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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington D. C. 20549
FORM 10-Q
(X) Quarterly report pursuant to Section 13 or 15(d) of the Securities and
Exchange Act of 1934.
For the quarterly period ended December 31, 2004
( ) Transition report pursuant to Section 13 or 15(d) of the Exchange Act for
the transition period from __________ to ___________ .
Commission File Number: 333-100099
HydroFlo, Inc.
(Exact name of registrant as specified in charter)
North Carolina 56-2171767
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
3721 Junction Blvd. Raleigh, NC 27603
(Address of principal executive offices)
(919) 772-9925
(Registrant's Telephone Number, Including Area Code)
Check 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 ( )
State the number of shares outstanding of each of the issuer's classes of common
equity, as of February 7, 2005.
35,096,441
Transitional Small Business Disclosure Format:
YES ( ) NO (X)
1
HydroFlo, Inc.
INDEX TO FORM 10-Q
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Balance Sheets as of December 31, 2004 and June 30, 2004........... 4
Statements of Operations for the three and six months
ended December 31, 2004 and 2003.................................. 5
Statements of Cash Flows for the six months ended
December 31, 2004 and 2003........................................ 6
Notes to Financial Statements...................................... 7
Management's Discussion and Analysis of Financial Condition and
Item 2. Results of Operations (including cautionary statement)............. 11
Item 3. Quantitative and Qualitative Disclosure About Market Risk.......... 14
Item 4. Controls and Procedures............................................ 15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.................................................. 16
Item 2. Changes in Securities.............................................. 16
Item 3. Defaults Upon Senior Securities.................................... 16
Item 4. Submission of Matters to a Vote of Securities Holders.............. 16
Item 5. Other Information.................................................. 16
Item 6. Exhibits and Reports on Form 8-K................................... 16
Signatures 17
2
PART I
In this Quarterly Report, the "Company", "we", "us" and "our" refer to
HydroFlo, Inc. unless the context otherwise requires.
Different accounting principles are used in the preparation of financial
statements of a business development company under the Investment Company Act of
1940 and, as a result, the financial results for periods ending before March 4,
2004 are not comparable to the periods commencing after March 4, 2004 and are
not expected to be representative of our financial results in the future.
FORWARD-LOOKING STATEMENTS
This Form 10-Q, press releases and certain information provided
periodically in writing or orally by our officers or our agents contain
statements which constitute forward-looking statements within the meaning of
Section 27A of the Securities Act, as amended; Section 21E of the Securities
Exchange Act of 1934; and the Private Securities Litigation Reform Act of 1995.
The words "may", "would", "could", "will", "expect", "estimate", "anticipate",
"believe", "intend", "plan", "goal", and similar expressions and variations
thereof are intended to specifically identify forward-looking statements. These
statements appear in a number of places in this Form 10-Q and include all
statements that are not statements of historical fact regarding the intent,
belief or current expectations of us, our directors or our officers, with
respect to, among other things: (i) our liquidity and capital resources; (ii)
our financing opportunities and plans; (iii) trends affecting our future
financial condition or results of operations; (iv) our growth strategy and
operating strategy; and (v) the declaration and payment of dividends.
Investors and prospective investors are cautioned that any such
forward-looking statements are not guarantees of future performance and involve
risks and uncertainties, and that actual results may differ materially from
those projected in the forward-looking statements as a result of various
factors. The factors that might cause such differences include, among others,
the following: (i) we have incurred significant losses since our inception, and
have experienced significant losses in the past and continue to experience
negative cash flows from operations (see Note A to the financial statements);
(ii) any material inability of us to successfully acquire additional portfolio
companies and for those companies to internally develop their products; (iii)
any adverse effect or limitations caused by Governmental regulations; (iv) any
adverse effect on our cash flow or on our ability to obtain acceptable financing
in connection with our growth plans; (v) any increased competition in our
business; (vi) any inability of us to successfully conduct our business in new
markets; and (vii) other risks including those identified in our filings with
the Securities and Exchange Commission. We undertake no obligation to publicly
update or revise the forward looking statements made in this Form 10-Q to
reflect events or circumstances after the date of this Form 10-Q or to reflect
the occurrence of unanticipated events.
3
HydroFlo, Inc.
