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EXCEL - IDEA: XBRL DOCUMENT - Zivo Bioscience, Inc.Financial_Report.xls
EX-32.1 - EXHIBIT 32.1 SECTION 906 CERTIFICATION - Zivo Bioscience, Inc.f10q063014_ex32z1.htm
EX-10.28 - EXHIBIT 10.28 THIRD AMENDMENT TO LOAN AGREEMENT - Zivo Bioscience, Inc.f10q063014_ex10z28.htm
EX-10.29 - EXHIBIT 10.29 FOURTH AMENDED AND RESTATED CONVERTIBLE NOTE - Zivo Bioscience, Inc.f10q063014_ex10z29.htm
EX-32.2 - EXHIBIT 32.2 SECTION 9062 CERTIFICATION - Zivo Bioscience, Inc.f10q063014_ex32z2.htm
EX-31.1 - EXHIBIT 31.1 SECTION 302 CERTIFICATION - Zivo Bioscience, Inc.f10q063014_ex31z1.htm
EX-31.2 - EXHIBIT 31.2 SECTION 302 CERTIFICATION - Zivo Bioscience, Inc.f10q063014_ex31z2.htm
EX-10.30 - EXHIBIT 10.30 CHANGE OF CONTROL AGREEMENT - Zivo Bioscience, Inc.f10q063014_ex10z30.htm

U.S. Securities and Exchange Commission

Washington, D.C.  20549


Form 10-Q


(Mark One)


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


For the quarterly period ended June 30, 2014


      . TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT


For the transition period from _____________ to ______________


Commission file number:  000-30415


Health Enhancement Products, Inc.

(Exact name of small business issuer as specified in its charter)


 

 

 

Nevada

 

87-0699977

(State or other jurisdiction of

 

(IRS Employer Identification No.)

incorporation or organization)

 

 


2804 Orchard Lake Rd., Suite 202, Keego Harbor, MI 48320

(Address of principal executive offices)


(248) 452 9866

(Issuer’s telephone number)


Not Applicable

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



Indicate by checkmark whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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 ST (Sec. 232.405)  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 checkmark 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

      . (Do not check if a smaller reporting company)

Smaller reporting company

  X .


Indicate by check mark whether the issuer is a shell company (as defined in Rule 12-b2 of the Exchange Act). Yes      . No  X .


APPLICABLE ONLY TO CORPORATE ISSUERS


There were 127,280,427 shares of common stock, $0.001 par value, outstanding at August 14, 2014.




1



FORM 10-Q

HEALTH ENHANCEMENT PRODUCTS, INC.

INDEX



 

 

PART I – FINANCIAL INFORMATION

3

Item 1.  Condensed Consolidated Financial Statements

3

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

20

Item 4T. Controls and Procedures

23

 

 

PART II – OTHER INFORMATION

24

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

24

Item 5. Other information

24

Item 6. Exhibits

24


(Inapplicable items have been omitted)



2



PART I – FINANCIAL INFORMATION


ITEM 1.  CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


 

 

 

 

 

HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEET

 

 

 

June 30, 2014

 

December 31, 2013

 

 

(Unaudited)

 

 

ASSETS

 

 

 

 

CURRENT ASSETS:

 

 

 

 

    Cash

$

31,011

$

493,104

    Prepaid Expenses

 

37,519

 

72,122

   Miscellaneous Receivable

 

-

 

118,467

    Deferred Finance Costs

 

-

 

4,834

                Total Current Assets

 

68,530

 

688,527

PROPERTY AND EQUIPMENT, NET

 

81,250

 

93,750

OTHER ASSETS:

 

 

 

 

    Patent Applications Pending

 

1,391,281

 

1,391,281

    Deposits

 

-

 

845

                 Total Other Assets

 

1,391,281

 

1,392,126

 

$

1,541,061

$

2,174,403

LIABILITIES AND STOCKHOLDERS' DEFICIT

 

 

 

 

 

 

 

 

 

CURRENT LIABILITIES:

 

 

 

 

    Accounts Payable

$

682,375

$

483,208

    Loan Payable – Related Party

 

25,510

 

-

    Convertible Debenture Payable, less discount of $538,936 and

        $111,280 at June 30, 2014 and December 31, 2013

 

 

 

 

 

2,201,064

 

1,619,319

    Derivative Liability

 

2,079,118

 

8,036,239

    Accrued Liabilities

 

924,216

 

738,686

                   Total Current Liabilities

 

5,912,283

 

10,877,452

LONG TERM LIABILITIES:

 

 

 

 

    Convertible Debenture Payable, less discount of $913,910

      and $2,159,189 at June 30, 2014 and December 31, 2013

 

 

 

 

 

636,090

 

890,811

                   Total Long term Liabilities

 

636,090

 

890,811

 

 

 

 

 

TOTAL LIABILITIES

 

6,548,373

 

11,768,263

 COMMITMENTS AND CONTINGENCIES

 

 

 

 

STOCKHOLDERS' DEFICIT:

 

 

 

 

    Common stock, $.001 par value,

      200,000,000 shares authorized

      127,280,427  and 116,852,093 issued and outstanding at

      June 30, 2014 and December 31, 2013

 

 

 

 

 

 

 

 

 

 

 

 

 

127,281

 

116,852

    Additional Paid-In Capital

 

34,176,717

 

32,895,380

    Accumulated deficit

 

(39,311,310)

 

(42,606,092)

                   Total Stockholders' Deficit

 

(5,007,312)

 

(9,593,860)

 

$

1,541,061

$

2,174,403


The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.




3




 

 

 

 

 

 

 

 

 

HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 

 

 

 

 

 

 

 

 

 

 

For the three

 

For the three

 

For the six

 

For the six

 

 

Months ended

 

Months ended

 

Months ended

 

Months ended

 

 

June 30, 2014

 

June 30, 2013

 

June 30, 2014

 

June 30, 2013

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

REVENUES:

$

-

$

-

$

-

$

-

 

 

 

 

 

 

 

 

 

COSTS AND EXPENSES:

 

 

 

 

 

 

 

 

  General and Administrative

 

262,145

 

472,003

 

532,748

 

736,416

  Professional fees and Consulting expense

 

132,775

 

99,480

 

249,909

 

240,956

  Research and Development

 

405,790

 

310,917

 

796,811

 

440,365

 

 

 

 

 

 

 

 

 

      Total Costs and Expenses

 

800,710

 

882,400

 

1,579,468

 

1,417,737

 

 

 

 

 

 

 

 

 

LOSS FROM OPERATIONS

 

(800,710)

 

(882,400)

 

(1,579,468)

 

(1,417,737)

 

 

 

 

 

 

 

 

 

OTHER INCOME  (EXPENSE):

 

 

 

 

 

 

 

 

  Other Income

 

93,683

 

262,837

 

93,683

 

262,837

  Other Expense

 

(118,467)

 

-

 

(118,467)

 

-

  Fair Value Adjustment of

      Derivative Liability

 

 

 

 

 

 

 

 

 

592,410

 

(1,243,627)

 

5,957,121

 

(1,382,376)

  Amortization of Debt Discount

 

(338,621)

 

(286,536)

 

(817,624)

 

(461,095)

  Deferred Finance Costs

 

-

 

-

 

(4,835)

 

-

  Finance Costs

 

-

 

(2,543,758)

 

-

 

(2,571,910)

  Interest expense

 

(95,841)

 

(55,848)

 

(235,628)

 

(106,155)

         Total Other Income (Expense)

 

133,164

 

(3,866,932)

 

4,874,250

 

(4,258,699)

 

 

 

 

 

 

 

 

 

NET INCOME (LOSS)

$

(667,546)

