Attached files
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A (NO. 1)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
for the quarterly period ended - September 30, 2010.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 000-30392
ENVIRONMENTAL SOLUTIONS WORLDWIDE, INC.
(Exact name of Company as specified in its charter)
Florida 13-4172059
------------------------------ ------------------
State or other jurisdiction of (I.R.S. Employer
incorporation or organization Identification No.)
335 CONNIE CRESCENT, CONCORD, ONTARIO, CANADA, L4K 5R2
(Address of principal executive offices, including postal code.)
(905) 695-4142
(Registrant's telephone number, including area code)
COMMON STOCK, $0.001 PAR VALUE
(Title of class)
Indicate by check mark whether the issuer (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the Company was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. YES [X] NO [ ]
Indicate by check mark whether the registrant has submitted electronically and
posted on its corporate Web site, if any, every Interactive Data File required
to be submitted and posted pursuant to Rule 405 of Regulation S-T during the
preceding 12 months (or for such shorter period that the registrant was required
to submit and post such files). YES [ ] NO [ ] (Not yet applicable to issuer)
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of "large accelerated filer," "accelerated filer" and "smaller
reporting company" in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer | | Accelerated Filer | | Non-Accelerated Filer
| | Smaller reporting company [x]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).YES [ ] NO [X]
There were 123,588,099 shares of the registrant's Common Stock outstanding as of
November 15th, 2010.
--------------------------------------------------------------------------------
EXPLANATORY NOTE
The Registrant is filing this Amendment No. 1 to the Registrant's Quarterly
Report on Form 10-Q for the quarterly period ended September 30, 2010 ("Form
10-Q/A").
The Registrant re-evaluated its accounting for the Convertible Debentures issued
March 19, 2010. The Debentures included a Share Subscription Agreement, which
contains an exchange feature and is restating its consolidated condensed
financial statements for the fiscal period ended September 30, 2010 to make the
following changes: (i) restate the consolidated condensed financial statements;
(ii) revise the Results of Operations sections in Item 2, Management's
Discussion and Analysis of Financial Condition and Results of Operations; and
(iii) revise Note 1, Note 2, Note10 Note 11 and Note 18 to the unaudited interim
consolidated financial statements.
Pursuant to the rules of the Securities Exchange Act of 1934, as amended (the
"Exchange Act") Rule 12b-25, the Registrant has also amended the Form 10-Q to
provide currently-dated certifications from the Registrant's executive chairman
and chief financial officer, as required by Exchange Act Rule 13a-14(a) or Rule
15d-14(a), as adopted under Section 302 of the Sarbanes-Oxley Act of 2002, and
Section 1350 of Title 18 of the United States Code, as adopted under Section 906
of the Sarbanes-Oxley Act of 2002.
Except for the items mentioned above, this Amendment No. 1 does not amend the
Registrant's previously filed Form 10-Q, nor does it modify or update those
disclosures affected by subsequent events or discoveries. It also does not
affect information contained in the 10-Q which was not impacted by these
restatements.
This Amendment No. 1 should be read in conjunction with the Registrant's filings
made with the Securities and Exchange Commission subsequent to the filing of the
previously filed Form 10-Q filing, including any amendments to those filings.
FORM 10-Q
ENVIRONMENTAL SOLUTIONS WORLDWIDE, INC.
TABLE OF CONTENTS
PAGE #
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Consolidated Condensed Balance Sheets as of F2
September 30, 2010 (unaudited) and December 31, 2009
Consolidated Condensed Statements of Operations and F3
Comprehensive Loss for the Nine and Three Month Periods
Ended September 30, 2010 and 2009 (unaudited)
Consolidated Condensed Statements of Changes in Stockholders' F4
Equity (Deficit) and Comprehensive Income for the Nine Months
Ended September 30, 2010 (unaudited)
Consolidated Condensed Statements of Cash Flows F5
for the Nine Months Ended September 30, 2010 and 2009
(unaudited)
Notes to Consolidated Condensed Financial Statements F6-F33
(unaudited)
Item 2. Management's Discussion And Analysis Of Financial 3
Condition And Results Of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 24
Item 4. Controls And Procedures 25
PART II. OTHER INFORMATION
ITEM 1A. RISK FACTORS 26
ITEM 5. OTHER INFORMATION. 26
ITEM 6. EXHIBITS. 27
ENVIRONMENTAL SOLUTIONS WORLDWIDE INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(UNAUDITED)
(RESTATED, NOTE 1)
SEPTEMBER 30, DECEMBER 31,
2010 2009
------------ ------------
ASSETS
Current Assets
Cash and cash equivalents (Note 4) $ 660,700 $ 632,604
Accounts receivable, net of allowance
for doubtful accounts of $9,606 (2009 - $6,637) (Note 2) 1,874,936 1,118,929
Inventory (Note 5) 4,317,890 1,508,414
Prepaid expenses and sundry assets 521,564 213,484
------------ ------------
Total current assets 7,375,090 3,473,431
Property, plant and equipment under construction (Note 6) 224,538 138,800
Property, plant and equipment, net of accumulated
depreciation of $5,463,460
(2009 - $4,663,281) (Note 6) 2,037,924 2,687,105
Internal use software under development (Note 2) 104,304 --
Patents and trademarks, net of accumulated
amortization of $2,061,582
(2009 - $1,901,501) (Note 2) 69,412 229,347
------------ ------------
$ 9,811,268 $ 6,528,683
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY / (DEFICIT)
Current Liabilities
Bank loan (Note 8) $ 3,428,066 $ 713,037
Accounts payable 1,876,667 1,126,680
Accrued liabilities 466,140 1,311,518
Advance share subscription (Note 10) 1,662,753 --
Exchange feature liability (Note 10) 360,000 --
Notes payable to related party (Note 7) -- 500,000
Customer deposits 23,794 9,857
Redeemable class A special shares (Note 9) 453,900 453,900
Current portion of capital lease obligation (Note 15) 1,920 8,857
------------ ------------
Total current liabilities 8,273,240 4,123,849
------------ ------------
Long-term Liabilities
Convertible debentures net of deferred costs
of $0 (2009 - $36,506)
and debt discount of $0 (2009 - $228,981) (Note 10) -- 10,334,513
Capital lease obligation (Note 15) 5,362 10,861
------------ ------------
Total long-term liabilities 5,362 10,345,374
------------ ------------
Total liabilities 8,278,602 14,469,223
------------ ------------
Commitments and Contingencies (Note 15)
Stockholders' Equity / (Deficit) (Note 12) (Note 13)
Common stock, $0.001 par value, 125,000,000
shares authorized; 123,588,099 shares
issued and outstanding (December 31,2009 - 73,823,851) 123,586 73,822
Additional paid-in capital 41,416,240 26,083,635
Accumulated other comprehensive income 421,355 425,383
Accumulated deficit (40,428,515) (34,523,380)
------------ ------------
Total stockholders' equity / (deficit) 1,532,666 (7,940,540)
------------ ------------
$ 9,811,268 $ 6,528,683
============ ============
The accompanying notes are an integral part of these consolidated condensed financial statements.
F2
ENVIRONMENTAL SOLUTIONS WORLDWIDE INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME / (LOSS)
FOR THE NINE AND THREE MONTHS PERIODS ENDED SEPTEMBER 30, 2010
(UNAUDITED)
NINE MONTH PERIOD THREE MONTH PERIOD
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2010 2009 2010 2009
(RESTATED, (RESTATED,
NOTE 1) NOTE 1)
------------- ------------- ------------- -------------
Revenue
Net sales $ 8,328,204 $ 903,670 $ 2,480,478 $ 448,984
Cost of sales 5,412,679 563,240 1,637,251 321,281
------------- ------------- ------------- -------------
Gross profit 2,915,525 340,430 843,227 127,703
------------- ------------- ------------- -------------
Operating expenses
Marketing, office and general costs 3,458,906 2,496,647 1,264,242 839,291
Research and development costs 491,469 773,255 207,169 127,001
Officers' compensation and directors' fees 717,082 503,625 240,678 171,234
Consulting and professional fees 262,155 100,591 117,055 38,459
Foreign exchange loss / (gain) 38,991 (17,687) (10,203) 5,778
Depreciation and amortization 739,431 854,435 249,023 306,794
------------- ------------- ------------- -------------
5,708,034 4,710,866 2,067,964 1,488,557
------------- ------------- ------------- -------------
Loss from operations (2,792,509) (4,370,436) (1,224,737) (1,360,854)
Interest on long-term debt (183,858) (620,518) -- (215,518)
Amortization of deferred costs (117,131) (14,934) -- (4,977)
Long-term debt accretion (768,981) (7,080) -- (7,080)
Inducement premium (2,909,872) -- -- --
Mark to market adjustment on advance
share subscription 1,247,119 -- 525,080 --
Change in fair value of exchange feature liability (360,000) -- (360,000) --
Interest on notes payable to related party (11,342) -- -- --
(Loss) / gain on disposal of property,
plant and equipment (8,777) -- 14 --
Interest income 216 757 -- 18
------------- ------------- ------------- -------------
Net loss (5,905,135) (5,012,211) (1,059,643) (1,588,411)
------------- ------------- ------------- -------------
Other comprehensive (loss) / income:
Foreign currency translation of
Canadian subsidiaries (4,028) 240,234 34,155 127,672
------------- ------------- ------------- -------------
Net comprehensive loss $ (5,909,163) $ (4,771,977) $ (1,025,488) $ (1,460,739)
============= ============= ============= =============
Net loss per share (basic and diluted) (Note16) $ (0.05) $ (0.07) $ (0.01) $ (0.02)
============= ============= ============= =============
Weighted average number of shares outstanding
(basic and diluted) (Note16) 108,458,309 73,006,724 123,588,099 73,039,236
============= ============= ============= =============
The accompanying notes are an integral part of these consolidated condensed financial statements.
F3
ENVIRONMENTAL SOLUTIONS WORLDWIDE INC.
CONSOLIDATED CONDENSED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
AND COMPREHENSIVE INCOME FOR THE NINE MONTH PERIOD ENDED SEPTEMBER 30, 2010
(UNAUDITED)
Accumulated
Additional Other Accumulated
Common Stock Paid-In Comprehensive Deficit Total
Shares Amount Capital Income (RESTATED, (RESTATED,
Note 1) Note 1)
------------ ------------ ------------ ------------ ------------- ------------
January 1, 2010 73,823,851 $ 73,822 $ 26,083,635 $ 425,383 $ (34,523,380) $ (7,940,540)
Net loss -- -- -- -- (5,905,135) (5,905,135)
Stock-based compensation -- -- 62,126 -- -- 62,126
Common stock issued on
conversion of debentures 49,764,248 49,764 14,730,479 -- -- 14,780,243
Fair value of convertible debentures -- -- 540,000 -- -- 540,000
Foreign currency translation
of Canadian subsidiaries -- -- -- (4,028) -- (4,028)
------------ ------------ ------------ ------------ ------------- ------------
September 30, 2010 123,588,099 $ 123,586 $ 41,416,240 $ 421,355 $ (40,428,515) $ 1,532,666
============ ============ ============ ============ ============= ============
The accompanying notes are an integral part of these consolidated condensed financial statements.
F4
ENVIRONMENTAL SOLUTIONS WORLDWIDE, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTH PERIOD ENDED SEPTEMBER 30,
(UNAUDITED)
2010 2009
(RESTATED,
NOTE 1)
------------ ------------
Net loss $ (5,905,135) $ (5,012,211)
------------ ------------
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation of property, plant and equipment 832,142 767,693
Amortization of patents and trademarks 159,946 159,583
Provision for doubtful accounts 9,541 1,901
Interest on long-term debt 183,858 620,518
Change in fair value of exchange feature liability 360,000 --
Interest on notes to related party 11,342 --
Amortization of deferred costs 36,506 14,934
Long-term debt accretion 768,981 7,080
Inducement premium on conversion of debentures 2,909,872 --
Mark to market adjustment on advance share subscription (1,247,119) --
Loss on disposal of property, plant and equipment 8,777 1,858
Stock-based compensation 62,126 --
------------ ------------
4,095,972 1,573,567
------------ ------------
Increase (decrease) in cash flows from operating
activities resulting from changes in:
Accounts receivable (778,662) (701,428)
Inventory (2,909,880) (287,330)
Prepaid expenses and sundry assets (102,990) 63,000
Accounts payable and accrued liabilities 665,361 185,032
Customer deposits 13,937 499,257
------------ ------------
(3,112,233) (241,469)
------------ ------------
Net cash used in operating activities (4,921,397) (3,680,113)
------------ ------------
Investing activities:
Proceeds from sale of property, plant and equipment 699 305
Acquisition of property, plant and equipment (173,866) (138,933)
Internal use software under development (104,304) --
Property, plant and equipment under construction (82,723) --
Increase in patents and trademarks -- (1,108)
------------ ------------
Net cash used in investing activities (360,194) (139,736)
------------ ------------
Financing activities:
Convertible debentures placement 3,000,000 1,600,000
Bank loan 3,405,232 623,318
Repayment of bank loan (723,431) (180,270)
Repayment of notes payable to related party (500,000) --
Issuance of common stock -- 425,000
Repayment of capital lease obligation (11,297) (8,549)
------------ ------------
Net cash provided by financing activities 5,170,504 2,459,499
------------ ------------
Net decrease in cash and equivalents (111,087) (1,360,350)
Foreign exchange loss (gain) on foreign operations 139,183 (8,617)
Cash and cash equivalents, beginning of period 632,604 2,247,623
------------ ------------
Cash and cash equivalents, end of period $ 660,700 $ 878,656
============ ============
Supplemental disclosures:
Cash interest paid $ 13,157 $ 3,131
============ ============
Other non-cash conversion of debentures and related interest $ 14,780,243 $ --
============ ============
The accompanying notes are an integral part of these consolidated condensed financial statements.
F5
NOTE 1 - NATURE OF BUSINESS AND BASIS OF PRESENTATION
Environmental Solutions Worldwide Inc. (the "Company" or "ESW") through its
wholly-owned subsidiaries is engaged in the design, development, manufacturing
and sales of environmental technologies and testing services with its primary
focus on the international on-road and off-road diesel retrofit market. ESW
currently manufactures and markets a line of catalytic emission control and
enabling technologies for a number of applications.
The unaudited consolidated condensed financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("US GAAP"), which contemplates continuation of the Company as a going
concern.
The Company has sustained recurring operating losses. As of September 30, 2010,
the Company has an accumulated deficit of $40,068,515, cash and cash equivalents
of $660,700 and was in violation of certain financial covenants with its secured
lender for which a waiver was obtained (See Note 8). There is no assurance that
the Company will be successful in achieving sufficient cash flow from operations
in the near future and there can be no assurance that it will either achieve or
maintain profitability in the future. As a result, there is substantial doubt
regarding the Company's ability to continue as a going concern. The Company will
require additional financing to fund its continuing operations. The Company is
seeking additional funds by way of equity or debt financing. The Company's
ability to continue as a going concern is dependent on raising additional
financing and achieving and maintaining a profitable level of operations. The
outcome of these matters cannot be predicted at this time.
The Company cannot assure that the funding will be available on terms attractive
to it, or at all. Furthermore, any additional financings may be dilutive to
shareholders or may involve restrictive covenants. The Company's failure to
raise capital as and when needed or at favourable terms could have a negative
impact on its financial condition and its ability to pursue business strategies.
Subsequent to the issuance of the September 30, 2010 consolidated condensed
interim financial statements, the Company determined that it had incorrectly
reported the Convertible Debentures issued March 19, 2010. The consolidated
condensed balance sheet as of September 30, 2010 and consolidated condensed
statement of operations for the three and nine months ended September 30, 2010
included herein were restated to reflect the effect of an exchange feature
included in the terms of the Share Subscription Agreement for $3,000,000 of
Convertible Debentures issued on March 19, 2010 ("2010 Debentures") and fully
converted into 6,000,000 shares of common stock on March 25, 2010.
The Debentures included a Share Subscription Agreement, which contains an
exchange feature and should have been recorded as a liability. As part of the
Company's re-evaluation of the exchange feature in the Share Subscription
Agreement, the Company considered the changes in the fair value of the liability
at each reporting date subsequent to the date the agreement was entered into
(March 19, 2010) based on changes in the closing price of the Company shares of
common stock and changes in probability assumptions with respect to the
likelihood of requiring additional finance.
F6
The adjustments identified in connection with the exchange feature in the Share
Subscription Agreement is accounted for as a liability and results in a increase
in additional net loss of $360,000 and the recognition of a Exchange feature
liability of $360,000 as of September 30,2010 in the Consolidated Condensed
Balance Sheet as of September 30, 2010. The full amount of this liability was
classified as a current liability as the exchange feature in the Share
Subscription Agreement is valid through March 18, 2011. The expense related to
the liability is included under Other income (expense), as change in fair value
of exchange feature liability in the Consolidated Condensed Statement of
Operations for the nine and three months period ended September 30, 2010
Refer to Note 19 for the effects of the restatement on each financial statement
line item.
These unaudited consolidated condensed financial statements do not include any
adjustments relating to the recoverability and classification of recorded asset
amounts or the amounts and classification of liabilities that might be necessary
should the Company be unable to continue as a going concern for a reasonable
period of time. All adjustments considered necessary for fair presentation and
of a normal recurring nature have been included in these consolidated condensed
financial statements.
These statements have not been audited and should be read in conjunction with
the consolidated financial statements and the notes thereto included in ESW's
Annual Report on Form 10-K, as filed with the United States Securities and
Exchange Commission for the year ended December 31, 2009. The methods and
policies set forth in the year-end audited consolidated financial statements are
followed in these interim consolidated condensed financial statements.
All adjustments considered necessary for fair presentation and of a normal
recurring nature have been included in these interim consolidated condensed
financial statements. Revenues and operating results for the nine month period
ended September 30, 2010 are not necessarily indicative of the results to be
expected for the full year.
NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES
BASIS OF CONSOLIDATION
The consolidated condensed financial statements include the accounts of the
Company and its wholly-owned subsidiaries, ESW America Inc., ESW Technologies
Inc., ESW Canada Inc. and BBL Technologies Inc. All inter-company transactions
and balances have been eliminated on consolidation. Amounts in the consolidated
condensed financial statements are expressed in U.S. dollars.
ESTIMATES
The preparation of consolidated condensed financial statements in conformity
with US GAAP requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amounts of revenue and expense during the reported period. Actual results could
differ from those estimates. Significant estimates include amounts for
impairment of property plant and equipment, intangible assets, valuation of
stock based compensation, valuation of inventory, redeemable Class A special
shares, accrued liabilities advance share subscription and accounts receivable.
F7
CONCENTRATION OF CREDIT RISK
The Company's cash balances are maintained in various banks in Canada and the
United States. Deposits held in banks in the United States are insured up to
$250,000 per depositor for each bank by the Federal Deposit Insurance
Corporation. Deposits held in banks in Canada are insured up to $100,000
Canadian per depositor for each bank by The Canada Deposit Insurance Corporation
a federal Crown corporation. Actual balances at times may exceed these limits.