BALANCE SHEET AS OF
December
31,2004 June 30,
(Unaudited) 2004
ASSETS
INVESTMENT IN AND ADVANCES TO CONTROLLED COMPANIES
(at fair value with a cost of $3,364,960 and
$2,008,408, respectively) $ 3,500,000 $ 2,011,000
DEPOSIT ON INVESTMENT COMPANY 50,000 -
CASH 139,938 406,762
PROPERTY AND EQUIPMENT (net of accumulated
depreciation of $16,631 and $15,376, respectively) 14,500 16,363
TOTAL $ 3,704,438 $ 2,434,125
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES -
Accounts payable and accrued expenses $ 27,041 $ 1,781
STOCKHOLDERS' EQUITY:
Convertible preferred stock, $.001 par value,
5,000,000 shares authorized; 4,000,000 shares
issued and outstanding, no liquidation value 4,000 4,000
Common stock, $.01 par value, 500,000,000 shares
authorized; 35,096,441 and 28,277,912 shares
issued and outstanding, respectively 350,965 282,780
Additional paid-in capital 3,927,160 2,590,344
Stock subscription receivable - (2,958)
Stock purchase warrants 147,834 147,834
Deficit (752,562) (589,656)
Total stockholders' equity 3,677,397 2,432,344
TOTAL $ 3,704,438 $ 2,434,125
============ ============
NET ASSET VALUE PER SHARE $ 0.11 $ 0.09
============ ============
_________________________________________________________________________________
See notes to financial statements.
4
HydroFlo, Inc.
STATEMENTS OF OPERATIONS
(unaudited)
___________________________________________________________________________________________________
Prior to Prior to
converting to a converting to a
Business Business
Development Development
Company ("BDC") Company ("BDC")
For the three For the three For the six For the six
months ended months ended months ended months ended
December 31, December 31, December 31, December 31,
2004 2003 2004 2003
REVENUE $ - $ 37,790 $ - $ 106,608
COST OF GOODS SOLD - 13,691 - 30,489
GROSS MARGIN - 24,099 - 76,119
OPERATING EXPENSES:
Employee compensation 2,671 222,883 3,121 465,012
Management fee 13,800 13,800 27,600 27,600
Research and development - 5,958 - 6,428
Rent 4,294 4,607 8,673 9,335
Marketing 24,888 464 76,883 2,551
General and administrative 66,074 55,431 150,309 246,167
Total operating expenses 111,727 303,143 266,586 757,093
OPERATING LOSS (111,727) (279,044) (266,586) (680,974)
OTHER (INCOME) EXPENSE:
Interest (income) expense (1,160) 223 (2,906) (55)
Other (income) (3,556) - (3,556) -
Stock discount expense - 30,218 - 30,218
Total other (income) expense (4,716) 30,441 (6,462) 30,163
NET UNREALIZED GAIN (LOSS) ON INVESTMENT 111,388 - 97,218 -
NET INCOME (LOSS) $ 4,377 $ (309,485) $ (162,906) $ (711,137)
============= ============= ============= =============
NET INCOME (LOSS) PER SHARE
- - Basic 0.00 (.02) (.01) (.05)
- - Diluted $ 0.00 $ (.02) $ (.01) $ (.05)
============= ============= ============= =============
WEIGHTED AVERAGE NUMBER OF SHARES
OUTSTANDING -
- - Basic 31,611,400 15,898,200 31,026,600 15,873,100
- - Diluted 31,876,700 15,898,200 31,026,600 15,873,100
============= ============= ============= =============
___________________________________________________________________________________________________
See notes to financial statements.
5
HydroFlo, Inc.
STATEMENTS OF CASH FLOWS
(unaudited)
_____________________________________________________________________________________
Prior to converting
to a Business
Development Company
("BDC")
For the For the
six months six months
ended December ended December
31, 2004 31, 2003
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (162,906) $ (711,137)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation 3,009 11,827
Amortization of patent costs - 280
Stock based compensation - 421,485
Other non-cash expense 3,453 -
Gain on insurance claim (3,556) -
Loss on impairment of patent costs - 5,949
(Increase) decrease in accounts receivable - (66,306)
(Increase) decrease in inventory, net - (21,133)
Decrease (increase) in prepaid expenses - 75,064
Increase in accounts payable and accrued
expenses 25,260 81,468
NET CASH (USED IN) OPERATING ACTIVITIES (134,740) (202,503)
CASH FLOWS FROM INVESTING ACTIVITIES:
Investment in controlled companies (312,000) -
Deposit on investment (50,000) -
Proceeds from insurance claim 4,065 -
Purchases of property and equipment (2,149) (2,688)
NET CASH (USED IN) INVESTING ACTIVITIES (360,084) (2,688)
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuances of common stock, net of transaction
expenses 228,000 55,535
Stock subscription receipts - 4,000
Proceeds from related party borrowing - 15,000
NET CASH PROVIDED BY FINANCING ACTIVITES 228,000 74,535
NET (DECREASE) INCREASE IN CASH (266,824) (130,656)
CASH AT BEGINNING OF PERIOD 406,762 131,373
CASH AT END OF PERIOD $ 139,938 $ 717
============= ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Income taxes paid $ - $ -
============= ============
Interest paid $ - $ -
============= ============
SUPPLEMENTAL DISCLOSURE OF CASH NON-CASH INANCING ACTIVITES:
Common stock issued for services rendered $ - $ 68,000
============= ============
Commons stock issued to acquire investment $ 1,177,000 $ -
============= ============
_____________________________________________________________________________________
See notes to financial statements.