$

(4,749,332)

$

3,294,782

$

(5,676,436)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

BASIC INCOME (LOSS)

  PER SHARE

 

 

 

 

 

 

 

 

$

(0.01)

$

(0.04)

$

0.03

$

(0.05)


WEIGHTED AVERAGE

  BASIC SHARES OUTSTANDING

 

124,703,110

 

106,828,157

 

122,330,583

 

106,086,608


FULLY DILUTED INCOME (LOSS) PER SHARE

$

(0.01)



$

(0.04)



$

0.02



$

(0.05)


WEIGHTED AVERAGE FULLY

DILUTED SHARES OUTSTANDING

 

124,703,110

 

106,828,157

 

170,226,919

 

106,086,608


The accompanying notes are an integral part of these unaudited condensed consolidated financial statements




4




 

 

 

 

 

HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS

 

 

 

 

 

 

 

 

 

 

 

 

 For the Six

 

 For the Six

 

 

 Months Ended

 

 Months Ended

 

 

June 30, 2014

 

June 30, 2013

Cash Flows for Operating Activities:

 

 

 

 

  Net Income (Loss)

$

3,294,782

$

(5,676,436)

  Adjustments to reconcile net income (loss) to net cash used

    by operating activities:

 

 

 

 

 

 

 

 

      Stock and warrants issued for services rendered

 

13,984

 

250,640

      Warrants issued for Directors' Fees

 

29,683

 

13,385

      Finance costs paid in stock and warrants

 

-

 

612,969

      Amortization of deferred finance costs

 

4,835

 

-

      Deferred finance costs

 

-

 

1,907,234

      Amortization of bond discount

 

817,624

 

461,095

      Amortization of intangibles

 

-

 

6,234

      Depreciation expense

 

12,500

 

13,203

      Fair value adjustment of Derivative Liability

 

(5,957,121)

 

1,382,376

      (Decrease) in deferred rent

 

-

 

(19,110)

  Changes in assets and liabilities:

 

 

 

 

        (Increase) Decrease in prepaid expenses

 

34,603

 

(78,627)

        (Increase) Decrease in miscellaneous receivable

 

118,468

 

(118,468)

        Decrease in security deposits

 

845

 

122,917

        Increase (Decrease) in accounts payable

 

199,167

 

(136,139)

        (Decrease) in deferred revenue

 

-

 

(235,000)

        (Decrease) in customer deposits

 

-

 

(27,837)

        Increase  in accrued liabilities

 

207,529

 

113,383

              Net Cash Used by Operating Activities

 

(1,223,104)

 

(1,408,181)

 

 

 

 

 

Cash Flows from Investing Activities:

 

 

 

 

  Capital expenditures

 

-

 

-

              Net Cash Used by Investing Activities

 

-

 

-

 

 

 

 

 

Cash Flow from Financing Activities:

 

 

 

 

  Repayment of Loan Payable, related party

 

-

 

(362)

  Proceeds of Loan Payable, related party

 

25,510

 

31,000

  Proceeds from issuance of convertible debentures

 

-

 

1,500,000

  Proceeds from sale of common stock and exercise of warrants

 

735,500

 

85,000

              Net Cash Provided by Financing Activities

 

761,010

 

1,615,638

 

 

 

 

 

Increase (Decrease) in Cash

 

(462,093)

 

207,457

Cash at Beginning of Period

 

493,104

 

47,147

Cash at End of Period

$

31,011

$

254,604

 

 

 

 

 

Supplemental Disclosures of Cash Flow Information:

 

 

 

 

  Cash paid during the period for:

 

 

 

 

      Interest

$

-

$

-

      Income Taxes

$

-

$

-


The accompanying notes are an integral part of these unaudited condensed consolidated financial statements



5




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (cont’d)


Supplemental Disclosure of Non-Cash Investing and Financing Activities:


Six Months Ended June 30, 2014:


During the quarter ended March 31, 2014, holders of 1% and 11% Convertible Debentures converted $420,000 into 3,867,000 shares of the Company’s common stock. In addition, as part of an exercise of common stock warrants, a convertible debenture holder applied $22,000 of accrued interest to the purchase price of 300,000 shares of the Company’s common stock.


During the quarter ended June 30, 2014, holders of 1% Convertible Debentures converted $70,600 into 1,088,000 shares of the Company’s common stock.


During the quarter ended June 30, 2014, the Company issued 416,667 shares of the Company’s common stock in connection with a stock purchase consummated in December 2013.


Six Months Ended June 30, 2013:


During the quarter ended March 31, 2013, the Company issued 21,111 shares of its common stock in return for a cashless exercise of 35,000 common stock warrants.


During the quarter ended March 31, 2013, the Company issued convertible debentures totaling $500,000 and recorded $377,088 in discounts on debentures.


During the quarter ended March 31, 2013, $15,000 in Loans Payable – Related Party was transferred to Loans Payable – Other (HEP Investments, LLC) pursuant to a Participation Agreement entered into by the two parties on March 18, 2013 (See Note 5 – Convertible Debt).


During the quarter ended June 30, 2013, the Company issued 682,000 shares of its common stock in return for cashless exercises of 1,400,000 common stock warrants.


During the quarter ended June 30, 2013, the Company issued convertible debentures totaling $1,000,000 and recorded $1,000,000 in discounts on debentures.


During the quarter ended June 30, 2013, the Company reclassified $277,064 of Obligation to Issue Common Stock to Accrued Liabilities.


During the quarter ended June 30, 2013, the Company reclassified issued 600,000 shares of its common stock valued at $72,000 as consideration for payment of Obligations to Issue Common Stock.




6




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 1 – BASIS OF PRESENTATION


The accompanying unaudited condensed consolidated financial statements include the accounts of Health Enhancement Products, Inc. and its wholly-owned subsidiaries (collectively, the “Company”).  All significant inter-company accounts and transactions have been eliminated in consolidation.  In the opinion of the Company’s management, the financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the information set forth therein.  These consolidated financial statements are condensed, and therefore do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.  These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s  December 31, 2013 consolidated audited financial statements and supplementary data included in the Annual Report on Form 10-K filed with the SEC on March 31, 2014.


The results of operations for the six months ended June 30, 2014 are not necessarily indicative of the results to be expected for the fiscal year ending December 31, 2014, or any other period.


The Company had a loss from operations of $1,579,468 and $1,417,737 for the six months ended June 30, 2014 and 2013, respectively.  In addition, the Company had a working capital deficiency of $5,843,752 and a stockholders’ deficit of $5,007,312 at June 30, 2014.  These factors continue to raise substantial doubt about the Company's ability to continue as a going concern.  During the first six months of 2014, the Company raised $735,500 in net proceeds from the issuance of common stock and the exercise of warrants into common stock and $25,510 from a loan payable to a related party.  There can be no assurance that the Company will be able to raise additional capital.


The accompanying condensed consolidated financial statements do not include any adjustments related to the recoverability or classification of asset-carrying amounts or the amounts and classifications of liabilities that may result should the Company be unable to continue as a going concern.


NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES


Principles of Consolidation


The consolidated financial statements include the accounts of Health Enhancement Products, Inc. and its wholly-owned Subsidiaries, Health Enhancement Corporation, HEPI Pharmaceuticals, Inc., WellMetris, LLC, and Zivo Biologic, Inc. All significant intercompany transactions and accounts have been eliminated in consolidation.


Accounting Estimates


The Company’s consolidated financial statements have been prepared in conformity with generally accepted accounting principles in the United States of America, which require management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities, at the date of the financial statements and reported amount of revenues and expenses during the reporting period.  Actual results could differ from those estimates.  Management uses its best judgment in valuing these estimates and may, as warranted, solicit external professional advice and other assumptions believed to be reasonable.   


