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EXCEL - IDEA: XBRL DOCUMENT - PROSPECT GLOBAL RESOURCES INC. | Financial_Report.xls |
EX-32 - EX-32 - PROSPECT GLOBAL RESOURCES INC. | c24405exv32.htm |
EX-31.1 - EX-31.1 - PROSPECT GLOBAL RESOURCES INC. | c24405exv31w1.htm |
EX-31.2 - EX-31.2 - PROSPECT GLOBAL RESOURCES INC. | c24405exv31w2.htm |
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2011
OR
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File Number 000-54438
PROSPECT GLOBAL RESOURCES INC.
(Exact name of registrant as specified in its charter)
NEVADA (State or other jurisdiction of incorporation or organization) |
26-3024783 (IRS Employer Identification No.) |
|
600 17th Street, Suite 2800 South | ||
Denver, CO | 80202 | |
(Address of principal executive offices) | (Zip Code) |
(303) 634-2239
(Registrants telephone no., including area code)
(Registrants telephone no., including area code)
N/A
(Former name, former address and former fiscal year, if changed since last report)
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and (2) has been
subject to the filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files). Yes
x No o
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 definitions of large accelerated
filer, accelerated filer, and smaller reporting company in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o | Non-accelerated filer o | Smaller reporting company þ | |||
(Do not check if a smaller reporting company) |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes o No þ
Indicate the number of shares outstanding of each of the issuers classes of common stock, as of
the latest practicable date.
As of
November 11, 2011, the number of outstanding shares of the registrants common stock was
22,639,725.
PROSPECT GLOBAL RESOURCES INC.
FORM 10-Q
For the Quarter Ended September 30, 2011
INDEX
2
Table of Contents
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PROSPECT GLOBAL RESOURCES INC.
CONSOLIDATED BALANCE SHEETS
(an Exploration Stage Company)
CONSOLIDATED BALANCE SHEETS
(an Exploration Stage Company)
September 30, | ||||||||
2011 | December 31, | |||||||
(unaudited) | 2010 | |||||||
ASSETS |
||||||||
Current assets |
||||||||
Cash and cash equivalents |
$ | 1,646,555 | $ | 642,902 | ||||
Accounts receivable |
433 | | ||||||
Related party receivable |
| 27,849 | ||||||
Related party credit facility |
| 77,616 | ||||||
Prepaid expense |
272,728 | | ||||||
Deposits |
285,000 | | ||||||
Other current assets |
53,512 | 7,899 | ||||||
Total current assets |
2,258,228 | 756,266 | ||||||
Long term assets |
||||||||
Mineral properties |
11,334,112 | | ||||||
Equipment, net |
11,615 | 4,542 | ||||||
Total long term assets |
11,345,727 | 4,542 | ||||||
Total assets |
$ | 13,603,955 | $ | 760,808 | ||||
LIABILITIES AND SHAREHOLDERS EQUITY |
||||||||
Current Liabilities |
||||||||
Accounts payable |
$ | | $ | 270,711 | ||||
Accrued liabilities |
3,112,955 | 134,164 | ||||||
Derivative warrant liabilities |
18,962,226 | | ||||||
Compound embedded derivative |
42,120,193 | | ||||||
Convertible notes, net of unamortized discount |
1,026,076 | 1,048,863 | ||||||
Total current liabilities |
65,221,450 | 1,453,738 | ||||||
SHAREHOLDERS EQUITY |
||||||||
Preferred stock: $0.001 par value; 10,000,000 shares authorized; none outstanding |
| | ||||||
Common stock: $0.001 par value; 100,000,000 shares authorized; 22,598,864 and
17,788,638 issued and outstanding at September 30, 2011 and December 31, 2010,
respectively |
22,599 | 17,789 | ||||||
Additional paid-in capital |
3,103,824 | 46,610 | ||||||
Losses accumulated in the exploration stage |
(63,070,487 | ) | (757,329 | ) | ||||
Total shareholders equity Prospect Global Resources Inc. |
(59,944,064 | ) | (692,930 | ) | ||||
Non-controlling interest |
8,326,569 | | ||||||
Total shareholders equity |
(51,617,495 | ) | (692,930 | ) | ||||
Total liabilities and shareholders equity |
$ | 13,603,955 | $ | 760,808 | ||||
The accompanying notes are an integral part of these statements.
3
Table of Contents
PROSPECT GLOBAL RESOURCES INC.
CONSOLIDATED STATEMENT OF OPERATIONS
(an Exploration Stage Company)
(unaudited)
CONSOLIDATED STATEMENT OF OPERATIONS
(an Exploration Stage Company)
(unaudited)
Cumulative from | ||||||||||||
For the Quarter | For the Nine | Inception - | ||||||||||
Ended | Months Ended | August 5, 2010 - | ||||||||||
September 30, 2011 | September 30, 2011 | September 30, 2011 | ||||||||||
Expenses: |
||||||||||||
Exploration expense |
$ | 2,744,445 | $ | 5,068,113 | $ | 5,068,113 | ||||||
General and administrative |
1,707,344 | 3,513,661 | 4,256,715 | |||||||||
Total expenses |
4,451,789 | 8,581,774 | 9,324,828 | |||||||||
Loss from operations |
(4,451,789 | ) | (8,581,774 | ) | (9,324,828 | ) | ||||||
Other expense: |
||||||||||||
Derivative losses |
(40,872,806 | ) | (53,207,280 | ) | (53,207,280 | ) | ||||||
Loss on debt extinguishment |
| (2,000,000 | ) | (2,000,000 | ) | |||||||
Interest, net |
(741,354 | ) | (1,197,535 | ) | (1,211,810 | ) | ||||||
Total other expense |
(41,614,160 | ) | (56,404,815 | ) | (56,419,090 | ) | ||||||
Income tax expense |
| | | |||||||||
Net loss |
(46,065,949 | ) | (64,986,589 | ) | (65,743,918 | ) | ||||||
Net loss attributable to non-controlling interest |
1,414,644 | 2,673,431 | 2,673,431 | |||||||||
Net loss attributable to Prospect Global Resources Inc. |
$ | (44,651,305 | ) | $ | (62,313,158 | ) | $ | (63,070,487 | ) | |||
Earnings per share |
||||||||||||
Basic and diluted |
||||||||||||
Loss per share |
$ | (2.01 | ) | $ | (2.91 | ) | $ | (3.26 | ) | |||
Weighted average number of shares outstanding |
22,264,625 | 21,437,835 | 19,330,520 |
The accompanying notes are an integral part of these statements.
4
Table of Contents
PROSPECT GLOBAL RESOURCES INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(an Exploration Stage Company)
(unaudited)
CONSOLIDATED STATEMENT OF CASH FLOWS
(an Exploration Stage Company)
(unaudited)
Cumulative from | ||||||||
For the Nine | Inception | |||||||
Months Ended | August 5, 2010- | |||||||
September 30, 2011 | September 30, 2011 | |||||||
CASH FLOWS FROM OPERATING ACTIVITIES: |
||||||||
Net (loss) |
$ | (64,986,589 | ) | $ | (65,743,918 | ) | ||
Adjustments to reconcile net loss to net cash used in operating activities: |
||||||||
Services paid for in stock |
1,713,663 | 1,722,663 | ||||||
Derivative expense |
53,207,280 | 53,207,280 | ||||||
Loss on debt extinguishment |
2,000,000 | 2,000,000 | ||||||
Amortization of debt discount |
858,613 | 858,613 | ||||||
Amortization of deferred financing costs |
24,978 | 24,978 | ||||||
Depreciation |
1,915 | 1,915 | ||||||
Changes in assets and liabilities: |
||||||||
Related party receivable |
27,416 | (433 | ) | |||||
Related party credit facility |
77,616 | | ||||||
Other current assets |
(312,986 | ) | (319,802 | ) | ||||
Accounts payable |
(270,711 | ) | 6 | |||||
Accrued liabilities |
1,005,558 | 1,139,722 | ||||||
Net cash used in operating activities |
(6,653,247 | ) | (7,108,976 | ) | ||||
CASH FLOWS FROM INVESTING ACTIVITIES: |
||||||||
Mineral properties |
(334,112 | ) | (334,112 | ) | ||||
Acquisition of equipment |
(8,988 | ) | (13,769 | ) | ||||
Net cash used in investing activities |
(343,100 | ) | (347,881 | ) | ||||
CASH FLOWS FROM FINANCING ACTIVITIES: |
||||||||
Proceeds from convertible notes |
8,000,000 | 9,048,863 | ||||||
Cash proceeds from common stock issued |
| 54,549 | ||||||
Net cash provided by financing activities |
8,000,000 | 9,103,412 | ||||||
Increase in cash and cash equivalents |
1,003,653 | 1,646,555 | ||||||
Cash and
cash equivalents beginning of period |
642,902 | | ||||||
Cash and cash equivalents end of period |
$ | 1,646,555 | $ | 1,646,555 | ||||
Cash paid
for interest |
$ | 0 | $ | 0 | ||||
Supplemental disclosure of non-cash transactions |
||||||||
Convertible notes and accrued interest converted into shares of common stock |
$ | (1,075,633 | ) | $ | (1,075,633 | ) | ||
Common stock attributable to reverse merger |
$ | 1,735 | $ | 1,735 | ||||
Fair value of land contributed by non-controlling interest |
$ | (11,000,000 | ) | $ | (11,000,000 | ) | ||
Note receivable in exchange for shares of common stock |
$ | (750,000 | ) | $ | (750,000 | ) | ||
Warrants
issued and recorded as deferred financing costs |
$ | (42,600 | ) | $ | (42,600 | ) |
The accompanying notes are an integral part of these statements.