Accounts Receivable and Concentrations of Credit Risk: The Company performs
on-going credit evaluations of its customer's financial condition and generally
does not require collateral from its customers. The Company manages its credit
risk by insuring certain of its accounts receivable, as at September 30, 2010,
$1,723,726 (December 31, 2009 - $0) of accounts receivable were insured. Three
of the Company's customers accounted for 23.05%, 14.55%, and 12.74%,
respectively of the Company's revenue during the nine month period ended
September 30, 2010 and 38.65%, 14.87%, and 14.01%, respectively of its accounts
receivable as at September 30, 2010. Three of its customers accounted for 47%,
14%, and 13%, respectively, of the Company's revenue during the nine month
period ended September 30, 2009 and 27%, 11%, and 25%, respectively, of its
accounts receivable as at December 31, 2009.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
The Company extends unsecured credit to its customers in the ordinary course of
business but mitigates the associated credit risk by performing credit checks
and actively pursuing past due accounts. An allowance for doubtful accounts is
estimated and recorded based on management's assessment of the credit history
with the customer and current relationships with them. On this basis management
has determined that a reserve of $9,606 was appropriate as at September 30, 2010
($6,637 at December 31, 2009).
INVENTORY
Inventory is stated at the lower of cost or market determined using the first-in
first-out method. Inventory is periodically reviewed for use and obsolescence,
and adjusted as necessary. Inventory consists of raw materials, work in progress
and finished goods.
PROPERTY, PLANT AND EQUIPMENT UNDER CONSTRUCTION
The Company capitalizes at cost, customized equipment built to be used in the
future day to day operations. Once complete and available for use, the cost for
accounting purposes is transferred to property, plant and equipment, where
normal depreciation rates apply.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are recorded at cost. Depreciation is computed on
a straight-line basis over the estimated useful lives of the assets, generally 5
to 7 years. Maintenance and repairs are charged to operations as incurred.
Significant renewals and betterments are capitalized. An impairment loss would
be recognized when the carrying amount of an asset exceeds the estimated
discounted cash flow used in determining the fair value of the asset. ESW
conducted a test for impairment and as of December 31, 2009 and found no
impairment.
F8
INTERNAL USE SOFTWARE
ESW capitalizes costs related to computer software obtained or developed for
internal use. Software obtained for internal use is an enterprise-level business
and finance software that ESW is customizing to meet specific operational needs.
Costs incurred in the development phase are capitalized and amortized over the
useful life of the internal use software, which is generally from three to five
years. Capitalized internal-use software development costs for project which is
not yet complete is included as Internal-use Software Under Development in the
consolidated condensed balance sheet. Capitalization of such costs ceases at the
point at which the project is substantially complete and ready for its intended
purpose. Costs capitalized during for the three months ended September 30, 2010
and 2009, were $44,409 and $0, respectively, costs capitalized during for the
nine months ended September 30, 2010 and 2009, were $104,304 and $0,
respectively.
PATENTS AND TRADEMARKS
Patents and trademarks consist primarily of the costs incurred to acquire them
from an independent third party. Topic 350-20, Goodwill, and 350-30, General
Intangibles Other than Goodwill, in the Accounting Standards Codification
("ASC") requires intangible assets with a finite life be tested for impairment
whenever events or circumstances indicate that the carrying amount of an asset
(or asset group) may not be recoverable. An impairment loss would be recognized
when the carrying amount of an asset exceeds the estimated discounted cash flow
used in determining the fair value of the asset. ESW conducted a test for
impairment and as of December 31, 2009 and found no impairment.
Patents and trademarks are being amortized on a straight-line basis over their
estimated lives of ten years. Amortization expense was $53,267 and $53,235 for
the three month periods ended September 30, 2010 and 2009, respectively, and
$159,946 and $159,625 for the nine month periods ended September 30, 2010 and
2009, respectively.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards ("FAS") 157 (which was codified into
Topic 820-10, Fair Value Measurements and Disclosures, under the ASC) defines
fair value, establishes a framework for measuring fair value, and expands
disclosures about fair value measurements. FAS 157 was issued in September 2006
and the Company's adoption of FAS 157 effective January 1, 2008 for financial
assets and liabilities did not have an impact on its consolidated financial
position, results of operations or cash flows.
Included in the FAS 157 framework is a three level valuation inputs hierarchy
with Level 1 being inputs and transactions that can be effectively fully
observed by market participants spanning to Level 3 where estimates are
unobservable by market participants outside of the Company and must be estimated
using assumptions developed by the Company. The Company discloses the lowest
level input significant to each category of asset or liability valued within the
scope of FAS 157 and the valuation method as exchange, income or use. The
Company uses inputs which are as observable as possible and the methods most
applicable to the specific situation of each company or valued item.
The carrying amounts of cash and cash equivalents, accounts receivable, accounts
payable, accrued liabilities, notes payable to related party, bank loan,
redeemable Class A special shares and capital lease obligation approximate fair
value because of the short-term nature of these items. Per FAS 157 framework
these are considered Level 2 inputs where estimates are unobservable by market
participants outside of the Company and must be estimated using assumptions
developed by the Company.
F9
The advance share subscription and the exchange feature are classified as
liabilities and periodically marked to market. The fair value of the advance
share subscription obligation and the exchange feature liability is determined
by the cash settlement value at the end of each period based on the closing
price of the Company's common stock and might be adversely affected by a change
in the price of the Company's common stock. Per FAS 157 framework these are
considered Level 1 inputs.
Interest rate risk is the risk that the value of a financial instrument might be
adversely affected by a change in the interest rates. In seeking to minimize the
risks from interest rate fluctuations, the Company manages exposure through its
normal operating and financing activities.
REVENUE RECOGNITION
The Company derives revenue primarily from the sale of its catalytic products.
In accordance with Topic 605 Revenue Recognition SEC Staff Accounting Bulletin
Topic 13 in the ASC, revenue is recognized when persuasive evidence of an
arrangement exists, delivery has occurred, the amount is fixed or determinable,
risk of ownership has passed to the customer and collection is reasonably
assured.
The Company derives revenue from sales of emission control and related devices;
revenue is recognized when the obligations under the contract or purchase order
from the independent distributors are met. Revenue on project contracts which
may or may not include development of technology is recognized upon the
completion each contracted responsibility.
The Company also derives revenue (less than 1.6% of total revenue) from
providing air testing and environmental certification services. Revenues from
these services are recognized upon the completion of each contracted
responsibility.
RESEARCH AND DEVELOPMENT
The Company is engaged in research and development work. Research and
development costs, are charged as operating expenses of the Company as incurred.
Any grant money received for research and development work is used to offset
these expenditures. For the three month periods ended September 30, 2010 and
2009, the Company expensed $207,169 and $127,001, respectively, towards research
and development costs. For the three month periods ended September 30, 2010 and
2009, grant money amounted to $9,431 and $66,427, respectively. For the nine
month periods ended September 30, 2010 and 2009 the Company expensed $491,469
and $773,255, respectively towards research and development costs. For the nine
month periods ended September 30, 2010 and 2009, grant money amounted to
$135,753 and $94,356, respectively.
PRODUCT WARRANTIES
The Company provides for estimated warranty costs at the time of sale and
accrues for specific items at the time their existence is known and the amounts
are determinable. The Company estimates warranty costs using standard
quantitative measures based on industry warranty claim experience and evaluation
of specific customer warranty issues. The Company currently records warranty
costs as 2% of revenue. As of September 30, 2010, $127,373 (December 31, 2009 -
$40,290) was accrued against warranty provision and included in accrued
liabilities. For the three month periods ended September 30, 2010 and 2009, the
total warranty provision included in cost of sales was $53,303 and $7,899
respectively. For the nine month period ended September 30, 2010 and 2009, the
total warranty provision included in cost of sales was $173,445 and $7,899,
respectively.
F10
SEGMENTED REPORTING
ASC Topic 280-10-50 - Segmented Reporting - Overall - Disclosure changed the way
public companies report information about segments of their business in their
quarterly reports issued to shareholders. It also requires entity-wide
disclosures about the products and services an entity provides, the material
countries in which it holds assets and reports revenues and its major customers.
The Company also derives revenue (September 30, 2010 - less than 1.6% of total
revenue, September 30, 2009 less than 8.1% of total revenue) from providing air
testing and environmental certification services. For the periods ended
September 30, 2010 and 2009, all revenues were generated from the United States.
As at September 30, 2010, $1,271,130 (December 31, 2009 - $1,662,243) of
property, plant and equipment, net of depreciation is located at the air testing
facility in Pennsylvania. All remaining long-lived assets are located in
Concord, Ontario, Canada.
NOTE 3 - RECENTLY ISSUED ACCOUNTING STANDARDS
RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
In January 2010, the Financial Accounting Standards Board ("FASB") issued
Accounting Standards Update ("ASU" or "Update") issued ASU No. 2010-06,
Improving Disclosures about Fair Value Measurements (ASU 2010-06) (codified
within ASC 820 Fair Value Measurements and Disclosures). ASU 2010-06 improves
disclosures originally required under SFAS No. 157. ASU 2010-06 is effective for
interim and annual periods beginning after December 15, 2009, except for the
disclosures about purchases, sales, issuances and settlements in the roll
forward of activity in Level 3 fair value measurements. Those disclosures are
effective for fiscal years beginning after December 15, 2009, and for interim
periods within those years. The adoption of the guidance did not have a material
effect on the Company's consolidated condensed financial position, results of
operations, cash flows or related disclosures.
In December 2009, the FASB issued ASU 2009-16, - Transfers and Servicing (Topic
860) - Accounting for Transfers of Financial Assets ("ASU 2009-16). ASU 2009-16
amends the accounting for transfers of financials assets and will require more
information about transfers of financial assets, including securitizations, and
where entities have continuing exposure to the risks related to transferred
financial assets. ASU 2009-16 is effective at the start of a reporting entity's
first fiscal year beginning after November 15, 2009, with early adoption not
permitted. The adoption of the guidance did not have a material effect on the
Company's consolidated condensed financial position, results of operations, cash
flows or related disclosures.
In October 2009, the FASB issued ASU 2009-15, - Accounting for Own-Share Lending
Arrangements in Contemplation of Convertible Debt Issuance or Other Financing
("ASU 2009-15"). ASU 2009-15 amends the accounting and reporting guidance for
debt (and certain preferred stock) with specific conversion features or other
options. ASU 2009-15 is effective for fiscal years beginning on or after
December 15, 2009. The adoption of the guidance did not have a material effect
on the Company's consolidated condensed financial position, results of
operations, cash flows or related disclosures.
F11
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In August 2010, ASU No.2010-22 - Accounting for Various Topics. This update
amends various SEC paragraphs based on external comments received and the
issuance of SAB 112, which amends or rescinds portions of certain SAB topics.
The Company is assessing the potential effect this guidance will have on its
condensed consolidated financial statements.
In August 2010, the FASB issued ASU No.2010-21 - Accounting for Technical
Amendments to Various SEC Rules and Schedules. This update amends various SEC
paragraphs pursuant to the issuance of Release No. 33-9026: Technical Amendments
to Rules, Forms, Schedules and Codification of Financial Reporting Policies. The
Company is assessing the potential effect this guidance will have on its
condensed consolidated financial statements.
In April 2010, the FASB issued ASU No. 2010 - 17 - Revenue Recognition -
Milestone Method. The objective of this Update is to provide guidance on
defining a milestone and determining when it may be appropriate to apply the
milestone method of revenue recognition for research or development
transactions. The amendments in this Update are effective on a prospective basis
for milestones achieved in fiscal years, and interim periods within those years,
beginning on or after June 15, 2010. Early adoption is permitted. The Company
does not anticipate that the adoption of this pronouncement will have a
significant effect on its consolidated financial statements.
In April 2010, the FASB issued ASU No. 2010-013 - Compensation - Stock
Compensation (Topic 718): Effect of Denominating the Exercise Price of a
Share-Based Payment Award in the Currency of the Market in Which the Underlying
Equity Security Trades a consensus of the FASB Emerging Issues Task Force. ASU
2010-13 addresses the classification of an employee share-based award with an
exercise price denominated in the currency of a market in which the underlying
equity security trades. The amendments are effective for fiscal years, and
interim periods within those fiscal years, beginning on or after December 15,
2010. The Company will comply with the additional disclosures required by this
guidance upon its adoption in January 2011.
In October 2009, the FASB issued ASU No. 2009-13, - Multiple Deliverable Revenue
Arrangements - a consensus of the FASB Emerging Issues Task Force (ASU 2009-13)
(codified within ASC Topic 605). ASU 2009-13 addresses the accounting for
multiple-deliverable arrangements to enable vendors to account for products or
services (deliverables) separately rather than as a combined unit. ASU 2009-13
is effective prospectively for revenue arrangements entered into or materially
modified in fiscal years beginning on or after June 15, 2010, with early
adoption permitted. The Company is currently assessing the impact of ASU
2009-13on its consolidated condensed financial position, results of operations
and cash flows.
F12
NOTE 4 - CASH AND CASH EQUIVALENTS
Cash and cash equivalents include cash and highly liquid investments purchased
with an original or remaining maturity of 90 days or less at the date of
purchase. At September 30, 2010 and December 31, 2009 all of the Company's cash
and cash equivalents consisted of cash.
NOTE 5 - INVENTORY
Inventory is summarized as follows:
SEPTEMBER 30, DECEMBER 31,
INVENTORY 2010 2009
---------------------------------------------
Raw materials $1,514,929 $ 844,649
Work-In-Process 2,773,020 640,286
Finished goods 29,941 23,479
---------------------------------------------
TOTAL $4,317,890 $1,508,414
=============================================
NOTE 6 - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of the following:
SEPTEMBER 30, DECEMBER 31,
CLASSIFICATION 2010 2009
-----------------------------------------------------------
Plant, machinery and equipment $ 5,627,513 $ 5,539,017
Office equipment 369,601 325,626
Furniture and fixtures 454,471 451,281
Vehicles 18,078 17,951
Leasehold improvements 1,031,721 1,016,511
--------------------------
7,501,384 7,350,386
Less: accumulated depreciation (5,463,460) (4,663,281)
--------------------------
$ 2,037,924 $ 2,687,105
==========================
SEPTEMBER 30, SEPTEMBER 30,
Depreciation Expense 2010 2009
-------------------------------------------------------------------------------
Depreciation expense included in cost of sales $ 152,104 $ 19,732
Depreciation expense included in operating expenses 579,484 694,810
Depreciation expense included in research
and development costs 98,014 105,133
--------------------------
Total depreciation expense $ 829,602 $ 819,675
==========================
F13
At September 30, 2010 and December 31, 2009 the Company had $224,538 and
$138,800, respectively, of customized equipment under construction.
The plant, machinery and equipment above include $37,070 of assets under capital
lease with a corresponding accumulated depreciation of $24,358 as at September
30, 2010. As at December 31, 2009, plant, machinery and equipment included
$36,294 of assets under capital lease with a corresponding accumulated
depreciation of $18,592.
NOTE 7 - NOTES PAYABLE TO RELATED PARTY
On December 29, 2009, the Company issued a $500,000 unsecured subordinated
promissory note to a shareholder and a member of the Company's Board of
Directors with interest accruing at the annual rate of 9%. In accordance with
the terms of the note, upon the Company completing a financing for the gross sum
of $2 million dollars or more, or in the event the Company did not complete a
financing by March 31, 2010, this note would have been payable upon demand of
the holder.
Effective March 31, 2010, the Company repaid $500,000 principal and $11,342 in
interest from the proceeds of the March 19, 2010 convertible debentures
issuance. (See NOTE 10 - CONVERTIBLE DEBENTURES for details.)
As at September 30, 2010, principal and corresponding accrued interest
outstanding on notes payable to related party was $0. As at December 31, 2009,
principal and interest outstanding on notes payable to related party was
$500,000.
NOTE 8 - BANK LOAN
In 2007, ESW's subsidiary, ESW Canada Inc., entered into a $2.5 million
revolving credit facility with Royal Bank of Canada ("RBC"), to finance orders
on hand. Effective September 2, 2008, the agreement was amended to extend the
term of the agreement through to June 30, 2009 and effective August 21, 2009,
the term of the secured commercial loan agreement with RBC was extended through
to April 30, 2010. The amended arrangement provided for a revolving facility
available by way of a series of term loans of up to $750,000 to finance future
production orders. The credit facility was guaranteed by the Company and its
subsidiary, ESW Canada Inc., through the pledge of their assets to RBC. The
facility had been guaranteed to the bank under Export Development Canada ("EDC")
pre-shipment financing program. Borrowings under the revolving credit agreement
bore interest at 1.5% above the bank's prime rate of interest. Repayments of any
loans were required no later than one year from the date of the advancement of
that loan. Obligations under the revolving credit agreement were collateralized
by a first-priority lien on the assets of the Company and its subsidiary, ESW
Canada Inc., including accounts receivable, inventory, equipment and other
tangible and intangible property, including the capital stock of all direct
subsidiaries.
Effective March 31, 2010, all borrowings under the RBC facility were repaid and
the facility with RBC was closed.
F14
Effective March 31, 2010, ESW's subsidiary, ESW Canada Inc., entered into a
demand revolving credit facility agreement (the "Credit Agreement") with a
Canadian chartered bank, Canadian Imperial Bank of Commerce ("CIBC") to meet
working capital requirements. The facility has a credit limit of $4 million
Canadian. Borrowings under the facility are limited to a percentage of accounts
receivable plus a percentage of inventory (capped at $1 million Canadian or 50%
of the accounts receivable portion) less any prior ranking claims. The credit
facility is guaranteed by the Company and its subsidiaries, ESW Canada Inc., ESW
America Inc., BBL Technologies Inc., and ESW Technologies Inc., through a
general security agreement over all assets to CIBC. The facility has been
guaranteed to CIBC under EDC's Export Guarantee Program. Borrowings under the
credit facility bear interest at 2.25% above CIBC's prime rate of interest.
Obligations under the Credit Agreement are collateralized by a first-priority
lien on the assets of the Company and its subsidiaries, including accounts
receivable, inventory, equipment and other tangible and intangible property,
including the capital stock of all direct subsidiaries.
On November 8, 2010, the Company's wholly owned subsidiary ESW Canada, Inc.
received a waiver of certain financial covenants under its Credit Agreement with
CIBC. Without the waiver, the Company's subsidiary would not be in compliance
with the current ratio and effective tangible net worth covenants as set forth
in the Credit Agreement. The waiver as provided by CIBC is through November 19,
2010. In the event the Company and its subsidiary ESW Canada Inc., fail to
comply with the terms of the waiver and meet the current ratio and effective
tangible net worth covenants prior to the end of the waiver period, same will
constitute an event of default and the bank loan may need to be repaid unless a
further waiver or modification to the Credit Agreement can be obtained.
As at September 30, 2010, $3,428,066 was owed under the credit facility with
CIBC. As at December 31, 2009, $713,037 was owed under the former credit
facility with RBC.
NOTE 9 - REDEEMABLE CLASS A SPECIAL SHARES
700,000 Class A special $453,900 (based on the historical
shares authorized, exchange rate at the time of
issued, and outstanding. issuance.)