Cash and Cash Equivalents


For the purpose of the statements of cash flows, cash equivalents include time deposits, certificates of deposit and all highly liquid debt instruments with original maturities of three months or less. Cash equivalents consist of highly liquid investments with an original maturity of three months or less when purchased. At June 30, 2014, the Company did not have any cash equivalents.




7




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – (continued)


Property and Equipment


Property and equipment consists of furniture, office equipment, and leasehold improvements, and are carried at cost less allowances for depreciation and amortization. Depreciation and amortization is determined by using the straight-line method over the estimated useful lives of the related assets.  Repair and maintenance costs that do not improve service potential or extend the economic life of an existing fixed asset are expended as incurred.   


Fair Value Measurements


The authoritative guidance for fair value measurements defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or the most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact, and (iv) willing to transact. The guidance describes a fair value hierarchy based on the levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value which are the following:


Level 1 – Quoted prices in active markets for identical assets or liabilities.


Level 2 – Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or corroborated by observable market data or substantially the full term of the assets or liabilities.


Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the value of the assets or liabilities.


The Company’s financial instruments include cash and cash equivalents, prepaid expenses, accounts payable, accrued expenses and loans payable - related party.  All of these items were determined to be Level 1 fair value measurements.


The carrying amounts of cash and equivalents, prepaid expenses, accounts payable, accrued expenses and loans payable - related party all approximate fair value because of the short maturity of these instruments.


The Company considers derivative liabilities to be a Level 3 fair value measurement.


Deferred Financing Costs


The Company follows authoritative guidance for accounting for financing costs as it relates to convertible debt issuance cost.  These costs are deferred and amortized over the term of the debt period or until redemption of the convertible debentures.  Amortization of deferred financing costs amounted to $4,835 and $-0- for the six months ended June 30, 2014 and 2013, respectively.


Impairment of Long-Lived Assets


We review our long-lived assets for impairment whenever events and circumstances indicate that the carrying value of an asset might not be recoverable.  An impairment loss, measured as the amount by which the carrying value exceeds the fair value, is recognized if the carrying amount exceeds estimated undiscounted future cash flows.


The Company believes its current assumptions and estimates are reasonable and appropriate; however, unanticipated events and changes in market conditions could affect such estimates, resulting in the need for an impairment charge in future periods   During the six months ended June 30, 2013, the Company decided that the remainder of the cost of the patents related to its former product ProAlgaZyme should be written off in the amount of $6,234. The decision was based on the lack of revenue generated by this product over the course of the prior year or for the foreseeable future.



8




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – (continued)


Revenue Recognition


For revenue from product sales, the Company recognizes revenue in accordance with Staff Accounting Bulletin No. 104, “Revenue Recognition” (“SAB No. 104”), which superseded Staff Accounting Bulletin No. 101, “Revenue Recognition in Financial Statements” (“SAB No. 101”). SAB No. 104 requires that four basic criteria must be met before revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred; (3) the selling price is fixed and determinable; and (4) collectability is reasonably assured. Determination of criteria (3) and (4) are based on management’s judgment regarding the fixed nature of the selling prices of the products delivered and the collectability of those amounts. Provisions for discounts and rebates to customers, estimated returns and allowances, and other adjustments are provided for in the same period the related sales are recorded


Shipping and Handling Costs


Shipping and handling costs are expensed as incurred. For the six months ended June 30, 2014 and 2013, no shipping and handling costs were incurred.


Research and Development


Research and development costs are expensed as incurred. The Company accounts for research and development expenses under two main categories.

·  Research Expenses, consisting of salaries and equipment and related expenses incurred for product research studies conducted primarily within the Company and by Company personnel. Research expenses were approximately $0 and $66,000 for the six months ended June 30, 2014 and 2013, respectively;

·  Clinical Studies Expenses, consisting of fees, charges, and related expenses incurred in the conduct of clinical studies conducted with Company products by independent external entities. External clinical studies expenses were approximately $797,000 and $374,000 for the six months ended June 30, 2014 and 2013, respectively.


Stock Based Compensation


We account for stock-based compensation in accordance with FASB ASC 718, Compensation – Stock Compensation.  Under the provisions of FASB ASC 718, stock-based compensation cost is estimated at the grant date based on the award’s fair value and is recognized as expense over the requisite service period.  The Company generally issues grants to its employees, consultants and board members.  At the date of grant, the Company determines the fair value of the stock option award and recognizes compensation expense over the requisite service period.  The fair value of the stock option or warrant award is calculated using the Black Scholes option pricing model.


During the six months ended June 30, 2014 and 2013, as a result of the vesting of warrants to directors and the issuances of warrants to certain employees, directors and consultants, the Company recorded stock based compensation expense of $43,667 and $264,024 for these periods, respectively.

 

The fair value of warrants was estimated on the date of grant using the Black-Scholes option-pricing model based on the following weighted average assumptions:


 

 

 

 

 

Six Months Ended June 30,

 

2014

 

2013

Expected volatility

121.23% to 138.05%

 

114.68% to 194.14%

Expected dividends

0%

 

0%

Expected term

3 – 5 years

 

3 - 5 years

Risk free rate

.41% to .47%

 

.25%





9




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – (continued)


Stock Based Compensation – (continued)


The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option-pricing models require the input of highly subjective assumptions, including the expected stock price volatility. Because the Company’s employee warrants have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion the existing models may not necessarily provide a reliable single measure of the fair value of its employee options.


 Income (Loss) Per Share


Basic income (loss) per share is computed by dividing the Company’s net income (loss) by the weighted average number of common shares outstanding during the period presented. Diluted income (loss) per share is based on the treasury stock method and includes the effect from potential issuance of common stock such as shares issuable pursuant to the exercise of warrants and conversions of debentures.  Potentially dilutive securities as of June 30, 2014, consisted of 35,958,735 common shares from convertible debentures and related accrued interest and 12,117,873 common shares from outstanding warrants. Potentially dilutive securities as of June 30, 2013, consisted of 31,198,000 common shares from convertible debentures and related accrued interest and 14,828,876 common shares from outstanding warrants.   For the six months ended June 30, 2013 diluted and basic weighted average shares were the same, as potentially dilutive shares are anti-dilutive.


Advertising / Public Relations Costs


Advertising/Public Relations costs are charged to operations when incurred. These expenses were $22,688 and $12,341 for the six months ended June 30, 2014 and 2013, respectively.


Concentrations of Credit Risk


Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents.  The Company maintains cash balances at financial institutions which exceed the current Federal Deposit Insurance Corporation (“FDIC”) limit of $250,000 at times during the year.  


Reclassifications


Certain items in these consolidated financial statements have been reclassified to conform to the current period presentation.




10




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 3 - PROPERTY AND EQUIPMENT


Property and equipment at June 30, 2014 and December 31, 2013 consist of the following:


 

 

 

 

 

 

 

June 30, 2014

 

December 31, 2013

 

 

(Unaudited)

 

 

Furniture and fixtures

$

20,000

  $

                       20,000

Equipment

 

                        80,000

 

80,000

 

 

 

 

 

 

 

100,000

 

100,000

Less accumulated depreciation and amortization

 

 (18,750)

 

(6,250)

 

 

 

 

 

 

$

                        81,250

$

                       93,750


Depreciation and amortization was $12,500 and $13,385 for the six months ended June 30, 2014 and 2013 respectively.