5
Table of Contents
PROSPECT GLOBAL RESOURCES INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS EQUITY
(an Exploration Stage Company)
(unaudited)
CONSOLIDATED STATEMENT OF SHAREHOLDERS EQUITY
(an Exploration Stage Company)
(unaudited)
Loss | ||||||||||||||||||||||||
Additional | Accumulated in | Non- | Total | |||||||||||||||||||||
Common Stock | Paid-in | the Exploration | Controlling | Shareholders | ||||||||||||||||||||
Shares | Amount | Capital | Stage | Interest | Equity | |||||||||||||||||||
Balance at August 5, 2010
(inception) |
| $ | | $ | | $ | | $ | | $ | | |||||||||||||
Stock issued |
16,413,638 | 16,414 | 38,135 | | | 54,549 | ||||||||||||||||||
Stock-based compensation |
850,000 | 850 | | | | 850 | ||||||||||||||||||
Stock issued for services |
525,000 | 525 | 8,475 | | | 9,000 | ||||||||||||||||||
Net loss |
| | | (757,329 | ) | | (757,329 | ) | ||||||||||||||||
Balance at December 31, 2010 |
17,788,638 | 17,789 | 46,610 | (757,329 | ) | | (692,930 | ) | ||||||||||||||||
Contributions |
| | | | 11,000,000 | 11,000,000 | ||||||||||||||||||
Stock-based compensation |
700,000 | 700 | 244 | | | 944 | ||||||||||||||||||
Stock issued for services |
2,016,667 | 2,017 | 1,983,430 | | | 1,985,447 | ||||||||||||||||||
Stock acquired through
merger |
1,735,000 | 1,735 | (1,735 | ) | | | | |||||||||||||||||
Convertible notes and
accrued interest
converted into common
stock |
358,559 | 358 | 1,075,275 | | | 1,075,633 | ||||||||||||||||||
Net loss |
| | | (62,313,158 | ) | (2,673,431 | ) | (64,986,589 | ) | |||||||||||||||
Balance at September 30,
2011 (unaudited) |
22,598,864 | $ | 22,599 | $ | 3,103,824 | $ | (63,070,487 | ) | $ | 8,326,569 | $ | (51,617,495 | ) | |||||||||||
The accompanying notes are an integral part of these statements.
6
Table of Contents
PROSPECT GLOBAL RESOURCES INC.
Notes to Consolidated Financial Statements
(an Exploration Stage Company)
(unaudited)
Notes to Consolidated Financial Statements
(an Exploration Stage Company)
(unaudited)
Note 1 Organization and Business Operations
Introduction
Prospect Global Resources Inc., a Nevada corporation, (individually or in any combination with its
subsidiaries, Prospect, the Company, we, us, or our), is an exploration stage company
engaged in the exploration and mining of potash in the Holbrook Basin of eastern Arizona. On
February 11, 2011, the Company completed a reverse merger and acquired Prospect Global Resources
Inc., a Delaware corporation incorporated on August 5, 2010 (Old Prospect Global), as further
described below. The Company conducts its operations through its wholly-owned subsidiary Old
Prospect Global, which owns a 50% operated interest in American West Potash LLC, a Delaware limited
liability company (AWP), as further described below. All references to Triangle in these Notes
to Consolidated Financial Statements refer to the Company prior to the merger, at which time its
name was Triangle Castings, Inc.
American West Potash LLC
AWP commenced operations on January 21, 2011,
the date on which the Company and The Karlsson Group (Karlsson) executed the Third Amended and Restated Operating Agreement (the Operating Agreement). Pursuant
to the Operating Agreement, Karlsson transferred to AWP its ownership of mineral rights, surface
rights and title consisting of approximately 31,000 gross acres in the Holbrook Basin in exchange
for a 50% equity interest in AWP. Under the terms of the Operating Agreement, the Company has until
90 days following the delivery of a NI 43-101 compliant mineral resource estimate report (as
further described below) to invest a total of $11,000,000 in AWP in order for it to maintain its
full 50% equity interest in AWP. This report was delivered on
October 17, 2011. As of November 11, 2011, the Company had paid $5,949,743 toward its $11,000,000
commitment.
If the Company does not invested the full $11,000,000 in AWP by January 13, 2012 (within 90 days
after the NI 43-101 delivery date), its ownership interest in AWP will be reduced in accordance to
the terms of the Operating Agreement but not below 35% based on
amounts invested through November 11, 2011. Further, should the Company not meet its funding commitments, AWP will be permitted to
sell equity to third parties, which could be on terms that are disadvantageous to the Company, and
the Company could lose one of its two designated manager positions with AWP. The Company could
also lose its right to be the operator of AWP, which provides it with the authority to manage the
exploration, development and production of potash on AWPs acreage.
The NI 43-101 is a technical resource report (NI 43-101 report), prepared and issued by a third
party natural resource expert, delineating the potash resource on AWPs acreage. This report is
not compliant with SEC Industry Guide 7 as required by the Securities Exchange Act of 1934, as
amended (the Exchange Act). The NI 43-101 report is filed as an exhibit to the Companys Current
Report on Form 8-K filed on October 19, 2011.
On July 27, 2011, AWP entered into a Potash Sharing Agreement (Sharing Agreement) covering
100 private mineral estate sections and related mineral leases on approximately 62,000 acres
adjacent to or in close proximity to its existing mineral rights covering 50 mineral estate
sections in the Holbrook Basin of eastern Arizona. This Sharing Agreement provides that AWP will
pay the mineral estate owners specified dollar amounts during development of AWPs mining and
processing facility, an annual base rent and a royalty for potash extracted from these estates. The
term of the Sharing Agreement is for perpetuity or until the earliest of cessation of operations by
AWP for 180 consecutive days or abandonment of the potash mining operation by AWP. The owners of
the mineral estates can also terminate the agreement upon specified defaults by AWP, some following
cure periods. With this acquisition, AWP now controls approximately 93,000 acres, of which
approximately 27,000 acres are Arizona State Land Department leases and approximately 66,000 acres
are private leases.
7
Table of Contents
Merger
On February 11, 2011, the Company, under its former name Triangle Castings, Inc., entered into an
Agreement and Plan of Merger (the Merger Agreement) with its wholly-owned subsidiary Prospect
Global Acquisition Inc., Old Prospect Global and Denis M. Snyder. Mr. Snyder was a majority
stockholder of Triangle at the time. Pursuant to the terms of the Merger Agreement, Triangles
wholly-owned subsidiary Prospect Global Acquisition Inc. executed a reverse merger with and into
Old Prospect Global, with Old Prospect Global surviving the merger. As a result, Old Prospect
Global became Triangles wholly-owned subsidiary and Triangle changed its name to Prospect Global
Resources Inc.
The merger is treated as a reverse merger for financial accounting purposes. Old Prospect Global
has been treated as the acquirer for accounting purposes, whereas the Company has been treated as
the acquirer for legal purposes. Accordingly, the historical financial statements of the Company
before the merger, under its former name Triangle Castings, Inc., were and will be replaced with
the historical financial statements of Old Prospect Global in this and all future filings with the
Securities and Exchange Commission (SEC). Before the merger, Triangle had 6,735,000 shares of
common stock issued and outstanding, of which Denis M. Snyder held 5,000,000 shares. Old Prospect
Global had 19,405,305 shares of common stock issued and outstanding before the merger. Old Prospect
Globals stockholders were predominantly the founding stockholders who were comprised of private
institutions and individuals. Upon completion of the merger and pursuant to the terms of the Merger
Agreement:
| the 5,000,000 shares of Triangle common stock held by Denis M. Snyder were cancelled for
no consideration; |
| the remaining 1,735,000 shares of Triangle common stock issued and outstanding before the
merger remained issued and outstanding after the merger; the merger did not cause any change
in ownership of these shares; |
| each share of common stock of Prospect Global Acquisition Inc., Triangles
then-wholly-owned merger entity, was converted into one share of common stock of Old
Prospect Global as the surviving corporation; and |
| each of the 19,405,305 shares of Old Prospect Global common stock was converted into one
share of the Companys common stock. |
The merger triggered the automatic conversion of $1,048,863 of Old Prospect Globals convertible
notes and $26,770 of accrued interest into 358,559 shares of Old Prospect Globals shares of common
stock, which, in turn, were converted into shares of the Companys common stock upon the completion
of the merger. Upon completion of the merger, the Company had 21,498,864 shares of common stock
issued and outstanding.