The redeemable Class A special shares were issued by the Company's wholly-owned
subsidiary BBL Technologies, Inc. ("BBL") without par value, and are redeemable
on demand by the holder of the shares, which is a private Ontario Corporation,
at $700,000 Canadian Dollars (which translates to $680,272 USD and $660,032 USD
at September 30, 2010 and December 31, 2009, respectively). As the redeemable
Class A special shares were issued by the Company's wholly-owned subsidiary BBL,
the maximum value upon which the Company is liable is the net book value of BBL.
As at September 30, 2010, BBL has an accumulated deficit of $1,190,150 USD
($1,842,603 Canadian dollars as at September 30, 2010) (December 31, 2009 - $
1,187,506 USD which equates to $1,839,864 Canadian) and therefore, the holder
would be unable to redeem the redeemable Class A special shares at their
ascribed value.
F15
NOTE 10 - CONVERTIBLE DEBENTURES
Effective March 25, 2010, the November 2008 and the August 2009 debenture
holders agreed to convert all outstanding convertible debentures as per the
terms of the respective debenture agreements. The early conversion of the
debentures was a condition precedent to the Company's wholly-owned subsidiary,
ESW Canada Inc., entering into the Credit Agreement with CIBC (Note 8). A total
of $10,600,000 in principal and $1,176,445 of accrued interest was converted
into 43,756,653 shares of restricted common stock. The conversion of the
November 2008 and the August 2009 debentures also triggered the mandatory
conversion feature on the March 19, 2010 debentures. A total of $3,000,000 in
principal and $3,797 in accrued interest was converted into 6,007,595 shares of
restricted common stock. With these transactions effective March 25, 2010 the
Company has $0 of convertible debentures and accrued interest on convertible
debenture.
As part of the agreement to convert all existing convertible debentures, the
Company was committed to pay a premium as an inducement to convert all
debentures. The premium is payable to all converting debenture holders and was
subject to a positive fairness opinion, approval by a Fairness Committee
consisting of independent directors of the Company's Board of Directors and an
increase in the share capital of the Company. The premium consists of 4,375,665
shares of common stock. As the Company did not have sufficient authorized shares
as of the date of conversion of the debentures to fulfill the premium, the
premium had been recorded as an advance share purchase agreement at a fair
market value of $2,909,872 as at March 31, 2010. The agreement is without
interest, subordinated to the banks position and payable in a fixed number of
common shares (4,375,665 shares) of the Company upon increase in the authorized
share capital of the Company.
At September 30, 2010, the Company did not have sufficient authorized and
unissued shares to fulfill the advance share subscription. Under these
conditions, FASB ASC Subtopic 815-40 Contracts in Entity's Own Equity precludes
equity classification of this obligation. As such, the advance share
subscription is classified as a liability and periodically marked to market. The
fair value of the obligation was determined to be $1,662,753 at September 30,
2010. The fair value of the obligation is determined by the cash settlement
value at the end of each period based on the closing price of the Company's
common stock. The decrease in fair value of this liability of $1,247,119 is
recorded as a mark to market adjustment on advance share subscription in the
consolidated condensed statement of operations and comprehensive loss.
The Share Subscription Agreement for the 2010 Debentures contains an exchange
feature. The exchange feature provides that if within twelve months from March
19, 2010, the Company enters into or closes another financing or other
transaction (which for securities law purposes would be integrable with the
offer and sale of the Securities) on terms and conditions more favourable to
another purchaser, the terms and conditions of the 2010 Debentures shall be
adjusted to reflect the more favourable terms. The exchange feature was
determined by the Company to be freestanding financial instrument and also to be
a liability within the scope of ASC 480 Distinguishing Liabilities from Equity
since there is an inverse relationship between the stock price of the Company
and the Company's obligation. On September 30, 2010, the Company re-evaluated
the fair value of the exchange feature and determined that the probability of
closing another financing by March 18, 2011 was approximately 50% and the
conversion price of the 2010 Debentures would be reset, if there was another
financing, since the closing price of Company's shares of common stock on
September 30, 2010 was less than the conversion price. On September 30, 2010 a
liability of $360,000 was recorded for the exchange feature in these restated
consolidated condensed financial statements.
F16
Debentures issued by the Company are summarised as follows:
TOTAL TOTAL
2008 DEBENTURE 2009 DEBENTURE 2010 DEBENTURE MARCH 31, 2010 DECEMBER 31, 2009
-------------- -------------- -------------- --------------- -----------------
Face value of convertible debenture $ 9,000,000 $ 1,600,000 $ 3,000,000 $ 13,600,000 $ 10,600,000
Less: Beneficial conversion feature -- (256,000) (540,000) (796,000) (256,000
Deferred costs (59,738) -- (80,625) (140,363) (59,738
--------------- -------------- --------------- --------------- --------------)
Book value upon issuance 8,940,262 1,344,000 2,379,375 12,663,637 10,284,262)
Accretion of the debt discount -- 256,000 540,000 796,000 27,019
Amortization of deferred costs 59,738 -- 80,625 140,363 23,232
--------------- -------------- ---------------- --------------- --------------
CARRYING VALUE 9,000,000 1,600,000 3,000,000 13,600,000 $ 10,334,513
==============
CONVERSION (MARCH 25,2010) (9,000,000) (1,600,000) (3,000,000) (13,600,000)
--------------- -------------- ---------------- ---------------
CARRYING VALUE (SEPTEMBER 30,2010) $ 0 $ 0 $ 0 $ 0
=============== ============== ================ ===============
Effective March 19, 2010, the Company issued $3,000,000 of its 9% convertible
debentures (the "2010 Debentures") to five (5) accredited investors under Rule
506 of Regulation D. The Debentures were for a term of three (3) years and were
convertible into shares of the Company's common stock at the option of the
holder by dividing the principal amount of the 2010 Debenture to be converted by
$0.50. The 2010 Debentures earned interest at a rate of 9% per annum payable in
cash or in shares of the Company's common stock at the option of the holder. If
the holder elected to receive interest in shares of common stock, the number of
shares of common stock to be issued for interest would be determined by dividing
accrued interest by $0.50. The 2010 Debentures had a mandatory conversion
feature that required the holders to convert in the event a majority of the
Company's pre-existing outstanding 9% convertible debentures converted. Subject
to the holder's right to convert and the mandatory conversion feature, the
Company had the right to redeem the 2010 Debentures at a price equal to one
hundred and ten percent (110%) multiplied by the then outstanding principal
amount plus unpaid interest to the date of redemption. Upon maturity, the
debenture and interest was payable in cash or common stock at the option of the
holder. The Company also had provided the holders of the 2010 Debentures
registration rights. The 2010 Debentures contained customary price adjustment
protections.
At the time the 2010 Debentures were issued, the Company recorded a debt
discount for a beneficial conversion feature in the amount of $540,000. The debt
discount being the aggregate intrinsic value calculated as the difference
between the market price of the Company's share of stock on March 19, 2009 and
the conversion price of the 2010 Debentures. The debt discount was being
accreted over the three (3) year life of the debentures using the effective
yield method. The effective yield on the debentures was 16.36%.
F17
On August 28, 2009, the Company completed a transaction whereby it issued $1.6
million of 9% convertible debentures (the "2009 Debentures") to six accredited
investors. Of the $1.6 million received by the Company, $500,000 was received
from a director of the Company through the exchange of a $300,000 unsecured 9%
subordinated demand short-term loan previously provided to the Company on August
11, 2009 and an additional $200,000 investment made by the director in the
offering. The 2009 Debentures were for a term of three (3) years and were
convertible into shares of the Company's common stock at the option of the
holder by dividing the principal amount of the 2009 Debentures to be converted
by $0.50. The 2009 Debentures earned interest at a rate of 9% per annum payable
in cash or in shares of the Company's common stock at the option of the holder.
If the Holder elected to receive interest in shares of common stock, the number
of shares of common stock to be issued for interest would be determined by
dividing accrued interest by $0.50. Subject to the holder's right to convert,
the Company had the right to redeem the 2009 Debentures at a price equal to one
hundred and ten percent (110%) multiplied by the then outstanding principal
amount plus unpaid interest to the date of redemption. Upon maturity, the
debenture and interest was payable in cash or common stock at the option of the
holder. The 2009 Debentures contained customary price adjustment protections.
At the time the 2009 Debentures were issued, the Company recorded a debt
discount for a beneficial conversion feature in the amount of $256,000. The debt
discount being the aggregate intrinsic value calculated as the difference
between the market price of the Company's share of stock on August 28, 2009 and
the conversion price of the 2009 Debentures. The debt discount was being
accreted over the three (3) year life of the debentures using the effective
yield method. The effective yield on the debentures was 15.52%.
On November 3, 2008, the Company completed a transaction whereby it issued $6.0
million of 9% convertible debentures (the "2008 Debentures") to six accredited
investors. The 2008 Debentures were for a term of three (3) years and were
convertible into shares of the Company's common stock at the option of the
holder at any time six (6) months after the date of issuance of the 2008
Debentures by dividing the principal amount of the 2008 Debentures to be
converted by $0.25. The 2008 Debentures earned interest at a rate of 9% per
annum payable in cash or in shares of the Company's common stock at the option
of the holder. If the holder elected to receive interest in shares of common
stock, the number of shares of common stock to be issued for interest would be
determined by dividing accrued interest by $0.25. Subject to the holder's right
to convert, the Company had the right to redeem the 2008 Debentures at a price
equal to one hundred and ten percent (110%) multiplied by the then outstanding
principal amount plus unpaid interest to the date of redemption. Upon maturity,
the debenture and interest was payable in cash or common stock at the option of
the holder. The 2008 Debentures contained customary price adjustment
protections. The effective yield on the 2008 debentures was 9%.
From the proceeds of the 2008 Debentures, the Company repaid $2,200,000, the
principal portion only, of a previously issued Consolidated Note in the amount
of $2,308,148 to a company controlled by a trust to which a director and
shareholder of the Company is the beneficiary. The debt holder agreed to have
the remaining amount of $433,923, due under the Consolidated Note, applied to a
subscription of a Debenture under the November 3, 2008 offering. Concurrently,
the Company repaid a Consolidated Subordinated Note that it had previously
issued to a debt holder who is a director and shareholder of the Company, in the
principal amount of $1,002,589. The debt holder agreed to have the full amount
of principal and accumulated interest, in the amount of $1,158,024 due under the
Consolidated Subordinated Note, applied to a subscription of a debenture under
the offering. Additionally the Company's $1.5 million credit facility also
provided by the same debt holder, from which the Company had drawn down the sum
of $1,103,000 as of November 3, 2008, was also satisfied by way of issuance of
debentures under the November 3, 2008 offering. With the agreement to settle all
the notes previously issued the debt holder subscribed to an aggregate of
$2,566,077 of debentures under the offering.
F18
As at September 30, 2010, total convertible debentures and corresponding accrued
interest amounted to $0. As at December 31, 2009, total convertible debentures
amounted to $10,334,513, net of deferred costs of $36,506 and debt discount of
$228,981, with corresponding accrued interest of $996,385.
At March 31, 2010, the debt discount of $768,981 and deferred costs of $ 117,131
were fully amortized and expensed due to the conversion of the debentures
effective March 25, 2010.
LEGAL FEES RELATED TO 2008 AND 2010 CONVERTIBLE DEBENTURES
The Company had recorded a deferred cost asset of $59,738 for legal fees paid in
relation to the issuance of the 2008 Debentures. The deferred costs were being
amortized over the term of the 2008 Debentures. The Company had also recorded a
deferred cost asset of $80,625 for legal fees paid in relation to the issuance
of the 2010 Debentures. The deferred costs were being amortized over the term of
the 2010 Debentures.
At March 31, 2010, the deferred cost assets were fully amortized due to the
conversion of the debentures effective March 25, 2010. As at September 30 2010,
the deferred cost assets was $0 (December 31, 2009 - $36,506) and related
amortization expense was $0 and $4,977 for the three month periods ended
September 30, 2010 and 2009, respectively, and $117,131 and $14,934 for the nine
month periods ended September 30, 2010 and 2009, respectively. At December 31,
2009, legal fees have been presented net against the related convertible
debentures.
NOTE 11- INCOME TAXES
As at September 30, 2010, there are tax loss carry forwards for Federal income
tax purposes of approximately $26,330,869 available to offset future taxable
income in the United States. The tax loss carry forwards expire in various years
through 2030. The Company does not expect to incur a Federal income tax
liability in the foreseeable future. Accordingly, a valuation allowance for the
full amount of the related deferred tax asset of approximately $9,215,804 has
been established until realizations of the tax benefit from the loss carry
forwards meet the "more likely than not" criteria.
LOSS CARRY
YEAR FORWARD
---- -------
1999 $ 407,067
2000 2,109,716
2001 2,368,368
2002 917,626
2003 637,458
2004 1,621,175
2005 2,276,330
2006 3,336,964
2007 3,378,355
2008 3,348,694
2009 3,260,449
2010 2,668,667
---- -----------
Total $26,330,869
===========
Additionally, as at September 30, 2010, the Company's two wholly-owned Canadian
subsidiaries had non-capital tax loss carry forwards of approximately $8,142,560
to be used, in future periods, to offset taxable income. The loss carry forwards
expire in various years through 2030 The deferred tax asset of approximately
$2,687,045 has been fully offset by a valuation allowance until realization of
the tax benefit from the non-capital tax loss carry forwards are more likely
than not.
F19
LOSS CARRY
FORWARD FOREIGN
YEAR OPERATIONS
---- ----------
2003 $ 5,343
2004 5,942
2005 2
2006 561,306
2007 7,060
2008 3,671,089
2009 2,977,360
2010 914,458
---- ----------
Total $8,142,560
==========
For the nine month period ended September 30,
2010 2009
---------------------------
Statutory tax rate:
U.S. 35.0% 35.0%
Foreign 33.0% 33.5%
Loss before income taxes:
U.S. $(4,753,546) $(3,089,746)
Foreign (1,151,589) (1,922,465)
----------------------------
(5,905,135) (5,012,211)
---------------------------
Expected income tax recovery (2,043,765) (1,725,437)
Differences in income tax resulting from:
Depreciation (Foreign operations) 48,134 23,124
Inducement premium on conversion of Debentures 1,018,455 --
Change in fair value of exchange feature liability 126,000 --
Interest on long-term debt 64,350 217,181
Stock based compensation 21,744 --
Mark to market adjustment on advance share subscription (436,492) --
Long-term debt accretion 269,143 --
---------------------------
(932,431) (1,485,132)
Benefit of losses not recognized 932,431 1,485,132
---------------------------
Income tax provision (recovery) per financial statements $ -- $ --
===========================
Deferred income tax assets and liabilities consist of the following difference:
As at September 30,
2010 2009
---------------------------
Assets
Property, plant and equipment - Tax Basis
(Foreign operations only) $ 1,197,146 $ 1,410,069
Property, plant and equipment - Book Value
(Foreign operations only) (766,967) (1,130,916)
---------------------------
Net Property, plant and equipment 430,179 279,153
Tax loss carry forwards 34,473,429 29,915,933
---------------------------
Net temporary differences 34,903,608 30,195,086
Statutory tax rate:
U.S. 35.0% 35.0%
Foreign 25.0% 33.5%
Deferred income tax assets 12,010,394 10,467,726
Valuation allowance (12,010,394) (10,467,726)
---------------------------
Carrying Value $ -- $ --
===========================
F20
Valuation allowances reflect the deferred tax benefits that management is
uncertain of the Company's ability to utilize in the future.
Effective January 1, 2007, the Company adopted the provisions of FASB
Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an
interpretation of FASB Statement No. 109," ("FIN 48") (which was primarily
codified into Topic 740-10-30, Income Tax, in the ASC) prescribes a recognition
threshold and a measurement attribute for the financial statement recognition
and measurement of tax positions taken or expected to be taken in an income tax
return. For those benefits to be recognized, a tax position must be
more-likely-than-not to be sustained upon examination by taxing authorities.
There was no material impact on the Company's consolidated financial position
and results of operations as a result of the adoption of the provisions of FIN
48. The Company does not believe there will be any material changes in its
unrecognized tax positions over the next twelve months.
The Company will recognize interest and penalties related to unrecognized tax
benefits within the income tax expense line in the interim consolidated
condensed statement of operations. Accrued interest and penalties will be
included within the related tax liability line in the consolidated condensed
balance sheet.
The following describes the Company's open tax years that remain subject to
examination by tax authorities, by major tax jurisdiction, as of September 30,
2010:
United States - Federal 2006 - present
United States - State 2006 - present
Canada - Federal 2007 - present
Canada - Provincial 2007 - present
NOTE 12 - STOCKHOLDERS' EQUITY / (DEFICIT)
Effective March 25, 2010, the November 2008 and the August 2009 debenture
holders agreed to convert all outstanding convertible debentures as per the
terms of the respective debenture agreements (Note 10). The early conversion of
the debentures was a condition precedent to the Company's wholly-owned
subsidiary, ESW Canada Inc., entering into a new credit facility with CIBC. A
total of $10,600,000 in principal and $1,176,445 of accrued interest was
converted into 43,756,653 shares of restricted common stock.
The conversion of the November 2008 and the August 2009 debentures also
triggered the mandatory conversion feature on the March 19, 2010 debentures. A
total of $3,000,000 in principal and $3,797 in accrued interest was converted
into 6,007,595 shares of restricted common stock. With these transactions
effective March 25, 2010, the Company has $0 of convertible debentures and
accrued interest on convertible debenture.
As part of the agreement to convert all existing convertible debentures, the
Company was committed to pay a premium as an inducement to convert all
debentures. The premium is payable to all converting debenture holders and was
subject to a positive fairness opinion, approval by a Fairness Committee
consisting of independent directors of the Company's Board of Directors and an
increase in the share capital of the Company. The premium consists of 4,375,665
shares of Common Stock. As the Company did not have sufficient authorized shares
as of the date of conversion of the debentures to fulfill the premium, the
premium had been recorded as an advance share purchase agreement at a fair
market value of $2,909,872 as at March 31, 2010. The agreement is without
interest, subordinated to the banks position and payable in a fixed number of
common shares (4,375,665 shares) of the Company upon increase in the authorized
share capital of the Company.
F21
At September 30, 2010, the Company did not have sufficient authorized and
unissued shares to fulfill the advance share subscription. Under these
conditions, FASB ASC Subtopic 815-40, Contracts in Entity's Own Equity,
precludes equity classification of this obligation. As such, the advance share
subscription is classified as a liability and periodically marked to market. The
fair value of the obligation was determined to be $1,662,753 at September 30,
2010. The fair value of the obligation is determined by the cash settlement
value at the end of each period based on the closing price of the Company's
common stock. The decrease in fair value of this liability of $1,247,119 is
recorded as a mark to market adjustment on advance share subscription in the
consolidated condensed statement of operations and comprehensive loss.
