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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended February 29, 2012

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES ACT OF 1933

For the transition period from              to             

Commission File Number: 000-49908

 

 

CYTODYN INC.

(Exact name of registrant as specified in its charter)

 

 

 

Colorado   75-3056237

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer or

Identification No.)

110 Crenshaw Lake Road, Lutz, Florida   33548
(Address of principal executive offices)   (Zip Code)

(Registrant’s telephone number, including area code) (813) 527-6969

 

(Former name, former address and former fiscal year, if changed since last report)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 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 (Section 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  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

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

On April 1, 2012, there were 28,468,614 shares outstanding of the registrant’s no par common stock.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

      PAGE  

PART I

     3   

ITEM 1. FINANCIAL STATEMENTS

     3   

ITEM  2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     15   

ITEM  3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     17   

ITEM 4. CONTROLS AND PROCEDURES

     18   

PART II

     19   

ITEM 1. LEGAL PROCEEDINGS

     19   

ITEM 1A. RISK FACTORS

     19   

ITEM  2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

     19   

ITEM  3. DEFAULTS UPON SENIOR SECURITIES

     20   

ITEM 4. MINE SAFETY DISCLOSURES

     20   

ITEM 5. OTHER INFORMATION

     20   

ITEM 6. EXHIBITS

     20   

 

2


Table of Contents

PART I

Item 1. Financial Statements.

CytoDyn Inc.

(A Development Stage Company)

Condensed Consolidated Balance Sheet

 

      February 29, 2012     May 31, 2011  
     (unaudited)        

Assets

    

Current Assets:

    

Cash

   $ 1,779,913      $ 1,037,818   

Prepaid expenses

     36,626        59,275   

Deferred Offering Costs

     694,225        876,423   
  

 

 

   

 

 

 

Total current assets

     2,510,764        1,973,516   

Furniture and equipment, net

     900        5,374   

Other Assets

     43,901        15,748   
  

 

 

   

 

 

 
   $ 2,555,565      $ 1,994,638   
  

 

 

   

 

 

 

Liabilities and Shareholders’ (deficit)

    

Current liabilities:

    

Accounts payable

   $ 755,589      $ 932,996   

Accrued liabilities

     —          756   

Indebtedness to related parties

     74,493        148,985   

Accrued interest payable

     38,361        26,696   

Deposits on stock purchases - short-term

     —          1,035,000   

Stock rescission liability

     4,134,000        4,851,000   
  

 

 

   

 

 

 

Total current liabilities

     5,002,443        6,995,433   

Long-Term Liabilities

    

Convertible notes payable, net

     9,000        6,937   
  

 

 

   

 

 

 

Total Liabilities

     5,011,443        7,002,370   

Shareholders’ (deficit):

    

Series B Convertible preferred stock, no par value; 400,000 shares authorized, 144,800 and 311,800 shares issued and outstanding at February 29, 2012 and May 31, 2011, respectively

  

 

731,015

  

 

 

1,566,016

  

Common stock, no par value; 100,000,000 shares authorized, 28,107,956 and 22,290,982 outstanding at February 29, 2012 and May 31, 2011, respectively; 28,307,956 and 22,490,982 issued at February 29, 2012 and May 31, 2011, respectively

  

 

14,808,345

  

 

 

9,147,325

  

Additional paid-in capital

     6,968,013        5,877,141   

Common and Preferred stock subject to rescission

     (4,134,000     (4,851,000

Treasury stock, at cost, 200,000 shares held at February 29, 2012 and May 31, 2011, respectively

     (100,000     (100,000

Additional paid-in capital - treasury stock

     313,080        313,080   

Accumulated deficit on unrelated dormant operations

     (1,601,912     (1,601,912

Accumulated deficit during development stage

     (19,440,419     (15,358,382
  

 

 

   

 

 

 

Total shareholders’ (deficit)

     (2,455,878     (5,007,732
  

 

 

   

 

 

 
   $ 2,555,565      $ 1,994,638   
  

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

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Table of Contents

CytoDyn Inc.

(A Development Stage Company)

Condensed Consolidated Statements of Operations

(Unaudited)

 

    Three months ended,     Nine months ended     October 28, 2003
through 02/29/2012
 
    02/29/2012     02/28/2011     02/29/2012     02/28/2011    

Operating expenses:

         

General and administrative

  $ 1,073,431      $ 612,534      $ 2,725,617      $ 1,879,502      $ 13,733,032   

Amortization / depreciation

    391        823        1,621        2,172        182,470   

Research and development

    71,500        227,500        414,139        480,765        2,643,607   

Legal fees

    269,603        227,592        923,968        235,321        2,345,470   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    1,414,925        1,068,449        4,065,345        2,597,760        18,904,579   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss

    (1,414,925     (1,068,449     (4,065,345     (2,597,760     (18,904,579

Interest income

    —          —          —          —          1,627   

Extinguishment of debt

    —          —          —          —          337,342   

Interest expense:

         

Interest on convertible debt

    —          —          (2,063     —          (736,926

Interest on notes payable

    (2,922     (7,008     (14,629     (15,574     (137,883
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss before income taxes

    (1,417,847     (1,075,457     (4,082,037     (2,613,334     (19,440,419

Income tax provision

    —          —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

  $ (1,417,847   $ (1,075,457   $ (4,082,037   $ (2,613,334   $ (19,440,419
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Constructive preferred stock dividends

  $ —        $ —        $ —        $ —        $ (6,000,000
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Convertible preferred stock dividends

  $ (67,293   $ (5,800   $ (67,293   $ (8,550   $ (75,843
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss applicable to common shareholders

  $ (1,485,140   $ (1,081,257   $ (4,149,330   $ (2,621,884   $ (25,516,262
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted loss per share

  $ (0.06   $ (0.05   $ (0.18   $ (0.13   $ (1.85
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted weighted average common shares outstanding

    25,488,777        21,526,647        23,331,326        20,680,313        13,774,480   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

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CytoDyn Inc.

(A Development Stage Company)

Consolidated Statements of Cash Flows

(Unaudited)

 

     Nine months ended     October 28, 2003
through 02/29/2012
 
     02/29/2012     02/28/2011    

Cash flows from operating activities

      

Net loss

   $ (4,082,037   $ (2,613,334   $ (19,440,419

Adjustments to reconcile net loss to net cash used by operating activities:

      

Amortization / depreciation

     1,621        2,172        182,470   

Loss on disposal furniture & equipment

     2,853        —          2,853   

Amortization of original issue discount

     2,063        —          719,265   

Extinguishment of debt

     —          —          (337,342

Purchased in process research and development

     —          —          274,399   

Stock-based compensation

     1,362,665        941,463        7,082,790   

Changes in current assets and liabilities:

      

Decrease in prepaid expenses

     22,649        2,323        (36,626

(Increase) decrease in other assets

     (28,153     9,375        (43,901

Decrease in accounts payable, accrued interest and accrued liabilities

     (166,498     310,486        1,093,406   
  

 

 

   

 

 

   

 

 

 

Net cash used in operating activities

     (2,884,837     (1,347,515     (10,503,105
  

 

 

   

 

 

   

 

 

 

Cash flows from investing activities:

      

Furniture and equipment purchases

     —          (4,704     (21,083
  

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     —          (4,704     (21,083
  