6
HydroFlo, Inc.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
________________________________________________________________________________
Note A - Summary of Significant Accounting Policies
Nature of Operations and Background
HydroFlo, Inc. (the "Company") was incorporated in North Carolina on December 8,
1999, to design and distribute aeration and oxygen mixing equipment specifically
designed for municipalities and industry requiring improved dissolved oxygen in
water.
From inception to June 30, 2002, the Company focused primarily on developing and
patenting this new technology for the sewage treatment industry. Beginning July
1, 2002, the Company emerged from the development stage and focused on marketing
and selling their technology to this industry.
Effective March 4, 2004, the Company became a diversified internally managed,
closed-end investment company that elected to be treated as a business
development company ("BDC") under the Investment Company Act of 1940, as
amended. As a BDC, the Company intends to provide long-term debt and equity
investment capital to support the expansion of companies in a variety of
industries. These investments are expected to generally be illiquid securities
negotiated through private transactions.
In connection with the Company's conversion to a BDC, the Company formed
Hydroflo Water Treatment, Inc., and simultaneously transferred substantially all
of its operating assets and liabilities (exclusive of cash and certain property
and equipment) to such entity. HydroFlo Water Treatment, Inc. is an
international provider of wastewater pre-treatment solutions, treating
wastewater for industrial and municipal customers. HydroFlo designs, builds, and
installs water and wastewater treatment systems and provides a full range of
related services to companies and municipalities to treat their wastewater.
Basis of Presentation
In accordance with SEC rules and regulations for BDCs, the Company does not
consolidate or use the equity method to account for its controlling investment
in HydroFlo Water Treatment, Inc. Rather, the Company's investment in such
entity is reported at fair value, and the fluctuation in such fair value since
the date of the conversion to a BDC has been reflected as an unrealized loss on
investment in the accompanying unaudited statement of operations.
Our accompanying unaudited financial statements have been prepared in accordance
with accounting principles generally accepted in the United States of America
for interim financial information and the instructions to Form 10-Q and
Regulation S-X of the Securities and Exchange Commission (the "SEC").
Accordingly, these unaudited financial statements do not include all of the
footnotes required by accounting principles generally accepted in the United
States of America. In our opinion, all adjustments (consisting of normal and
recurring adjustments) considered necessary for a fair presentation have been
included. Operating results for the six months ended December 31, 2004 are not
necessarily indicative of the results that may be expected for the year ended
June 30, 2005. The accompanying financial statements and the notes thereto
should be read in conjunction with our audited financial statements as of and
for the year ended June 30, 2004 contained in our Form 10-K.
Although the nature of the Company's operations and its reported financial
position, results of operations and cash flows are dissimilar for the periods
prior and subsequent to becoming a BDC, its financial position as of December
31, 2004 (unaudited) and June 30, 2004 (audited), and its unaudited operating
7
results and cash flows for the six months ended December 31, 2004 and 2003 are
presented in the accompanying financial statements pursuant to Regulation S-X.
Going Concern
The Company has suffered recognized net losses and negative cash flows from
operations since its inception. These losses have been funded through the sale
of common stock, primarily to related parties. Until such time that the Company
can generate sustained profitable operations (for which no assurance can be
given), the Company will require additional funding to implement its business
plan. Management believes it will be able to raise any additional capital it may
need; however there can be no assurance that the Company will be successful in
any such efforts, or that any such financing will be on terms favorable, or
acceptable, to the Company.