NOTE 13 - STOCK OPTIONS AND WARRANT GRANTS
On April 15, 2010, the Board of Directors granted an aggregate award of 900,000
stock options to one executive officer and director and one director. The
options vest over a period of three years with an exercise price of $0.65 (fair
market value of the Company's common stock as of the date of grant) with expiry
of five years from the date of award. All option holders of the April 15, 2010
grant have agreed to stand back on exercise of the options issued until the
Company has sufficient authorized shares available. The total stock option
expense for the April 15, 2010 grant is $372,761 and will be expensed on a
straight line basis over the vesting term of the award, as per the terms of the
option agreements, as follows:
DATE Stock Option
Expense
--------------------------------------
April 15, 2011 $124,254
April 15, 2012 $124,254
April 15, 2013 $124,254
A total of $62,126 for stock based compensation has been recorded for the nine
month period ended September 30, 2010. During fiscal year 2009 no stock options
or warrants were granted.
A summary of option transactions, including those granted pursuant to the terms
of certain employment and other agreements is as follows:
STOCK WEIGHTED
PURCHASE AVERAGE
DETAILS OPTIONS EXERCISE PRICE
-------------------------------------------------------------
OUTSTANDING, JANUARY 1, 2009 6,120,000 $ 0.65
Granted -- --
Expired (1,600,000) ($ 0.50)
Exercised (850,000) ($ 0.50)
---------- ------
OUTSTANDING, JANUARY 1, 2010 3,670,000 $ 0.76
Granted 900,000 $ 0.65
Expired (175,000) ($ 0.71)
---------- ------
OUTSTANDING, SEPTEMBER 30, 2010 4,395,000 $ 0.74
========== ======
F22
At September 30, 2010, the outstanding options have a weighted average remaining
life of 22 months. All options issued prior to 2010 have vested, and the April
15, 2010 options vest over a period of three years, in three equal parts each
year.
The weighted average fair value of options granted during 2010 was $0.41 and was
estimated using the Black-Scholes option-pricing model, using the following
assumptions:
2010
------
Expected volatility 117%
Risk-free interest Rate 1.08%
Expected life 4 yrs
Dividend yield 0.00%
Forfeiture rate 0.00%
The Black-Scholes model used by the Company to calculate options and warrant
values, was developed to estimate the fair value of freely tradable, fully
transferable options without vesting restrictions, which significantly differ
from the Company's stock purchase options and warrants. The model also requires
highly subjective assumptions, including future stock price volatility and
expected time until exercise, which greatly affect the calculated values.
Accordingly, management believes that this model does not necessarily provide a
reliable single measure of the fair value of the Company's stock options and
warrants.
At September 30, 2010, the Company had outstanding options as follows:
NUMBER OF EXERCISE
OPTIONS PRICE EXPIRATION DATE
------------------------------------------------------
795,000 $1.00 December 31,2010
100,000 $0.71 February 06,2011
100,000 $1.00 February 06,2011
2,150,000 $0.71 February 16,2012
100,000 $1.00 February 08,2013
250,000 $0.27 August 06,2013
900,000 $0.65 April 15,2015
------------------------------------------------------
4,395,000
======================================================
At September 30, 2010, the Company signed agreements with certain option holders
to stand back on exercise of their options, until authorized shares are
available:
NUMBER OF EXERCISE
OPTIONS PRICE EXPIRATION DATE
------------------------------------------------------
520,000 $1.00 December 31,2010
50,000 $0.71 February 06,2011
250,000 $0.27 August 06,2013
1,300,000 $0.71 February 16,2012
900,000 $0.65 April 15,2015
------------------------------------------------------
3,020,000
======================================================
F23
At September 30, 2010, the Company had 1,375,000 outstanding options that were
exercisable.
Warrants issued in connection with various private placements of equity
securities, are treated as a cost of capital and no income statement recognition
is required. A summary of warrant transactions is as follows:
WEIGHTED AVERAGE
DETAILS WARRANT SHARES EXERCISE PRICE
-------------------------------------------------------------------------------
Outstanding, January 1, 2008 3,272,500 $ 1.28
Granted -- --
Exercised -- --
Expired (3,272,500) $(1.28)
-------------------------------------------------------------------------------
Outstanding, September 30, 2010 and December 31, 2009 -- --
===============================================================================
NOTE 14 - RELATED PARTY TRANSACTIONS
During the three month period ended September 30, 2010 and 2009 transactions
with related parties amounted to $0 and $0 in addition to salaries and
reimbursement of business expenses. During the nine month period ended September
30, 2010 transactions with related parties included $6,134,024 related to
conversion of convertible debentures including interest of $634,024 thereon into
common stock; $1,032,849 related to inducement on early conversion of
convertible debentures; and the repayment of $511,342 principal and interest on
promissory note in addition to salaries and reimbursement of business expenses.
During the nine month period ended September 30, 2009, the Company paid
shareholders and their affiliates $0 in addition to salaries and reimbursement
of business expenses. All transactions are recorded at the exchange amounts.
NOTES PAYABLE TO RELATED PARTY
The information required by this item is included under the caption "NOTE 7 -
NOTES PAYABLE TO RELATED PARTY".
CONVERTIBLE DEBENTURE ISSUED TO RELATED PARTY
On August 28, 2009, the Company completed a transaction whereby it issued $1.6
million of 9% convertible debentures to six accredited investors. A director who
is also a shareholder of the Company participated in the August convertible
debenture offering with a principal investment of $500,000.
On November 3, 2008, the Company completed a transaction whereby it issued $6.0
million of 9% convertible debentures to six accredited investors. Based on the
beneficial ownership position in the Company, The Leon Black 1997 Family Trust
was included as a related party, all other entities participating in the
November convertible debenture offering disclaim beneficial ownership (see
beneficial ownership table Part III - Item 12 of the Company's 10K report filed
with the Securities Exchange Commission for the year ended December 31, 2009).
The Leon Black 1997 Family Trust participated in the November convertible
debenture offering with a principal investment of $2,000,000.
F24
From the proceeds of the November 2008 debentures, the Company repaid
$2,200,000, the principal portion only, of a previously issued Consolidated Note
in the amount of $2,308,148 to a company controlled by a trust to which a
director and shareholder of the Company is the beneficiary. The debt holder
agreed to have the remaining amount of $433,923, due under the Consolidated
Note, applied to a subscription of a Debenture under the November 3, 2008
offering. Concurrently, the Company repaid a Consolidated Subordinated Note that
it had previously issued to a debt holder who is a director and shareholder of
the Company, in the principal amount of $1,002,589. The debt holder agreed to
have the full amount of principal and accumulated interest, in the amount of
$1,158,024 due under the Consolidated Subordinated Note, applied to a
subscription of a Debenture under the offering. Additionally the Company's $1.5
million credit facility also provided by the same debt holder, from which the
Company had drawn down the sum of $1,103,000 as of November 3, 2008, was also
satisfied by way of issuance of Debentures under the November 3, 2008 offering.
With the agreement to settle all the notes previously issued, the debt holder
subscribed to an aggregate of $2,566,077 of Debentures under the offering.
Effective March 25, 2010, the November 2008 and the August 2009 debenture
holders agreed to convert all outstanding convertible debentures as per the
terms of the respective debenture agreements. The early conversion of the
debentures was a condition precedent to the Company's wholly-owned subsidiary
ESW Canada Inc. entering into a new credit facility with CIBC. A total of
$5,500,000 in principal and $634,024 of accrued interest due to related parties
was converted into 23,489,494 shares of restricted common stock.
As part of the agreement to convert all existing convertible debentures, the
Company was committed to pay a premium as an inducement to convert all
debentures. The premium was payable to all converting debenture holders and was
subject to a positive fairness opinion, approval by a Fairness Committee
consisting of independent directors of the Company's Board of Directors and an
increase in the share capital of the Company. The premium consists of 4,375,665
shares of common stock. As the Company does not have sufficient authorized
shares as of the date of conversion of the debentures to fulfill the premium,
the premium has been recorded as an advance share purchase agreement at a fair
market value of $2,909,872 as at March 31, 2010, the agreement is without
interest, subordinated to the banks position and payable in a fixed number of
common shares of the Company upon increase in the authorized share capital of
the Company.
At September 30, 2010, the Company did not have sufficient authorized and
unissued shares to fulfill the advance share subscription. Under these
conditions, FASB ASC Subtopic 815-40, Contracts in Entity's Own Equity,
precludes equity classification of this obligation. As such, the advance share
subscription is classified as a liability and periodically marked to market. The
fair value of the obligation was determined to be $1,662,753 and $2,909,872 at
September 30, 2010 and March 31, 2010, respectively. The fair value of the
obligation is determined by the cash settlement value at the end of each period
based on the closing price of the Company's common stock. The decrease in fair
value of this liability of $1,247,119 is recorded as a mark to market adjustment
on advance share subscription in the consolidated condensed statement of
operations and comprehensive loss. Of the total amount $784,965 (fair market
value of 2,065,697 shares of common stock) was attributed to related parties.
F25
As at September 30, 2010, principal and interest on Convertible Debenture due to
related parties was $0. As at December 31, 2009, the principal amount of
Convertible Debenture net of accretion due to related party amounted to
$5,428,443 with a corresponding accrued interest of $540,128, and debt discount
of $71,557.
CONTRACTS AND AGREEMENTS
Mr. Nitin Amersey who is a director of the Company is listed as a control person
with the Securities and Exchange Commission of Bay City Transfer Agency
Registrar Inc., the Company's transfer agent. He has no ownership equity in Bay
City Transfer Agency Registrar Inc. nor is he an officer or a director of Bay
City Transfer Agency Registrar Inc. For the three month periods ended September
30, 2010 and 2009, the Company paid Bay City Transfer Agency Registrar Inc.
$3,620 and $1,513, respectively. For the nine month periods ended September 30,
2010 and 2009, the Company paid Bay City Transfer Agency Registrar Inc. $6,138
and $1,513, respectively.
NOTE 15 - COMMITMENTS AND CONTINGENCIES
LEASES
Effective November 24, 2004, the Company's wholly-owned subsidiary, ESW America
Inc., entered into a lease agreement for approximately 40,220 square feet of
leasehold space at 2 Bethlehem Pike Industrial Center, Montgomery Township,
Pennsylvania. The leasehold space houses the Company's research and development
facilities. The lease commenced on January 15, 2005 and expired January 31,
2010. Effective October 16, 2009, the Company's wholly-owned subsidiary, ESW
America Inc., entered into a lease renewal agreement with Nappen & Associates
for the leasehold property at Pennsylvania. There were no modifications to the
original economic terms of the lease under the lease renewal agreement. Under
the terms of the lease renewal, the lease term will now expire February 28,
2013.
Effective December 20, 2004, the Company's wholly-owned subsidiary, ESW Canada
Inc., entered into an offer to lease agreement for approximately 50,000 square
feet of leasehold space in Concord, Ontario, Canada. The leasehold space houses
the Company's executive offices and a high volume manufacturing plant. The
possession of the leasehold space took place on May 24, 2005 and the term of the
lease has been extended to September 30, 2010. ESW Canada Inc. has renewed its
lease agreement at the current property for an additional five year term. The
renewed lease period commenced on October 1, 2010 and ends on September 30,
2015.
The following is a summary of the minimum annual lease payments, for both
leases.
YEAR
2010 $112,862
2011 451,447
2012 451,447
2013 303,080
2014 280,292
2015 210,219
----------
$1,809,347
==========
F26
LEGAL MATTERS
From time to time, the Company may be involved in a variety of claims, suits,
investigations and proceedings arising from the ordinary course of our business,
breach of contract claims, labor and employment claims, tax and other matters.
Although claims, suits, investigations and proceedings are inherently uncertain
and their results cannot be predicted with certainty, ESW believes that the
resolution of current pending matters will not have a material adverse effect on
its business, consolidated condensed financial position, results of operations
or cash flows. Regardless of the outcome, litigation can have an adverse impact
on ESW because of legal costs, diversion of management resources and other
factors. In addition, it is possible that an unfavourable resolution of one or
more such proceedings could in the future materially and adversely affect ESW's
consolidated condensed financial position, results of operations or cash flows
in a particular period.
CAPITAL LEASE OBLIGATION
The Company is committed to the following lease payments in connection with the
acquisition of equipment under capital leases:
YEAR
2010 $ 3,190
2011 4,073
2012 973
-------
TOTAL 8,236
Less imputed interest (954)
-------
Total obligation under capital lease 7,282
Less current portion ( 1,920)
-------
TOTAL LONG-TERM PORTION $ 5,362
=======
The Company incurred $1,778 and $5,599 of interest expense on capital lease
obligation for the nine month periods ended September 30, 2010 and 2009,
respectively, and $829 and $2,437 for the three month periods ended September
30, 2010 and 2009, respectively.
NOTE 16 - LOSS PER SHARE
Potential common shares of 4,395,000 related to ESW's outstanding stock options
and 4,375,665 shares related to ESW's outstanding Advance share subscription
were excluded from the computation of diluted loss per share for the period
ended September 30, 2010. As at September 30, 2009, 3,820,000 stock options and
potential common shares of 42,583,901 related to the 2008 and 2009 convertible
debentures have been excluded from the computation of diluted loss per share as
the effect of inclusion of these shares would have been anti-dilutive.
The reconciliation of the input used to calculate the diluted loss per share is
as follows:
For the nine month period ended For the
three month period ended
September 30, September 30,
2010 2009 2010 2009
------------ ------------ ------------ ------------
NUMERATOR
Net (loss) for the period $ (5,545,135) $ (5,012,211) $ (699,643) $ (1,588,411)
Interest on long term debt 183,858 620,518 -- 215,518
Amortization of deferred costs 117,131 14,934 -- 4,977
Long term debt accretion 768,981 7,080 -- 7,080
------------ ------------ ------------ ------------
$ (4,475,165) $ (4,369,679) $ (699,643) $ (1,360,836)
=========== ============ ============ ============
DENOMINATOR
Weighted average number of shares outstanding 108,458,309 73,006,724 123,588,099 73,039,236
Dilutive effect of :
Stock options -- -- -- --
Warrants -- -- -- --
Convertible debt conversion -- -- -- --
------------ ------------ ------------ ------------
DILUTED WEIGHTED AVERAGE SHARES OUTSTANDING 108,458,309 73,006,724 123,588,099 73,039,236
=========== ============ ============ ============
F27
NOTE 17 - COMPARATIVE FIGURES
Certain 2009 figures have been reclassified to conform to the current financial
statement presentation.
NOTE 18 - SUBSEQUENT EVENTS
FINANCE
Effective November 9, 2010, the Company closed on its first tranche of equity
financing in the amount of $300,000 from a sophisticated investor. The terms of
the financing are: to raise an amount up to $5,000,000. Securities are in the
form of shares of the Company's common stock, par value $0.001 (the "Common
Stock") at $0.40 per share plus for each share of Common Stock subscribed to
under the Offering the Investor will receive one (1) warrant exercisable for one
(1) share of Common Stock exercisable for two (2) years (the "Investor
Warrant"). If an Investor Warrant is exercised within the first year of
issuance, the exercise price will be $0.55; if an Investor Warrant is exercised
between the first and second years from issuance, the exercise price will be
$0.65. All Investor Warrants as issued will be subject to adjustment in all
respects in the event of a stock split or similar adjustment by the Company.
Effective November 30, 2010 the Company issued an aggregate of 4,375,668
restricted shares of common stock to thirteen (13) prior debenture holders in
connection with the early conversion of their debentures on March 25, 2010. As
part of the agreement to convert all existing convertible debentures (issued
November 2008, August 2009 and March 2010, the Company had proposed an
inducement premium on the conversion transaction payable to all converting
debenture holders subject to a positive Fairness Opinion, approval by a Fairness
Committee consisting of independent Directors of the Company's Board of
Directors and an increase in the share capital of the Company all of which have
subsequently occurred. The premium consisted of 4,375,668 shares of restricted
common stock.
Effective December 8, 2010 the Company completed the second traunch of a unit
offering. The unit offering is for up to $5 million. Each unit is offered at a
price of $0.40 and is comprised of one (1) share of the Company's common stock
and one (1) two year warrant exercisable for one (1) share of common stock (the
"Unit Offering" or "Offering"). Each warrant is exercisable in the first year
following issuance at an exercise price of $0.55 per share and thereafter if the
warrant has not been exercised in the first year the warrant may be exercisable
in the second year following issuance for $0.65 per share. In connection with
the second traunch under the Offering, the Company received a gross amount
before fees and expenses of $300,000 and in turn is issuing a total of 750,000
restricted shares of its common stock and a Warrant to acquire an additional
750,000 shares of common stock to an accredited investor. The Company has
received an aggregate gross amount of $600,000 in the Unit Offering to date. The
Offering provides for favored nations for the investor in the event the Company
undertakes an offering at more favorable terms as well as registration rights
whereby the Company will use its best efforts to file a registration statement
for the shares of common stock and the shares of common stock underlying the
Warrants within thirty (30) days of the completion of the Offering.
F28
AMENDED BYLAWS AND CORPORATE MATTERS
Effective October 14, 2010, the Company's Board of directors ratified certain
corporate action approved by the written consent of a majority of the Company's
shareholders pursuant to a Definitive Information Statement on Schedule 14C that
the Company filed with the Securities and Exchange Commission on September 3,
2010 (the "Definitive Information Statement") and distributed to shareholders of
record.
The Board of Directors ratified an amendment to the Company's articles of
incorporation whereby the Company filed an amendment to its articles of
incorporation increasing its authorized shares of Common Stock, par value $0.001
from 125,000,000 to 250,000,000 shares.
The Company's 2010 Stock Incentive Plan capitalized at 5,000,000 shares of
Common Stock was ratified and adopted by the Board of Directors.
Effective January 25, 2011 by written action and vote of Sedam Limited, Bengt
Odner, Black Family 1997 Trust, Leon D. Black, Leon D. Black Trust UAD 11/30/92
FBO Joshua Black, Leon D. Black Trust UAD 11/30/92 FBO Benjamin Black, Leon D.
Black Trust UAD 11/30/92 FBO Alexander Black, Leon D. Black Trust UAD 11/30/92
FBO Victoria Black, John Hannan, Orchard Investments LLC and Richard Ressler
(the "Majority Shareholders") representing 66,134,887 shares of the Company's
common stock, a majority or 51.08% of the outstanding shares based upon the
Company's certified list of shareholders, pursuant to Title XXXVI, Chapter 607,
Section 607.0704 of the Florida Statutes and the Company's Bylaws, Article II
Section 5 of the Company's Bylaws was amended so that the Company shall have a
minimum of one (1) director but no more than eleven (11) directors. The
amendment to the Bylaws increases the maximum number of directors the Company is
permitted from seven (7) to eleven (11).
WAIVER OF LOAN COVENANTS
On November 8, 2010, the Company's wholly owned subsidiary ESW Canada, Inc.
received a waiver of certain financial covenants under its Credit Agreement
dated March 10, 2010 (the "Credit Agreement") from its commercial lender.
Without the waiver, the Company's subsidiary would not be in compliance with the
Current Ratio and Effective Tangible Net Worth covenants as set forth in the
Credit Agreement. The waiver as provided by the commercial lender is through
November 19, 2010. In the event the Company and its subsidiary ESW Canada fail
to comply with the terms of the waiver and meet the current ratio and effective
tangible net worth covenants prior to the end of the waiver period, same will
constitute an event of default as set forth in the credit agreement unless a
further waiver or modification to the credit agreement can be obtained.