Note 2 Summary of Significant Accounting Principles
This summary of significant accounting policies of the Company is presented to assist in
understanding the Companys financial statements. The financial statements and notes are
representations of the Companys management, which is responsible for their integrity and
objectivity.
Basis of Presentation
The accompanying unaudited Consolidated Financial Statements of the Company have been prepared in
accordance with accounting principles generally accepted in the United States of America (GAAP),
the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all
of the normal and recurring adjustments necessary to fairly present the interim financial
information set forth herein have been included. The results of operations for interim periods are
not necessarily indicative of the operating results of a full year or of future years. These
interim financial statements follow the same accounting policies and methods of their application
as the most recent annual financial statements. These interim financial statements are unaudited
and should be read in conjunction with the Companys audited financial statements and related
footnotes for the year ended December 31, 2010 included in the Companys Current Report on Form
8-K/A filed with the SEC on March 31, 2011.
8
Table of Contents
Principles of Consolidation
The Company is the 50% owner of AWP, operates AWP, and accordingly provides the consolidated
financial statements for the Company and AWP. Both entities have the same year end. The purpose of
consolidated financial statements is to present the results of operations and the financial
position of the Company and its subsidiaries as if the group were a single company. The
consolidated financial statements of the Company include the accounts of Prospect and AWP. The
Company has disclosed in the financial statements the amount of non-controlling interest
attributable to Karlsson and has eliminated all intercompany gains and losses. All intercompany
accounts and transactions have been eliminated in the consolidation.
Exploration Stage
The Company is considered an exploration stage enterprise as most of its efforts have been devoted
to raising capital and exploring for potash. As of September 30, 2011, none of the Companys
mineral properties had proven or probable reserves as determined under the requirements of SEC
Industry Guide No. 7. On October 17, 2011, the Company received a final NI 43-101 report on its
AWP potash exploration property in the Holbrook Basin area of eastern Arizona. While this report
further delineates AWPs potash resource, additional analysis, including the completion of a
preliminary economic assessment, is required before any portion of the resource, if any, can
potentially be upgraded to a proven or probable reserve status pursuant to SEC Industry Guide 7.
Use of Estimates
The preparation of the Companys consolidated financial statements requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities and the
related disclosure of contingent assets and liabilities at the date of the financial statements and
the reported amounts of expenses during the reporting period. The Company bases its estimates on
various assumptions that are believed to be reasonable under the circumstances. Accordingly,
actual results may differ significantly from these estimates under different assumptions or
conditions. Significant estimates with regard to the Companys consolidated financial statements
include the calculation of certain conversion features of the Companys secured convertible notes,
the embedded derivative liabilities associated with those secured convertible notes and the
outstanding warrants issued by the Company.
Cash and Cash Equivalents
As of September 30, 2011, the Company had a cash balance of $1,646,555 and no cash equivalents. We
consider all highly liquid investments with original maturities of three months or less to be cash
equivalents.
Equipment
Equipment is recorded at cost. Depreciation is calculated on the straight-line method over the
estimated useful life of the assets. The Companys policy is to capitalize equipment having a cost
greater than $250 and an estimated useful life greater than one year. The Companys policy is to
review equipment for impairment at least annually.
Mineral Properties
Investments in mineral properties are capitalized as incurred. The carrying costs of mineral
properties are assessed for impairment whenever changes in circumstances indicate that the carrying
costs may not be recoverable. When the Company reaches the production stage, the related
capitalized costs will be depleted. Refer to Note 11 Mineral Properties for additional
information.
Exploration Expense
Exploration expense includes geological and geophysical work performed on areas that do not yet
have proven or probable reserves. These costs are expensed as incurred.
Financial Instruments
Financial instruments consist of cash, evidence of ownership in an entity, and contracts that both
(i) impose on one entity a contractual obligation to deliver cash or another financial instrument
to a second entity, or to exchange other financial instruments on potentially unfavorable terms
with the second entity, and (ii) conveys to that second entity a contractual right (a) to receive
cash or another financial instrument from the first entity, or (b) to exchange other financial
instruments on potentially favorable terms with the first
entity. Accordingly, our financial instruments consist of cash and cash equivalents, accounts
payable, accrued liabilities, warrants, secured convertible notes, and derivative financial
instruments. We carry cash and cash equivalents, accounts payable and accrued liabilities at
historical costs; their respective estimated fair values approximate carrying values due to their
current nature.
9
Table of Contents
Derivative financial instruments consist of financial instruments or other contracts that contain a
notional amount and one or more underlying variables (e.g. interest rate, security price or other
variable), require no initial net investment and permit net settlement. Derivative financial
instruments may be free-standing or embedded in other financial instruments. Further, derivative
financial instruments are initially, and subsequently, measured at fair value and recorded as
liabilities or, in rare instances, assets.
We do not use derivative financial instruments to hedge exposures to cash flow, market or
foreign-currency risks. However, we have entered into certain other financial instruments and
contracts, such as our convertible note financing arrangements, that contain embedded derivative
features, that are either (i) not afforded equity classification, (ii) embody risks not clearly and
closely related to host contracts, or (iii) may be net cash settled by the counterparty. These
instruments are carried as derivative liabilities, at fair value, in our financial statements.
Refer to Note 7 Convertible Notes for additional information.
Income Taxes
Income taxes are based on the liability method of accounting. Under this approach, deferred income
taxes are recorded to reflect the tax consequences in future years of differences between the tax
basis of assets and liabilities and their financial reporting amounts at each year-end. In
accordance with authoritative guidance for Income Taxes, a valuation allowance is recorded against
the deferred tax asset if management does not believe the Company has met the more likely than
not standard to allow recognition of such an asset. As of September 30, 2011, the Company did not
have an income tax liability.
Loss per Share
Basic loss per share of common stock is calculated by dividing net loss available to common
stockholders by the weighted average number of common shares outstanding for the respective period.
Diluted loss per common share reflects the potential dilution that would occur if contracts to
issue common stock were exercised or converted into common stock. For the three and nine month
periods ended September 30, 2011 and from August 5, 2010 (Inception) to September 30, 2011, basic
loss per common share and diluted loss per common share were the same as any potentially dilutive
shares would be anti-dilutive to the periods. Refer to Note 12 Loss per Share for additional
information.
Stock-Based Compensation
The Company recognizes compensation expense for share-based payments based on the estimated fair
value of the awards. The Company records tax benefits relating to the deductibility of increases in
the value of equity instruments issued under share-based compensation arrangements that are not
included in costs applicable to sales (excess tax benefits) as financing cash inflows in the
statement of cash flows.
Warrants
The Company classifies its issued and outstanding warrants as liabilities in its financial
statements. Refer to Note 10 Shareholders Equity for additional information.
10
Table of Contents
Note 3 Prepaid Expense
On July 5, 2011, the Company entered into a fee agreement with Brownstein Hyatt Farber Schreck LLP
(Brownstein Hyatt), pursuant to which Brownstein Hyatt provides government relations services to
us. As compensation for these services, the Company issued Brownstein Hyatt 100,000 fully vested
shares of the Companys common stock. As part of this same transaction, Brownstein Hyatt purchased
200,000 shares of the Companys common stock in exchange for a promissory note to us in the amount
of $750,000 (representing the fair market value of the stock on the purchase date). This
promissory note, which bears interest at the rate of .37% and matures on July 5, 2012, is secured
by the 200,000 shares of common stock purchased and a twenty percent recourse obligation from
Brownstein Hyatt. In accordance with this agreement, the principal amount of the promissory note
was reduced by $375,000 on August 15, 2011 and will be reduced by another $375,000 on February 3,
1012 subject to Brownstein Hyatt still providing government relation services to the Company at
that time. If Brownstein Hyatt is not providing government relation services to us on February 3,
2012, we have the right to re-acquire 100,000 shares for $375,000. The balance at September 30,
2011 is net of $102,272 of amortization. The net balance of $272,728 at September 30, 2011 has
been reflected in the balance sheet as a prepaid expense.
Note 4 Deposits
In the normal course of business, the Company is from time to time required to post cash deposits
with certain vendors and governmental agencies. As of September 30, 2011, we had three such
deposits, two with vendors totaling $235,000 and one with a government agency in the amount of
$50,000.
Note 5 Other Current Assets
As of September 30, 2011, this balance was comprised of prepaid insurance premiums of $25,745,
prepaid rents of $4,000, deferred financing fees of $17,622 and miscellaneous other assets of
$6,145.
Note 6 Accrued Liabilities
Accrued liabilities at September 30, 2011, included:
Accrual of future payment to Dr. Richard Merkin (Refer to Note 7 Convertible Notes) |
$ | 2,000,000 | ||
Buffalo Management (Refer to Note 9 Related Party Transactions) |
177,250 | |||
Other consultants |
594,841 | |||
Accrued interest payable |
302,878 | |||
Accrued vacation payable |
26,704 | |||
Other |
11,282 | |||
$ | 3,112,955 | |||
Note 7 Convertible Notes
In connection with the reverse merger, $1,048,863 of the Companys outstanding convertible notes,
which were issued in 2010, and $26,770 of accrued interest, converted into 358,559 shares of common
stock on February 11, 2011.