NOTE 4 - DEFINITE-LIFE INTANGIBLE ASSETS


The Company’s definite-life intangible assets are amortized, upon being placed in service, over the estimated useful lives of the assets, with no residual value. Amortization expense for the six months ended June 30, 2014 and 2013 were $- 0 - and $- 0 -, respectively.   As of June 30, 2013, the Company’s management decided to take an impairment charge of $6,234 representing the unamortized basis of the patents related to the creation and production of its product, ProAlgaZyme which is no longer producing revenue. The write off of the impairment loss has been included in General and Administrative Expenses on the Statement of Operations for the six months ended June 30, 2013.  


NOTE 5 – CONVERTIBLE DEBT


HEP Investments, LLC


The Company and HEP Investments, LLC, a Michigan limited liability company (“Lender”), entered into the following documents, effective as of December 1, 2011, as amended through April 15, 2014: (i) a Loan Agreement under which the Lender has agreed to advance up to $4,050,000 to the Company, subject to certain conditions, (ii) a Convertible Secured Promissory Note in the principal amount of $4,050,000 (“Note”) and (iii) a Security Agreement, under which the Company granted the Lender a security interest in all of its assets and (iv) an IP security agreement under which the Company and its subsidiaries granted the Lender a security interest in all their respective intellectual properties, including patents, in each case order to secure their respective obligations to the Lender under the Note and related documents.  In addition, the Company’s subsidiaries have guaranteed the Company’s obligations under the Note.  The Company has also made certain agreements with the Lender which shall remain in effect as long as any amount is outstanding under the Loan.  These agreements include an agreement not to make any change in the Company’s senior management, without the prior written consent of the Lender. Two representatives of the Lender will have the right to attend Board of Director meetings as non-voting observers.


Amounts advanced under the Note(i) are convertible into the Company’s restricted common stock according to the following schedule: (A) $2,707,592 at the lesser of $.12 per share or a 25% discount off of the ten day trailing quoted price of the common stock in the over the counter (OTC) market, (B) $592,408 at the lesser of $.22 per share or a 25% discount off of the ten day trailing quoted price of the common stock in the over the counter (OTC) market, and (C) $750,000 at the lesser of $.30 per share or a 25% discount off of the ten day trailing quoted price of the common stock in the over the counter (OTC) market, (ii) bear interest at the rate of 11% per annum and (iii) must be repaid as follows:  accrued interest must be paid on the first and second anniversary of the Note and unpaid principal not previously converted into common stock must be repaid on the second anniversary of the Note, with the provision that the first Note of $500,000 due on December 1, 2013 was initially extended to June 1, 2014.  As of June 30, 2014, a total of $1,000,000 in $.12 convertible debt has become due.  In July 2014, the Lender agreed to rolling 30 day extensions until notice is given to the Company to the contrary.  The Lender has not converted any of the debt through the date of this report.  The Note may be prepaid upon sixty days written notice, provided that the Company shall be required to pay a prepayment premium equal to 5% of the amount repaid.  The Company determined that the modification of these Notes was not a substantial modification in accordance with ASC 470-50, “Modifications and Extinguishments.”



11




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 5 – CONVERTIBLE DEBT – (continued)


The Venture Group, LLC


On January 27, 2012, the Company and The Venture Group, LLC, a Maryland limited liability company (“Venture Group”), entered into the following agreements, effective as of January 26, 2012: (i) a Subscription Agreement under which the Lender has agreed to advance $500,000, (ii) a Subordinated Convertible Promissory Note in the principal amount of $500,000 (“Note”); and (iii) (a) a Security Agreement, under which the Company granted the Lender a subordinated security interest in all of its assets and (b) an IP security agreement under which the Company granted the Lender a subordinated security interest in all its intellectual properties, including patents, to secure its obligations to the Lender under the Note and related documents.   Amounts advanced under the Note are (i) secured on a subordinated basis by all the Company’s assets, (ii) convertible into the Company’s restricted common stock at $.12 per share, (iii) bear interest at the rate of 11% per annum (payable on the first and second anniversary of the Note (unless earlier paid off), in cash or stock, at the Company’s option), and (iv) unpaid principal not previously converted into common stock must be repaid on the second anniversary of the Note (January 27, 2014).


On October 30, 2013, the Venture Group converted $150,000 of the $500,000 convertible debenture into 1,250,000 shares of the Company’s common stock.  


On February 18, 2014, Venture Group converted the remaining $350,000 of the convertible debenture into 2,917,000 shares of the Company’s common stock.


Other Debt


On February 7, 2014, the holders of $70,000 of 1% convertible debentures converted their debentures into 950,000 shares of the Company’s common stock.  On April 27, 2014, the holders of $70,600 of 1% convertible debentures converted their debentures into 1,088,000 shares of the Company’s common stock.  


During the six months ended June 30, 2014, the Company and the Note Holder and significant shareholder of the Company extended the remaining notes due for an additional six months.  The Company determined that the modification of these Notes was not a substantial modification in accordance with ASC 470-50, “Modifications and Extinguishments.”


 

 

 

 

 

Convertible debt consists of the following:

 

 

 

 

 

 

June 30, 2014

 

December 31, 2013

 

 

(Unaudited)

 

 

1% Convertible notes payable, net of unamortized discount of $95 and $5,546 respectively, due at various dates ranging from September 2014 to May 2015

$

                      239,905

$

                     375,054

 

 

 

 

 

11% Convertible note payable - HEP Investments, LLC, a related party, net of unamortized discount of $1,452,751  and $2,235,217, respectively, due at various dates ranging from July 2014 to December 2015

 

2,597,249

 

1,814,783

 

 

 

 

 

11% Convertible note payable - Venture Group, net of unamortized discount of $29,707

 

-

 

320,293

 

 

2,837,154

 

2,510,130

Less:  Current portion

 

2,201,064

 

1,619,319

 

 

 

 

 

            Long term portion

$

                          636,090

$

                   890,811


Amortization of the debt discount on the remaining notes was $817,624 and $461,095 for the six months ended June 30, 2014 and 2013, respectively.



12




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 6 - DERIVATIVE LIABILITY


In connection with the funding agreement signed December 1, 2011 with HEP Investments, LLC, the Company recorded a derivative liability of $552,988.  This represents the future value of the stock to be issued under the terms of the convertible debt.  This derivative liability was valued utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.17, expected volatility of 151.45% over the two year contractual life of the note, an annual rate of dividends 0% and a risk free interest rate of .27%.  In addition, the Company has recognized other income of $24,422 representing the change in fair value of this derivative liability as of December 31, 2011.  The derivative liability was marked to fair value at December 31, 2011 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.25, a volatility of 151.49% over the remaining 1.92 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .25%.


On April 4, 2012, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $496,375 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.29, an expected volatility of 143.36% over the remaining 1.66 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .25%.


On May 8, 2012, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $507,916 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.29, an expected volatility of 140.93% over the remaining 1.57 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .25%.


On December 31, 2012, the Company valued the derivative liability at $1,026,128 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.19, an expected volatility of 151.75% over the remaining 0.92 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .26%. The fair value of the derivative decreased by $506,729 which has been recorded in the statement of operations for the year ended December 31, 2012.


On March 18, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $377,088 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.22, an expected volatility of 160.96% over the remaining 0.71 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .25%.

 

On April 10, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $616,040 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.35, an expected volatility of 151.37% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .24%.

 

On April 16, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $518,756 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.30, an expected volatility of 151.72% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .24%.

 

On April 29, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $856,410 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.47, an expected volatility of 153.70% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .20%.


On May 7, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $916,028 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.50 an expected volatility of 153.46% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .22%.



13




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 6 - DERIVATIVE LIABILITY – (continued)


On July 15, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $504,699 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.32 an expected volatility of 146.56% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .34%.

 

On July 25, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $418,790 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.46 an expected volatility of 147.03% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .32%.