 

 

   

 

 

   

 

 

 

Cash flows from financing activities:

      

Preferred stock dividends

     (1,500     —          (1,500

Capital contributions by president

     —          —          14,412   

Proceeds from notes payable to related parties

     —          —          705,649   

Payments on notes payable to related parties

     (74,492     (5,000     (239,990

Proceeds from notes payable issued to individuals

     —          —          145,000   

Payments on notes payable issued to individuals

     —          —          (34,500

Proceeds from convertible notes payable

     —          —          686,000   

Proceeds from the sale of common stock

     3,386,024        1,365,988        8,966,072   

Proceeds from Series B preferred stock

     —          —          2,009,000   

Purchase of treasury stock

     —          —          (436,000

Proceeds from sale of treasury stock

     —          —          559,210   

Deferred offering costs

     —          (232,544     (1,029,940

Proceeds from issuance of stock of AITI acquisition

     —          —          512,200   

Proceeds from issuance of stock of AGTI acquisition

     —          —          100,000   

Proceeds from exercise of warrants and options

     316,900        —          345,250   
  

 

 

   

 

 

   

 

 

 

Net cash provided by financing activities

     3,626,932        1,128,444        12,300,863   
  

 

 

   

 

 

   

 

 

 

Net change in cash

     742,095        (223,775     1,776,675   

Cash, beginning of period

     1,037,818        700,497        3,238   
  

 

 

   

 

 

   

 

 

 

Cash, end of period

   $ 1,779,913      $ 476,722      $ 1,779,913   
  

 

 

   

 

 

   

 

 

 

Supplemental disclosure of cash flow information:

      

Cash paid during the period for:

      

Income taxes

   $ —        $ —        $ —     
  

 

 

   

 

 

   

 

 

 

Interest

   $ 4,026      $ 18,880      $ 30,437   
  

 

 

   

 

 

   

 

 

 

 

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CytoDyn Inc.

(A Development Stage Company)

Consolidated Statements of Cash Flows

(Unaudited)

 

     Nine months ended      October 28, 2003
through 02/29/2012
 
     02/29/2012      02/28/2011     

Non-cash investing and financing transactions:

        

Net assets acquired in exchange for common stock in CytoDyn/Rexray business combination

   $ —         $ —         $ 7,542   
  

 

 

    

 

 

    

 

 

 

Common stock issued to former officer to repay working capital advance

   $ —         $ —         $ 5,000   
  

 

 

    

 

 

    

 

 

 

Common stock issued for convertible debt

   $ —         $ —         $ 662,000   
  

 

 

    

 

 

    

 

 

 

Common stock issued for debt

   $ —         $ —         $ 245,582   
  

 

 

    

 

 

    

 

 

 

Common stock issued for accrued interest payable

   $ —         $ —         $ 20,956   
  

 

 

    

 

 

    

 

 

 

Options to purchase common stock issued for debt

   $ —         $ —         $ 62,341   
  

 

 

    

 

 

    

 

 

 

Original issue discount and intrinsic value of beneficial conversion feature related to debt issued with warrants

   $ —         $ —         $ 719,266   
  

 

 

    

 

 

    

 

 

 

Common stock issued for preferred stock

   $ —         $ —         $ 167,500   
  

 

 

    

 

 

    

 

 

 

Treasury stock issued for prepaid services

   $ —         $ —         $ 118,291   
  

 

 

    

 

 

    

 

 

 

Common stock issued on payment of accounts payable

   $ —         $ —         $ 49,000   
  

 

 

    

 

 

    

 

 

 

Preferred and common stock subject to rescission

   $ 717,000       $ 1,176,000       $ 4,134,000   
  

 

 

    

 

 

    

 

 

 

Deferred offering costs related to rescission liability

   $ 182,198       $ —         $ 182,198   
  

 

 

    

 

 

    

 

 

 

Common stock issued for Series B preferred stock

   $ 835,000       $ 407,827       $ 1,277,984   
  

 

 

    

 

 

    

 

 

 

Series B preferred stock dividends

   $ 67,293       $ 8,550       $ 75,843   
  

 

 

    

 

 

    

 

 

 

Accrued salaries related party contributed as capital

   $ —         $ 229,500       $ 229,500   
  

 

 

    

 

 

    

 

 

 

Constructive dividend

   $ —         $ —         $ 6,000,000   
  

 

 

    

 

 

    

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

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Table of Contents

CYTODYN INC.

(A DEVELOPMENT STAGE COMPANY)

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF FEBRUARY 29, 2012

(UNAUDITED)

1 - Organization

CytoDyn Inc. (the “Company”) was incorporated under the laws of Colorado on May 2, 2002 under the name Rexray Corporation (“Rexray”). In October 2003, the Company (under its previous name RexRay Corporation) entered into an Acquisition Agreement with CytoDyn of New Mexico, Inc. Pursuant to the acquisition agreement, the Company acquired assets related to our leading drug candidate, Cytolin®, including the assignment of the patent license agreement dated July 1, 1994 between CytoDyn of New Mexico, Inc. and Allen D. Allen covering three United States patents along with foreign counterpart patents which describe a method for treating Human Immunodeficiency Virus (“HIV”) disease with the use of monoclonal antibodies. This includes issued U.S. Patent Nos. 5,424,066; 5,651,970 and 6,534,057, as well as European Patent Nos. 0690725 and 1438970. In addition, Hong Kong Patent No. 1067958, Australian Patent No. 684074 and Canadian Patent No. 2156495 have been obtained as well. The Company also acquired the federally registered trademarks, CYTODYN (U.S. Registration No. 2095498) and CYTOLIN (U.S. Registration No. 2095497), and a related trademark symbol. The license acquired gives the Company the worldwide, exclusive right to develop, market and sell compounds disclosed by the patent claims, practice methods taught by the patent claims, and exploit specified technology related to the patents. The term of the license agreement is for the life of the patents of which the first will expire in 2013. The original expiration dates on the issued U.S. Patent Nos. 5,424,066; 5,651,970 and 6,534,057 are 2013, 2014 and 2013, respectively. As consideration for the intellectual property and trademarks the Company paid CytoDyn of New Mexico $10,000 in cash and issued 5,362,640 post-split shares of common stock to CytoDyn of New Mexico.

The Company entered the development stage effective October 28, 2003 upon the reverse merger and recapitalization of the Company and follows Financial Standard Accounting Codification No. 915, Development Stage Entities.

CytoDyn Inc., discovered and is developing a class of therapeutic monoclonal antibodies to address significant unmet medical needs in the areas of HIV and Acquired Immune Deficiency Syndrome (“AIDS”).

Advanced Genetic Technologies, Inc. (“AGTI”) was incorporated under the laws of Florida on December 18, 2006 pursuant to an acquisition during 2006.

On May 16, 2011, the Company formed a wholly owned subsidiary, CytoDyn Veterinary Medicine LLC (“CVM”), which will explore the possible application of the Company’s existing proprietary monoclonal antibody technology to the treatment of Feline Immunodeficiency Virus (“FIV”), a retroviral infection in cats. The Company views the formation of CVM and the exploration of the application of its existing proprietary monoclonal antibody technology to FIV as an effort to strategically diversify the use of its proprietary monoclonal antibody technology.