The carrying values of our secured convertible notes as of September 30, 2011 consisted of the
following:
Secured Convertible Notes | September 30, 2011 | |||
$2,000,000 face value secured convertible notes due January 24, 2012 |
$ | 430,889 | ||
$500,000 face value secured convertible notes due January 24, 2012 |
332,073 | |||
$2,500,000 face value secured convertible notes due April 24, 2012 |
209,419 | |||
$1,500,000 face value secured convertible notes due August 3, 2012 |
32,317 | |||
$1,500,000 face value secured convertible notes due September 18, 2012 |
21,378 | |||
$ | 1,026,076 | |||
$2,000,000 Merkin Secured Convertible Note
On January 24, 2011, we issued a $2,000,000 face value secured convertible note, due January 24,
2012, to Dr. Richard Merkin (the Merkin Note) for net proceeds of $2,000,000. The Merkin Note is
secured by all of our assets on a pari passu basis with our other $6,000,000 of outstanding
convertible notes and accrues interest at 10% per annum, payable in cash at maturity. Principal
and interest may be converted at the option of the holder at any time during the term to maturity
into a fixed number of 10,538,583 shares of our common stock, subject to adjustment solely for
capital reorganization events. The Merkin Note also embodies certain traditional
default provisions that are linked to credit or interest risks, such as bankruptcy proceedings,
liquidation events and corporate existence. In addition, the holder is entitled to designate one
member of our Board of Directors while the Merkin Note is outstanding or the holder owns at least
1,000,000 shares of our common stock.
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Concurrent with the issuance of the Merkin Note, we entered into an agreement with Dr. Merkin that
provides for a guaranteed post-conversion sales value of $3.00 per converted share with a monetary
obligation not to exceed a fixed amount of $15,000,000, following conversion of the Merkin Note, if
ever, without expiration. The fixed monetary amount is settled solely by our issuance of additional
shares of our common stock. The number of shares necessary to settle this contingent obligation is
dependent upon future values of our common stock at times the holder chooses to sell converted
shares, if the holder in fact converts. Thus the number of shares necessary to settle is not
determinable.
On April 20, 2011, we entered into an amendment with Dr. Merkin. This amendment added an automatic
conversion feature in which the principal and all interest convert automatically into 10,538,583
shares of our common stock upon our completion of a Qualified Financing (defined as the Companys
sale of securities in a transaction or series of transactions of at least $10,000,000). Dr. Merkin
also agreed to the deletion of the majority of the negative covenants in the Merkin Note. In
exchange for these modifications, we agreed to pay Dr. Merkin a fee of $2,000,000 upon the
completion of a Qualified Financing. We analyzed the modification under applicable accounting
standards and determined that extinguishment accounting was applicable since the change in cash
flows as a result of the amendment was substantial in that it was greater than ten percent (10%).
As a result of the modification, we recorded a loss on debt extinguishment of $2,000,000 with the
offsetting charge to accrued liabilities for the future payment of $2,000,000 to Dr. Merkin.
$500,000 COR Secured Convertible Note
On March 11, 2011, we issued a $500,000 face value secured convertible note, due January 24, 2012,
to COR Capital, LLC (the COR Note) for net proceeds of $500,000. The COR Note is secured by all
of our assets on a pari passu basis with our other $7,500,000 of outstanding convertible notes and
accrues interest at 10% per annum, payable in cash at maturity. Principal and interest may be
converted at the option of the holder at any time during the term to maturity into shares of our
common stock at a conversion price of $3.00 per share subject to adjustment for capital
reorganization events and subsequent sales by the Company of shares of its common stock at a price
per share below $3.60. The COR Note also embodies certain traditional default provisions that are
linked to credit or interest risks, such as bankruptcy proceedings, liquidation events and
corporate existence.
Concurrent with the issuance of the COR Note, we entered into an agreement with the holder that
provides for a guaranteed post-conversion sales value of $3.00 per converted share with a monetary
obligation not to exceed a fixed amount of $600,000, following conversion of the COR Note, if ever,
without expiration. The fixed monetary amount is settled solely by our issuance of additional
shares of our common stock. The number of shares necessary to settle this contingent obligation is
dependent upon future values of our common stock at times the holder chooses to sell converted
shares, if the holder in fact converts, and is, therefore, not determinable.
On April 20, 2011, we entered into a waiver agreement with COR Capital, LLC. As consideration for
consenting to the amendment to the Merkin Note, we issued to COR Capital, LLC a warrant to purchase
up to $200,000 of our common stock. The warrants per share purchase price is equal to the per
share conversion price of the COR Note. The warrant expires on April 20, 2012. We analyzed the
modification under applicable accounting standards and determined that extinguishment accounting
was not applicable because the change in cash flows as a result of the amendment was not
substantial.
$2,500,000 Hexagon Secured Convertible Note
On April 25, 2011, we issued a $2,500,000 face value secured convertible note, due April 24, 2012,
to Hexagon Investments, LLC (the Hexagon Note) for net proceeds of $2,500,000. The Hexagon Note
is secured by all of our assets on a pari passu basis with our other $5,500,000 of outstanding
convertible notes and accrues interest at 10% per annum, payable in cash at maturity. Principal
and interest may be converted at the option of the holder at any time during the term to maturity
into shares of our common stock at a conversion price of $3.00 per share subject to adjustment for
capital reorganization events. Additionally, if we enter into a Qualified Financing prior to the
maturity date, the Hexagon Note will automatically convert into shares of our common stock at a
conversion price of the lesser of $3.00 or 80% of the per share price of the Qualified Financing if
that Qualified Financing is less than $3.60 per share. The Hexagon Note also embodies certain
traditional default provisions that are linked to credit or interest risks, such as bankruptcy
proceedings, liquidation events and corporate existence.
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In connection with the issuance of the Hexagon Note, we issued Hexagon two warrants to purchase our
common stock. The first warrant is exercisable until April 25, 2013 for up to $2,000,000 of our
shares at an exercise price per share equal to the conversion price per share of the Hexagon Note.
The second warrant is exercisable until April 25, 2014 for up to $7,500,000 of our shares at the
same exercise price per share.
$1,500,000 Avalon Secured Convertible Note
On August 3, 2011, we issued a $1,500,000 face value secured convertible note, due August 3, 2012
to Avalon Portfolio, LLC (the Avalon Note) for net proceeds of $1,500,000. The Avalon Note is
secured by all of our assets on a pari passu basis with our other $6,500,000 of outstanding
convertible notes and accrues interest at 10% per annum, payable in cash at maturity. Principal
and interest may be converted at the option of the holder at any time during the term to maturity
into shares of our common stock at a conversion price of $3.00 per share subject to adjustment for
capital reorganization events. Additionally, the Avalon Note will automatically convert into
shares of our common stock at a conversion price of $3.00 if we enter into a Qualified Financing
prior to the Maturity Date. The Avalon Note also embodies certain traditional default provisions
that are linked to credit or interest risks, such as bankruptcy proceedings, liquidation events and
corporate existence.
In connection with the issuance of the Avalon Note, we issued Avalon a warrant to purchase our
common stock. The warrant is exercisable until February 3, 2014 for up to $5,700,000 of our shares
at an exercise price per share equal to the conversion price per share of the Avalon Note.
$1,500,000 Hexagon Secured Convertible Note
On September 19, 2011, we issued a $1,500,000 face value secured convertible note, due September
18, 2012 to Hexagon Investments, LLC (the Second Hexagon Note) for net proceeds of $1,500,000.
The Second Hexagon Note is secured by all of our assets on a pari passu basis with our other
$6,500,000 of outstanding convertible notes and accrues interest at 10% per annum, payable in cash
at maturity. Principal and interest may be converted at the option of the holder at any time
during the term to maturity into shares of our common stock at a conversion price of $4.00 per
share subject to adjustment for capital reorganization events. Additionally, the Second Hexagon
Note will automatically convert into shares of our common stock at a conversion price of $4.00 if
we enter into a Qualified Financing prior to the Maturity Date. The Second Hexagon Note also
embodies certain traditional default provisions that are linked to credit or interest risks, such
as bankruptcy proceedings, liquidation events and corporate existence.
In connection with the issuance of the Second Hexagon Note, we issued Hexagon Investments, LLC a
warrant to purchase shares of our common stock. The warrant is exercisable until September 18,
2013 for up to $3,750,000 of our shares at an exercise price per share equal to the conversion
price per share of the Second Hexagon Note.