 

On September 30, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $479,502 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.45 an expected volatility of 139.26% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .33%.

 

On October 28, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $214,525 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.37 an expected volatility of 134.91% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .33%.

 

On December 18, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $185,438 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.33 an expected volatility of 134.11% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .34%.

 

On December 30, 2013, in connection with the HEP Investments agreement, as a result of reaching certain funding thresholds which entitled HEP Investments to additional shares of common stock, the Company was required to record an additional derivative liability of $248,701 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.42 an expected volatility of 133.07% over the remaining 2.00 year contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .39%.

 

On December 31, 2013, the Company valued the derivative liability at $8,036,239 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.39, an expected volatility of 133.09% over the remaining contractual lives of the note ranging from 0.90-1.93 years, an annual rate of dividends of 0%, and a risk free rate of .38%. The fair value of the derivative increased by $1,674,135 which has been recorded in the statement of operations for the twelve months ended December 31, 2013.


On March 31, 2014, the Company valued the derivative liability at $2,671,529 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.17, an expected volatility of 145.45% over the remaining 1.27 years contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .44%. The fair value of the derivative decreased by $6,135,458 which has been recorded in the statement of operations for the three months ended March 31, 2014.


On June 30, 2014, the Company valued the derivative liability at $2,079,118 utilizing the Black-Scholes method of valuation using the following assumptions:  closing stock price of $.16, an expected volatility of 135.6% over the remaining 1.04 years contractual life of the note, an annual rate of dividends of 0%, and a risk free rate of .47%. The fair value of the derivative decreased by $5,957,121 which has been recorded in the statement of operations for the six months ended June 30, 2014.



14




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 7 - FAIR VALUE


In accordance with FASB ASC 820, “Fair Value Measurements and Disclosures”, the following table represents the Company’s fair value hierarchy for its financial assets and liabilities measured at fair value on a recurring basis as of June 30, 2014 and December 31, 2013:


 

 

 

 

 

 

 

 

Level 3

 

 

Total

June 30, 2014

 

 

 

 

 

 Derivative Instruments

 $

2,079,118

 

 $

2,079,118

December 31, 2013

 

 

 

 

 

 Derivative Instruments

 $

8,036,239

 

 $

8,036,239


Level 3 financial instruments consist of certain embedded conversion features.  The fair value of these imbedded conversion features are estimated using the Black-Scholes valuation model.  The Company adopted the disclosure requirements of ASU 2011-04, “Fair Value Measurements” during the quarter ended March 31, 2012.


The following table summarizes the changes in fair value of the Company’s Level 3 financial instruments for the six months ended June 30, 2014 and the year ended December 31, 2013.


 

 

 

 

 

 

 

 

June 30, 2014

 

 

December 31, 2013

 

 

 

 

 Beginning Balance

$

8,036,239

 

$

1,026,128

Initial recognition - Derivative liability of embedded conversion  feature of the Convertible Notes

 

 

 

 

 

 

-

 

 

5,335,976

 Change in fair value

 

(5,957,121)

 

 

1,674,135

 Ending Balance

$

2,079,118

 

$

8,036,239


Changes in the unobservable input values would likely cause material changes in the fair value of the Company’s Level 3 financial instruments.  The significant unobservable input used in the fair value measurement is the estimation of the likelihood of the occurrence of a change to the conversion price based on the contractual terms of the financial instruments.  A significant increase (decrease) in this likelihood would result in a higher (lower) fair value measurement.


NOTE 8 - STOCKHOLDERS’ DEFICIT


Board of Directors fees

 

As compensation for serving as a member of the board of directors, the Company granted warrants to purchase 50,000 shares of common stock to Philip M. Rice (CFO and a Director) in January, 2013, at an exercise price of $.12 per share.  The warrants have a term of three years and vested or will vest as follows: 12,500 vested on the grant date and the remaining 37,500 shall vest quarterly (12,500 per quarter).  The warrants were valued at $10,381 using the Black Scholes pricing model relying on the following assumptions: volatility 131.97%; annual rate of dividends 0%; discount rate 0.27%.  In addition, Mr. Rice will receive $10,000 for each annual term served, paid quarterly.


As compensation for serving as a member of the board of directors, the Company granted warrants to purchase 50,000 shares of common stock to Thomas K. Cox in June, 2013, at an exercise price of $.40 per share.  The warrants have a term of three years and vested or will vest as follows: 12,500 vested on the grant date and the remaining 37,500 shall vest quarterly (12,500 per quarter).  The warrants were valued at $15,873 using the Black Scholes pricing model relying on the following assumptions: volatility 145.67%; annual rate of dividends 0%; discount rate 0.25%.  In addition, Mr. Cox will receive $10,000 for each annual term served, paid quarterly.


As compensation for serving as a member of the board of directors, the Company granted warrants to purchase 50,000 shares of common stock to John B. Payne in July, 2013, at an exercise price of $.38 per share.  The warrants have a term of three years and vested or will vest as follows: 12,500 vested on the grant date and the remaining 37,500 shall vest quarterly (12,500 per quarter).  The warrants were valued at $17,187 using the Black Scholes pricing model relying on the following assumptions: volatility 143.37%; annual rate of dividends 0%; discount rate 0.25%.  In addition, Mr. Payne will receive $10,000 for each annual term served, paid quarterly.



15




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 8 - STOCKHOLDERS’ DEFICIT


Board of Directors fees – (continued)


As compensation for serving as a member of the board of directors, the Company granted warrants to purchase 50,000 shares of common stock to John Gorman in November, 2013, at an exercise price of $.36 per share.  The warrants have a term of three years and vested or will vest as follows: 12,500 vested on the grant date and the remaining 37,500 shall vest quarterly (12,500 per quarter).  The warrants were valued at $14,053 using the Black Scholes pricing model relying on the following assumptions: volatility 141.53%; annual rate of dividends 0%; discount rate 0.33%.  In addition, Mr. Gorman will receive $10,000 for each annual term served, paid quarterly.


As compensation for serving as a member of the board of directors, the Company granted warrants to purchase 50,000 shares of common stock to Philip M. Rice (CFO and a Director) in January, 2014, at an exercise price of $.38 per share.  The warrants have a term of three years and vested or will vest as follows: 12,500 vested on the grant date and the remaining 37,500 shall vest quarterly (12,500 per quarter).  The warrants were valued at $13,460 using the Black Scholes pricing model relying on the following assumptions: volatility 121.33%; annual rate of dividends 0%; discount rate 0.44%.  In addition, Mr. Rice will receive $10,000 for each annual term served, paid quarterly.


As compensation for serving as a member of the board of directors, the Company granted warrants to purchase 50,000 shares of common stock to Thomas K. Cox in June, 2014, at an exercise price of $.19 per share.  The warrants have a term of three years and vested or will vest as follows: 12,500 vested on the grant date and the remaining 37,500 shall vest quarterly (12,500 per quarter).  The warrants were valued at $7,311 using the Black Scholes pricing model relying on the following assumptions: volatility 138.05%; annual rate of dividends 0%; discount rate 0.41%.  In addition, Mr. Cox will receive $10,000 for each annual term served, paid quarterly.


The company recorded Directors Fees of $29,683 during the six months ended June 30, 2014, representing the fees expensed and the value of the vested warrants described above.


Stock Issuances


During the six months ended June 30, 2014, the Company received proceeds of $502,500 from the issuance of 3,433,334 shares of common stock and 1,308,333 common stock warrants and $233,000 from the exercise of 2,040,000 common stock warrants.  The Company also issued 4,955,000 shares of common stock upon conversion of $490,600 of 1% and 11% convertible debentures during the six months ended June 30, 2014.  The Company issued 416,667 shares of common stock to a non-related party shareholder relating to a stock purchase in December 2013.