The accompanying unaudited financial statements do not include any adjustments
relating to the recoverability and classification of asset carrying amounts or
the amount and classification of liabilities that might result should the
Company be unable to continue as a going concern.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statement and the reported amounts of revenues and
expenses during the reporting period. Estimates that are critical to the
accompanying financial statements arise from the determination of the fair value
of the Company's investment. Because such determination involves subjective
judgment, it is at least reasonably possible that the Company's estimates could
change in the near term with respect to this matter.
Earnings (Loss) Per Share
In accordance with the provisions of SFAS No. 128, "Earnings Per Share," basic
earnings (loss) per share is computed by dividing net income (loss) by the
number of weighted-average common shares outstanding during the year. Diluted
earnings per share is computed by dividing net income (loss) by the number of
weighted average common shares outstanding adjusted to include the number of
additional common shares that would have been outstanding if the dilutive
potential common shares resulting from common stock equivalents granted had been
issued. The effect of options and warrants outstanding were not included in the
computation of diluted earnings per share in the period where we incurred a loss
because the effect on net loss per share would have been antidilutive.
Accordingly, basic and diluted net loss per share are identical for each of the
periods where we incurred losses in the accompanying statements of operations.
Stock-Based Compensation
The Company has adopted Statement of Financial Accounting Standards No. 148
"Accounting for Stock-Based Compensation - Transition and Disclosure". This
statement amends FASB statement No. 123, "Accounting for Stock Based
Compensation". It provides alternative methods of transition for an entity that
voluntarily changes to the fair value based method of accounting for employee
stock based compensation. It also amends the disclosure provision of FASB
statement No. 123 to require prominent disclosure about the effects on reported
net income of an entity's accounting policy decisions with respect to
stock-based employee compensation. As permitted by SFAS No. 123 and amended by
SFAS No. 148, we continue to apply the intrinsic value method under Accounting
Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to
Employees," to account for our stock-based employee compensation arrangements.
Had our compensation expense for stock-based compensation plans been determined
based upon fair values at the grant dates for awards under this plan in
accordance with SFAS No. 123, "Accounting for Stock-Based Compensation," our net
loss and pro forma net loss per share amounts would not have been materially
different.
8
New Pronouncements
In December 2004, the Financial Accounting Standards Board issued Statement
Number 123 ("FAS 123 (R)"), Share-Based Payments. FAS 123 (R) requires all
entities to recognize compensation expense in an amount equal to the fair value
of shared-based payments such as stock options granted to employees. We will be
required to apply FAS 123 (R) on a modified prospective method. Under this
method, we are required to record compensation expense (as previous awards
continue to vest) for the unvested portion of previously granted awards that
remain outstanding at the date of adoption. In addition, we may elect to adopt
FAS 123 (R) by restating previously issued financial statements, basing the
amounts on the expense previously calculated and reported in the pro forma
disclosures that had been required by FAS 123. FAS 123 (R) is effective for the
first reporting period beginning after June 15, 2005. We have not yet
definitively determined the effect that FAS 123 (R) will have on our financial
statements, however we estimate that we will be required to record a minimum of
$3,375 of stock based compensation expense as a result of this new statement.
Valuation of Investments and Revenue Recognition (After conversion to a BDC)
As required by the SEC's Accounting Series Release ("ASR") 118, the investment
committee of the Company is required to assign a fair value to all investments.
To comply with Section 2(a)(41) of the Investment Company Act of 1940 (the
"Act") and Rule 2a-4 under the Act, it is incumbent upon the board of directors
to satisfy themselves that all appropriate factors relevant to the value of
securities for which market quotations are not readily available have been
considered and to determine the method of arriving at the fair value of each
such security. To the extent considered necessary, the board may appoint persons
to assist them in the determination of such value, and to make the actual
calculations pursuant to the board's direction. The board must also, consistent
with this responsibility, continuously review the appropriateness of the methods
used in valuing each issue of security in the Company's portfolio. The directors
must recognize their responsibilities in this matter and whenever technical
assistance is requested from individuals who are not directors, the findings of
such individuals must be carefully reviewed by the directors in order to satisfy
themselves that the resulting valuations are fair.
Where there is not a readily available source for determining the market value
of an investment, either because the investment is not publicly traded, or is
thinly traded, and in absence of a recent appraisal, the value of the investment
shall be based on the following criteria:
- Total amount of the Company's actual investment ("AI"). This amount shall
include all loans, purchase price of securities, and fair value of
securities given at the time of exchange.