 

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2 - Summary of Significant Accounting Policies

Basis of Presentation

The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) and reflect all adjustments, consisting solely of normal recurring adjustments, needed to fairly present the financial results for these periods. The condensed consolidated financial statements and notes are presented as permitted by Form 10-Q. Accordingly, certain information and note disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted. The accompanying condensed consolidated financial statements should be read in conjunction with the financial statements for the years ended May 31, 2011 and 2010 and notes thereto in the Company’s Annual Report on Form 10-K for the year ended May 31, 2011, filed with the Securities and Exchange Commission on November 3, 2011. Operating results for the three and nine months ended February 29, 2012 and February 28, 2011 are not necessarily indicative of the results that may be expected for the entire year. In the opinion of management, all adjustments consisting only of normal recurring adjustments necessary for a fair statement of (a) the results of operations for the three and nine month periods ended February 29, 2012 and the period October 28, 2003 through February 29, 2012, (b) the financial position at February 29, 2012, and (c) cash flows for the nine month periods ended February 29, 2012 and February 28, 2011 and the period October 28, 2003 through February 29, 2012, have been made.

Principles of Consolidation

The condensed consolidated financial statements include the accounts of CytoDyn Inc., and its wholly owned subsidiaries; AGTI and CVM. All intercompany transactions and balances are eliminated in consolidation.

Reclassifications

Certain prior year amounts shown in the accompanying condensed consolidated financial statements have been reclassified to conform to the 2011 presentation. These reclassifications did not have any effect on total current assets, total assets, total current liabilities, total liabilities, total shareholders’ deficit, or net loss.

Going Concern

The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. As shown in the accompanying condensed consolidated financial statements, the Company is currently in the development stage with losses for all periods presented. The Company incurred a net loss of $4,082,037 for the nine months ended February 29, 2012, has an accumulated deficit of $21,042,331, and a working capital deficit of $2,491,679 as of February 29, 2012. As of February 29, 2012, these factors, among others, raise doubt about the Company’s ability to continue as a going concern.

The consolidated financial statements do not include any adjustments relating to the recoverability of assets and classification of liabilities that might be necessary should the Company be unable to continue as a going concern. The Company’s continuation as a going concern is dependent upon its ability to obtain additional operating capital, complete development of its product candidates, obtain U.S. Food & Drug Administration (the “FDA”) approval, outsource manufacturing of the product candidates, and ultimately to attain profitability. The Company intends to seek additional funding through equity offerings to fund its business plan. There is no assurance that the Company will be successful in these endeavors.

Use of Estimates

The preparation of the condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

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Cash

The Company considers all highly liquid debt instruments with original maturities of three months or less when acquired to be cash equivalents. The Company had no cash equivalents as of February 29, 2012 or May 31, 2011. Cash is maintained at financial institutions, and, at times, balances may exceed federally insured limits. The Company has never experienced any losses related to these balances. All of the Company’s non-interest bearing cash balances were fully insured at February 29, 2012 due to a temporary federal program in effect from December 31, 2010 through December 31, 2012. Under the program, there is no limit to the amount of insurance for eligible accounts. Beginning 2013, insurance coverage will revert to $250,000 per depositor at each financial institution, and our non-interest bearing cash balances may again exceed federally insured limits. Interest-bearing amounts on deposit in excess of Federally insured limits at February 29, 2012 and May 31, 2011 approximated $1,746,000 and $1,011,000, respectively.

As of February 29, 2012, the Company received a total of $1,425,000 in cash related to deposits received from certain common stock purchases as compared to $1,035,000 as of May 31, 2011. These deposits were received by the Company from prospective investors (the “Prospective Investors”) after the Company made an announcement on February 18, 2011 related to its potential rescission and other liabilities to investors who had made investments in the Company during the period beginning on April 15, 2008 and ending on February 18, 2011. During the three months ended February 29, 2012, the Company sent confirmations to the Prospective Investors asking them to either confirm their investment in the Company or request that their deposit be returned to them. The Company received confirmations for $1,425,000 in cash deposits from Prospective Investors confirming their original investment. As of February 29, 2012, the $1,425,000 is included as common stock.

Furniture and Equipment

Furniture and equipment are stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the related assets, generally three to seven years. Maintenance and repairs are charged to expense as incurred and major improvements or betterments are capitalized. Gains or losses on sales or retirements are included in the consolidated statements of operations in the year of disposition.

Impairment of Long-Lived Assets

The Company evaluates the carrying value of long-lived assets under U.S. GAAP, which requires impairment losses to be recorded on long-lived assets used in operations when indicators of impairment are present and the undiscounted future cash flows estimated to be generated by those assets are less than the assets’ carrying amount. If such assets are impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying value or fair value, less costs to sell. There were no impairment charges for the three and nine months ended February 29, 2012 and February 28, 2011, and for the period October 28, 2003 through February 29, 2012.

Research and Development

Research and development costs are expensed as incurred.

Financial Instruments

At February 29, 2012 and May 31, 2011 the carrying value of the Company’s financial instruments approximate fair value due to the short-term maturity of the instruments. The Company’s notes payable have market rates of interest, and accordingly, the carrying values of the notes approximates the fair value.

Stock-Based Compensation

U.S. GAAP requires companies to measure the cost of employee services received in exchange for the award of equity instruments based on the fair value of the award at the date of grant. The expense is to be recognized over the period during which an employee is required to provide services in exchange for the award (requisite service period).

The Company accounts for common stock options, and common stock warrants granted based on the fair market value of the instrument using the Black-Scholes option pricing model utilizing certain weighted average assumptions such as expected stock price volatility, term of the options and warrants, risk-free interest rates, and

 

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expected dividend yield at the grant date. The risk-free interest rate assumption is based upon observed interest rates appropriate for the expected term of the stock options. The expected volatility is based on the historical volatility of the Company’s common stock at consistent intervals. The Company has not paid any dividends on its common stock since its inception and does not anticipate paying dividends on its common stock in the foreseeable future. The computation of the expected option term is based on the “simplified method” as the Company’s stock options are “plain vanilla” options and the Company has a limited history of exercise data. For common stock options and warrants with graded vesting, the Company recognizes the related compensation costs associated with these options and warrants on a straight-line basis over the requisite service period.

U.S. GAAP requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Based on limited historical experience of forfeitures, the Company estimated future unvested option forfeitures at 0% for all periods presented.

Deferred Offering Costs

In connection with a stock rescission liability as discussed at Note 3, the Company has recorded approximately $694,000 and $876,000 in deferred offering costs as of February 29, 2012 and May 31, 2011, respectively. These deferred offering costs have been recorded as a current asset for the respective periods. The asset will be offset against equity, and reduce equity in the period the investors described in Note 3 do not accept the rescission right and keep their shares. Conversely, if the investors accept the rescission right and forfeit their shares, the deferred offering costs will be expensed at that time.

Stock for Services

The Company issues common stock, warrants and common stock options to consultants for various services. Costs for these transactions are measured at the fair value of the consideration received or the fair value of the equity instruments issued, whichever is more reliably measurable. The value of the common stock is measured at the earlier of (i) the date at which a firm commitment for performance by the counterparty to earn the equity instruments is reached or (ii) the date at which the counterparty’s performance is complete.