Accounting for the Secured Convertible Notes
We have evaluated the terms and conditions of the secured convertible notes. Because the economic
characteristics and risks of the equity-linked conversion options are not clearly and closely
related to a debt-type host, the conversion features require classification and measurement as
derivative financial instruments. The other embedded derivative features (down-round protection
feature of the COR Note, automatic conversion provision of the Hexagon Note and the make whole
provisions of the Merkin Note, COR Note, Avalon Note, Hexagon Note and Second Hexagon Note) were
also not considered clearly and closely related to the host debt instruments. These features
individually were not afforded the exemption normally available to derivatives indexed to a
companys own stock. Accordingly, our evaluation resulted in the conclusion that these compound
derivative financial instruments required bifurcation and liability classification, at fair value.
These compound derivative financial instruments consist of (i) the embedded conversion features and
the (ii) down-round protection features. Current standards contemplate that the classification of
financial instruments requires evaluation at each report date.
Accounting for the Warrants
Based on the terms and conditions of the warrants, we concluded the warrants did not meet the
criteria for equity classification. Accordingly, our analysis resulted in the conclusion that these
warrant requires classification in our financial statements in liabilities at fair value both at
inception and subsequently.
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The following table reports the allocation of the purchase on the financing dates:
Second | ||||||||||||||||||||
Merkin Note | COR Note | Hexagon Note | Avalon Note | Hexagon | ||||||||||||||||
$2,000,000 Face | $500,000 Face | $2,500,000 Face | $1,500,000 Face | Note $1,500,000 | ||||||||||||||||
Secured Convertible Notes | Value | Value | Value | Value | Face Value | |||||||||||||||
Proceeds |
$ | (2,000,000 | ) | $ | (500,000 | ) | $ | (2,500,000 | ) | $ | (1,500,000 | ) | $ | (1,500,000 | ) | |||||
Compound embedded derivative |
10,068,182 | 332,539 | 459,989 | 707,500 | 432,500 | |||||||||||||||
Warrant derivative liability |
| | 3,954,333 | 5,147,100 | 2,134,688 | |||||||||||||||
Day-one derivative loss |
(8,068,182 | ) | | (1,914,322 | ) | (4,354,600 | ) | (1,067,188 | ) | |||||||||||
Carrying value |
$ | | $ | 167,461 | $ | | $ | | $ | | ||||||||||
The carrying value of the secured convertible notes at December 31, 2010 was $0 and the carrying
value at September 30, 2011 was $1,026,076.
Discounts (premiums) on the convertible notes arise from (i) the allocation of basis to other
instruments issued in the transaction, (ii) fees paid directly to the creditor and (iii) initial
recognition at fair value, which is lower than face value. Discounts (premiums) are amortized
through charges (credits) to interest expense over the term of the debt agreement. Amortization of
debt discounts (premiums) amounted to $883,591 during the period from August 5, 2010 (Inception) to
September 30, 2011.
Note 8 Derivative Financial Instruments
Derivative Liabilities
The carrying value of the compound embedded derivative and warrant derivative liabilities are
recorded on the balance sheet, with changes in the carrying value being recorded as derivative
gains (losses) in the income statement. The components of the compound embedded derivative and
warrant derivative liabilities as of September 30, 2011, were:
Our financings giving rise to derivative financial instruments | Indexed Shares | Fair Values | ||||||
Compound embedded derivatives: |
||||||||
$2,000,000 face value secured convertible notes due January 24, 2012 |
10,538,583 | $ | 39,498,609 | |||||
$500,000 face value secured convertible notes due January 24, 2012 |
166,667 | 231,333 | ||||||
$2,500,000 face value secured convertible notes due April 24, 2012 |
833,333 | 1,136,667 | ||||||
$1,500,000 face value secured convertible notes due August 3, 2012 |
500,000 | 739,000 | ||||||
$1,500,000 face value secured convertible notes due September 18, 2012 |
375,000 | 514,584 | ||||||
Warrant derivative liabilities: |
||||||||
Hexagon Warrant 1 |
666,667 | 1,548,667 | ||||||
Hexagon Warrant 2 |
2,500,000 | 6,910,000 | ||||||
Hexagon Warrant 3 |
937,500 | 2,157,188 | ||||||
COR Warrant |
66,667 | 106,067 | ||||||
Buffalo Warrant |
1,813,539 | 3,148,304 | ||||||
Avalon Warrant |
1,900,000 | 5,092,000 | ||||||
20,297,956 | $ | 61,082,419 | ||||||
The following table summarizes the effects on our gain (loss) associated with changes in the fair
values of our derivative financial instruments by type of financing for the three and nine months
ended September 30, 2011:
Three Months | Nine Months | |||||||
Our financings giving rise to derivative | Ended | Ended | ||||||
financial instruments and the income effects: | September 30, 2011 | September 30, 2011 | ||||||
Compound embedded derivatives: |
||||||||
$2,000,000 face value secured convertible notes due January 24, 2012 |
$ | (26,241,072 | ) | $ | (29,430,427 | ) | ||
$500,000 face value secured convertible notes due January 24, 2012 |
(120,042 | ) | 101,206 | |||||
$2,500,000 face value secured convertible notes due April 24, 2012 |
(987,255 | ) | (676,678 | ) | ||||
$1,500,000 face value secured convertible notes due August 3, 2012 |
(31,500 | ) | (31,500 | ) | ||||
$1,500,000 face value secured convertible notes due Sept. 18, 2012 |
(82,084 | ) | (82,084 | ) | ||||
(27,461,953 | ) | (30,119,483 | ) | |||||
Day-one derivative loss: |
||||||||
$2,000,000 face value secured convertible notes due January 24, 2012 |
| (8,068,182 | ) | |||||
$2,500,000 face value secured convertible notes due April 24, 2012 |
| (1,914,322 | ) | |||||
$1,500,000 face value secured convertible notes due August 3, 2012 |
(4,354,600 | ) | (4,354,600 | ) | ||||
$1,500,000 face value secured convertible notes due Sept. 18, 2012 |
(1,067,188 | ) | (1,067,188 | ) |
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Three Months | Nine Months | |||||||
Our financings giving rise to derivative | Ended | Ended | ||||||
financial instruments and the income effects: | September 30, 2011 | September 30, 2011 | ||||||
Warrant derivative liabilities: |
||||||||
Hexagon Warrant 1 |
(1,148,667 | ) | (889,334 | ) | ||||
Hexagon Warrant 2 |
(4,752,500 | ) | (3,615,000 | ) | ||||
Hexagon Warrant 3 |
(22,500 | ) | (22,500 | ) | ||||
COR Warrant |
(89,334 | ) | (63,467 | ) | ||||
Buffalo Warrant |
(2,031,164 | ) | (3,148,304 | ) | ||||
Avalon Warrant |
55,100 | 55,100 | ||||||
Total derivative loss |
$ | (40,872,806 | ) | $ | (53,207,280 | ) | ||
Fair Value Considerations
GAAP establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to
measure fair value. As presented in the tables below, this hierarchy consists of three broad
levels:
Level 1 valuations: | Quoted prices in active markets for identical assets and liabilities. |
|||
Level 2 valuations: | Quoted prices for similar assets or liabilities in active markets;
quoted prices for identical or similar assets or liabilities in
markets that are not active; and model-derived valuations whose
inputs or significant value drivers are observable. |
|||
Level 3 valuations: | Significant inputs to valuation model are unobservable. |
We classify assets and liabilities measured at fair value in their entirety based on the lowest
level of input that is significant to their fair value measurement. We measured all our derivative
financial instruments that were required to be measured at fair value on a recurring basis as of
September 30, 2011, at fair value using Level 3 inputs. Level 3 inputs are unobservable inputs that
are supported by little or no market activity and that are significant to the fair value of the
assets or liabilities.