- Total revenues for the preceding twelve months ("R").
- Earnings before interest, taxes and depreciation ("EBITD")
- Estimate of likely sale price of investment ("ESP")
- Net assets of investment ("NA")
- Likelihood of investment generating positive returns (going concern).
The estimated value of each such investment shall be determined as follows:
- Where no or limited revenues or earnings are present, then the value shall
be the greater of the investment's a) net assets, b) estimated sales price,
or c) total amount of actual investment.
9
- Where revenues and/or earnings are present, then the value shall be the
greater of one time (1x) revenues or three times (3x) earnings, plus the
greater of the net assets of the investment or the total amount of the
actual investment.
- Under both scenarios, the value of the investment shall be adjusted down if
there is a reasonable expectation that the Company will not be able to
recoup its investment or if there is reasonable doubt about the investee's
ability to continue as a going concern.
Note B - Acquisition of Portfolio Company
On December 8, 2004 the company signed a letter of intent with HERC Products,
Inc., a public company, to acquire 51% of ownership for $1,000,000 cash. The
company has patented technology that provides chemical cleaning for water pipe,
waste water systems, cooling towers, and HVAC systems, tanks and boilers and
other water-based chemical process systems. HydroFlo, Inc transferred an initial
$50,000 to HERC as a deposit until the transaction is consummated. The $50,000
deposit is secured by a non-interest bearing note due March 31, 2005 if the
transaction is not completed.
On December 20, 2004 the company acquired 100% of Safety Scan Technology, Inc.,
a company holding the rights to a patented process known as Swept Frequency
Acoustic Interferometry (SFAI) that is a non-invasive measurement technique that
uses high frequency sound waves to determine the properties of fluids in sealed
containers. The company was acquired by issuing 3,485,000 shares of restricted
common stock of the Company valued at approximately $697,000.
On August 4, 2004 the Company acquired Arsenic Removal Technologies, Inc, a
company holding the arsenic removal technology rights developed by the
University of Wyoming. This portfolio company was purchased using 2,823,529
shares of restricted common stock of the Company, valued at approximately
$480,000 based on the fair market value of the shares issued on that date. We
hold 100% of the stock in this company and plan to develop and market the
technology throughout the world. After purchase, the company was re-incorporated
in North Carolina with a change of name to Metals & Arsenic Removal Technology,
Inc.
Note C - Stockholders' Equity
During the six months ended December 31, 2004 we sold 510,000 shares of our
common stock at prices ranging from $0.05 to $0.50/share. These transactions
generated gross proceeds to the Company of $228,000.
10
Item 2. MANAGEMENT'S DISCUSSION AND PLAN OF OPERATIONS
MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
The information contained in this section should be read in conjunction with the
Selected Financial Data and our Financial Statements and notes thereto appearing
elsewhere in this 10Q. The 10Q, including the Management's Discussion and
Analysis of Financial Condition and Results of Operations, contains
forward-looking statements that involve substantial risks and uncertainties.
These forward-looking statements are not historical facts, but rather are based
on current expectations, estimates and projections about our industry, our
beliefs, and our assumptions. Words such as "anticipates", "expects", "intends",
"plans", "believes", "seeks", and "estimates" and variations of these words and
similar expressions are intended to identify forward-looking statements. These
statements are not guarantees of future performance and are subject to risks,
uncertainties, and other factors, some of which are beyond our control and
difficult to predict and could cause actual results to differ materially from
those expressed or forecasted in the forward-looking statements including
without limitation (1) any future economic downturn could impair our ability to
increase our non-performing assets, (2) a contraction of available credit and/or
an inability to access the equity markets could impair our investment
activities, (3) the risks associated with the possible disruption in the
Company's operations due to terrorism and (4) the risks, uncertainties and other
factors we identify from time to time in our filings with the Securities and
Exchange Commission, including our Form 10-Ks, Form 10-Qs and Form 8-Ks.
Although we believe that the assumptions on which these forward-looking
statements are based are reasonable, any of those assumptions could prove to be
inaccurate, and as a result, the forward-looking statements based on those
assumptions also could be incorrect. In light of these and other uncertainties,
the inclusion of a projection or forward-looking statement in this Quarterly
Report should not be regarded as a representation by us that our plans and
objectives will be achieved. You should not place undue reliance on these
forward-looking statements, which apply only as of the date of this Quarterly
Report.