F29
On November 26, 2010, the Company's wholly owned subsidiary ESW Canada, Inc.
received a second waiver of certain financial covenants under its Credit
Agreement dated March 10, 2010 (the "Credit Agreement") from its commercial
lender. Without the waiver, the Company's subsidiary would not be in compliance
with the Current Ratio and Effective Tangible Net Worth covenants as set forth
in the Credit Agreement. The second waiver as provided by the commercial lender
is through December 24, 2010. In the event the Company and its subsidiary ESW
Canada fail to comply with the terms of the waiver prior to the end of the
waiver period, same will constitute an event of default as set forth in the
Credit Agreement unless a further waiver or modification to the Credit Agreement
can be obtained.
Effective December 23, 2010, the Company's wholly owned subsidiary ESW Canada,
Inc. received a third waiver of certain financial covenants under its Credit
Agreement dated March 10, 2010 (the "Credit Agreement") from its commercial
lender. Without the waiver, the Company's subsidiary would not be in compliance
with the Current Ratio and Effective Tangible Net Worth covenants as set forth
in the Credit Agreement. The third waiver provided by the commercial lender is
through January 31, 2011 and also provides for a fee payable to the lender or
the extension, as well as a reduction in the maximum security Margin Deficit
under the Credit Facility (by either reducing borrowing or increasing Borrowing
Base) and an increase in the interest rate on the Company's Operating Loan under
the Credit Agreement to the Canadian Imperial Bank of Commerce prime plus 4.50%
effective January 1, 2011. In the event the Company and its subsidiary ESW
Canada fail to comply with the terms of the waiver and meet the current ratio
and effective tangible net worth covenants prior to the end of the waiver
period, same will constitute an event of default as set forth in the Credit
Agreement unless a further waiver or modification to the Credit Agreement can be
obtained.
Effective February 4, 2011, the Company's wholly owned subsidiary, ESWC,
received a fourth waiver of certain financial covenants under its Credit
Agreement with CIBC. Without the waiver, the Company's subsidiary would not be
in compliance with the current ratio and effective tangible net worth covenants
as set forth in the Credit Agreement. The fourth waiver provided by CIBC extends
the waiver period from January 31, 2011 through February 14, 2011 and also
provides for a fee payable to CIBC for the extension as well as requiring the
elimination of any margin deficit by February 14, 2011. In the event the Company
and its subsidiary, ESWC, fail to comply with the terms of the waiver and meet
the current ratio and effective tangible net worth covenants prior to the end of
the waiver period, same will constitute an event of default as set forth in the
Credit Agreement unless a further waiver or modification to the Credit Agreement
can be obtained.
LOAN AGREEMENTS
On February 17, 2011, the Company entered into certain note subscription
agreements and issued unsecured subordinated promissory notes (collectively, the
"Loan Agreements") with Orchard Investments, LLC; Black Family 1997 Trust; Leon
D. Black Trust UAD 11/30/92 FBO Alexander Black; Leon D. Black Trust UAD
11/30/92 FBO Benjamin Black; Leon D. Black Trust UAD 11/30/92 FBO Joshua Black;
Leon D. Black Trust UAD 11/30/92 FBO Victoria Black; Leon D. Black; John J.
Hannan and Richard Ressler (each individually a "Subordinated Lender" or
"Holder" and collectively the "Subordinated Lenders" or "Holders") who are
current shareholders and may be deemed affiliates of certain members of the
Board of Directors of the Company. The Loan Agreements were approved by the
independent directors of the Company. Pursuant to the Loan Agreements, the
Subordinated Lenders agreed to make, and made, loans to the Company in the
principal aggregate amount of $3 million (the "Loan"), subject to the terms and
conditions set forth in the Loan Agreements and represented by unsecured
subordinated promissory notes (the "Notes"), dated February 17, 2011.
F30
Proceeds of the Loan, along with available cash, will be used to fund working
capital, planned capital investments and other general corporate purposes. With
the proceeds of the Loan, the Company and its subsidiaries will be in compliance
with covenant obligations under the Credit Agreement with CIBC for which the
Company and its subsidiaries had previously obtained waivers of covenant
obligations that expired February 14, 2011.
The Notes provide that the Loan bears interest at a rate of 10% per annum,
payable in-kind on a monthly basis commencing March 17, 2011, up to the date on
which the Note has been paid in full. The maturity date of the Loan is the
earlier of: (i) the consummation of a rights offering of the Company's common
stock, par value $.001 per share (the "Common Stock") registered under the
Securities Act of 1933, as Amended (the "Act"), at a sale price of $0.12 per
share (as adjusted for any stock split, stock dividend or other similar
adjustment) pursuant to which the Company plans to offer rights to purchase
approximately $6.5 million in shares of Common Stock, which is expected to raise
at least an incremental $3.5 million of cash for the Company and will also
permit all Subordinated Lenders to exchange their Notes (and the other Notes
paid in-kind for the payment of interest under the Notes) for shares of Common
Stock at such price per share (with such offering referred to as the "Qualified
Offering") or (ii) June 17, 2011 (the "Outside Date"). The Qualified Offering
has also been approved by the independent directors of the Company. There can be
no assurance, however, that the Company will successfully complete the Qualified
Offering on or prior to the Outside Date or thereafter.
In the event the Qualified Offering does not take place on or before the Outside
Date, then the Subordinated Lenders at their sole option may require the Company
to refrain from making any and all payments on any of the outstanding principal
and accrued interest outstanding under the Notes. However the Company will not
be prohibited from paying any accrued interest in-kind through the issuance of
substantially similar notes, at any time. The Holders at their sole option may
extend the Outside Date.
In the event the Qualified Offering closes on or prior to the Outside Date and
for any reason a Holder shall have failed to have exchanged in the Qualified
Offering any and all principal or accrued interest outstanding under its Notes
and such Holder wishes to exchange his or her Note for Common Stock at a price
of $0.12 per share (as adjusted for any stock split, stock dividend or other
similar adjustment), then the Company has agreed to offer such Holder the
immediate right to purchase additional shares of Common Stock at such price, so
that all principal and accrued interest outstanding under the Notes shall have
been exchanged for shares of Common Stock at such price.
In the event the Qualified Offering closes on or prior to the Maturity Date and,
for any reason, certain Holders (the "Qualified Holders") collectively shall
have failed to have invested at least $1 million in the Qualified Offering or
pursuant to exchange of their Notes and the Qualified Holders wish to invest the
balance of such $1 million aggregate amount to purchase Common Stock at a price
of $0.12 per share (as adjusted for any stock split, stock dividend or other
similar adjustment), then the Company will be required to offer to the Qualified
Holders the immediate right to invest the balance of such investment amount to
purchase additional shares of Common Stock at such price, so that in the
aggregate, the Qualified Holders shall collectively invested such $1 million
amount.
F31
Concurrent with entering into the Loan Agreements and issuance of the Notes,
CIBC, the Company and its subsidiaries; and the Subordinated Lenders entered
into a Postponement and Subordination Agreement (the "Subordination Agreement")
whereby the Subordinated Lenders agreed that the obligations of the Company and
its subsidiaries under the Notes as issued would be subordinate to the
obligations of the Company and its subsidiaries under the Credit Agreement.
As previously reported, pursuant to securities subscription agreements entered
into by the Company on or about March 23, 2010, the Company issued $3 million of
9% convertible debentures to five (5) accredited investors which have since been
converted into 6 million shares of the Company's Common Stock. Additionally, on
November 9, 2010 and December 8, 2010, the Company completed an offering in the
aggregate gross proceeds of $600,000 to one (1) accredited investor whereby it
issued units comprised of 1.5 million shares of common stock and a like number
of warrants to purchase 1 share of Common Stock (collectively the "Prior
Subscription Agreements"). The investors under the Prior Subscription Agreements
will receive an approximate aggregate of 22,500,000 additional shares of Common
Stock in conjunction with certain rights under the Prior Subscription Agreements
in the event the Qualified Offering closes.
CHANGES IN EXECUTIVE OFFICERS
Effective March 9, 2011, the Company and David J. Johnson, entered into an
Employment Separation and General Release Agreement (the "Agreement"), whereby
Mr. Johnson resigned as President and Chief Executive Officer of the Company as
well as all of its subsidiaries wherein he served as an executive officer.
Additionally, Mr. Johnson resigned from the Company's Board of Directors as well
from the Board of Directors of each of the Company's wholly owned subsidiaries
wherein he served. Mr. Johnson resigned without any disputes or disagreements
with the Company or any of its subsidiaries. Under the terms of the Agreement,
Mr. Johnson will receive a severance payment based upon his regular salary of
$360,000 per annum as prorated. The severance payments will be made on a
quarterly basis for the remainder of the calendar year. Mr. Johnson will also
continue to receive customary medical benefits and a car allowance of $1,000 a
month for the remainder of the calendar year.
Concurrent to entering into the Agreement, the Company and Mr. Johnson entered
into a Consultancy Agreement for the remainder of the calendar year whereby Mr.
Johnson will receive compensation on a per diem basis when engaged by the
Company per the agreement. Additionally, Mr. Johnson was also awarded options as
part of the Consultancy Agreement.
Effective March 11, 2011, Mr. Stefan Boekamp, resigned on mutually agreeable
terms from his position as Vice President of Operations of the Company. Mr.
Boekamp resigned without any disputes or disagreements with the Company or any
of its subsidiaries.
Effective March 9, 2011, Mr. Praveen Nair, the Company's Chief Accounting
Officer was promoted to the position of Chief Financial Officer of the Company.
Mr. Nair will receive an annual salary of $150,000 Canadian. The Company and Mr.
Nair intend to enter into a new employment agreement in the near future with
terms similar to those set forth in Mr. Nair's prior employment agreement with
the Company.
Effective March 9, 2011, Mr. Frank Haas was appointed the Company's Chief
Technology Officer and Chief Regulatory Officer. Mr. Haas will receive an annual
salary of $160,000 Canadian and will receive an incentive compensation for each
of the first two achieved verification/certifications of certain of the
Company's products within the first year of his appointment.
Effective March 9, 2011, Mr. Virendra Kumar was appointed Vice President of
Operations of the Company. Mr. Kumar will receive an annual salary of $150,000.
Mr. Kumar has been General Manager of ESWA, Inc. since 2010 and is responsible
for the overall operations related to Air Testing Services.
F32
NOTE 19 - RESTATEMENT
The consolidated condensed balance sheet as of September 30, 2010 and
consolidated condensed statement of operations for the three and nine months
ended September 30, 2010 included herein were restated to reflect the effect of
an exchange feature included in the terms of the Share Subscription Agreement
for $3,000,000 of Convertible Debentures issued on March 19, 2010 ("2010
Debentures") and fully converted into 6,000,000 shares of common stock on March
25, 2010. The exchange feature provides that if within twelve months from March
19, 2010, the Company enters into or closes another financing or other
transaction (which for securities law purposes would be integrable with the
offer and sale of the Securities) on terms and conditions more favourable to
another purchaser, the terms and conditions of the 2010 Debentures shall be
adjusted to reflect the more favourable terms. The exchange feature was
determined by the Company to be freestanding financial instrument and also to be
a liability within the scope of ASC 480 Distinguishing Liabilities from Equity
since there is an inverse relationship between the stock price of the Company
and the Company's obligation. On March 19, 2010, March 31, 2010 and June 30,
2010 the Company estimated that the fair value of the exchange feature was
nominal and was not recorded in the Company's consolidated condensed financial
statements because the Company did not expect to close another financing within
the next twelve months and the closing price of the Company shares of common
stock exceeded the conversion price of $0.50 per share each period. On September
30, 2010, the Company re-evaluated the fair value of the exchange feature and
determined that the probability of closing another financing by March 18, 2011
was approximately 50% and the conversion price of the Convertible Debentures
would be reset, if there was another financing, since the closing price of
Company's shares of common stock on September 30, 2010 was less than the
conversion price. On September 30, 2010 a liability of $360,000 was recorded for
the exchange feature in these restated consolidated condensed financial
statements.
The effect of these changes impacted the consolidated condensed balance sheet
and consolidated condensed statement of operations from July 2010 through
September 2010. These changes do not impact the cash flows of the Company. The
consolidated condensed balance sheet as of September 30, 2010 and consolidated
condensed statement of operations for the three and nine months ended September
30, 2010 has been restated as summarized below:
PREVIOUSLY AS
REPORTED ADJUSTMENT RESTATED
CONSOLIDATED CONDENSED BALANCE SHEET AS OF
SEPTEMBER 30, 2010
Exchange feature liability $ 0 $ 360,000 $ 360,000
CONSOLIDATED CONDENSED STATEMENT OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2010
Other income (expense)
Change in fair value of exchange $ $ (360,000) $ (360,000)
feature liability
Net loss $ (5,545,135) $ (360,000) $ (5,905,135)
Comprehensive loss $ (5,549,163) $ (360,000) $ (5,909,163)
Net loss per share (basic and diluted) $ (0.05) $ (0.00) $ (0.05)
CONSOLIDATED CONDENSED STATEMENT OF OPERATIONS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2010
Other income (expense)
Change in fair value of exchange $ $ (360,000) $ (360,000)
feature liability
Net loss $ (699,643) $ (360,000) $ (1,059,643)
Comprehensive loss $ (665,488) $ (360,000) $ (1,025,488)
Net loss per share (basic and diluted) $ (0.01) $ (0.00) $ (0.01)
F33
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with ESW's consolidated
condensed financial statements and Notes thereto included elsewhere in this
Report.
This Form 10-Q contains certain forward-looking statements regarding, among
other things, the anticipated financial and operating results of ESW's business.
Investors are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date hereof. ESW undertakes no obligation
to publicly release any modifications or revisions to these forward-looking
statements to reflect events or circumstances occurring after the date hereof or
to reflect the occurrence of unanticipated events. In connection with the safe
harbor provisions of the Private Securities Litigation Reform Act of 1995, ESW
cautions investors that actual financial and operating results may differ
materially from those projected in forward-looking statements made by, or on
behalf of, ESW. Such forward-looking statements involve known and unknown risks,
uncertainties, and other factors that may cause the actual results, performance,
or achievements to be materially different from any future results, performance,
or achievements expressed or implied by such forward-looking statements. This
report should be read in conjunction with ESW's Annual Report on Forms 10-K, for
the year ended December 31, 2009 as filed with the Securities and Exchange
Commission.
GENERAL OVERVIEW
Environmental Solutions Worldwide Inc. ("ESW" or the "Company") is a publicly
traded company engaged through its wholly owned subsidiaries ESW Canada Inc.,
ESW America Inc. and ESW Technologies Inc. (the "ESW Group of Companies") in the
design, development, manufacturing and sale of environmental and emission
technologies. ESW is currently focused on the international medium duty and
heavy duty diesel engine market for on-road and off-road vehicles as well as the
utility engine, mining, marine, locomotive and military industries. ESW also
offers engine and after treatment emissions verification testing and
certification services.
ESW's long-term goal is to deliver financial performance to its shareholders by
being an industry leader in environmental technologies.
ESW's primary business objective is to capitalize on the growing global
requirement of reducing emissions, by offering catalyst technology solutions to
the market. ESW has and continues to seek to develop relationships with Original
Equipment Manufacturers ("OEM") of engines and OEM suppliers for both automotive
and other markets. As part of ESW's efforts to grow its business, as well as to
achieve increased production and distribution efficiencies ESW has and continues
to make capital investments in manufacturing capability to support its products
as well as expensing money on research and development in order for new products
to be developed that meet the new legislative regulations.
3
In 2010 ESW is primarily focused on: (a) increasing revenues from its verified
product in target markets. (b) achieving further verification of the Level III
product (c) increasing the strength of its independent distribution network, to
target key market segments such as school bus retrofits and government regulated
retrofit programs (d) scaling ESW's production capabilities to deliver product
to the target markets and meet demand and (e) certification or verification of
the Xtrm Cat (TM) product for the rail and marine markets.
The Company is experiencing an increase in demand for its currently verified
Therma Cat (TM) product. To September 30, 2010 since verification in September
2009 of the on-road Therma Cat (TM) Active Level III + product, 750 Therma Cat
(TM) units have been sold and are in operation across the United States. The
Company is receiving larger volumes on individual orders for the Therma Cat (TM)
product, which facilitates greater economies of scale in purchasing raw
materials and in production.
ESW has also made significant investments in research and development and
obtaining regulatory approvals for its technology. The products that ESW intends
to put forward for verification / certification in the fiscal year 2010 and 2011
cover the following primary technology levels established by California Air
Resources Board (CARB):
LEVEL I + (+ INDICATES 2009 NO2 COMPLIANCE)
o Diesel Oxidation Catalyst - PM reduction greater than 25%
o High performance Diesel Oxidation Catalyst - Particulate Matter ("PM")
reduction greater than 30%
LEVEL II +
o Diesel Oxidation Catalyst with Crank Case Ventilation - PM
reduction greater than 50%
LEVEL III +
o Expansion of On Road Active Diesel Particulate Filter verification
to include Exhaust Gas Recirculation engines - PM reduction greater than 85%
Due to the push to complete the Xtrm Cat (TM) Marine, 2-stroke, product
certification with the Environmental Protection Agency ("EPA") prior to December
2010, ESW has delayed the Level I and Level
II product certifications; these are expected to be completed by the end of the
second and third quarter of 2011 respectively. Management believes that the Xtrm
Cat (TM) product has the capability to improve ESW's product offering and growth
prospects. The Level III
4
+ expansion of the On Road Active Diesel Particulate Filter verification to
include Exhaust Gas Recirculation engines is in progress and expected to be
completed by the end of third quarter of 2011.
The Xtrm Cat (TM) was listed as an emerging technology on the EPA's Emerging
Technology list until October 2010. This listing has been removed as of November
2010.
In effecting its business plan ESW achieved important milestones in 2010:
o On July 14, 2010, ESW announced through a shareholder letter that the Company
has had a substantial increase in its distributor network. The Company has a
total of 36 independent contracted distributors with over 230 individual
locations. All of the distributors have been trained and certified to install
ESW products on vehicles and construction equipment.
o To September 30, 2010 the company has sold and deployed over 703 Therma Cat
(TM) Active Level III Plus catalyst systems of which 214 units were sold in the
current quarter. Revenue in 2010 for the Therma Cat (TM) Active Level III Plus
and related products are in excess of $7.2 million with sales mainly focused on
the on-road retrofit market. The growth in the off-road retrofit market is also
increasing. The Company has also participated with the support of its
independent distributors on a few significant bids for the sale of its Therma
Cat(TM) product.
o On October 12, 2010, ESW announced that the company's Therma Cat(TM) Active
Level III Plus catalyst system verification has been expanded to include an
updated sizing chart for On-Road applications. Therma Cat(TM) now meets all
current and future retrofit installation sizing requirements for an even wider
variety of 1993 through 2006 model year On-Road vehicles. The system is now
available up To 375 Horsepower and as per the Company's estimates this will lead
to a 21% increase in engine family markets. The expanded verification has
additional end-user benefits and competitive benefits such as a "Swapping
Allowance," which provides for an alternate filter to be used in place of the
one being cleaned during a scheduled maintenance procedure for the Therma
Cat(TM) helping to maximize the on road availability of a vehicle. In Addition,
a "Redistribution Allowance" gives customers the ability to move a system from a
vehicle being removed from service to one being brought into service in the
fleet, saving money for the customer and minimizing fleet disruption.
o On November 11, 2010, announced that ESW and E Global Solutions, the Company's
exclusive New York distributor, participated in a expert panel discussion to
provide guidance on New York State and City emission control requirements
covering mandated retrofit installation and compliance deadlines for diesel
on-road and off-road engines. With deadlines for retrofit compliance in effect,
for contractors regulated by New York State, New York City and surrounding
counties for emission control requirements for diesel engines ESW views this
important market as a significant potential for the Therma Cat (TM) product.