September 30, 2011 | ||||||||||||||||
Fair Value Measurements Using: | ||||||||||||||||
Significant | ||||||||||||||||
Quoted Prices | Other | Significant | ||||||||||||||
in Active | Observable | Unobservable | ||||||||||||||
Markets | Inputs | Inputs | Liabilities at Fair | |||||||||||||
(Level 1) | (Level 2) | (Level 3) | Value | |||||||||||||
Compound embedded derivative |
$ | | $ | | $ | (42,120,193 | ) | $ | (42,120,193 | ) | ||||||
Derivative warrant liability |
| | (18,962,226 | ) | (18,962,226 | ) | ||||||||||
Total |
$ | | $ | | $ | (61,082,419 | ) | $ | (61,082,419 | ) | ||||||
We combined the features embedded in the secured convertible notes into one compound embedded
derivative that we fair valued using the income valuation technique using the Monte Carlo valuation
model. We believe the Monte Carlo model is the best available technique for this compound
derivative because, in addition to providing for inputs such as market values, volatilities and
risk free rates, the Monte Carlo model also embodies assumptions that provide for credit risk,
interest risk and redemption behaviors (i.e. assumptions market participants exchanging debt-type
instruments would also consider). The Monte Carlo model simulates multiple outcomes over the period
to maturity using multiple assumption inputs also over the period to maturity. The following table
sets forth (i) the range of inputs for each significant assumption and (ii) the equivalent, or
averages, of each significant assumption as of September 30, 2011:
Second | ||||||||||||||||||||
Merkin Note | COR Note | Hexagon Note | Avalon Note | Hexagon | ||||||||||||||||
Our financings giving rise to | $2,000,000 Face | $500,000 Face | $2,500,000 Face | $1,500,000 Face | Note $1,500,000 | |||||||||||||||
derivative financial instruments | Value | Value | Value | Value | Face Value | |||||||||||||||
Conversion price |
$ | 0.19 | $ | 3.00 | $ | 3.00 | $ | 3.00 | $ | 4.00 | ||||||||||
Equivalent volatility |
108.80 | % | 108.80 | % | 99.98 | % | 102.71 | % | 105.57 | % | ||||||||||
Equivalent term (years) |
0.263 | 0.305 | 0.534 | 0.767 | 0.924 | |||||||||||||||
Equivalent credit-risk adjusted yield |
21.32 | % | 21.32 | % | 21.32 | % | 21.32 | % | 21.32 | % | ||||||||||
Equivalent interest risk adjusted rate |
7.36 | % | 7.36 | % | 7.53 | % | 6.96 | % | 7.69 | % |
15
Table of Contents
We valued the warrants using a binomial-lattice-based valuation model. We utilized the
lattice-based valuation technique because it embodies all of the requisite assumptions (including
the underlying price, exercise price, term, volatility, and risk-free interest-rate) that are
necessary to fair value these instruments. For forward contracts that contingently require net-cash
settlement as the principal means of settlement, we project and discount future cash flows by
applying probability-weights to multiple possible outcomes. Estimating fair values of derivative
financial instruments requires the development of significant and subjective estimates that may,
and are likely to, change over the duration of the instrument with related changes in internal and
external market factors. In addition, option-based techniques are highly volatile and sensitive to
changes in the assumptions used in calculating the market price of
our common stock.
Our common stock is traded in the over-the-counter
market and historically, has traded in small volumes and
infrequently. As such, prior to September 30, 2011, we used the
stock price of a publicly traded entity with similar circumstances
and industry as our own as an input to estimate a fair value stock
price of the Company for use in valuing our derivative financial
instruments under the Monte Carlo and binomial lattice-based
valuation models. During
the quarter ended September 30, 2011, certain extraneous
circumstances occurred that, in our judgment, rendered the other
entitys stock price to no longer be a reasonable proxy as an
input into the valuation of our common stock price for use in this
valuation model. Our common stock continues to be traded infrequently
and in small volumes, which makes us believe that it may not provide
the best indication of fair value. As of September 30, 2011, we
determined that recent transactions with third parties in private
placements of our common stock represent the best indicator of the
fair value of our common stock. A such, we changed our assumption for
estimating the share price in both the binomial-lattice-based and
lattice-based valuation models for these derivative financial
instruments. Because derivative financial instruments are initially
and subsequently carried at fair values, our income will reflect the
volatility from this change in assumption used in the valuation
model, as well as fluctuations in the underlying estimates.
The following table sets forth (i) the range of inputs for each significant assumption and (ii) the
equivalent, or averages, of each significant assumption as of September 30, 2011:
Hexagon | Hexagon | COR | Buffalo | Avalon | Hexagon | |||||||||||||||||||
Warrant 1 | Warrant 2 | Warrant | Warrant | Warrant | Warrant 3 | |||||||||||||||||||
Warrants to purchase common stock: |
||||||||||||||||||||||||
Strike price |
$ | 3.00 | $ | 3.00 | $ | 3.00 | $ | 3.75 | $ | 3.00 | $ | 4.00 | ||||||||||||
Equivalent volatility |
110.23 | % | 114.36 | % | 100.01 | % | 132.05 | % | 113.55 | % | 113.63 | % | ||||||||||||
Term (years) |
1.57 | 2.57 | 0.56 | 4.73 | 2.35 | 1.97 | ||||||||||||||||||
Equivalent risk-free rate |
0.08 | % | 0.14 | % | 0.03 | % | 0.39 | % | 0.14 | % | 0.11 | % |
The following table sets forth a reconciliation of changes in the fair value of financial
liabilities classified as Level 3 in the fair valued hierarchy:
Derivative Financial Instruments | ||||||||
2011 | 2010 | |||||||
Balance as of January 1 |
$ | | $ | | ||||
Total gains or losses (realized or unrealized): |
||||||||
Included in earnings |
(36,685,848 | ) | | |||||
Warrant issuances |
(12,395,861 | ) | | |||||
Debenture issuances |
(12,000,710 | ) | | |||||
Balance as of September 30, 2011 |
$ | (61,082,419 | ) | $ | | |||
Note 9 Related Party Transactions
Buffalo Management LLC
Pursuant to the Companys management services agreement with Buffalo Management LLC (Buffalo),
the Company has agreed to pay Buffalo (i) a consulting fee of $20,000 per month, (ii) a $5,000
monthly office expense reimbursement, (iii) an annual management fee in an amount equal to 2% of
its annual gross revenues as shown on the Companys audited financial statements each year, (iv) an
acquisition advisory fee with respect to the consummation of each future acquisition or business
combination engaged in
by the Company equal to 1% of the transaction value, and (vi) an advisory fee equal to $650,000
with respect to the consummation of a transaction in which the Company merges with or becomes a
wholly-owned subsidiary of a publicly traded company. Buffalo may elect, by written notice to the
Company prior to payment, to receive all or a portion of certain of these fees in shares of the
Companys common stock valued at the market price (as defined in the management services agreement)
of the Companys common stock on the day such fee is payable to Buffalo. On January 7, 2011, the
Company and Buffalo reached an agreement whereby Buffalo received 1,516,667 shares of the Companys
common stock, having an estimated fair value of $288,167, in lieu of amounts due for management
fees, office expenses and advisory fees. As of September 30, 2011, the Company has accrued $177,250
in professional and general and administrative expenses related to Buffalo. The Company has
entered into a registration rights agreement with Buffalo which requires the Company to register
for resale the shares of common stock issued to Buffalo pursuant to the management services
agreement and upon exercise of the warrant.
16
Table of Contents
The Company also issued Buffalo a warrant to purchase shares of our common stock equal to 5% of the
issued outstanding shares of our common stock on a fully-diluted basis on the exercise date at an
exercise price per share to be determined based on the average market price of the common stock
during a specified period. The warrant became exercisable following the first day on which the
Companys market capitalization for each trading day in a period of 30 consecutive days exceeded
$50,000,000, which occurred on June 21, 2011. This warrant grants Buffalo the right to purchase up
to 1,813,539 shares of our common stock at an exercise price of $3.75 per share and expires June
21, 2016. The warrant terms were evaluated and we have concluded that they did not meet the
criteria for equity classification. Accordingly, our analysis resulted in the conclusion that these
warrants require classification in our financial statements in liabilities.
Refer to Note 8 Derivative Financial Instruments, for additional information on the Buffalo
warrant and our other common stock purchase warrants.
Quincy Prelude LLC, one of our stockholders beneficially owning more than 5% of our common stock,
owns 100% of the voting
interests and 75% of the economic interests of Buffalo Management and has sole voting and
dispositive power of the shares of
our common stock owned by Buffalo Management LLC. Chad Brownstein, one of our directors and
non-executive vice chairman, is the sole member of Quincy Prelude LLC and has sole voting and
dispositive power of the shares of our common stock beneficially owned by Quincy Prelude LLC.
Patrick Avery, our chief executive officer, owns a 10% non-voting economic interest in Buffalo
Management and Barry Munitz, our chairman, owns a 15% non-voting economic interest in Buffalo
Management.
Brownstein Hyatt Farber Schreck, LLP
On July 5, 2011, we entered into a Fee Agreement with Brownstein Hyatt Farber Schreck LLP, pursuant
to which Brownstein Hyatt provides government relations services to us. Chad Brownstein, one of our
directors, is the son of a founding partner of Brownstein Hyatt Farber Schreck, LLP which serves as
Prospect Globals principal outside legal counsel. Mr. Brownsteins father owns 600,000 shares of
Prospect Globals common stock. Prospect Global has paid Brownstein Hyatt approximately $590,000 in
legal fees since January 1, 2010. Prospect Global has also issued Brownstein Hyatt, as compensation
for government relations services, 100,000 fully vested shares of common stock. Additionally,
Brownstein Hyatt has purchased 200,000 shares of Prospect Globals common stock which was paid for
by issuing a promissory note to Prospect Global in the amount of $750,000 (representing the fair
market value of the stock on the purchase date). Chad
Brownstein, our director and non-executive vice chairman, does not share in any of these fees or
transactions. Refer to Note 3 Prepared Expense for
additional information on the promissory note.
Hexagon Investments, LLC
Two of
our secured convertible notes, totaling $4,000,000 as of
September 30, 2011, are held by Hexagon Investments, LLC. Scott
Reiman, one of our board members, is the founder of Hexagon
Investments. Hexagon Investments was not a related party at the time
of placement of the earliest of these secured convertible notes.
Refer to Note 7 Convertible Notes for additional
information.