OVERVIEW
The following discussion should be read in conjunction with the unaudited
financial statements as of and for the six months ended December 31, 2004
included with this Form 10Q.
Effective March 4, 2004, we converted to a Business Development Company under
the Investment Company Act of 1940. Upon completion of this conversion, we
became an internally managed, diversified, closed-end investment company. Prior
to the conversion we were an operating company. Those operations were
transferred to HydroFlo Water Treatment, Inc., a wholly owned investment of
ours. HydroFlo Water Treatment, Inc., is an international provider of wastewater
pre-treatment solutions, treating wastewater for industrial and municipal
customers. HydroFlo designs, builds, and installs water and wastewater treatment
systems and provides a full range of related services to companies and
municipalities to treat their wastewater.
Because of our conversion to a Business Development Company ("BDC") the results
of operations for the three and six months ended December 31, 2003 (pre
conversion) are not comparable to the three and six months ended December 31,
2004 (post conversion). The principal differences between these two reporting
periods are: (1) we no longer include the operations of our operating
("portfolio") company in our financial statements, and (2) we now value our
ownership of the portfolio company at fair value.
On December 8, 2004 the company entered in to a letter of intent with HERC
Products, Inc to purchase 51% of the voting shares on a fully diluted basis for
$1,000,000. Management considers the acquisition to be synergistic with the
overall investment strategies of HydroFlo Inc. HERC will enable the company to
expand it's Water treatment company with an addition of viable patents and
governmental qualifications. The negotiations are currently on-going.
On December 20, 2004 HydroFlo, Inc acquired 100% Safety Scan Technology, Inc
which holds a licensing agreement with Los Alamos Laboratory, Operated by the
University of California. The company intends to develop prototype technology
and subsequent production units to market to government and private businesses.
The technology is a non-invasive measurement technique that uses high frequency
sound waves to determine the properties of fluids in sealed containers. Swept
Frequency Acoustic Interferometry (SFAI) is a non-invasive method for
determining the physical properties of fluids in sealed containers and pipes.
Metal and Arsenic Technology, Inc. (MARTI) signed a distributorship agreement
with WAL, SA., a company incorporated in Switzerland on January 23, 2005. The
agreement is effective February 1, 2005. The agreement calls for WAL, SA. to
11
purchase removal media from MARTI. Management expects annual quantities
purchased to be 7,000,000 units, in compliance with the agreement. MARTI will
distribute the WAL cartridges with arsenic removal capabilities in North,
Central and South America, as well as the Caribbean. Management expects those
sales to be in excess of 5,000,000 units annually. MARTI is presently developing
an online internet presence to sell units to consumers and a network of
retailers to aid in the distribution of the water filter cartridges with the
arsenic removal technology.
THREE AND SIX MONTHS ENDED DECEMBER 31, 2004
(POST-CONVERSION TO A BUSINESS DEVELOPMENT CORPORATION)
PORTFOLIO COMPOSITION
Our primary business is investing in businesses with equity-based investments.
The total portfolio value of investments in non-publicly traded securities was
approximately $3,500,000 at fair value at December 31, 2004.
OPERATIONS
We generated no income during the three and six months ended December 31, 2004.
We incurred approximately $267,000 in expenses during this period. These
expenses represented management fees to our CEO, rent and other cash expenses
associated with operating the BDC and seeking additional investments.
NET UNREALIZED GAIN (LOSS) ON INVESTMENTS
During the six months ended December 31, 2004, we have recorded, fiscal year to
date, approximately $97,000 in unrealized gains on our portfolio company
investments. The company had an unrealized loss of approximately $14,000 for the
three months ended September 30, 2004 and approximately $111,000 unrealized gain
for the three months ended December 31, 2004. The net gain represents the
difference between the amount our Board of Directors determined was the fair
value of the portfolio companies and the amounts we have invested in those
companies, including prior adjustments for unrealized gain or loss.
NET INCOME (LOSS)
As a result of the foregoing, we incurred net income of approximately $4,000 for
the three months ended December 31, 2004 and a net loss of approximately
$163,000 for the six months ended December 31, 2004 respectively.
THREE AND SIX MONTHS ENDED DECEMBER 31, 2003
(PRIOR TO CONVERTING TO A BUSINESS DEVELOPMENT CORPORATION)
OPERATING INCOME
Our aggregate sales were approximately $38,000 and $107,000 for the three and
six months ended December 31, 2003 respectively.