5
FINANCE AND WORKING CAPITAL
The Company is seeking to raise additional capital to meet its working capital
and growth needs. As part of its due diligence process, the Company is also
investigating its options to list on a main board exchange. Although the Company
is continuing to receive orders for delivery of verified products from bids that
were submitted at the beginning and during 2010 the Company's need for raising
capital has been accelerated due to the following factors: (a) the delays in
achieving verifications and certifications for certain products (b) The timeline
between the state, federal and non profit agencies submitting bids for funded
projects, award of the projects and the actual release of purchase orders is
significantly longer than anticipated (c) the delays in enforcement of certain
regulations in California (Off-road and private fleet rules) (d) The economic
downturn in the United States that affected the construction industry and large
capital projects, this in-turn has to some extent affected the private and
public fleets and their capability to retrofit vehicles. The above factors have
affected the expected revenue growth of the Company and in turn affected the
liquidity position of the Company.
Effective November 8, 2010, the Company has closed on its first tranche of
equity financing in the amount of $300,000 from a sophisticated investor. The
terms of the financing are: to raise an amount up to $5,000,000. Securities are
in the form of shares of the Company's common stock, par value $0.001 (the
"Common Stock") at $0.40 per share plus for each share of Common Stock
subscribed to under the Offering the Investor will receive one (1) warrant
exercisable for one (1) share of Common Stock exercisable for two (2) years (the
"Investor Warrant"). If an Investor Warrant is exercised within the first year
of issuance, the exercise price will be $0.55; if an Investor Warrant is
exercised between the first and second years from issuance, the exercise price
will be $0.65. All Investor Warrants as issued will be subject to adjustment in
all respects in the event of a stock split or similar adjustment by the Company.
The Company cannot assure that the funding will be available in the amount
needed, or on terms attractive to it, or at all. Furthermore, any additional
financings will be dilutive to shareholders or if available, may involve
restrictive covenants. The Company's failure to raise capital as and when needed
or at favourable terms could have a negative impact on its financial condition
and its ability to pursue business strategies.
Effective March 19, 2010, the Company issued $3,000,000 of its 9% convertible
debentures (the "Debentures") to five (5) accredited investors. The Debentures
were for a term of three (3) years and were convertible into shares of the
Company's common stock at the option of the holder by dividing the principal
amount of the Debenture to be converted by $0.50. The Debentures had a mandatory
conversion feature that required the holders to convert in the event a majority
of the Company's pre-existing outstanding 9% convertible debentures converted.
Effective March 25, 2010, the November 2008 and the August 2009 debenture
holders agreed to convert all outstanding convertible debentures. The early
conversion of the debentures was a condition precedent to the Company's wholly
owned subsidiary ESW Canada entering into a new credit facility with Canadian
Imperial Bank of Commerce ("CIBC"). A total of $10,600,000 in principal and
$1,176,445 of accrued interest was converted into 43,756,653 shares of
restricted common stock. The conversion of the November 2008 and the August 2009
debentures also triggered the mandatory conversion feature on the March 19, 2010
debentures. A total of $3,000,000 in principal and $3,797 in accrued interest
was converted into 6,007,595 shares of restricted common stock. With these
transactions effective March 25, 2010 the Company has $0 of outstanding
convertible debentures and accrued interest.
6
Effective March 31, 2010 ESW's subsidiary, ESW Canada entered into a demand
revolving credit facility agreement with a Canadian chartered bank, CIBC, to
meet working capital requirements. The facility has a credit limit of $4 million
Canadian. Borrowings under the facility are limited to a percentage of accounts
receivable plus a percentage of inventories (capped at $ 1 million or 50% of the
accounts receivable portion) less any prior ranking claims. The credit facility
is guaranteed by the Company and its subsidiaries ESW Canada Inc., ESW America
Inc., BBL Technologies Inc. and ESW Technologies Inc. through a general security
agreement over all assets to CIBC. The facility has been guaranteed to the bank
under Export Development Canada's Export Guarantee Program. Borrowings under the
credit facility bear interest at 2.25% above the bank's prime rate of interest.
Obligations under the revolving credit agreement are collateralized by a
first-priority lien on the assets of the Company and its subsidiaries,
including, accounts receivable, inventory, equipment and other tangible and
intangible property, including the capital stock of all direct subsidiaries. On
November 8, 2010, the Company's wholly owned subsidiary ESW Canada, Inc.
received a waiver of certain financial covenants under its Credit Agreement with
CIBC. Without the waiver, the Company's subsidiary would not be in compliance
with certain covenants in the credit agreement. The Company is in the process of
securing additional equity finance which will help the Company to comply with
the original terms of the credit agreement.
ESW's manufacturing production facility located in Concord Ontario Canada is
adequately capitalised to support delivery of its verified products and the rail
and marine products. Minor capital additions and production tooling changes to
meet customer demands are an ongoing expense. ESW's Tech Center based in
Montgomeryville Pennsylvania houses all of ESW's emission testing laboratories
and testing capabilities. The facilities include several testing systems,
including engine and vehicle chassis test cells. These cells are used for
certification and verification for engines ranging from 0.5 to in excess of 600
Horse power. This facility also manufactures and provides the catalytic and
chemical wash coat solutions for the Concord, Ontario, Canada plant. Both ESW
facilities are in full compliance with the ISO 9001:2008 standards. ESW
currently holds a full registration certificate effective until March 2013 for
ESW America Inc., and January 2013 for ESW Canada Inc.
ESW continues to develop and enhance the North American independent distribution
network while also focusing on developing the Asian and European markets. ESW's
sales and marketing team works closely with ESW design, engineering personnel
and independent distributors to prepare the materials used for bidding on new
business and to provide a consistent interface and feedback between ESW and its
key customers.
The Company is working towards reducing inefficiencies in personnel-related
costs, manufacturing costs and other discretionary expenditures that are within
the Company's control. The Company is also seeking to lower its overhead costs,
on the other hand the Company is increasing its focus on the Sales, Marketing
and Service efforts of its products. The changes in the business are anticipated
to lower the overall operating costs in the Company, without affecting the
delivery of product and to improve results. The profitability of the Company
will depend on the ability of the Company to increase its revenues over the next
few periods with a consistent effort in reducing operating costs.
7
COMPARISON OF THREE MONTH PERIOD ENDED SEPTEMBER 30, 2010 TO THREE MONTH PERIOD
ENDED SEPTEMBER 30, 2009
RESULTS OF OPERATIONS
The following management's discussion and analysis of financial condition and
results of operations (MD&A) should be read in conjunction with the MD&A
included in ESW's Annual Report on Forms 10-K, for the year ended December 31,
2009.
Revenues for the three month period ended September 30, 2010 increased by
$2,031,494 or 452.5 percent, to $2,480,478 from $448,984 for the three month
period ended September 30, 2009. The increase in revenue is mainly related to
sales of ESW's verified Therma Cat (TM) Level III products. In 2009, the Company
focused its efforts on mainly achieving verifications for its Therma Cat (TM)
Level III product.
Cost of sales as a percentage of revenues for the three month period ended
September 30, 2010 was 66.0 percent compared to 71.6 percent for the three month
period ended September 30, 2009. The gross profit for the three month period
ended September 30, 2010 was 34.0 percent as compared to a gross profit of 28.4
percent for the three month period ended September 30, 2009. The decrease in
cost of sales as a percentage of revenue in the current period is due to
increased level of operations, economies of scale in purchasing raw materials
and services.
Marketing, office and general expenses for the three month period ended
September 30, 2010 increased by $424,951 or 50.6 percent, to $1,264,242 from
$839,291 for the three month period ended September 30, 2009. The increase is
primarily due to increases in the following areas: An increase in sales and
marketing salaries and wages and selling expenses by $94,424 attributed to an
increased focus on business development and product marketing efforts, and the
addition of a customer service and support department. Administration salaries
and wages were higher by $151,141; the increase is due to increased
administration staff to support the transition and growth of the Company. The
Company is also implementing a centralised enterprise resource planning system
that will integrate the various internal and external resources of the Company,
the implementation of the system requires additional resources. Plant related
expenses were higher by $69,045 as a result of increased activity levels,
consumables, equipment and maintenance costs. General and administration cost
increased by $110,354 mainly attributed to increased finance and guarantee
charges in connection with the Company's Line of Credit with a secured lender.
There was an increase in facility costs of $772. The increases were offset by a
minor decrease in investor relations expense by $785.
Research and development ("R&D") expenses for the three month period ended
September 30, 2010 increased by $80,168, or 63.1 percent to $207,169 from
$127,001 for the three month period ended September 30, 2009. ESW continues to
aggressively pursue the certification / verification of its locomotive and
marine products, the certification of the Level I and Level II products are
delayed,; the increase in the cost of research and development during the three
month period is due to the activity towards achieving the Xtrm Cat (TM) product
certification and the expansion of the Therma Cat (TM) on-road Active Level III+
product verification. To offset this increase during the three month period
ended September 30, 2010, the Company received grant money amounting to $9,431
as compared to $66,427 for the three month period ended September 30, 2009.
8
Officer's compensation and director's fees for the three month period ended
September 30, 2010 increased by $69,444 or 40.6 percent, to $240,678 from
$171,234 for the three month period ended September 30, 2009. The increase in
fees is mainly due to the addition of one outside director in 2010, a wage
increase for an officer of the company effective retroactive from January 2010,
stock-based compensation expense for the April 2010 stock options and the effect
of exchange rate differences on Canadian Dollar contracts for officers of the
Company.
Consulting and professional fees for the three month period ended September 30,
2010 increased by $78,596 to $117,055 from $38,459 for the three month period
ended September 30, 2009 mainly attributed legal fees in connection with the
Company's Line of Credit with CIBC, an increase in consulting fees and a
marginal increase in audit fees.
Foreign exchange gain for the three month period ended September 30, 2010 was
$10,203 as compared to a loss of $5,778 for the three month period ended
September 30, 2009. This is a result of the fluctuation in the exchange rate of
the Canadian Dollar to the United States Dollar.
Depreciation and amortization expense for the three month period ended September
30, 2010 decreased by $57,771, or 18.8 percent to $249,023 from $306,794 for the
three month period ended September 30, 2009.
Loss from operations for the three month period ended September 30, 2010
decreased by $136,117, or 10.0 percent to $1,224,737 from $1,360,854 for the
three month period ended September 30, 2009. The decrease is mainly due to
increased revenues offset by an increase in operational expenses in the current
period.
Interest expense on long-term debt related to Convertible Debentures was $0 for
the three month period ended September 30, 2010 as compared to $215,518 for the
three month period ended September 30, 2009. Amortization of deferred costs
amounted to $0 for the three month period ended September 30, 2010 as compared
to $4,977 for the three month period ended September 30, 2009. As of September
30, 2010 the company has $0 of debt outstanding related to convertible
debentures.
9
Effective March 25, 2010, the November 2008 and the August 2009 debenture
holders agreed to convert all outstanding convertible debentures as per the
terms of the respective debenture agreements. The early conversion of the
debentures was a condition precedent to the Company's wholly owned subsidiary
ESW Canada entering into a new credit facility with CIBC. The conversion of the
November 2008 and the August 2009 debentures also triggered the mandatory
conversion feature on the March 19, 2010 debentures. As part of the agreement to
convert all existing convertible debentures the Company has paid a premium as an
inducement to convert all debentures. The premium is payable to all converting
debenture holders and was subject to a positive fairness opinion, approval by a
Fairness Committee consisting of independent directors of the Company's Board of
Directors and an increase in the share capital of the Company. The premium
consists of 4,375,665 shares of Common Stock. As the Company did not have
sufficient authorized shares as of the date of conversion of the debentures to
fulfill the premium, the premium had been recorded as an advance share purchase
agreement at fair market value $2,909,872 at March 31, 2010, the agreement is
without interest, subordinated to the banks position and payable in a fixed
number of common shares (4,375,665 shares) of the Company upon increase in the
authorized share capital of the Company. Subsequently as of September 30, 2010
The Company has re-valued the advance share purchase agreement at fair market
value $1,662,753 with a $1,247,119 gain recorded in the consolidated condensed
statements of operations and comprehensive loss.
In summary, the fair value of the advanced share subscription is dependent on
the market price of the Company's common stock, as the Company does not
currently have sufficient available authorized common shares to fulfill this
obligation. The advanced share subscription will be re-valued based on the
market price of the Company's common stock at the end of each reporting period
or until it is fulfilled by the issuance of authorized common shares. The
resulting revaluations may either cause gains or losses on the consolidated
condensed statement of operations and comprehensive loss.
The Share Subscription Agreement for the 2010 Debentures contains an exchange
feature. The exchange feature provides that if within twelve months from March
19, 2010, the Company enters into or closes another financing or other
transaction (which for securities law purposes would be integrable with the
offer and sale of the Securities) on terms and conditions more favourable to
another purchaser, the terms and conditions of the 2010 Debentures shall be
adjusted to reflect the more favourable terms. On September 30, 2010, the
Company re-evaluated the fair value of the exchange feature and determined that
the probability of closing another financing by March 18, 2011 was approximately
50% and the conversion price of the 2010 Debentures would be reset, if there was
another financing, since the closing price of Company's shares of common stock
on September 30, 2010 was less than the conversion price. On September 30, 2010
a liability of $360,000 was recorded for the exchange feature in these restated
consolidated condensed financial statements with a $360,000 expense related to
change in fair value of exchange feature liability recorded in the consolidated
statements of operations and comprehensive loss.
Change in fair value of exchange feature liability for the three month period
ended September 30, 2010 amounted to $360,000 as compared to $0 for the three
month period ended September 30, 2009.
10
COMPARISON OF NINE MONTH PERIOD ENDED SEPTEMBER 30, 2010 TO NINE MONTH PERIOD
ENDED SEPTEMBER 30, 2009
RESULTS OF OPERATIONS
The following management's discussion and analysis of financial condition and
results of operations (MD&A) should be read in conjunction with the MD&A
included in ESW's Annual Report on Forms 10-K, for the year ended December 31,
2009.
Revenues for the nine month period ended September 30, 2010 increased by
$7,424,534 or 821.6 percent, to $8,328,204 from $903,670 for the nine month
period ended September 30, 2009. The increase in revenue is mainly related to
sales of ESW's verified Therma Cat (TM) Level III products, further complemented
by sales of the Xtrm Cat (TM) product. In 2009, the Company focused its efforts
on achieving verifications for its Therma Cat (TM) Level III product.
Cost of sales as a percentage of revenues for the nine month period ended
September 30, 2010 was 65.0 percent compared to 62.3 percent for the nine month
period ended September 30, 2009. The gross profit for the nine month period
ended September 30, 2010 was 35.0 percent as compared to a gross margin of 37.7
percent for the nine month period ended September 30, 2009. The slight increase
in cost of sales as a percentage of revenue in the current period is due to
increased labour costs involved in ramping up of operations to meet customer
orders, the current level of manufacturing labour can support a higher level of
operations as efficiencies increase.
Marketing, office and general expenses for the nine month period ended September
30, 2010 increased by $962,259 or 38.5 percent, to $3,458,906 from $2,496,647
for the nine month period ended September 30, 2009. The increase is primarily
due to increases in the following areas: An increase in sales and marketing
salaries and wages and selling expenses by $296,579 attributed to an increased
focus on business development and product marketing efforts, and the addition of
a customer service and support department. Administration salaries and wages
were higher by $258,379; the increase is due to increased administration staff
to support the transition and growth of the Company, the Company is also
implementing a centralised enterprise resource planning system that will
integrate the various internal and external resources of the Company, the
implementation of the system requires additional resources. Plant related
expenses were higher by $150,718 as a result of increased activity levels,
consumables, equipment and maintenance costs. Investor relations expense
increased by $13,384. There was an increase in facility costs of $66,392 related
to increase in taxes, maintenance and insurance costs for the Canadian
subsidiary's facilities. General and administration cost increased by $176,807
mainly attributed to increased finance and guarantee charges in connection with
the Company's Line of Credit with a secured lender.
Research and development ("R&D") expenses for the nine month period ended
September 30, 2010 decreased by $281,786 , or 36.4 percent to $491,469 from
$773,255 for the nine month period ended September 30, 2009. ESW continues to
aggressively pursue the verification of its locomotive and marine products, the
certification of the Level I and Level II products are delayed, the decrease in
the cost of research and development over the nine month period is due to the
product development cycle being completed, ESW has received verification for its
Therma Cat (TM) Active Level III Plus Diesel Particulate Filter on- and off-road
products and also an expansion on the engine family size for the Therma Cat (TM)
Active Level III Plus Diesel Particulate Filter off-road product. Additionally
during the nine month period ended September 30, 2010 the Company received grant
money amounting to $135,753 as compared to $94,356 for the nine month period
ended September 30, 2009.
11
Officer's compensation and director's fees for the nine month period ended
September 30, 2010 increased by $213,457 or 42.4 percent, to $717,082 from
$503,625 for the nine month period ended September 30, 2009. The increase in
fees is mainly due to the addition of one outside director in 2010, a wage
increase for an officer of the company effective retroactive from January 2010,
stock based compensation expense for the April 2010 stock options and the effect
of exchange rate differences on Canadian Dollar contracts for officers of the
Company.
Consulting and professional fees for the nine month period ended September 30,
2010 increased by $161,564 to $262,155 from $100,591 for the nine month period
ended September 30, 2009. The increase is mainly attributed to an increase in
legal fees related to the new demand revolving credit facility agreement with a
Canadian chartered bank, an increase in audit fees for 2010 and ongoing fees
related to Sarbanes-Oxley 404 consulting as well as consulting fees.
Foreign exchange loss for the nine month period ended September 30, 2010 was
$38,991 as compared to a gain of $17,687 for the nine month period ended
September 30, 2009. This is a result of the fluctuation in the exchange rate of
the Canadian Dollar to the United States Dollar.
Depreciation and amortization expense for the nine month period ended September
30, 2010 decreased by $115,004, or 13.5 percent to $739,431 from $854,435 for
the nine month period ended September 30, 2009.
Loss from operations for the nine month period ended September 30, 2010
decreased by $1,577,927, or 36.1 percent to $2,792,509 from $4,370,436 for the
nine month period ended September 30, 2009. The decrease is mainly due to
increased revenues in the current nine month period offset by an increase in
costs.