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Karlsson Group Credit Facility
Prior to executing the Operating Agreement, the Company provided Karlsson with a $250,000 credit
facility to fund expenses pertaining to leasehold activity in the Holbrook Basin that Karlsson
incurred subsequent to September 1, 2010. Advances under the credit facility accrued interest at 8%
per annum. Pursuant to the Operating Agreement, approximately $78,000 in advances and accrued
interest were repaid in January 2011 by deducting the principal and interest from the Companys
initial $2,200,000 cash contribution to AWP and the Company simultaneously terminated the credit
facility.
Related Party Receivables from AWP
The Company paid certain expenses in 2010 and the first nine months of 2011 on behalf of AWP. All
related party receivables and payables have been eliminated from our consolidated financial
statements.
Note 10 Shareholders Equity
Stock-Based Compensation
The Company has made stock grants to key members of its management. Mr. Avery, the Companys
President and Chief Executive Officer, received a stock grant award of 1,500,000 shares on August
17, 2010 with vesting occurring over a two-year period. As of September 30, 2011, 1,250,000 shares
of Mr. Averys grant had vested and the remaining 250,000 shares will vest on August 17, 2012. Mr.
Bloomfield, the Companys Chief Financial Officer until September 6, 2011 and its current Vice
President of Corporate Development, received a stock grant award of 500,000 shares on September 1,
2010, which also vests on a two-year schedule. As of September 30, 2011, 300,000 of Mr.
Bloomfields shares had vested and the remaining 200,000 shares will vest on September 1, 2012.
The stock grants of Messrs. Avery and Bloomfield were deemed to have a nominal value in that the
Company had only nominal assets and not begun commercial operations on the issue dates and so were
valued at par value of $0.001 per share. As of September 30, 2011, the Company had recorded $944
for stock-based compensation for the nine month period. Compensation for non-vested awards was $206
as of September 30, 2011. The Company has also made stock grants totaling 1,275,000 shares to its
directors, excluding shares issued to Mr. Avery.
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Common Stock
The Company is authorized to issue 100,000,000 shares of common stock, with a par value of $0.001
per share, under the terms of the Companys Amended and Restated Articles of Incorporation. As of
September 30, 2011, there were 22,598,864 shares of our common stock issued and outstanding.
On January 7, 2011, the Company and Buffalo reached an agreement whereby Buffalo received 1,516,667
shares of the Companys common stock in lieu of cash for amounts due for management fees, office
expenses and advisory fees. The shares had a fair value of approximately $288,167.
On January 19, 2011, the Company issued 11,250 shares of common stock to Spouting Rock Capital
Advisors, LLC as payment for investment banking services valued at $2,138 and 63,750 shares of
common stock to Cobrador Capital Advisors as payment for investment banking services valued at
$12,113.
On February 4, 2011, the Company issued 25,000 shares of common stock to Lambros Piscopos as
payment for consulting services valued at $4,750.
On April 21, 2011, the Company authorized the issuance of 150,000 shares of common stock to Marc
Holtzman in consideration for serving as a director of the Company. On August 15, 2011 Mr.
Holtzman rescinded these shares. The director fees of $480,000 that were recorded during the
quarter ended June 30, 2011 related to this issuance were reversed in full during the quarter ended
September 30, 2011.
On July 5, 2011, the Company issued 100,000 shares of common stock to COR Advisors LLC pursuant to
an Investor Relations Consulting Agreement valued at $375,000.
On July 5, 2011, the Company issued 300,000 shares of common stock to Brownstein Hyatt in exchange
for lobbying services valued at $1,125,000, of which shall be amortized between July 5, 2011 and
February 2, 2012. Refer to Note 3 Note Receivable for additional information.
Preferred Stock
The Company is authorized to issue 10,000,000 shares of preferred stock, with a par value of $0.001
per share, under the terms of the Companys Amended and Restated Articles of Incorporation. As of
September 30, 2011, no shares of preferred stock had been issued.
Non-Controlling Interest
The Company included Karlssons initial $11,000,000 contribution of property to AWP in
non-controlling interest on the balance sheet, net of its share of losses. Through this
contribution, Karlsson earned its 50% interest in AWP. While the Company has earned its 50%
interest in AWP through its contributions both during and subsequent to this quarter, it will need
to contribute an additional $5,150,257 between September 30, 2011 and January 13, 2012 to maintain
our 50% interest. As such, Karlssons non-controlling interest was not reduced by any amount for
the Companys interest in the contributed property due to this further obligation to maintain the
Companys 50% interest.
Note 11 Mineral Properties
The following table summarizes the book value of the Companys mineral properties and changes
during the period:
September 30, 2011 | December 31, 2010 | |||||||
Balance, beginning of year |
$ | | $ | | ||||
Additions |
11,334,112 | | ||||||
Balance, end of period |
$ | 11,334,122 | $ | |
The recoverability of the carrying values of the Companys mineral properties is dependent upon the
successful start-up and commercial production from, or sale, or lease of, these properties and upon
economic reserves being discovered or developed on the
properties. The Company believes that the fair value of its mineral properties exceeds the carrying
value; however, events and circumstances beyond our control may mean that a write-down in the
carrying values of the Companys properties may be required in the future as a result of the
economic evaluation of potash and application of an impairment test which is based on estimates of
potash quantities, exploration land values, future advanced minimum royalty payments and potash
prices.
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Note 12 Loss per Share
The following sets forth the computation of basic and fully diluted weighted average shares
outstanding and loss per share of common stock for the periods indicated:
Cumulative from | ||||||||||||
Inception- | ||||||||||||
Three months ended | Nine months ended | August 5, 2010- | ||||||||||
September 30, 2011 | September 30, 2011 | September 30, 2011 | ||||||||||
Net loss attributable to Prospect Global Resources Inc. |
$ | (44,651,306 | ) | $ | (62,313,158 | ) | $ | (63,070,487 | ) | |||
Weighted average number of common shares outstanding basic |
||||||||||||
Dilution effect of restricted stock and warrants |
| | | |||||||||
Weighted average number of common shares outstanding
fully diluted |
22,264,625 | 21,437,835 | 19,330,520 | |||||||||
Loss per share of common stock: |
||||||||||||
Basic and fully diluted loss per share of common stock |
$ | (2.01 | ) | $ | (2.91 | ) | $ | (3.26 | ) | |||
The Company has issued warrants to purchase shares of our common stock, as discussed in Note 7
Convertible Notes and Note 10 Shareholders Equity. The Company has also issued secured
convertible notes which contain embedded derivatives as is further discussed in Note 8
Derivative Financial Instruments. As of September 30, 2011, the derivative liabilities of the
warrants and convertible notes could represent an additional 20,297,956 shares of common stock.
Note 13 Subsequent Events
On October 17, 2011, the Company received the final NI 43-101 report on its AWP property in the
Holbrook Basin area of eastern Arizona. We now have 90 days from this date or until January 13,
2012 to fund the remaining portion of our $11,000,000 investment in AWP or our ownership interest
in AWP will be reduced in accordance to the terms of the Operating Agreement but not below 35%
based on our investment through November 11, 2011. Should we not meet this funding commitment, AWP
will be permitted to sell equity to third parties, which could be on terms that are disadvantageous
to us, and we could lose one of our two designated AWP manager positions. We could also lose the
right to be the operator of AWP, which provides us with the authority to manage the exploration,
development and production of potash on AWPs acreage.
ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
This managements discussion and analysis of the consolidated operating results and financial
condition of the Company for the three and nine month periods ended September 30, 2011 should be
read in conjunction with the unaudited consolidated financial statements and notes included
herewith and the audited financial statements of the Company for the year ended December 31, 2010,
and the related notes included in Exhibit 99.1 to the Companys Current Report on Form 8-K/A filed
with the SEC on March 31, 2011, which have been prepared in accordance with GAAP. All amounts
stated herein are in U.S. dollars.
Plan of Operation
We are an exploration stage company engaged in the exploration and development of a potash mining
property in the Holbrook Basin of eastern Arizona through our 50% owned interest in AWP. For the
nine months ended September 30, 2011, our work centered primarily around the completion of
drilling and seismic work on AWPs land holdings to further delineate the propertys resource
potential. This work culminated in the release of a NI 43-101 report on October 17, 2011. Based
on the recommendations in this report, we now plan to move forward with the next phase of
development which includes the completion of a preliminary economic assessment of the resource and
other activities necessary to advance the project toward completion of a bankable feasibility
study.
Results of Operations
As a result of the reverse merger, the historical financial statements of the Company before the
merger, under its former name Triangle Castings, Inc., were and will be replaced with the
historical financial statements of Old Prospect Global in this and all future
filings with the SEC. Old Prospect Global was incorporated on August 5, 2010 (Inception) and
consequently does not have comparable results for the period ended September 30, 2010.
Revenue
For the three months ended, nine months ended and from Inception to September 30, 2011, the Company
had no revenue.