Loss Per Common Share

Basic loss per share is computed by dividing the net loss by the weighted average number of common shares outstanding during the period. Diluted loss per share is computed by dividing net loss by the weighted average common shares and potentially dilutive common share equivalents. The effects of potential common stock equivalents are not included in computations when their effect is anti-dilutive. Because of the net losses for all periods presented, the basic and diluted weighted average shares outstanding are the same since including the additional shares would have an anti-dilutive effect on the loss per share calculation. Common stock options and warrants to purchase 8,331,576 and 7,656,176 shares of common stock were not included in the computation of basic and diluted weighted average common shares outstanding for the three and nine months ended February 29, 2012 and February 28, 2011, respectively, as inclusion would be anti-dilutive for these periods. Additionally as of February 29, 2012, 144,800 shares of Series B convertible stock can potentially convert into 1,448,000 shares of common stock.

Income Taxes

Deferred taxes are provided on the asset and liability method whereby deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carry forwards and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Future tax benefits for net operating loss carryforwards are recognized to the extent that realization of these benefits is considered more likely than not. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.

The Company follows the provisions of FASB ASC 740-10 “Uncertainty in Income Taxes” (ASC 740-10). A reconciliation of the beginning and ending amount of unrecognized tax benefits has not been provided since there are no unrecognized benefits at May 31, 2011 or 2010 and since the date of adoption. The Company has not recognized interest expense or penalties as a result of the implementation of ASC 740-10. If there were an unrecognized tax benefit, the Company would recognize interest accrued related to unrecognized tax benefit in interest expense and penalties in operating expenses. The Company is subject to examination by the Internal Revenue Service and state tax authorities for tax years ending after 2007.

 

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3 - Rescission Liabilities

The Company’s board of directors (the “Board”) was advised by outside legal counsel that compensation the Company previously paid to an employee and certain other non-employees who were acting as unlicensed, non-exempt broker-dealers soliciting investors on behalf of the Company from April 15, 2008 to February 18, 2011 was a violation of certain state and possibly federal securities laws. As a result, such investors and potentially others have rescission or monetary claims (“Claims”) against the Company, and the Company’s liability for these potential Claims is now being properly reflected in the Company’s financial statements. On March 16, 2011, the Company filed a Current Report on Form 8-K disclosing the potential rescission liability (the “Liability Disclosure”). On July 21, 2011, the Company filed a Current Report on Form 8-K disclosing its receipt of an SEC letter of inquiry and request for voluntary assistance in discovering information related to the Liability Disclosure. By letter dated January 3, 2012, the Division of Enforcement of the Securities and Exchange Commission notified the Company that the SEC had completed its informal investigation of the Company and is recommending no enforcement action be taken against the Company, or its officers, directors, or employees.

Rescission rights for individual investors and subscribers vary, based upon the laws of the states in which the investors or subscribers reside. Investments and subscriptions that are subject to rescission are recorded separately in our financial statements from stockholders’ deficiency in the Company’s balance sheet. As the statute of limitations expire in the respective states, such amounts for those shares are reclassified to stockholders’ deficiency. Investors who have sold their shares of capital stock of the Company do not have rescission rights, but instead have claims for damages, to the extent their shares were sold at a net loss, which is determined by subtracting the purchase price plus statutory interest and costs (if any) from the sale price.

Based on the Company’s ongoing investigation, assuming there are no affirmative defenses or exemptions available to the Company, investors may have up to approximately $6.4 million of federal and state Claims against the Company as of the date of filing this Form 10-Q. These investor Claims could include approximately $4.22 million of potential state or foreign jurisdiction Claims involving approximately 17 states and five foreign jurisdictions that may not be currently barred by the applicable statute of limitations or state law exemptions from broker-dealer registration requirements and these investors may also have overlapping federal Claims; the remainder could involve investors who do not have state law Claims but who may have federal rescission or damages rights if such rights can be proven to exist because of the Company’s failure to disclose contingent liabilities related to the state and foreign jurisdiction Claims. The Company is continuing with its scientific and business plans in the ordinary course and is currently seeking to obtain a Letter of Credit to provide the Company the financial ability with respect to any potential Claims.

The Company estimates an amount that is a probable indicator of the rescission liability and recorded rescission liabilities for February 29, 2012 and May 31, 2011 of approximately $4,134,000 and $4,851,000, respectively. These amounts represent the believed potential rescission liability as of the dates presented, including any contingent interest payable to investors who accept the rescission right, and forfeit their shares. For the purpose of calculating and disclosing rescission liability, the Company has assumed that portions of the state claims are barred by the statutes of limitations of certain states based upon a literal interpretation of the applicable statute. Although the Company has assumed that affirmative defenses based upon the expiration of the statutes of limitations in these states may be generally available to bar these state claims, it has not had legal counsel undertake a detailed analysis of case law that might apply to defer or avoid application of a bar to such claims; thus, if rescission claims are made for those assumed to be barred by a statute of limitations and such claims are contested by the Company, until such affirmative defenses are ruled upon by judge in a proceeding adjudicating the rights at issue, no assurances can be made that, if asserted, such defenses would actually bar the rescission claims in these states.

The Company is considering methods to offer to rescind the previous investment purchase or subscription by persons who acquired or subscribed for such investments during the period April 15, 2008 to February 18, 2011. The Company may commence a rescission offer to give each investor the opportunity to rescind or not rescind their investment (if not already sold) or subscription agreements or by certain shareholders between April 15, 2008 to February 18, 2011. Any rescission offer could address all or part of the Company’s rescission liability relating to its federal and state securities laws compliance issues by allowing the investors covered by the rescission offer to rescind the underlying securities transactions and sell those back to the Company or recover funding provided with subscription agreements, as the case may be.

 

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The Company entered into a seven year Personal Services Agreement on August 4, 2008 (the “Contract”), with Nader Pourhassan pursuant to which compensation was paid or accrued in view of a subsequent determination that these payments violated applicable securities laws. Such violations gave rise to the Company’s rescission obligation reflected in the Financial Statements. It was unclear whether the Company had any defenses to payment, whether the Company had any rights to recover payments made to Mr. Pourhassan or others at his direction or as contemplated in the Contract (including payments in the form of securities); or whether, even if the Company does have such rights, Mr. Pourhassan (and perhaps others) would have certain equitable remedies that would entitle Mr. Pourhassan (and perhaps others) to set off against the Company’s rights or would obligate the Company to make compensatory payments for services performed by Mr. Pourhassan (and others under his direction).

The Contract provided for compensation to Dr. Pourhassan at an annual salary of $200,000. Additionally, as incentive compensation, Dr. Pourhassan’s personal assistant and one additional person were to receive 50,000 common shares each of the Company stock for every $500,000 in capital received by the Company through Dr. Pourhassan’s efforts.

On October 11, 2011, Dr. Pourhassan and the Company entered into a Mutual Release and Personal Services Termination Agreement (the “MRPSTA”) which relieves the Company of liability for any claims of compensation under the Contract. Simultaneously, with the signing of the MRPSTA, Dr. Pourhassan and the Company entered into a new Employment and Non-Compete Agreement whereby Dr. Pourhassan will serve as Managing Director of Business Development at an annual salary of $200,000 for calendar year 2011, and $225,000 for calendar year 2012. The Company had been accruing stock compensation and deferred offering costs related to the Contract as described above. Upon the signing of the MRPSTA, the Company at May 31, 2011 reversed all related accrued stock compensation and deferring offering costs, as the Company currently has no further obligations under the Contract.