Executive Compensation

 

As compensation for serving as Chief Financial Officer, the Company, quarterly, will issue warrants to purchase 50,000 shares of common stock to Philip M. Rice at the prevailing market price with a term of 5 years, provided that the preceding quarterly and annual filings were submitted in a timely and complaint manner, at which time such warrants would vest.  On March 31, 2014 the Company issued warrants to purchase 50,000 shares of common stock at $.17.  The warrants were valued at $13,460 using the Black Scholes pricing model relying on the following assumptions: volatility 128.35%; annual rate of dividends 0%; discount rate 0.44%.  On May 14, 2014, the Company issued warrants to purchase 50,000 shares of common stock at $.19.  The warrants were valued at $6,756 using the Black Scholes pricing model relying on the following assumptions: volatility 121.96%; annual rate of dividends 0%; discount rate 0.47%.



16




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 8 - STOCKHOLDERS’ DEFICIT – (continued)


Stock Issuances – (continued)


A summary of the status of the Company’s warrants is presented below.


 

 

 

 

 

 

June 30, 2014

December 31, 2013

 

Number of

Weighted Average

Number of

Weighted Average

 

Warrants

Exercise Price

Warrants

Exercise Price

 

 

 

 

 

Outstanding, beginning of year

16,900,539

                $       0.17

16,365,209

$         0.17

Issued

1,508,333

                     0.17

4,820,330

0.18

Exercised

(1,940,000)

                     0.13

(2,785,000)

0.16

Cancelled

(100,000)

                     0.30

-

-

Expired

(4,251,000)

                     0.22

(1,500,000)

0.32

 

 

 

 

 

Outstanding, end of period

12,117,873

               $       0.15

16,900,539

                $      0.17


Warrants outstanding and exercisable by price range as of June 30, 2014 were as follows:


 

 

 

 

 

 

 

Outstanding Warrants

Exercisable Warrants

 

 


Average

 

 

 

 

 

Weighted

 

 

 

 

 

Remaining

 

 

Weighted

 

 

Contractual

Exercise

 

Average

Range of

Number

Life in Years

Price

Number

Exercise Price

 

 

 

 

 

 

$  0.12

3,439,439

1.32

$  0.12

3,439,439

$  0.12

   0.125

4,036,097

0.88

0.125

4,036,097

      0.125

   0.15

2,358,333

1.69

0.15

2,358,333

    0.15

   0.17

50,000

4.75

0.17

50,000

   0.17

   0.19

100,000

3.91

0.19

72,500

   0.19

   0.20

250,000

2.84

0.20

250,000

   0.20

 0.22

477,004

2.12

0.22

477,004

   0.22

 0.25

707,000

4.02

0.25

707,000

0.25

  0.30

250,000

4.02

0.30

250,000

0.30

  0.33

250,000

4.01

0.33

250,000

0.33

  0.36

50,000

1.34

0.36

37,500

0.36

  0.38

100,000

2.29

0.38

75,000

0.38

  0.40

50,000

2.44

0.40

50,000

0.40

 

 

 

 

 

 

 

12,117,873

1.99

 

12,045,373

$ 0.15




17




HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 9- OTHER INCOME (EXPENSE)


On June 12, 2013, the Company entered into a Settlement Agreement and Mutual Release of all Claims (the “Settlement Agreement”) with Ceptazyme, LLC (“Ceptazyme”) and Zus Health, LLC (“Zus Health”) resolving claims the parties brought against one another in connection with a license agreement between the Company and Zus Health dated September 2, 2010 (the “License Agreement”).  Under the terms of the Settlement Agreement, the parties agreed to terminate the License Agreement and that no party would have any further obligations thereunder.  No monetary consideration was exchanged in connection with the Settlement Agreement.  As a result of this settlement, the deferred revenue of $235,000 and customer deposits of $27,837 were recognized as other income.


On July 15, 2014, the Company settled a dispute with one of its vendors.  The settlement agreement calls for the Company to make 10 payments of $6,250.  If the payments are not made timely, a total liability of $97,463 out of the gross amount recorded on the Company’s books of $191,146 will be due.  As a result of this settlement, the difference of $93,683 is recognized as other income for the period ending June 30, 2014 (See Note 11).


On May 1, 2013, the Company, through its legal counsel, sent a notice to the landlord at 7740 E. Evans, Scottsdale, AZ that it expected a timely return of the $118,466 security deposit.  On June 14, 2013, the landlord filed a Complaint in the State Court of Arizona that the Company owed the landlord in excess of $210,000 in damages in addition to the $118,466 security deposit related to the property at 7740 E. Evans, Scottsdale, AZ. The security deposit has been classified as a Miscellaneous Receivable since the second quarter of 2013.  On July 24, 2014, the Company settled the outstanding complaints and the $118,466 Miscellaneous Receivable was written off as other expense for the period ending June 30, 2014 (See Note 11).


NOTE 10- COMMITMENTS AND CONTINGENCIES


Employment Agreement


The Company’s Chief Executive Officer, Andrew Dahl, is serving under the terms of an employment agreement dated, December 16, 2011. Under the agreement Mr. Dahl serves as CEO for one year terms, subject to automatic renewal, unless either party terminates the Agreement on sixty days’’ notice prior to the expiration of the term of the agreement.  Mr. Dahl will be compensated as follows:  he will receive an annual base salary of $240,000.  In addition, Mr. Dahl is entitled to monthly bonus compensation equal to 2% of the Company’s revenue, but only to the extent that such bonus amount exceeds his base salary for the month in question.  In addition, Mr. Dahl will be entitled to warrants having an exercise price of $.25 per share, upon the attainment of specified milestones as follows: 1) Warrants for 500,000 shares upon identification of bio-active agents in the Company’s product and filing of a patent with respect thereto, 2) Warrants for 500,000 shares upon entering into a business contract under which the Company receives at least $500,000 in cash payments, 3) Warrants for 1,000,000 shares upon the Company entering into a co-development agreement with a research company to develop  medicinal or pharmaceutical applications (where the partner provides at least $2 million in cash or in-kind outlays), 4) Warrants for 1,000,000 shares upon the Company entering into a co-development agreement for nutraceutical or dietary supplement applications (where the partner provides at least $2 million in cash or in-kind outlays), 5) Warrants for 1,000,000 shares upon the Company entering into a pharmaceutical development agreement.  As of June 30, 2014, none of the milestones referred to had been achieved and there has been no notice of contract termination.



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HEALTH ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NOTE 11 - SUBSEQUENT EVENTS


Board of Directors


On July 19, 2014 the Board of Directors reappointed John B. Payne as a director for a 1 year term.  Mr. Payne received warrants to purchase 50,000 shares of common stock at an exercise price of $.14 per share for a term of three years, vested at 12,500 per quarter.  The terms of the appointment also includes a cash payment of $10,000, paid quarterly.  


HEP Investments


On July 13, 2014, the Company and HEP Investments, LLC, a Michigan limited liability company (“Lender”), entered into the following documents, effective as of July 1, 2014: (i) Third Amendment to Loan Agreement under which the Lender has agreed to advance up to a total of $6,000,000 to the Company, subject to certain conditions, and (ii) a Fourth Amended and Restated Senior Secured Convertible Promissory Note.  These agreements amend agreements the Company entered into with HEP Investments as previously disclosed.


During the period from July 1, 2014 through August 9, 2014, the Lender has funded an additional $1,035,000 for a current total outstanding debt of $5,085,000.


