchange rate fluctuations may have a material impact on its future financial results.
Commodity Price Risk
The Companys technology, once commercialized, will be used to produce biocrude for the energy market and protein for the agriculture market, each of which may directly or indirectly compete with existing commodities. In particular, the Company expects that the price its customer licensees will obtain from the sale of these products will most directly be impacted by market prices for crude oil and petroleum-based fuels, and protein, respectively. These market prices, particularly for crude oil and petroleum-based fuels, can be volatile, and can be influenced by factors such as global demand, availability of supply, weather, political events and the market price of alternative forms of energy, all of which factors are beyond the Companys control.
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Significant fluctuations in these commodity prices could impact the profitability of the Companys technology to its customer licensees, and therefore the demand for the Companys technology, and could also affect the amount of royalty revenues the Company receives from its customer licensees.
ITEM 4. | CONTROLS AND PROCEDURES |
Disclosure Controls and Procedures
Under the supervision and with the participation of the Companys management, including the Companys principal executive officer and principal financial officer, the Company conducted an evaluation of its disclosure controls and procedures, as such term is defined under Rule 13a-15(e) and Rule 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the Exchange Act). Based on this evaluation, the Companys management, including the Companys principal executive officer and principal financial officer, concluded that the Companys disclosure controls and procedures are effective in alerting them in a timely manner to material information required to be disclosed in our periodic reports filed with the SEC.
Changes in Internal Control over Financial Reporting
During the most recent fiscal quarter, there have been no changes in the Companys internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that have materially affected or are reasonably likely to materially affect, the Companys internal control over financial reporting.
PART II OTHER INFORMATION
ITEM 1. | LEGAL PROCEEDINGS |
Not applicable.
Item 1A. | RISK FACTORS |
Information concerning certain risks and uncertainties appears in Part II, Item IA Risk Factors of the Companys Annual Report on Form 10-K for the year ended December 31, 2010 (the 10-K).
Since the filing of the 10-K, there have been no material changes to the Companys risk factors.
ITEM 2. | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS |
Not applicable.
ITEM 3. | DEFAULTS UPON SENIOR SECURITIES |
Not applicable.
ITEM 5. | OTHER INFORMATION |
Not applicable.
ITEM 6. | EXHIBITS |
10.1* | 12% Secured Term Note, issued April 11, 2011 | |
10.2* | 12% Secured Term Note, issued April 27, 2011 | |
10.3* | 12% Secured Term Note, issued May 6, 2011 |
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31.1* | Certification by the Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
31.2* | Certification by the Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
32.1* | Certification by the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
32.2* | Certification by the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
These exhibits are available upon request. Requests should be directed to the Investor Relations Department at PetroAlgae Inc., 1901 S. Harbor City Blvd., Suite 600, Melbourne, FL 32901, telephone: 321-409-7272, email: investorrelations@petroalgae.com. The exhibit numbers preceded by an asterisk (*) indicate exhibits physically filed with this Form 10-Q.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
PETROALGAE INC. | ||||||||
Date: May 13, 2011 | By: | /s/ DAVID P. SZOSTAK | ||||||
Name: | David P. Szostak | |||||||
Title: | Chief Financial Officer |
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