4 - Convertible Instruments

During fiscal year 2010 the Company authorized the issuance of 400,000 shares of Series B Convertible Preferred Stock (“Series B”) at $5.00 per share. During the nine months ended February 29, 2012, 167,000 shares of the Series B were converted into 1,670,000 shares of common stock. The Series B is convertible into ten shares of the Company’s common stock including any accrued dividend, with an effective fixed conversion price of $0.50 per share. The holders of the Series B can only convert their shares to common shares provided the Company has sufficient authorized common shares at the time of conversion. Accordingly, the conversion option was contingent upon the Company increasing their authorized common shares, which occurred April 2010 when the Company’s shareholders approved an increase to the authorized shares. At the commitment date, which occurred upon the shareholders approving the increase in the authorized shares, the conversion option related to the Series B was beneficial. The intrinsic value of the conversion option at the commitment date resulted in a constructive dividend to the Series B holders of approximately $6,000,000. The constructive dividend increased and decreased additional paid-in capital by the same amount. The Series B has liquidation preferences over the common share holders at $5.00 per share plus any accrued dividends. Dividends are payable to the Series B holders when declared by the board of directors at the rate of $0.25 per share per annum. Such dividends are cumulative and accrue whether or not declared and whether or not there are any profits, surplus or other funds or assets of the Company legally available therefore. The Series B holders have no voting rights.

5 - Stock Options and Warrants

The Company has one stock-based equity plan at February 29, 2012. Pursuant to the 2004 Stock Incentive Plan as amended (the “Plan”), which was originally adopted by the Company’s shareholders in 2005, the Company was authorized to issue options and warrants to purchase up to 7,600,000 shares of the Company’s common stock. As of February 29, 2012 the Company had 3,425,500 shares available for future stock option grants under the Plan.

During the nine months ended February 29, 2012, the Company granted to employees and directors 1,200,000 common stock options with an exercise price of $2.00, which vest ratably over one to four years and have an expiration date of five years from the date of grant. None of these options were granted under the Plan.

 

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During the three months ended February 29, 2012, the Company granted 250,000 warrants at exercise prices ranging from $2.10 to $2.95 per share, with immediate vesting, and expiration dates of one to two years. The warrants were granted for past services, and for the three and nine months ended February 29, 2012, the Company recognized approximately $312,000 in stock-based compensation expense.

Net cash proceeds from the exercise of stock options and warrants was $316,900 and $ -0 - for the three and nine months ended February 29, 2012 and February 28, 2011, respectively.

Compensation expense related to stock options and warrants was approximately $367,000 and $256,000, and $1,159,000 and $708,000, for the three and nine months ended February 29, 2012 and February 28, 2011, respectively.

The grant date fair value of options and warrants vested during the nine month periods ended February 29, 2012 and February 28, 2011 was approximately $914,000 and $671,000, respectively. The weighted average grant date fair value of options and warrants granted during the nine month periods ended February 29, 2012 and February 28, 2011was $1.57 and $1.17, respectively. As of February 29, 2012, there was approximately $2,933,000 of unrecognized compensation costs related to share-based payments for unvested options, which is expected to be recognized over a weighted average period of 2.85 years.

The following table represents stock option and warrant activity as of and for the nine months ended February 29, 2012:

 

    Number of
Shares
    Weighted
Average
Exercise Price
    Weighted
Average
Remaining
Contractual  Life
    Aggregate
Intrinsic Value
 

Options and warrants outstanding - May 31, 2011

    7,473,576      $ 1.34        3.84      $ 10,495,913   

Granted

    1,450,000      $ 2.08       

Exercised

    (517,500   $ 0.61       

Forfeited/expired/cancelled

    (74,500   $ 2.50       

Options and warrants outstanding - February 29, 2012

    8,331,576      $ 1.50        3.40      $ 12,398,777   

Outstanding exercisable - February 29, 2012

    6,261,020      $ 1.39        3.06      $ 10,036,066   

6 - Common Stock

On November 14, 2011, the Board approved a private placement to sell up to 2,000,000 shares of the Company’s common stock, no par value, at a price of $1.50 per share. During the three months ended February 29, 2012, 1,997,388 shares were sold for proceeds totaling approximately $2,996,000.

During the three months ended February 29, 2012, the Company issued 72,500 shares of common stock at $2.80 per share to consultants for services, and recognized $203,000 of stock-based compensation based on the fair market value of the Company’s stock price at the commitment date for the services.

7 - Recent Accounting Pronouncements

Recent accounting pronouncements issued by the FASB (including its EITF), the AICPA, and the SEC did not or are not believed by management to have a material impact on the Company’s present or future financial statements.

8 - Related Party Transactions

Prior to 2011, a director provided legal services to the Company for several years. As of February 29, 2012 the Company still owed the director $19,493 and it is included in the accompanying consolidated financial statements as “indebtedness to related parties” as of February 29, 2012. The amount has been classified as short-term, as the Company’s intention is to pay the note completely in the next twelve months. As of February 29, 2012 the note is past due.

 

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In May and July 2007, the Company issued $150,000 in promissory notes with a stated interest rate of 14% to a director of the Company. These notes are currently past due. As of February 29, 2012, the balance in the notes is $55,000. The Company has classified the balance as short-term obligation as of February 29, 2012, as the Company’s intention is to pay the note completely in the next twelve months.

We use on a month-to-month basis a portion of a building owned by Kenneth J. Van Ness, our President, Chief Executive Officer, and Chairman of the Board of Directors, our principal offices that are located at 110 Crenshaw Lake Road, Lutz, Florida 33548. We use approximately 1,600 square feet on a month-to-month basis at a cost of $1,650 per month.

The above terms and amounts are not necessarily indicative of the terms and amounts that would have been incurred had comparable transactions been entered into with independent parties.

9 - Commitment and Contingencies

On or about December 22, 2011, William Carmichael and Mojdeh Javadi (the “Plaintiffs”) filed a complaint against the Company in the Circuit Court of the State of Oregon for the County of Clackamas, alleging breach of contract. The Plaintiffs allege that the Company entered into a contract with the Plaintiffs in November 2007, then breached the terms of the contract by failing to issue warrants to the Plaintiffs entitling them to purchase shares of the Company’s stock. The Plaintiffs seek compensatory damages in an amount not less than $1,387,500, as well as costs and disbursements. On February 7, 2012, service of the complaint was accepted on behalf of the Company. An answer to the complaint was filed February 15, 2012. The Company plans to vigorously defend against Plaintiff’s claims. As of February 29, 2012, legal counsel advised the Company that they are unable to evaluate the merits of the claim or estimate a range of potential loss.

In addition, from time to time, we are involved in claims and suits that arise in the ordinary course of our business. Management currently believes that resolving any such claims against us will not have a material adverse impact on our business, financial position or results of operations.

10 - Subsequent Events

On March 1, 2012, the Company commenced a private placement outside of the United States to sell up to 4,000,000 shares of the Company’s common stock, no par value, at a price of $2.50 per share. The Company intends to issue and sell the shares without registration pursuant to Regulation S promulgated under the Securities Act.