Change in control agreements


In August 2014, the Board of Directors approved a Change in Control Agreement (the “Agreement”) which the Company entered into on August 11, 2014 with both of its executive officers. The Agreement with each of the executive officers provides that if a Change of Control (as defined in the Agreement) occurs and the participant is not offered substantially equivalent employment with the successor corporation or the participant’s employment is terminated without Cause (as defined in the Agreement) during the three month period prior to the Change of Control or the 24 month period following the Change of Control, then 100% of such participant’s unvested options will be fully vested and the restrictions on his restricted shares will lapse.  The Agreement also provides for severance payments of 500% of base salary and target bonus in such event.  The Agreement terminates on December 31, 2014 (with two 6 month extensions), with the provision that if a Change of Control occurs prior to the termination date, the obligations of the Agreement will remain in effect until they are satisfied or have expired.


The foregoing description of the Agreement is qualified in its entirety by reference to the copies of the Agreement, a form of which is attached hereto as Exhibit 10.30 and which are incorporated by reference herein.


Miscellaneous Receivable


On August 1, 2014, the Company and its former landlord agreed to dismiss a lawsuit with prejudice regarding the security deposit on premises formerly occupied by the Company. The stipulations were that both party dropped their respective lawsuits and that each would pay their own attorney’s fees. Accordingly, the Company wrote off the receivable and recorded other expense of $118,467 in the quarter ended June 30, 2014 (see Note 9).


Cancellation of Payable


On July 15, 2014, the Company came to an agreement with a vendor whereby the vendor agreed to reduce a payable by $93,683. Accordingly, the Company has reduced Accounts Payable and recorded Other Income of $93,683 in the quarter ended June 30, 2014 (see Note 9).








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


Results of Operations for the three months ended June 30, 2014 and 2013.


Net Sales.  


We had no sales during the three months ended June 30, 2014 and 2013.  We implemented a new business model starting in 2012, and expect to derive future income from the licensing and sale of natural bioactive ingredients derived from algae cultures to much larger, better-financed animal, food, dietary supplement and medical food manufacturers.  The anticipated income streams are to be generated from a) royalties and advances for licensed natural bioactive ingredients, and b) bulk sales of such ingredients. These bulk ingredients will be made by contracted ingredient manufacturers and then sold by us to food, dietary supplement and medical food processors and/or name-brand marketers.  Because we are engaged in a collaboration agreement with Zoetis to determine the market validity of our candidate products in addressing bovine mastitis, we expect that at the conclusion of our joint study period, the two parties will engage in discussions regarding options and licenses, whereupon revenues can be expected. We do not believe that these revenues will likely materialize in the last two quarters of 2014, as the option/collaboration agreement allows for up to six months for negotiations, which could carry over into 2015.


Further, our current canine joint health studies may likely culminate in another option/collaboration agreement with a larger animal health company, or we may elect to pursue a direct supply contract with an established canine dietary supplement maker/marketer. Should any revenue materialize in 2014 for this specific product category, it would consist of an option payment, license fee or marketing consideration.


With respect to our WellMetris, LLC subsidiary, potential revenue may be expected in the last quarter of 2014 should capital funding be secured to activate the manufacturing of analyzers and test cartridges to build inventory, as well as product launch expenses.


Cost of Sales.  


We had no cost of sales during the three months ended June 30, 2014 and 2013.


Research and Development Expenses.  


For the three months ended June 30, 2014, we incurred $405,790 in research and development expenses, as compared to $310,917 for the comparable period in 2013.  Of these expenses, $324,043 and $310,917 for the three months ended June 30, 2014 and 2013, respectively, are mainly comprised of costs associated with external research.  Our research and development costs will grow as we work to complete the research in the development of natural bioactive compounds for use as dietary supplements and food ingredients, as well as lead compounds for medicinal and pharmaceutical applications in humans and animals. The Company’s scientific efforts are focused on the metabolic aspects of oxidation and inflammation, with a parallel program to validate and license products for healthy immune response.


With respect to our WellMetris, LLC subsidiary, we incurred $81,747 in research and development expenses. There is no comparable period for 2013, as the new subsidiary was formed in August of 2013. However, the R&D effort which took place in the three months ended June 30, 2014 centered on optimizing dry chemistry and developing lower-cost alternatives for the proprietary analyzer device.


Selling and Marketing Expenses.


We had no selling and marketing expenses during the three months ended June 30, 2014 and 2013.


General and Administrative Expenses.


General and administrative expenses were $262,145 for the three months ended June 30, 2014, as compared to $472,003 for the comparable prior period.  The decrease in general and administrative expense during 2014 is due primarily to a warrant granted to the Chief Financial Officer in April 2013 for 557,000 shares of common stock whereby the Company recorded a compensation expense (non-cash) of $251,000.  The remaining increase in 2014 of $41,000 is due to increased business activity.



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Professional and Consulting Expenses.


Professional and consulting expenses were $132,775 for the three months ended June 30, 2014, as compared to $99,480 for the comparable prior period.  The increase in professional and consulting expense during 2014 is due to increased business activity and legal fees relating to a number of new patent applications for WellMetris.


Other Income (Expense)


For information relating to Other Income (Expense), please see Notes 9 and 11 of the Notes to Consolidated Financial Statements.


Results of Operations for the six months ended June 30, 2014 and 2013.


Net Sales.  


We had no sales during the six months ended June 30, 2014 and 2013.  We implemented a new business model starting in 2012, and expect to derive future income from the licensing and sale of natural bioactive ingredients derived from algae cultures to much larger, better-financed animal, food, dietary supplement and medical food manufacturers.  The anticipated income streams are to be generated from a) royalties and advances for licensed natural bioactive ingredients, and b) bulk sales of such ingredients. These bulk ingredients will be made by contracted ingredient manufacturers and then sold by us to food, dietary supplement and medical food processors and/or name-brand marketers.  Because we are engaged in a collaboration agreement with Zoetis to determine the market validity of our candidate products in addressing bovine mastitis, we expect that at the conclusion of our joint study period, the two parties will engage in discussions regarding options and licenses, whereupon revenues can be expected. We do not believe that these revenues will likely materialize in the last two quarters of 2014, as the option/collaboration agreement allows for up to six months for negotiations, which could carry over into 2015.


Further, our current canine joint health studies may culminate in another option/collaboration agreement with a larger animal health company, or we may elect to pursue a direct supply contract with an established canine dietary supplement maker/marketer. Should any revenue materialize in 2014 for this specific product category, it would consist of an option payment, license fee or marketing consideration.


With respect to our WellMetris, LLC subsidiary, potential revenue may be expected in the last quarter of 2014 should capital funding be secured to activate the manufacturing of analyzers and test cartridges to build inventory, as well as product launch expenses.


Cost of Sales.  


We had no cost of sales during the six months ended June 30, 2014 and 2013.


Research and Development Expenses.  


For the six months ended June 30, 2014, we incurred $796,811 in research and development expenses, as compared to $440,365 for the comparable period in 2013.  Of these expenses, $598,874 and $440,365 for the six months ended June 30, 2014 and 2013, respectively, are mainly comprised of costs associated with external research. Our research and development costs will grow as we work to complete the research in the development of natural bioactive compounds for use as dietary supplements and food ingredients, as well as biologics for medicinal and pharmaceutical applications in humans and animals. The Company’s scientific efforts are focused on the metabolic aspects of oxidation and inflammation, with a parallel program to validate and license products for healthy immune response.


With respect to our WellMetris, LLC subsidiary, we incurred $197,937 in research and development expenses for the first six months of 2014, there is no comparable period in 2013, as the new subsidiary was formed in August of 2013. The R&D effort to date centered on optimizing dry chemistry, developing lower-cost alternatives for the proprietary analyzer device, negotiating and collaborating with offshore manufacturers and assembling the FDA pre-submission package for product classification and approval.