Interest expense on long-term debt was $183,858 for the nine month period ended
September 30, 2010 as compared to $620,518 for the nine month period ended
September 30, 2009. Amortization of deferred costs amounted to $117,131 and Long
Term Debt Accretion amounted to $768,981 for the nine month period ended
September 30, 2010 as compared to $14,934 and $7,080 respectively for the nine
month period ended September 30, 2009. As of September 30, 2010 the company has
$0 of debt outstanding related to convertible debentures.
Effective March 25, 2010, the November 2008 and the August 2009 debenture
holders agreed to convert all outstanding convertible debentures as per the
terms of the respective debenture agreements. The early conversion of the
debentures was a condition precedent to the Company's wholly owned subsidiary
ESW Canada entering into a new credit facility with CIBC. The conversion of the
November 2008 and the August 2009 debentures also triggered the mandatory
conversion feature on the March 19, 2010 debentures. As part of the agreement to
convert all existing convertible debentures the Company has paid a premium as an
inducement to convert all debentures. The premium is payable to all converting
debenture holders and was subject to a positive fairness opinion, approval by a
Fairness Committee consisting of independent directors of the Company's Board of
Directors and an increase in the share capital of the Company. The premium
consists of 4,375,665 shares of Common Stock. As the Company did not have
sufficient authorized shares as of the date of conversion of the debentures to
fulfill the premium, the premium had been recorded as an advance share purchase
agreement at fair market value $2,909,872 at March 31, 2010, the agreement is
without interest, subordinated to the banks position and payable in a fixed
number of common shares (4,375,665 shares) of the Company upon increase in the
authorized share capital of the Company. Subsequently as of September 30, 2010
The Company has re-valued the advance share purchase agreement at fair market
value $1,662,753 with a $1,247,119 gain recorded in the consolidated condensed
statements of operations and comprehensive loss.
12
In summary, the fair value of the advanced share subscription is dependent on
the market price of the Company's common stock, as the Company does not
currently have sufficient available authorized common shares to fulfill this
obligation. The advanced share subscription will be re-valued based on the
market price of the Company's common stock at the end of each reporting period
or until it is fulfilled by the issuance of authorized common shares. The
resulting revaluations may either cause gains or losses on the consolidated
condensed statement of operations and comprehensive income / (loss).
The Share Subscription Agreement for the 2010 Debentures contains an exchange
feature. The exchange feature provides that if within twelve months from March
19, 2010, the Company enters into or closes another financing or other
transaction (which for securities law purposes would be integrable with the
offer and sale of the Securities) on terms and conditions more favourable to
another purchaser, the terms and conditions of the 2010 Debentures shall be
adjusted to reflect the more favourable terms. On September 30, 2010, the
Company re-evaluated the fair value of the exchange feature and determined that
the probability of closing another financing by March 18, 2011 was approximately
50% and the conversion price of the 2010 Debentures would be reset, if there was
another financing, since the closing price of Company's shares of common stock
on September 30, 2010 was less than the conversion price. On September 30, 2010
a liability of $360,000 was recorded for the exchange feature in these restated
consolidated condensed financial statements with a $360,000 expense related to
change in fair value of exchange feature liability recorded in the consolidated
statements of operations and comprehensive loss.
Change in fair value of exchange feature liability for the nine month period
ended September 30, 2010 amounted to $360,000 as compared to $0 for the nine
month period ended September 30, 2009.
Interest on notes payable to related party amounted to $11,342 for the nine
month period ended September 30, 2010 as compared to $0 for the nine month
period ended September 30, 2009. On March 31, 2010 the Company repaid $500,000
principal and $11,342 in interest from the proceeds of the March 19, 2010
convertible debentures.
Loss on disposal of property, plant and equipment amounted to $8,777 for the
nine month period ending September 30, 2010 and $0 for the same period in the
previous year.
LIQUIDITY AND CAPITAL RESOURCES
ESW's principal sources of operating capital have been the proceeds from its
various financing transactions; during the nine month period ended September 30,
2010, the Company used $5,022,751 of cash to sustain operating activities
compared with $3,680,113 for the nine month period ended September 30, 2009. As
of September 30, 2010 and December 31, 2009, the Company had cash and cash
equivalents of $660,700 and $632,604 respectively.
13
Net cash used in operating activities for the nine month period ended September
30, 2010 amounted to $4,921,397. This amount was attributable to the net loss of
$5,905,135, plus non cash expenses such as depreciation, amortization, interest
and accretion on long term debt, inducement premium on conversion of debentures,
change in fair value of exchange feature liability and others of $4,095,972, and
a decrease in net operating assets and liabilities of $3,112,233. Net cash used
in operating activities for the nine month period ended September 30, 2009
amounted to $3,680,113. This amount was attributable to the net loss of
$5,012,211, plus non cash expenses such as depreciation, amortization, interest
on long term debt and others of $1,573,567, and a decrease in net operating
assets and liabilities of $241,469.
Net cash used in investing activities was $360,194 for the nine month period
ended September 30, 2010 as compared to $139,736 for the nine month period ended
September 30, 2009. The capital expenditures during the nine month period ended
September 30, 2010 were primarily dedicated to production tooling.
Net cash provided by financing activities totalled $5,170,504 for the nine month
period ended September 30, 2010 as compared to $2,459,499 provided by financing
activities for the nine month period ended September 30, 2009. In the current
period $3,000,000 was provided through issuance of convertible debentures,
$3,405,232 was borrowed under ESW's CIBC credit facility and $723,431 was repaid
to Royal Bank of Canada prior to closing the facility, $500,000 repayment of
promissory note to related party and $11,297 repaid under capital lease
obligation.
Based on ESW's current operating plan, management believes that at September 30,
2010 cash balances, anticipated cash flows from operating activities, and, the
appropriate borrowings from other financing sources, such as the issuance of
debt or equity securities will be sufficient to meet our working capital needs
on a short-term basis. Overall, capital adequacy is monitored on an ongoing
basis by our management and reviewed quarterly by the Board of Directors.
The industry that ESW operates in is capital intensive and there is a timing
issue bringing product to market which is considered normal for this industry.
ESW continues to invest in research and development to prove up its technologies
and bring them to the point where its customers have a high confidence level
allowing them to place larger orders. The length of time a customer needs to
build confidence in ESW's technologies cannot be predetermined and as a result,
ESW has sustained operating losses as a result of not generating sufficient
sales to generate a profit from operations.
During the first three quarters of 2010 and in 2009 ESW did not produce
sufficient cash from operations to support its expenditures; the March 19, 2010,
$3 million offering of convertible debentures; the August 28, 2009 $1.6 million
offering of convertible debentures; the November 3, 2008 $6.0 million offering
of convertible debentures; along with continued borrowing on ESW's credit
facility, a short term loan from a shareholder and director of the Company; and
the exercise of outstanding options, afforded ESW the opportunity to support its
operations and to execute its business plan. ESW's principal use of liquidity
will be to provide working capital availability and to finance any further
capital expenditures or tooling needed for production.
14
Effective March 25, 2010, all convertible debentures holders converted all
outstanding convertible debentures as per the terms of the respective debenture
agreements. The early conversion of the debentures was a condition precedent to
the Company's wholly owned subsidiary ESW Canada entering into a new credit
facility with CIBC.
Effective March 31, 2010 ESW's subsidiary, ESW Canada entered into a demand
revolving credit facility agreement with a Canadian chartered bank, CIBC to meet
working capital requirements. The facility has a credit limit of $4 million
Canadian. Borrowings under the facility are limited to a percentage of accounts
receivable plus a percentage of inventories (capped at $ 1 million Canadian or
50% of the accounts receivable portion) less any prior ranking claims.
ESW does not anticipate having any major capital expenditures in 2010 related to
the general operation of its business, however should the need arise for further
tooling or equipment as a result of specific orders or the introduction of new
product lines, ESW would evaluate the need and make provisions as necessary. ESW
does not expect that total capital expenditures for 2010 will amount to more
than $400,000.
As stated in the press release dated July 14th, 2010 Company's management and
Board of Directors are presently doing the necessary due diligence of
investigating the options to list on a big board stock exchange, in addition to
the listing, the Company is also seeking to raise capital. This capital would be
used to fund working capital needs and growth in revenues. However, such
additional financing may not be available on acceptable terms to ESW. As the
revenue of the Company grows, it is expected that profitability and cash flow
will grow at a faster pace. This will also be largely dependent on the success
of ESW's initiatives to streamline its infrastructure and drive its operational
efficiencies across the Company.
As the market for ESW's products expands competition will intensify. ESW's
ability to continue to gain significant market share will depend upon its
ability to continue to develop strong relationships with distributors, customers
and develop new products. Increased competition in the market place could result
in lower average pricing adversely affecting ESW's market share and prices for
its products.
ESW has 700,000 Class A special shares, authorized, issued and outstanding,
recorded at $453,900 (based on the historical exchange rate at the time of
issuance). The Class A special shares are issued by ESW's wholly-owned
subsidiary BBL Technologies, Inc. ("BBL") without par value, and are redeemable
on demand by the Holder of the shares which is a private Ontario Corporation at
$700,000 Canadian (which translates to $680,272 USD at September 30, 2010). As
the Class A special shares are issued by ESW's wholly-owned subsidiary BBL, the
maximum value upon which ESW is liable is the net book value of BBL. At
September 30, 2010 BBL had an accumulated deficit of $1,190,150 USD and
therefore would be unable to redeem the Class A special shares at their ascribed
value.
15
DEBT STRUCTURE
Effective March 25, 2010, the November 2008 and the August 2009 debenture
holders agreed to convert all outstanding convertible debentures as per the
terms of the respective debenture agreements. The early conversion of the
debentures was a condition precedent to the Company's wholly owned subsidiary
ESW Canada entering into a new credit facility with CIBC. A total of $10,600,000
in principal and $1,176,445 of accrued interest was converted into 43,756,653
shares of restricted common stock. The conversion of the November 2008 and the
August 2009 debentures also triggered the mandatory conversion feature on the
March 19, 2010 debentures. A total of $3,000,000 in principal and $3,797 in
accrued interest was converted into 6,007,595 shares of restricted common stock.
With these transactions effective March 25, 2010 the Company has $0 of
convertible debentures and accrued interest on convertible debenture.
As part of the agreement to convert all existing convertible debentures the
Company has paid a premium as an inducement to convert all debentures. The
premium is payable to all converting debenture holders and was subject to a
positive fairness opinion, approval by a Fairness Committee consisting of
independent directors of the Company's Board of Directors and an increase in the
share capital of the Company. The premium consists of 4,375,665 shares of Common
Stock. As the Company does not have sufficient authorized shares as of the date
of conversion of the debentures to fulfill the premium, the premium has been
recorded as an advance share purchase agreement at fair market value $2,909,872
as at March 31 2010, the agreement is without interest, subordinated to the
banks position and payable in a fixed number of common shares of the Company
upon increase in the authorized share capital of the Company. Subsequently as of
June 30, 2010 The Company has re-valued the advance share purchase agreement at
fair market value $1,662,753 with a $1,247,119 gain recorded in the consolidated
condensed statements of operations and comprehensive Income / (loss).
The Share Subscription Agreement for the 2010 Debentures contains an exchange
feature. The exchange feature provides that if within twelve months from March
19, 2010, the Company enters into or closes another financing or other
transaction (which for securities law purposes would be integrable with the
offer and sale of the Securities) on terms and conditions more favourable to
another purchaser, the terms and conditions of the 2010 Debentures shall be
adjusted to reflect the more favourable terms. On September 30, 2010, the
Company re-evaluated the fair value of the exchange feature and determined that
the probability of closing another financing by March 18, 2011 was approximately
50% and the conversion price of the 2010 Debentures would be reset, if there was
another financing, since the closing price of Company's shares of common stock
on September 30, 2010 was less than the conversion price. On September 30, 2010
a liability of $360,000 was recorded for the exchange feature in these restated
consolidated condensed financial statements.
16
Effective March 19, 2010, the Company issued $3,000,000 of its 9% convertible
debentures (the "Debentures") to five (5) accredited investors under Rule 506 of
Regulation D. The Debentures were for a term of three (3) years and were
convertible into shares of the Company's common stock at the option of the
holder by dividing the principal amount of the Debenture to be converted by
$0.50. The Debentures earned interest at a rate of 9% per annum payable in cash
or in shares of the Company's common stock at the option of the holder. If the
Holder elected to receive interest in shares of common stock, the number of
shares of common stock to be issued for interest would be determined by dividing
accrued interest by $0.50. The Debentures had a mandatory conversion feature
that required the holders to convert in the event a majority of the Company's
pre-existing outstanding 9% convertible debentures converted. Subject to the
holder's right to convert and the mandatory conversion feature, the Company had
the right to redeem the Debentures at a price equal to one hundred and ten
percent (110%) multiplied by the then outstanding principal amount plus unpaid
interest to the date of redemption. Upon maturity, the debenture and interest
was payable in cash or common stock at the option of the Holder. The Company
also had provided the holders of the Debentures registration rights. The
Debentures contained customary price adjustment protections.
On August 28, 2009, the Company completed a transaction whereby it issued $1.6
million of 9% convertible debentures (the " 2009 Debentures") to six accredited
investors. Of the $1.6 million received by the Company, $500,000 was received
from a director of the Company through the exchange of a $300,000 unsecured 9%
subordinated demand short term loan previously provided to the Company on August
11, 2009 and an additional $200,000 investment made by the director in the
offering. The 2009 Debentures were for a term of three (3) years and were
convertible into shares of the Company's common stock at the option of the
holder by dividing the principal amount of the 2009 Debenture to be converted by
$0.50. The 2009 Debentures earned interest at a rate of 9% per annum payable in
cash or in shares of the Company's common stock at the option of the holder. If
the Holder elected to receive interest in shares of common stock, the number of
shares of common stock to be issued for interest would be determined by dividing
accrued interest by $0.50. Subject to the holder's right to convert, the Company
had the right to redeem the 2009 Debentures at a price equal to one hundred and
ten percent (110%) multiplied by the then outstanding principal amount plus
unpaid interest to the date of redemption. Upon maturity, the debenture and
interest was payable in cash or common stock at the option of the Holder. The
2009 Debentures contained customary price adjustment protections.
On November 3, 2008, the Company completed a transaction whereby it issued $6.0
million of 9% convertible debentures (the "Debentures") to six accredited
investors. The Debentures were for a term of three (3) years and were
convertible into shares of the Company's common stock at the option of the
holder at any time six (6) months after the date of issuance of the Debenture by
dividing the principal amount of the Debenture to be converted by $0.25. The
Debentures earned interest at a rate of 9% per annum payable in cash or in
shares of the Company's common stock at the option of the holder. If the Holder
elected to receive interest in shares of common stock, the number of shares of
common stock to be issued for interest would be determined by dividing accrued
interest by $0.25. Subject to the holder's right to convert, the Company had the
right to redeem the Debentures at a price equal to one hundred and ten percent
(110%) multiplied by the then outstanding principal amount plus unpaid interest
to the date of redemption. Upon maturity, the debenture and interest was payable
in cash or common stock at the option of the Holder. The Debentures contained
customary price adjustment protections. The effective yield on the 2008
debentures was 9%.
17
From the proceeds of the November 2008 debentures, the Company repaid
$2,200,000, the principal portion only, of a previously issued Consolidated Note
in the amount of $2,308,148 to a company controlled by a trust to which a
director and shareholder of the Company is the beneficiary. The debt holder
agreed to have the remaining amount of $433,923, due under the Consolidated
Note, applied to a subscription of a Debenture under the November 3, 2008
offering. Concurrently, the Company repaid a Consolidated Subordinated Note that
it had previously issued to a debt holder who is a director and shareholder of
the Company, in the principal amount of $1,002,589. The debt holder agreed to
have the full amount of principal and accumulated interest, in the amount of
$1,158,024 due under the Consolidated Subordinated Note, applied to a
subscription of a Debenture under the offering. Additionally the Company's $1.5
million credit facility also provided by the same debt holder, from which the
Company had drawn down the sum of $1,103,000 as of November 3, 2008, was also
satisfied by way of issuance of Debentures under the November 3, 2008 offering.
With the agreement to settle all the notes previously issued the Debt holder
subscribed to an aggregate of $2,566,077 of Debentures under the offering.
As at September 30, 2010 Convertible Debentures, corresponding accrued interest
amounted to $0. As at December 31, 2009, Convertible Debentures amounted to
$10,334,513 net of deferred costs of $36,506 and debt discount of $228,981 with
corresponding accrued interest of $996,385.
On December 29, 2009 the Company issued a $500,000 unsecured subordinated
promissory note to a member of the Company's Board of Directors with interest
accruing at the annual rate of 9%. Upon the Company completing a financing for
the gross sum of $2 million dollars or more or in the event the Company did not
complete a financing by March 31, 2010, this note would have been payable upon
demand of the holder.
From the proceeds of the March 2010 offering, the Company repaid $500,000
principal and $11,342 interest of the December 29, 2009 unsecured subordinated
promissory note. As at June 30, 2010 promissory note due to related party and
corresponding accrued interest amounted to $0. At December 31, 2009 promissory
note due to related party and corresponding accrued interest amounted to
$500,000.
In 2007, ESW's subsidiary, ESW Canada Inc., entered into a $2.5 Million
revolving credit facility with RBC, to finance orders on hand. Effective
September 2, 2008, the agreement was amended to extend the term of the Agreement
through to June 30, 2009 and effective August 21, 2009, the term of the secured
commercial loan agreement with RBC was extended through to April 30, 2010. The
amended arrangement provided for a revolving facility available by way of a
series of term loans of up to $750,000 to finance future production orders. The
Credit Facility was guaranteed by the Company and its subsidiary ESW Canada
through the pledge of their assets to RBC. The facility had been guaranteed to
the bank under Export Development Canada ("EDC") pre-shipment financing program.
Borrowings under the revolving credit agreement bear interest at 1.5% above the
bank's prime rate of interest. Effective March 31, 2010, all borrowings under
the RBC facility were repaid from the proceeds of the March 19, 2010 convertible
debenture financing and the facility with RBC was closed. As at September 30,
2010, $0 was owed under the aforementioned facility. As at December 31, 2009,
$713,037 was outstanding and due to RBC under the Credit Facility.
18
Effective March 31, 2010 ESW's subsidiary, ESW Canada entered into a demand
revolving credit facility agreement with a Canadian chartered bank, CIBC, to
meet working capital requirements. The facility has a credit limit of $4 million
Canadian. Borrowings under the facility are limited to a percentage of accounts
receivable plus a percentage of inventories (capped at $ 1 million Canadian or
50% of the accounts receivable portion) less any prior ranking claims. The
credit facility is guaranteed by the Company and its subsidiaries ESW Canada
Inc, ESW America Inc, BBL Technologies Inc and ESW Technologies Inc through a
general security agreement over all assets to CIBC. The facility has been
guaranteed to the bank under Export Development Canada's Export Guarantee
Program. Borrowings under the credit facility bear interest at 2.25% above the
bank's prime rate of interest. Obligations under the revolving credit agreement
are collateralized by a first-priority lien on the assets of the Company and its
subsidiaries, including, accounts receivable, inventory, equipment and other
tangible and intangible property, including the capital stock of all direct
subsidiaries.