On April 6, 2012, the Company entered into a purchase and sale agreement (the “Agreement”). Under the terms of the Agreement, the Company agreed to purchase from the sellers certain real property and improvements for a total purchase price of $1,700,000. The property to be purchased by the Company pursuant to the Agreement includes approximately 3.6 acres of land, the building located at 16242 North Florida Avenue, Lutz, FL 33548, consisting of approximately 10,000 square feet of office space and 6,500 square feet of warehouse space, and certain other assets related to the property (collectively, the “Property”). Approximately 6,500 square feet of the Property is currently under lease with third parties (the “Leases”). In connection with the purchase of the Property, the sellers have agreed to assign to the Company all of their right, title, and interest in and to the Leases.

The Company’s obligations under the Agreement are subject to and conditioned upon the Company’s investigation of the Property and satisfaction with all aspects thereof deemed relevant by the Company in its sole and absolute discretion. The Company has until April 20, 2012 (the “Inspection Period”) to make such investigations with respect to the Property. The Company has deposited with the escrow agent a cash deposit of $20,000, which deposit shall be fully refundable if: (i) the Company terminates the Agreement during the Inspection Period or fails to deliver an acceptance notice; (ii) following the Inspection Period, in the event of the sellers’ default under the Agreement; or (iii) as otherwise provided in the Agreement. At closing, the Company will deliver to the sellers a purchase money promissory note in the amount of $1,450,000 (the “Note”), and will pay the balance of the purchase price by wire transfer of immediately available funds. A purchase money first mortgage on the Property will secure the Note.

 

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In addition to the Company’s rights to terminate the Agreement during the Inspection Period as described above, the Company has the right to terminate the Agreement if the sellers breach the Agreement in any manner. Also, the sale of the Property is subject to several closing conditions, including, without limitation: (i) the sellers conveying title to the Property in accordance with the terms of the Agreement; (ii) the Property being free of condemnation and material damage or destruction; (iii) the representations and warranties of the sellers being true and correct in all material respects; and (iv)  the sellers performing and complying with all covenants and conditions required by the Agreement.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

THROUGHOUT THIS FILING, WE MAKE FORWARD-LOOKING STATEMENTS. THE WORDS “ANTICIPATE,” “BELIEVE,” “EXPECT,” “INTEND,” “PREDICT,” “PLAN,” “SEEK,” “ESTIMATE,” “PROJECT,” “WILL,” “CONTINUE,” “COULD,” “MAY,” AND SIMILAR TERMS AND EXPRESSIONS ARE INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS. THESE STATEMENTS INCLUDE, AMONG OTHERS, INFORMATION REGARDING FUTURE OPERATIONS, FUTURE CAPITAL EXPENDITURES, AND FUTURE NET CASH FLOWS. SUCH STATEMENTS REFLECT THE COMPANY’S CURRENT VIEWS WITH RESPECT TO FUTURE EVENTS AND FINANCIAL PERFORMANCE AND INVOLVE RISKS AND UNCERTAINTIES, INCLUDING, WITHOUT LIMITATION, GENERAL ECONOMIC AND BUSINESS CONDITIONS, CHANGES IN FOREIGN, POLITICAL, SOCIAL, AND ECONOMIC CONDITIONS, REGULATORY INITIATIVES AND COMPLIANCE WITH GOVERNMENTAL REGULATIONS, THE ABILITY TO ACHIEVE MARKET PENETRATION AND ATTRACT CUSTOMERS, AND VARIOUS OTHER MATTERS, MANY OF WHICH ARE BEYOND THE COMPANY’S CONTROL. SHOULD ONE OR MORE OF THESE RISKS OR UNCERTAINTIES OCCUR, OR SHOULD UNDERLYING ASSUMPTIONS PROVE TO BE INCORRECT, ACTUAL RESULTS MAY VARY MATERIALLY AND ADVERSELY FROM THOSE ANTICIPATED, BELIEVED, ESTIMATED, OR OTHERWISE INDICATED. CONSEQUENTLY, ALL OF THE FORWARD-LOOKING STATEMENTS MADE IN THIS FILING ARE QUALIFIED BY THESE CAUTIONARY STATEMENTS AND THERE CAN BE NO ASSURANCE OF THE ACTUAL RESULTS OR DEVELOPMENTS.

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the other sections of this Quarterly Report, including our financial statements and related notes appearing elsewhere herein. This discussion and analysis contains forward-looking statements including information about possible or assumed results of our financial conditions, operations, plans, objectives and performance that involve risk, uncertainties and assumptions. The actual results may differ materially from those anticipated and set forth in such forward-looking statements.

Results of Operations

Results of Operations for the three months ended February 29, 2012 and February 28, 2011 are as follows:

For the three months ended February 29, 2012 and February 28, 2011 we had no activities that produced revenues from operations.

For the three months ended February 29, 2012, we had a net loss of approximately $(1,418,000) compared to a net loss of approximately $(1,075,000) for the corresponding period in 2011. For the three months ended February 29, 2012 and February 28, 2011, we incurred operating expenses of approximately $1,415,000 and $1,068,000, respectively, consisting primarily of stock-based compensation, professional fees, research and development and salaries.

The increase in operating expenses of approximately $347,000 from the three-month period ended February 28, 2011 compared to the three months ended February 29, 2012 related primarily to increases in legal fees, stock-based compensation, consulting expenses, and accounting fees, offset by decreases in research and development. Research and development expenses are associated with the development of our lead product, Cytolin ®. As discussed above, we are currently in clinical trials with our product. We expect the trend in research and development expenses to increase as our product progresses through clinical trials. Legal fees and accounting fees have increased during the current quarter compared to previous quarter as a result of the increase in our external filings, rescission liability, and exploration of possible acquisitions. Consulting expenses increased as we issued common stock to consultants for

 

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services. We expect the trend to stabilize, as our filings become more consistent. The trend in all of our expenses will depend on our ability to raise additional funds, including the increase in salary expense related to the hiring of our current CEO, CFO and controller.

Results of Operations for the nine months ended February 29, 2012 and February 28, 2011 are as follows:

For the nine months ended February 29, 2012 and February 28, 2011 we had no activities that produced revenues from operations.

For the nine months ended February 29, 2012, we had a net loss of approximately $(4,082,000) compared to a net loss of approximately $(2,613,000) for the corresponding period in 2011. For the nine months ended February 29, 2012 and February 28, 2011, we incurred operating expenses of approximately $(4,065,000) and $(2,598,000), respectively, consisting primarily of stock-based compensation, salary expenses, professional fees, research and development and salaries.

The increase in operating expenses of approximately $1,467,000 from the nine-month period ended February 28, 2011 compared to the nine months ended February 29, 2012 related primarily to increases in legal fees, accounting fees, consulting expenses, salaries and stock-based compensation, offset by decreases in research and development expenses. Research and development expenses are associated with the development of our lead product, Cytolin®. As discussed above, we are currently in clinical trials with our product. We expect the trend in research and development expenses to increase as our product progresses through clinical trials. Legal fees and accounting fees have increased during the current nine-month period in 2012 when compared to the comparable nine-month period in 2011 as a result of the increase in our external filings, rescission liability, and the exploration of possible acquisitions. Consulting expenses increased as we issued common stock to consultants for services. We expect the trend associated with external filings and rescission liability to stabilize, as our filings become more consistent. The trend in all of our expenses will depend on our ability to raise additional funds, including the increase in salary expense related to the hiring of our current CEO, CFO and controller.