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Selling and Marketing Expenses.


We had no selling and marketing expenses during the six months ended June 30, 2014 and 2013.


General and Administrative Expenses.


General and administrative expenses were $532,748 for the six months ended June 30, 2014, as compared to $736,416 for the comparable prior period.  The decrease in general and administrative expense during 2014 is due primarily to is due primarily to a warrant granted to the Chief Financial Officer in April 2013 for 557,000 shares of common stock whereby the Company recorded a compensation expense (non-cash) of $251,000.  The remaining increase in 2014 of $45,000 is due to increased business activity.


Professional and Consulting Expenses.


Professional and consulting expenses were $249,909 for the six months ended June 30, 2014, as compared to $240,956 for the comparable prior period.  The increase in professional and consulting expense during 2014 is due to increased business activity and legal fees relating to a number of new patent applications for WellMetris.


Other Income (Expense)


For information relating to Other Income (Expense), please see Notes 9 and 11 of the Notes to Consolidated Financial Statements.


Liquidity and Capital Resources


The unaudited condensed consolidated financial statements contained in this Quarterly Report 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.  We have a near term need for additional capital.  For the reasons discussed herein, there is a significant risk that we will be unable to continue as a going concern, in which case, you would suffer a total loss of your investment in our company.


As of August 8, 2014, we had a cash balance of approximately $435,000.  We have incurred significant net losses since inception, despite net income of $3,962,328 for the period ended June 30, 2014, which is a result of an adjustment to the fair value of a derivative liability of approximately $6,000,000. We have, since inception, consistently incurred negative cash flow from operations. During the period ended June 30, 2014, we incurred negative cash flows from operations of $1,223,104.  As of June 30, 2014, we had a working capital deficiency of $5,843,753 and a stockholders’ deficiency of $5,007,312. Although we recently raised a limited amount of capital, we have a near term need for additional capital.


During the six months ended June 30, 2014, our operating activities used $1,223,104 in cash, a decrease of $185,077 from the comparable prior period.  The approximate $185,000 decrease in cash used by operating activities was primarily attributable to the following (all of which are approximated): a $8,971,000 increase in net income, offset by $9,707,000 in non-cash expenses, $228,000 of changes (decrease) in prepaid expenses, miscellaneous receivables, security deposits and $692,000 of changes (increase) in accounts payable, accrued liabilities and the reduction of deferred revenue and customer deposits.  


Our financing activities generated $761,000, an $855,000 decrease from the comparable prior period. The decrease in cash provided by financing activities was due to a $1,500,000 reduction of proceeds from issuance of convertible debentures offset by an increase in proceeds of $651,000 from the sale of common stock and the exercise of common stock warrants.   


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


Although we raised a limited amount of capital during 2013 and the first six months of 2014, we continue to experience a shortage of capital, which is materially and adversely affecting our ability to run our business. As noted above, we have been largely dependent upon external sources for funding. We have in the past had great difficulty in raising capital from external sources.  We will still be reliant upon external financing for the continuation of our research program.  



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We estimate that we will require approximately $3 million in cash over the next 12 months in order to fund our normal operations and research and development activities and an additional $4.8 million in new capital to launch the WellMetris technology.  Based on this cash requirement, we have a near term need for substantial additional funding.  Historically, we have had great difficulty raising funds from external sources; however, we recently were able to raise capital from outside sources. If we are unable to raise the required funding, we will have to curtail our research and development and other activities, in which case, there could be a material adverse effect on our business.


Significant elements of income or loss not arising from our continuing operations


We do not expect to experience any significant elements of income or loss other than those arising from our continuing operations, other than those arising out of changes in the fair value of derivative liabilities.  For the six months ended June 30, 2014, we recognized $5,957,121 in income for financial statement purposes, due to the change in fair value of derivative liabilities as of June 30, 2014.  We may incur income or expense in future periods arising out of changes in the fair value of derivative liabilities.  


Seasonality


Anticipated income streams are to be generated from the following:


· For HEPI:


a) royalties and advances for licensed natural bioactive ingredients, isolated natural compounds and synthetic variants thereof, and b) bulk sales of such ingredients;


· For WellMetris:


The selling of wellness tests and data services related to medical records management and analysis/compilation of data gathered on behalf of payers


We do not anticipate that these will be affected by seasonality.


Staffing


We have conducted all of our activities since inception with a minimum level of qualified staff.  We currently do not expect a significant increase in staff.  


Off-Balance Sheet arrangements


We have no off-balance sheet arrangements that would create contingent or other forms of liability.


Item 4 Controls and Procedures


Management’s Report on Disclosure Controls and Procedures.


We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our Securities Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Financial Officer, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, we recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, as ours are designed to do, and we necessarily were required to apply our judgment in evaluating the cost-benefit relationship of possible changes or additions to our controls and procedures.


As of June 30, 2014, we carried out an evaluation, under the supervision and with the participation of our management, including our principal executive/principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934. Based upon that evaluation, our principal executive/principal financial officer concluded that our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, are effective in enabling us to record, process, summarize and report information required to be included in our periodic SEC filings within the required time period.



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Changes in Internal control Over Financial Reporting.


There have been no changes in our internal control over financial reporting that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


PART II – OTHER INFORMATION


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


During the six months ended June 30, 2014, the Company issued 5,473,334 shares of common stock for $757,500.


We believe that the foregoing transactions were exempt from the registration requirements under Rule 506 of Regulation D promulgated under the Securities Act of 1933, as amended (“the Act”) or Section 4(2) under the Act, based on the following facts: there was no general solicitation, there was a limited number of investors, each of whom was an “accredited investor” (within the meaning of Regulation D under the “1933 Act”, as amended) and was (either alone or with his/her purchaser representative) sophisticated about business and financial matters, each such investor had the opportunity to ask questions of our management and to review our filings with the Securities and Exchange Commission, and all shares issued were subject to restrictions on transfer, so as to take reasonable steps to assure that the purchasers were not underwriters within the meaning of Section 2(11) under the 1933 Act.


Item 5.  Other Information


Item 6. Exhibits


 

 

 

Exhibit Number

Description

 

10.28

Third Amendment to Loan Agreement with HEP Investments, LLC dated July 1, 2014

*

10.29

Fourth Amended and Restated Senior Secured Convertible Promissory Note with HEP Investments, LLC dated July 1, 2014

*

10.30

Form of Change of Control Agreement dated August 11, 2014

*

31.1

Certification of the Principal Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended

*

31.2

Certification of the Principal Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended

*

32.1

Certification of the Principal Executive Officer pursuant to U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

*

32.2

Certification of the Principal Financial Officer pursuant to U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

*


*Furnished herewith (all other exhibits are deemed filed)



SIGNATURES


Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.



HEALTH ENHANCEMENT PRODUCTS, INC.



Date: August 14, 2014


By:  /s/Andrew Dahl

Andrew Dahl

Chief Executive Officer



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List of Exhibits


 

 

 

Exhibit Number

Description

 

10.28

Third Amendment to Loan Agreement with HEP Investments, LLC dated July 1, 2014

*

10.29

Fourth Amended and Restated Senior Secured Convertible Promissory Note with HEP Investments, LLC dated July 1, 2014

*

10.30

Form of Change of Control Agreement dated August 11, 2014

*

31.1

Certification of the Principal Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended

*

31.2

Certification of the Principal Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended

*

32.1

Certification of the Principal Executive Officer pursuant to U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

*

32.2

Certification of the Principal Financial Officer pursuant to U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

*


*Furnished herewith (all other exhibits are deemed filed)



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