The terms relating to the credit agreement specifically note that the Company's
maintain a tangible net worth of at least $4.0 million. The credit agreement
contains, among other things, covenants, representations and warranties and
events of default customary for a facility of this type for the Company and its
subsidiaries. Such covenants include certain restrictions on the incurrence of
additional indebtedness, liens, acquisitions and other investments, mergers,
consolidations, liquidations and dissolutions, sales of assets, dividends and
other repurchases in respect of capital stock, voluntary prepayments of certain
other indebtedness, capital expenditures and transactions with affiliates,
subject to certain exceptions. Under certain conditions amounts outstanding
under the credit agreements may be accelerated. Such events include failure to
comply with covenants, breach of representations or warranties in any material
respect, non-payment or acceleration of other material debt, entry of material
judgments not covered by insurance, or a change of control of the Company.
As at September 30, 2010, $3,428,066 was owed to CIBC under the facility.
ESW's ability to service its indebtedness, other obligations and commitments in
cash will depend on its future performance, which will be affected by prevailing
economic conditions, financial, business, regulatory and other factors. Certain
of these factors are beyond ESW's control. ESW believes that, based upon its
current business plan and anticipated capital raise it will be able to meet its
debt service obligations when due. Significant assumptions underlie this belief,
including, among other things, that ESW will be successful in implementing its
business strategy, that some of ESW's new products that have received
verification from the appropriate regulatory authorities will obtain customer
and market acceptance, and that there will be no material adverse developments
in ESW's business, liquidity or capital requirements. If ESW cannot generate
sufficient cash flow from operations to service its indebtedness and to meet
other obligations and commitments, ESW might be required to refinance or to
dispose off assets to obtain funds for such purpose. There is no assurance that
refinancing or asset dispositions or raising funds from sales of equity or
otherwise could be effected on a timely basis or on satisfactory terms, In such
circumstance, ESW would have to issue shares of its common stock as repayment of
these obligations, which would be of a dilutive nature to ESW's present
shareholders.
19
CONTRACTUAL OBLIGATIONS
LEASES
Effective November 24, 2004, the Company's wholly-owned subsidiary, ESW America
Inc., entered into a lease agreement for approximately 40,220 square feet of
leasehold space at 2 Bethlehem Pike Industrial Center, Montgomery Township,
Pennsylvania. The leasehold space houses the Company's research and development
facilities. The lease commenced on January 15, 2005 and expired January 31,
2010. Effective October 16, 2009, the Company's wholly-owned subsidiary, ESW
America Inc., entered into a lease renewal agreement with Nappen & Associates
for the leasehold property at Pennsylvania. There were no modifications to the
original economic terms of the lease under the lease renewal agreement. Under
the terms of the lease renewal, the lease term will now expire February 28,
2013.
Effective December 20, 2004, the Company's wholly-owned subsidiary, ESW Canada
Inc., entered into an offer to lease agreement for approximately 50,000 square
feet of leasehold space in Concord, Ontario, Canada. The leasehold space houses
the Company's executive offices and a high volume manufacturing plant. The
possession of the leasehold space took place on May 24, 2005 and the term of the
lease has been extended to September 30, 2010. ESW Canada Inc. has renewed its
lease agreement at the current property for an additional five year term. The
renewed lease period commenced on October 1, 2010 and ends on September 30,
2015.
The following is a summary of the minimum annual lease payments, for both
leases.
YEAR
2010 $112,862
2011 451,447
2012 451,447
2013 303,080
2014 280,292
2015 210,219
----------
$1,809,347
==========
LEGAL MATTERS
From time to time, the Company may be involved in a variety of claims, suits,
investigations and proceedings arising from the ordinary course of our business,
breach of contract claims, labor and employment claims, tax and other matters.
Although claims, suits, investigations and proceedings are inherently uncertain
and their results cannot be predicted with certainty, ESW believes that the
resolution of current pending matters will not have a material adverse effect on
its business, consolidated condensed financial position, results of operations
or cash flows. Regardless of the outcome, litigation can have an adverse impact
on ESW because of legal costs, diversion of management resources and other
factors. In addition, it is possible that an unfavourable resolution of one or
more such proceedings could in the future materially and adversely affect ESW's
consolidated condensed financial position, results of operations or cash flows
in a particular period.
20
CAPITAL LEASE OBLIGATION
The Company is committed to the following lease payments in connection with the
acquisition of equipment under capital leases:
YEAR
2010 $ 3,190
2011 4,073
2012 973
-------
TOTAL 8,236
Less imputed interest (954)
-------
Total obligation under capital lease 7,282
Less current portion ( 1,920)
-------
TOTAL LONG-TERM PORTION $ 5,362
=======
The Company incurred $1,778 and $5,599 of interest expense on capital lease
obligation for the nine month periods ended September 30, 2010 and 2009,
respectively, and $829 and $2,437 for the three month periods ended September
30, 2010 and 2009, respectively.
NEW ACCOUNTING PRONOUNCEMENTS
RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
In January 2010, the Financial Accounting Standards Board ("FASB") issued
Accounting Standards Update ("ASU" or "Update") issued ASU No. 2010-06,
Improving Disclosures about Fair Value Measurements (ASU 2010-06) (codified
within ASC 820 Fair Value Measurements and Disclosures). ASU 2010-06 improves
disclosures originally required under SFAS No. 157. ASU 2010-06 is effective for
interim and annual periods beginning after December 15, 2009, except for the
disclosures about purchases, sales, issuances and settlements in the roll
forward of activity in Level 3 fair value measurements. Those disclosures are
effective for fiscal years beginning after December 15, 2009, and for interim
periods within those years. The adoption of the guidance did not have a material
effect on the Company's consolidated condensed financial position, results of
operations, cash flows or related disclosures.
In December 2009, the FASB issued ASU 2009-16, - Transfers and Servicing (Topic
860) - Accounting for Transfers of Financial Assets ("ASU 2009-16). ASU 2009-16
amends the accounting for transfers of financials assets and will require more
information about transfers of financial assets, including securitizations, and
where entities have contining exposure to the risks related to transferred
financial assets. ASU 2009-16 is effective at the start of a reporting entity's
first fiscal year beginning after November 15, 2009, with early adoption not
permitted. The adoption of the guidance did not have a material effect on the
Company's consolidated condensed financial position, results of operations, cash
flows or related disclosures.
21
In October 2009, the FASB issued ASU 2009-15, - Accounting for Own-Share Lending
Arrangements in Contemplation of Convertible Debt Issuance or Other Financing
("ASU 2009-15"). ASU 2009-15 amends the accounting and reporting guidance for
debt (and certain preferred stock) with specific conversion features or other
options. ASU 2009-15 is effective for fiscal years beginning on or after
December 15, 2009. The adoption of the guidance did not have a material effect
on the Company's consolidated condensed financial position, results of
operations, cash flows or related disclosures.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In August 2010, ASU No.2010-22 - Accounting for Various Topics. This update
amends various SEC paragraphs based on external comments received and the
issuance of SAB 112, which amends or rescinds portions of certain SAB topics.
The Company is assessing the potential effect this guidance will have on its
condensed consolidated financial statements.
In August 2010, the FASB issued ASU No.2010-21 - Accounting for Technical
Amendments to Various SEC Rules and Schedules. This update amends various SEC
paragraphs pursuant to the issuance of Release No. 33-9026: Technical Amendments
to Rules, Forms, Schedules and Codification of Financial Reporting Policies. The
Company is assessing the potential effect this guidance will have on its
condensed consolidated financial statements.
In April 2010, the FASB issued ASU No. 2010 - 17 - Revenue Recognition -
Milestone Method. The objective of this Update is to provide guidance on
defining a milestone and determining when it may be appropriate to apply the
milestone method of revenue recognition for research or development
transactions. The amendments in this Update are effective on a prospective basis
for milestones achieved in fiscal years, and interim periods within those years,
beginning on or after June 15, 2010. Early adoption is permitted. The Company
does not anticipate that the adoption of this pronouncement will have a
significant effect on its consolidated financial statements.
In April 2010, the FASB issued ASU No. 2010-013 - Compensation - Stock
Compensation (Topic 718): Effect of Denominating the Exercise Price of a
Share-Based Payment Award in the Currency of the Market in Which the Underlying
Equity Security Trades a consensus of the FASB Emerging Issues Task Force. ASU
2010-13 addresses the classification of an employee share-based award with an
exercise price denominated in the currency of a market in which the underlying
equity security trades. The amendments are effective for fiscal years, and
interim periods within those fiscal years, beginning on or after December 15,
2010. The Company will comply with the additional disclosures required by this
guidance upon its adoption in January 2011.
22
In October 2009, the FASB issued ASU No. 2009-13, - Multiple Deliverable Revenue
Arrangements - a consensus of the FASB Emerging Issues Task Force (ASU 2009-13)
(codified within ASC Topic 605). ASU 2009-13 addresses the accounting for
multiple-deliverable arrangements to enable vendors to account for products or
services (deliverables) separately rather than as a combined unit. ASU 2009-13
is effective prospectively for revenue arrangements entered into or materially
modified in fiscal years beginning on or after June 15, 2010, with early
adoption permitted. The Company is currently assessing the impact of ASU
2009-13on its consolidated condensed financial position, results of operations
and cash flows.
SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES
ESW's significant accounting policies are summarized in Note 2 to the
Consolidated Condensed Financial Statements included its quarterly reports and
its 2009 Annual Report to Shareholders. In preparing the consolidated condensed
financial statements, we make estimates and assumptions that affect the expected
amounts of assets and liabilities and disclosure of contingent assets and
liabilities. We apply our accounting policies on a consistent basis. As
circumstances change, they are considered in our estimates and judgments, and
future changes in circumstances could result in changes in amounts at which
assets and liabilities are recorded.
FOREIGN CURRENCY TRANSACTIONS
The results of operations and the financial position of ESW's operations in
Canada is principally measured in Canadian currency and translated into U.S.
dollars. The future effects of foreign currency fluctuations between U.S.
dollars and Canadian dollars will be somewhat mitigated by the fact that certain
expenses will be generally incurred in the same currency in which revenues will
be generated. The future reported income of ESW's Canadian subsidiary would be
higher or lower depending on a weakening or strengthening of the U.S. dollar
against the Canadian currency. During the first three quarters of 2010, the
Company experienced a net loss on foreign exchange due the fluctuation of the
U.S. dollar against the Canadian dollar.
A portion of ESW's assets are based in its foreign operation and are translated
into U.S. dollars at foreign currency exchange rates in effect as of the end of
each period, Accordingly, ESW's consolidated investment will fluctuate depending
upon the weakening or strengthening of the Canadian currency against the U.S.
dollar.
Adjustments resulting from ESW's foreign Subsidiaries' financial statements are
included as a component of other comprehensive income within stockholders equity
/ (deficit) because the functional currency of subsidiaries is not the U.S.
dollar.
23
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ESW is exposed to financial market risks, including changes in currency exchange
rates and interest rates. The Company also has foreign currency exposures at its
foreign operations related to buying and selling currencies other than the local
currencies. The risk under these interest rate and foreign currency exchange
agreement is not considered to be significant.
FOREIGN EXCHANGE RISK
ESW's foreign subsidiaries conduct their businesses in local currency
predominantly the Canadian Dollar. ESW's exposure to foreign currency
transaction gains and losses is the result of certain net receivables due from
its foreign subsidiaries. ESW's exposure to foreign currency translation gains
and losses also arises from the translation of the assets and liabilities of its
subsidiaries to U.S. dollars during consolidation. ESW recognized a translation
loss of $4,028 for the nine month period ended September 30, 2010 as compared to
a gain of $240,234 for the nine month period ended September 30, 2009 reported
as comprehensive loss in the Consolidated Condensed Statements of Changes in
Stockholders' Equity (Deficit), ESW recognized a translation loss of $38,991 for
the nine month period ended September 30, 2010 as compared to a gain of $17,687
for the nine month period ended September 30, 2009 reported as Foreign exchange
(gain) / loss in the Consolidated Condensed Statements of Operations And
Comprehensive Income / (Loss) primarily as a result of exchange rate differences
between the U.S. dollar and the Canadian Dollar.
ESW's strategy for management of currency risk relies primarily upon conducting
its operations in the countries' respective currency and ESW may, from time to
time, engage in hedging intended to reduce its exposure to currency
fluctuations. At September 30, 2010, ESW had no outstanding forward exchange
contracts.
INTEREST RATE RISK
ESW invests in highly liquid investments purchased with an original or remaining
maturity of three months or less at the date of purchase. These investments are
fixed rate investments. Investments in fixed rate interest earning products
carry a degree of interest rate risk. Fixed rate securities may have their fair
market value adversely impacted due to a rise in interest rates. However due to
the limited amount of investment in such securities and their terms restricted
to three months or less, ESW does not expect the impact on these investments to
be material. At September 30, 2010 and 2009, ESW had no investments.
The interest payable on one of ESW`s subsidiaries bank loan is based on variable
interest rates and therefore affected by changes in market interest rates. At
September 30, 2010 and 2009, $3,428,066 and $713,037 respectively was owed under
the facility, there was no significant changes in market risk exposure during
the three months ended September 30, 2010.
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ITEM 4. CONTROLS AND PROCEDURES
(a) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURE
EVALUATION OF THE COMPANY'S DISCLOSURE AND INTERNAL CONTROLS
The Company evaluated the effectiveness of the design and operation of its
"disclosure controls and procedures" as of the end of the period covered by this
report. This evaluation was done with the participation of management, under the
supervision of the Executive Chairman ("EC") and Chief Financial Officer
("CFO").
LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS
A control system, no matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the control system
are met. Further, the design of a control system must reflect the fact that
there are resource constraints, and the benefits of controls must be considered
relative to their costs. Because of the inherent limitations in all control
systems, no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within the Company have been
detected. These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur because of simple
error or mistake. Additionally, controls can be circumvented by the individual
acts of some persons, by collusion of two or more people, or by management
override of the control. The design of any system of controls also is based in
part upon certain assumptions about the likelihood of future events, and there
can be no assurance that any design will succeed in achieving its stated goals
under all potential future conditions; over time, control may become inadequate
because of changes in conditions, or the degree of compliance with the policies
or procedures may deteriorate. Because of the inherent limitations in a cost
effective control system, misstatements due to error or fraud may occur and not
be detected. The Company conducts periodic evaluations of its internal controls
to enhance, where necessary, its procedures and controls.
CONCLUSIONS
Based on our evaluation, the EC and CFO concluded that the registrant's
disclosures, controls and procedures are effective to ensure that information
required to be disclosed in reports that it files or submits under the Exchange
Act is recorded, processed, summarized and reported within the time periods
specified in the Security Exchange Commission rules and forms.
(c) CHANGES IN INTERNAL CONTROLS
Not applicable.
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PART II OTHER INFORMATION
ITEM 1A. RISK FACTORS.
In evaluating an investment in our common stock, investors should consider
carefully, among other things, the risk factors previously disclosed in Part I,
Item 1 of our Annual Report to the Securities and Exchange Commission for the
year ended December 31, 2009, as well as the information contained in this
Quarterly Report and our other reports and registration statements filed with
the Securities and Exchange Commission. There has been no material changes in
the risk factors as previously disclosed under "Risk Factors" in Part I, Item 1
of our Annual Report to the Securities and Exchange Commission for the year
ended December 31, 2009.
ITEM 5. OTHER INFORMATION
Effective October 14, 2010, the Company's Board of Directors ratified certain
corporate action approved by the written consent of a majority of the Company's
shareholders pursuant to a Definitive Information Statement on Schedule 14C that
the Company filed with the Securities and Exchange Commission on September 3,
2010 (the "Definitive Information Statement") and distributed to shareholders of
record.
Five (5) directors who were nominated to stand for re-election, Messrs. Elbert
O. Hand, Nitin Amersey, John Dunlap, III, David Johnson and Bengt Odner were
re-elected as directors of the Company. Messrs. Michael Albanese and Joey
Schwartz who previously served as board members were not nominated and did not
stand for re-election and have no disputes or disagreements with the Company.
The Board of Directors ratified an amendment to the Company's articles of
incorporation whereby the Company will proceed to file an amendment to its
articles of incorporation increasing its authorized shares of Common Stock, par
value $0.001 from 125,000,000 to 250,000,000 shares.
The Company's 2010 Stock Incentive Plan capitalized at 5,000,000 shares of
Common Stock was ratified and adopted by the Board of Directors.
The firm of MSCM LLP was ratified to serve as the Company's independent auditors
for the Fiscal Year ending December 31, 2010.
Effective November 1, 2010, the Company's Board of Directors unanimously elected
Peter Bloch to serve as a member of the Board of Directors. At the present time
Mr. Bloch has not been nominated to serve on any of the Company's committees.
Mr. Bloch is currently providing the Company consulting services related to
finance and general business with annual compensation less than $120,000 to
date.
26
On November 8, 2010, the Company's wholly owned subsidiary ESW Canada, Inc.
received a waiver of certain financial covenants under its Credit Agreement
dated March 10, 2010 (the "Credit Agreement") from its commercial lender.
Without the waiver, the Company's subsidiary would not be in compliance with the
Current Ratio and Effective Tangible Net Worth covenants as set forth in the
Credit Agreement. The waiver as provided by the commercial lender is through
November 19, 2010. In the event the Company and its subsidiary ESW Canada fail
to comply with the terms of the waiver and meet the current ratio and effective
tangible net worth covenants prior to the end of the waiver period, same will
constitute an event of default as set forth in the credit agreement unless a
further waiver or modification to the credit agreement can be obtained.
Effective November 9, 2010, the Company has closed on its first tranche of
equity financing in the amount of $300,000 from a sophisticated investor. The
terms of the financing are: to raise an amount up to $5,000,000. Securities are
in the form of shares of the Company's common stock, par value $0.001 (the
"Common Stock") at $0.40 per share plus for each share of Common Stock
subscribed to under the Offering the Investor will receive one (1) warrant
exercisable for one (1) share of Common Stock exercisable for two (2) years (the
"Investor Warrant"). If an Investor Warrant is exercised within the first year
of issuance, the exercise price will be $0.55; if an Investor Warrant is
exercised between the first and second years from issuance, the exercise price
will be $0.65. All Investor Warrants as issued will be subject to adjustment in
all respects in the event of a stock split or similar adjustment by the Company.
ITEM 6. EXHIBITS
EXHIBITS:
3.6 Articles Of Incorporation on the Company, as amended October 21, 2010.
31.1 Certification of Chief Executive Officer and President pursuant to the
Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Accounting Officer, pursuant to the
Sarbanes-Oxley Act of 2002.
32.1 Certification pursuant to 18 U.S.C. Section 1350, as amended pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification pursuant to 18 U.S.C. Section 1350, as amended pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
27
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this Report to be signed on its behalf by
the undersigned thereunto duly authorized.
DATED: March 31st, 2011
Concord, Ontario Canada
ENVIRONMENTAL SOLUTIONS WORLDWIDE, INC.
BY: /S/ MARK YUNG
------------------------------
MARK YUNG
EXECUTIVE CHAIRMAN
/S/ PRAVEEN NAIR
------------------------------
PRAVEEN NAIR
CHIEF FINANCIAL OFFICER
28