Rescission Liability

We recorded rescission liabilities for February 29, 2012 and May 31, 2011 of approximately $4,134,000 and $4,851,000, respectively. These amounts represent the believed potential rescission liability as of the dates presented, including any contingent interest payable to investors who accept the rescission right, and forfeit their shares. For the purpose of calculating and disclosing rescission liability, the Company has assumed that portions of the state claims are barred by the statutes of limitations of certain states based upon a literal interpretation of the applicable statute. Although the Company has assumed that affirmative defenses based upon the expiration of the statutes of limitations in these states may be generally available to bar these state claims, it has not had legal counsel undertake a detailed analysis of case law that might apply to defer or avoid application of a bar to such claims; thus, if rescission claims are made for those assumed to be barred by a statute of limitations and such claims are contested by the Company, until such affirmative defenses are ruled upon by judge in a proceeding adjudicating the rights at issue, no assurances can be made that, if asserted, such defenses would actually bar the rescission claims in these states. See Footnote 3 of our Financial Statements on page 11 for further information regarding these rescission liabilities.

Liquidity and Capital Resources

On February 29, 2012, we had negative working capital of approximately $(2,492,000) as compared to a negative working capital of approximately $(5,022,000) on May 31, 2011.

As of November 30, 2011, we had a total of $1,425,000 in liabilities related to deposits received from common stock purchases as compared to $1,035,000 as of May 31, 2011. These deposits were received by us from prospective investors (the “Prospective Investors”) after we made an announcement on February 18, 2011 related to our potential rescission and other liabilities to investors who had made investments in us during the period beginning on April 15, 2008 and ending on February 18, 2011. During the three months ended February 29, 2012, we sent confirmations to the Prospective Investors asking them to either confirm their investment in us or request that their deposit be returned to them. During the three months ended February 29, 2012, we received confirmations from the Prospective Investors representing $1,425,000 in cash related to deposits received from common stock purchases. In those confirmations, such Prospective Investors confirmed their investment in us. As a result, as of February 29, 2012, the $1,425,000 is included as common stock.

 

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On November 14, 2011, the board of directors of the Company (the “Board”) approved a private placement to sell up to 2,000,000 shares of the Company’s common stock, no par value, at a price of $1.50 per share. The offering commenced on or about December 1, 2011 and was completed on December 31, 2011. 1,997,388 shares were sold for proceeds totaling approximately $2,996,000.

Cash Flows

Net cash used in operating activities was approximately $(2,885,000) during the nine months ended February 29, 2012, which reflects an increase of approximately $1,537,000 from net cash used in operating activities of approximately $(1,348,000) for the nine months ended February 28, 2011. The increase in the net cash used in operating activities for the above periods was primarily attributable to the increase in the net loss, off-set by the increase in accounts payable and stock-based compensation.

There were no significant changes in cash used in investing activities from the nine months ended February 29, 2012.

Net cash provided by financing activities increased $2,499,000 from February 28, 2011 to the comparable quarter as a result of increases in proceeds from stock deposits, common stock, and exercises of options and warrants, offset by increases on payments on notes to related parties.

As shown in the accompanying Financial Statements, for the nine months ended February 29, 2012 and February 28, 2011, and since October 28, 2003 through February 29, 2012 we incurred net losses of approximately $(4,082,000) and $(2,613,000) and $(19,440,000), respectively. As of February 29, 2012, we have not emerged from the development stage. In view of these matters, our ability to continue as a going concern is dependent upon our ability to begin operations and to achieve a level of profitability. Since inception, we have financed our activities principally from the sale of public and private equity securities and proceeds from notes payable. We intend to finance our future development activities and our working capital needs largely from the sale of equity securities with some additional funding from other traditional financing sources.

As previously mentioned, since October 28, 2003, we have financed our operations largely from the sale of common stock and preferred stock and proceeds from notes payable. From October 28, 2003 through February 29, 2012 we raised cash of approximately $9,945,000 (net of offering costs) through private placements of common and preferred stock financings and approximately $1,537,000 through the issuance related party notes payable and convertible notes. Additionally, we have raised approximately $612,000 from the issuance of common stock and preferred stock in conjunction with certain acquisitions in prior years. In April 2010, our shareholders voted to amend our Articles of Incorporation to increase the number of authorized shares of common stock to 100,000,000 shares; accordingly, we intend to continue to finance our operations through the sale of our shares.

Since October 28, 2003 through February 29, 2012, we have incurred approximately $2,644,000 of research and development costs and approximately $18,905,000 in operating expenses. We have incurred significant net losses and negative cash flows from operations since our inception. As of February 29, 2012, we had an accumulated deficit of approximately $21,042,000 and negative working capital of approximately $(2,492,000).

We anticipate that cash used in product development and operations, especially in the marketing, production and sale of our products will increase significantly in the future. We currently do not have any significant material commitments related to capital expenditures. As described above, we do have material commitments related to our current study of our product with MGH, and have potential obligations under our contracts with Vista.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

Not applicable.

 

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Item 4. Controls and Procedures.

Disclosure Controls and Procedures

As of February 29, 2012, under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, management has evaluated the effectiveness of the design and operations of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) as of February 29, 2012. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were not effective as of February 29, 2012 as a result of the material weakness in internal control over financial reporting because of inadequate segregation of duties over authorization, review and recording of transactions as well as the financial reporting of such transactions. Management is attempting to develop a plan to mitigate the above material weaknesses. Despite the existence of these material weaknesses, we believe the financial information presented herein is materially correct and in accordance with generally accepted accounting principles.

Internal Control Over Financial Reporting

Changes in Control Over Financial Reporting

No change in the Company’s internal control over financial reporting occurred during the quarter ended February 29, 2012, other than those described above that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

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PART II

Item 1. Legal Proceedings.

On or about December 22, 2011, William Carmichael and Mojdeh Javadi (the “Plaintiffs”) filed a complaint against the Company in the Circuit Court of the State of Oregon for the County of Clackamas, alleging breach of contract. The Plaintiffs allege that the Company entered into a contract with the Plaintiffs in November 2007, then breached the terms of the contract by failing to issue warrants to the Plaintiffs entitling them to purchase shares of the Company’s stock. The Plaintiffs seek compensatory damages in an amount not less than $1,387,500, as well as costs and disbursements. On February 7, 2012, service of the complaint was accepted on behalf of the Company. An answer to the complaint was filed February 15, 2012. The Company plans to vigorously defend against Plaintiff’s claims. As of February 29, 2012, legal counsel advised the Company that they are unable to evaluate the merits of the claim or estimate a range of potential loss.

In addition, from time to time, we are involved in claims and suits that arise in the ordinary course of our business. Management currently believes that resolving any such claims against us will not have a material adverse impact on our business, financial position or results of operations.

Item 1A. Risk Factors.