OPERATING EXPENSES
Employee compensation expenses were approximately $223,000 and $465,000 for the
three months and six months ended December 31, 2003 respectively.
Management fees (related-party) expenses were $13,800 and $27,600 for the three
and six months ended December 31, 2003 respectively.
Research and development expenses were approximately $6,000 and $6,400 for the
three and six months ended December 31, 2003 respectively.
Other General and Administrative expenses were approximately $60,000 & $258,000
for the three and six months ended December 31, 2003 respectively.
12
NET LOSS
As a result of the foregoing, we incurred a loss of approximately $309,000 and
$711,000 for the three and six months ended December 31, 2003 respectively.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
During the six months ended December 31, 2004, net cash used in operating
activities was approximately $135,000 and was used to fund our operating
expenses. Net cash used from investing activities was approximately $360,000 and
principally consisted of the following: approximately $312,000 was for the
purchase a controlled company and $50,000 was for a deposit on a future
acquisition. We funded these needs primarily through the sale of common stock
for approximately $228,000 and using approximately $267,000 of our cash on hand
from June 30, 2004. As a result of the above, as of December 31, 2004, we had a
cash position of approximately $140,000.
For the next 5 months, we expect our cash on hand and cash generated from
operations to be adequate to meet our cash needs, including additional advances
to the companies we invest in. Management's plans regarding continued operations
include the possibility of raising additional equity capital via the sale of
stock which can now be accomplished due to the filing as a Business Development
Company. Aggressive sales efforts in our portfolio companies will likely
increase sales of product by the portfolio companies in the coming year and may
result in less funding we need to provide to them or may even result in a cash
return on our investment.
PRIVATE PORTFOLIO COMPANY INVESTMENTS
On December 8, 2004, we paid a deposit of $50,000 related to an intent to
purchase 51% of the outstanding shares of HERC Products, Inc. for total
consideration of $1,000,000.
The following is a list of the private companies in which we had an investment
and the cost and fair value of such securities at December 31, 2004:
Name of Company Nature of its Principal Business Approximate Cost Fair Value
HydroFlo Water Treatment, Inc. Waste water treatment solutions $2,139,000 $2,240,000
Arsenic Removal Technologies, Inc Arsenic removal technology $ 529,000 $ 560,000
Metals & Arsenic Removal Technology,
Inc. High frequency scanning $ 697,000 $ 700,000
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ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Our business activities contain elements of risk. We consider the principal
types of risk to be portfolio valuations. We consider the management of risk
essential to conducting our businesses. Accordingly, our risk management systems
and procedures are designed to identify and analyze our risks, to set
appropriate policies and limits and to continually monitor these risks and
limits by means of reliable administrative and information systems and other
policies and programs.
As a business development company, we invest in illiquid securities including
equity securities of primarily private companies. Our investments are generally
subject to restrictions on resale and generally have no established trading
market. We value substantially all of our investments at fair value as
determined in good faith by the board of directors in accordance with our
valuation policy. There is no single standard for determining fair value in good
faith. As a result, determining fair value requires that judgment be applied to
the specific facts and circumstances of each portfolio investment while
employing a consistently applied valuation process for the types of investments
we make.
We determine fair value to be the amount for which an investment could be
exchanged in an orderly disposition over a reasonable period of time between
willing parties other than in a forced or liquidation sale. Our valuation policy
considers the fact that no ready market exists for substantially all of the
securities in which we invest. Our valuation policy is intended to provide a
consistent basis for determining the fair value of the portfolio. We will record
unrealized depreciation on investments when we believe that an investment has
become impaired, including where collection of a loan or realization of an
equity security is doubtful, or when the enterprise value of the company does
not currently support the cost of our debt or equity investments. Conversely, we
will record unrealized appreciation if we believe that the underlying portfolio
company has appreciated in value and, therefore, our equity security has also
appreciated in value. The value of investments in public securities is
determined using quoted market prices discounted for restrictions on resale.
Without a readily ascertainable market value and because of the inherent
uncertainty of valuation, the fair value of our investments determined in good
faith by the board of directors may differ significantly from the values that
would have been used had a ready market existed for the investments, and the
differences could be material. In addition, the illiquidity of our investments
may adversely affect our ability to dispose of debt and equity securities at
times when it may be otherwise advantageous for us to liquidate such
investments. In addition, if we were forced to immediately liquidate some or all
of the investments in the portfolio, the proceeds of such liquidation would be
significantly less than the current value of such investments.
Impact of Inflation
We do not believe that our business is materially affected by inflation, other
than the impact that inflation may have on the securities markets, the
valuations of business enterprises and the relationship of such valuations to
underlying earnings, all of which will influence the value of our investments.
14
ITEM 4 CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
The Corporation maintains disclosure controls and procedures designed to ensure
that information required to be disclosed in reports filed under the Securities
Exchange Act of 1934, as amended, is recorded, processed, summarized and
reported within the specified time periods. As of the end of the period covered
by this report, the Corporation's Chief Executive Officer and Chief Financial
Officer evaluated the effectiveness of the Corporation's disclosure controls and
procedures. Based on the evaluation, which disclosed no significant deficiencies
or material weaknesses, the Corporation's Chief Executive Officer and Chief
Financial Officer concluded that the Corporation's disclosure controls and
procedures are effective as of the end of the period covered by this report.
Changes in Internal Controls
There have been no changes in the Corporation's internal control over financial
reporting that occurred during the Corporation's most recent fiscal quarter that
have materially affected, or are reasonably likely to materially affect, the
Corporation's internal control over financial reporting. However, we intend to
continue to refine our internal controls on an ongoing basis with a view towards
continuous improvements. Grant Thornton LLP ("GT"), our previous independent
accountants, had reported to our Board of Directors certain matters involving
internal controls that GT considered to be material weaknesses under standards
established by the American Institute of Certified Public Accountants. The
identified material weaknesses related to a lack of segregation of duties within
our accounting and financial management functions and inadequate dedication of
resources to the financial review and analysis functions. Due to the size of our
organization, the early stage of our operations and significant financial
constraints, the Corporation has not been able to employ the necessary resources
for proper internal financial review and analysis.
Given the material weaknesses identified above, management devoted additional
resources to resolving questions that arose during the quarterly reporting
cycle. Significant adjustments were necessary to convert management's internal
financial records to the final reported amounts in the Form 10Q. As a result,
management is confident that its financial statements fairly present, in all
material respects, the financial condition and results of operations of the
Company.
The material weaknesses have been discussed in detail among our Board of
Directors and GT. We have assigned high priority to the correction of these
material weaknesses, and we are committed to addressing and resolving them
fully. As the Corporation continues its growth and strives to achieve financial
stability, management intends to devote additional resources to further develop
its financial accounting, analysis and reporting functions.
The company has appointed a new Chief Financial Officer to address internal
control issues as well as improve processes and procedures. The financial plan
is being developed, however it is the intention of management to bring all
accounting in-house and to continue improvements for the distribution of timely
accounting data.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not Applicable.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On August 4, 2004 the Company acquired Arsenic Removal Technologies, Inc, a
company holding the arsenic removal technology rights developed by the
University of Wyoming. This portfolio company was purchased using 2,823,529
shares of restricted common stock of the Company, valued at approximately
$480,000 based on the fair market value of the shares issued on that date. We
hold 100% of the stock in this company and plan to develop and market the
technology throughout the world. After purchase, the company was re-incorporated
in North Carolina with a change of name to Metals & Arsenic Removal Technology,
Inc.
During the six months ended December 31, 2004 we sold 510,000 shares of our
common stock at prices ranging from $0.05 to $0.50/share. These transactions
generated gross proceeds to the Company of $228,000.
On December 20, 2004 the company acquired Safety Scan Technology, Inc, a company
holding the rights for a non-invasive measurement technique that determines the
physical properties of fluids in sealed containers and pipes developed at Los
Alamos National Laboratories, operated by the University of California. The
portfolio company was purchased using 3,485,000 shares of restricted common
stock of the Company, valued at approximately $697,000 based on fair market
value of the shares issued on that date. We hold 100% of the stock issued in the
company and plan to develop and market the technology through out the world.
After purchase, the company was re-incorporated in North Carolina.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
ITEM 5. OTHER INFORMATION
Not Applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The following exhibits are filed as part of this Form 10-Q.
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer
32.1 Section 1350 Certification of CEO
32.2 Section 1350 Certification of CFO
(b) Reports on Form 8-K.
None
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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 on February 14, 2005.
HydroFlo, Inc.
/s/ DENNIS L. MAST
Dennis L. Mast
Chief Executive Officer
/s/ STEVEN E. SANDERSON
Steven E. Sanderson
Chief Financial Officer
17