Not Applicable.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

On November 14, 2011, in connection with and as consideration for entering into the Full Release Agreement with Dr. Ronald B. Moss, we issued 10,000 shares of the Company’s common stock to Dr. Moss. The shares were issued to Dr. Moss in exchange for his full and complete release of his claims for compensation and other remuneration set forth in a consulting agreement, dated September 15, 2010, between the parties, as well as a stock incentive plan notice of stock option award with a grant date of September 22, 2010.

On December 1, 2011, we commenced a private placement to sell up to 2,000,000 shares of the Company’s common stock, no par value, at a price of $1.50 per share. The offering was completed on December 31, 2011, with 1,997,388 shares being sold for proceeds totaling approximately $2,996,000.

On February 9, 2012, in connection with and as consideration for entering into the Full Release Agreement with Evolution & Eware Holdings, LLC (“Eware”), and Eware’s principals, we issued warrants to purchase up to 250,000 of the Company’s common stock with strike prices ranging from $2.10 to $2.95 per share, and with exercise terms ranging from 12 months to 24 months. The warrants were issued to Eware and Eware’s principals in exchange for a full and complete release by the investors of all claims they ever had, then had, or which may have thereafter accrued against the Company.

On February 21, 2012, in connection with and as consideration for entering into the Full Release Agreement with Frank R. Maresca, we issued 62,500 shares of the Company’s common stock to Mr. Maresca. The shares were issued to Mr. Maresca in exchange for his full and complete release of his claims for compensation and other remuneration set forth in a consulting agreement, dated August 20, 2006, between the parties.

During the three months ended February 29, 2012, we issued to investors upon exercise of options and warrants, an aggregate amount of 517,500 shares of common stock of the Company at an exercise prices ranging from $0.30 to $1.10 per share, for aggregate proceeds of $316,900.

As of February 29, 2012, we have received a total of $1,425,000 in cash related to deposits received from common stock purchases and the exercise of warrants. We received these deposits and warrant exercise proceeds from Prospective Investors after we made an announcement on February 18, 2011 related to the Company’s potential rescission and other liabilities to investors who had made investments in the Company during the period beginning on April 15, 2008 and ending on February 18, 2011. Subsequent to this announcement, we sent confirmations to Prospective Investors asking them to either confirm their investment in the Company or request that their deposit or

 

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warrant exercise proceeds be returned to them. We received confirmations for $1,425,000 in cash deposits and warrant exercise proceeds. As a result, during the three months ended February 29, 2012, we issued 1,425,000 shares of common stock of the Company to Prospective Investors.

During the three months ended February 29, 2012, 167,000 shares of Series B were converted into 1,670,000 shares of common stock. The Series B is convertible into 10 shares of the Company’s common stock including any accrued dividend, with an effective fixed conversion price of $0.50 per share. During the three months ended February 29, 2012, we issued 134,585 shares of common stock related to these dividends.

We issued and sold the aforementioned warrants, options, and common stock without registration pursuant to Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”), Rule 506 of Regulation D, and as applicable, Regulation S promulgated thereunder. In qualifying for such exemptions, we did not use general solicitation or advertising to market the securities. In addition, we relied upon representations from the investors that (i) they are “accredited investors” as that term is defined in Regulation D, or (ii) if not an accredited investor, they either alone or with their purchaser representative have such knowledge and experience in financial and business matters that they are capable of evaluating the merits and risks of the prospective investment, and (iii) they have acquired the securities for investment purposes only and not with a view to or for sale in connection with any distribution thereof. In addition, with regard to Regulation S, we did not conduct any selling efforts directed at the United States in connection with the offering and we relied upon representations from the investors that they were not United States persons as defined by Regulation S.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

Not Applicable.

Item 5. Other Information.

None.

Item 6. Exhibits.

(a) Exhibits:

 

    3.1    Articles of Incorporation (incorporated herein by reference to Exhibit 3.1 on Form 10SB12G Registration of Securities for Small Business Issuers filed July 11, 2002).
    3.2    Amendment to the Articles of Incorporation dated October 28, 2003 (incorporated herein by reference to filed Exhibit 3.3 on Form 8-K filed November 12, 2003).
    3.3    Amendment to Articles of Incorporation dated September 2009 (incorporated herein by reference to Exhibit 3.4 to Form 10-K filed March 12, 2010).
    3.4    Amendment to Articles of Incorporation dated April 29, 2010 (incorporated herein by reference to Exhibit 3.5 to Form 8-K filed April 29, 2010).
    3.5    Amended and Restated Bylaws, as amended on November 8, 2011 (incorporated by reference herein to Exhibit 3.1 filed with Form 8-K Current Report filed November 10, 2011).
  31.1    Rule 13a-14(a)/15d-14(a) Certification by the CEO of the Registrant.
  31.2    Rule 13a-14(a)/15d-14(a) Certification by the CFO of the Registrant.
  32.1    Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, of the CEO of the Registrant.

 

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  32.2    Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of the CFO of the Registrant.
101.INS    XBRL Instance Document.*
101.SCH    XBRL Taxonomy Extension Schema Document.*
101.CAL    XBRL Taxonomy Extension Calculation Linkbase Document.*
101.LAB    XBRL Taxonomy Extension Label Linkbase Document.*
101.PRE    XBRL Taxonomy Extension Presentation Linkbase Document.*

 

* These interactive data files shall not be deemed filed for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under those sections.

 

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SIGNATURES

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.

 

    CYTODYN INC.
  (Registrant)
DATE: April 16, 2012   BY:  

/s/ Kenneth J. Van Ness

  Kenneth J. Van Ness
  President and Chief Executive Officer
  BY:  

/s/ Andrew T. Libby, Jr.

  Andrew T. Libby, Jr.
  Chief Financial Officer and Corporate Secretary

 

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EXHIBIT INDEX

 

Exhibit No.    Description
    3.1    Articles of Incorporation (incorporated herein by reference to Exhibit 3.1 on Form 10SB12G Registration of Securities for Small Business Issuers filed July 11, 2002).
    3.2    Amendment to the Articles of Incorporation dated October 28, 2003 (incorporated herein by reference to filed Exhibit 3.3 on Form 8-K filed November 12, 2003).
    3.3    Amendment to Articles of Incorporation dated September 2009 (incorporated herein by reference to Exhibit 3.4 to Form 10-K filed March 12, 2010).
    3.4    Amendment to Articles of Incorporation dated April 29, 2010 (incorporated herein by reference to Exhibit 3.5 to Form 8-K filed April 29, 2010).
    3.5    Amended and Restated Bylaws, as amended on November 8, 2011 (incorporated by reference herein to Exhibit 3.1 filed with Form 8-K Current Report filed November 10, 2011).
  31.1    Rule 13a-14(a)/15d-14(a) Certification by the CEO of the Registrant.
  31.2    Rule 13a-14(a)/15d-14(a) Certification by the CFO of the Registrant.
  32.1    Certification Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, of the CEO of the Registrant.
  32.2    Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of the CFO of the Registrant.
101.INS    XBRL Instance Document.
101.SCH    XBRL Taxonomy Extension Schema Document.
101.CAL    XBRL Taxonomy Extension Calculation Linkbase Document.
101.LAB    XBRL Taxonomy Extension Label Linkbase Document.
101.PRE    XBRL Taxonomy Extension Presentation Linkbase Document.

 

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