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Exploration Expense
For the three months ended September 30, 2011, exploration expense totaled $2,744,445, of which
$134,568 was attributable to seismic, $2,533,423 was attributable to drilling and $76,454 was
attributable to permitting and environmental. For both the nine months ended September 30, 2011 and
from Inception to September 30, 2011, exploration expense totaled $5,068,113, of which $690,568 was
attributable to seismic, $4,166,091 was attributable to drilling and $211,454 was attributable to
permitting and environmental. For all comparative periods, exploration expenses were related to
AWPs activities in the Holbrook Basin area of eastern Arizona.
General and Administrative Expense
General and administrative expense for the three months ended September 30, 2011 was $1,707,344, of
which $919,393 related to salaries and benefits, stock compensation, management fees and board
compensation, $707,574 related to legal, accounting and insurance, and $80,377 related to office,
travel and other. For the nine months ended September 30, 2011, general and administrative expense
was $3,513,661, of which $2,011,393 related to salaries and benefits, stock compensation,
management fees and board compensation, $1,344,574 related to legal, accounting and insurance, and
$157,694 related to office, travel and other. From Inception to September 30, 2011, general and
administrative expense was $4,256,715, of which $2,479,447 related to salaries and benefits, stock
compensation, management fees and board compensation, $1,585,574 related to legal, accounting and
insurance, and $191,694 related to office, travel and other.
Derivative Losses
Derivative losses for the three months ended, nine months ended and from inception to September 30, 2011 totaled
$40,872,806, $53,207,280 and $53,207,280, respectively. These derivative losses relate to the change in the fair value
of the compound embedded derivatives of the Companys convertible notes and warrants. It also includes the day-one
derivative loss of the convertible notes which occurs when the fair value of the derivative instruments exceeds the
financing proceeds. Derivative expense was calculated using a Monte Carlo valuation model for the convertible notes and
a binomial-lattice-based valuation model for the warrants.
Our common stock is traded in the over-the-counter market and historically, has traded in small volumes and
infrequently. As such, prior to September 30, 2011, we used the stock price of a publicly traded entity with similar
circumstances and industry as our own as an input to estimate a fair value stock price of the Company for use in
valuing our derivative financial instruments under the Monte Carlo and binomial lattice-based valuation models. During
the quarter ended September 30, 2011, certain extraneous circumstances occurred that, in our judgment, rendered the
other entitys stock price to no longer be a reasonable proxy as an input into the valuation of our common stock price
for use in this valuation model. Our common stock continues to be traded infrequently and in small volumes, which makes
us believe that it may not provide the best indication of fair value. As of September 30, 2011, we determined that
recent transactions with third parties in private placements of our common stock represent the best indicator of the
fair value of our common stock. As such, we changed our assumption for estimating the share price in both the
binomial-lattice-based and lattice-based valuation models for these derivative financial instruments. Because
derivative financial instruments are initially and subsequently carried at fair values, our income will reflect the
volatility from this change in assumption used in the valuation model, as well as fluctuations in the underlying
estimates. Refer to Note 7 Convertible Notes for additional information.
Loss on Debt Extinguishment
We incurred a $2,000,000 loss on debt extinguishment for the three months ended, nine months ended
and from Inception to September 30, 2011. This loss is addressed in the discussion of the Merkin
Note in Note 7 Convertible Notes of the accompanying financial statements. The Merkin Note is
discussed further under the Liquidity and Capital Resources heading below.
Interest Expense
Net interest expense for the three months ended September 30, 2011 was $741,354, of which $168,169
represented accrued interest of the convertible secured notes and $573,185 represented the
amortization of the note discount and financing costs. Net interest expense for the nine months
ended September 30, 2011, was $1,197,535, of which $329,168 represented accrued interest of the
convertible secured notes and $868,367 represented the amortization of the note discount and
financing costs. Interest expense from Inception to September 30, 2011 was $1,211,810, of which
$343,443 represented accrued interest of the convertible secured notes and $868,367 represented the
amortization of the note discount and financing costs.
Off-Balance Sheet Arrangements
None.
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Liquidity and Capital Resources
As of September 30, 2011, the Company had $1,646,555 in cash and cash equivalents. Since
inception, the Company has raised and relied almost exclusively on private placements of
convertible notes to fund its operations. These private placements generated cash proceeds of
$8,000,000 during the nine months ended September 30, 2011. Our ability to continue as a going
concern is dependent upon our ability to further implement our business plan and raise additional
funds. Additionally, on or before January 13, 2012, we will need to contribute the remaining
portion of our $11,000,000 investment in AWP to maintain our full 50% ownership interest. As of
November 11, 2011, the Company had paid $5,949,743 of this commitment. While we intend to raise
additional funds by way of public or private offerings of debt, equity, convertible notes or other
financial instruments, there can be no assurances that we will be successful in these efforts.
The following table summarizes our cash flows for the periods indicated:
Cumulative from Inception- | ||||||||
Nine months ended | August 5, 2010- | |||||||
September 30, 2011 | September 30, 2011 | |||||||
Net cash used in operating activities |
$ | (6,653,247 | ) | $ | (7,108,976 | ) | ||
Net cash used in investing activities |
(343,100 | ) | (347,881 | ) | ||||
Net cash provided by financing activities |
8,000,000 | 9,103,412 | ||||||
Increase in cash and cash equivalents |
$ | 1,003,653 | $ | 1,646,555 |
Cash used in operating activities during the first quarter of 2011 was primarily related to the
continuation of our exploration activity in the Holbrook Basin and other corporate general and
administrative expenses. The net cash used in investing activities predominantly pertains to the
Companys acquisition of adjacent and complementary acreage and the exercising of certain options
to obtain mineral rights in the Holbrook Basin. The net cash provided by financing activities
predominantly relates to the issuances of convertible notes since Inception.
As of September 30, 2011, we had total debt outstanding of $8,000,000, comprised of five
convertible, secured promissory notes, each secured by all of our assets on a pari passu basis with
each of the other notes. Unless the holders of these notes elect to take payment in the form or
our common stock or we are able to complete a Qualified Financing (defined as the Companys sale of
securities in a transaction or series of transactions of at least $10,000,000) causing an automatic
conversion of one or more of these notes into our common stock, each of these notes has a maturity
date falling within the next twelve months and will require repayment in full of all interest and
principal in cash on the maturity date. The terms of these convertible notes are more fully
described below:
On January 24, 2011, the Company issued a 10% convertible secured promissory note in the principal
amount of $2,000,000 to Dr. Richard Merkin (the Merkin Note). The principal and interest may be
converted at the option of the holder at any time during the term into a fixed number of 10,538,583
shares of our common stock, subject to adjustment for stock splits, recapitalizations or similar
events. If not converted, the principal and interest thereon is due and payable in full on, January
24, 2012. We also granted Dr. Merkin the right to participate in any subsequent equity securities
offerings in an amount that would prevent him from being diluted by the offerings. Following
conversion of the Merkin Note into shares of our common stock and until Dr. Merkin has received
gross proceeds of at least $15,000,000 from the sale of shares of the common stock received upon
conversion, each time Dr. Merkin in good faith sells such shares of our common stock to a
non-affiliate for gross proceeds of less than $3.00 per share, we will promptly issue to Dr. Merkin
a number of additional shares of our common stock according to the following formula: {[(N x $3.00)
P] / T} (N S) where N equals the number of shares of common shares held by Dr. Merkin
pre-sale; P equals the gross proceeds realized from the sale; S equals the number of shares of our
common stock sold; and T equals the per share sale price. Dr. Merkin was also granted approval
rights over future debt or equity issuances entered into by us, material transaction enter into by
us, or change in our current business or sale of the Company.
On April 20, 2011 and in connection with the Hexagon financing, as further described below, Dr.
Merkin agreed to a modification of the Merkin Note such that the principal and interest will now
automatically convert into 10,538,583 shares of our common stock upon the completion by us of the
issuance of a Qualified Financings. Dr. Merkin also agreed to the deletion of the majority of the
negative covenants in the Merkin Note. In exchange for these modifications, we agreed to pay Dr.
Merkin a fee of $2,000,000 upon the closing of a Qualified Financing.
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On March 11, 2011 the Company issued a $500,000 convertible secured note due January 24, 2012 to
COR Capital LLC (COR), which accrues interest at 10% per annum (the COR Note). We also granted
COR the right to participate in any subsequent securities offering (including the issuance of
convertible debt, preferred stock, or other debt with a contractual rate of interest over 8%) by us
for a period of two years for an amount of up to $5,000,000 per offering. Principal and interest
may be converted at CORs option at any time during the term to maturity into shares of our common
stock at $3.00 per share, subject to adjustment solely for capital reorganization events.
Following any conversion of the COR Note into our common stock and until COR has received gross
proceeds of at least $600,000 from sales of the common stock, each time COR in good faith sells
common stock to a non-affiliate for gross proceeds of less than $3.00 per share we will promptly
issue COR a number of additional shares of common stock according to the following formula: {[(N x
$3.00) P] / T} (N S) where: N equals the number of common shares held by COR pre-sale; P
equals the gross proceeds realized from the sale; S equals the number of shares sold; and T equals
the per share sale price. In addition, if we sell common stock in an offering with gross proceeds
to us of $10,000,000 or more at a per share price below $3.60, COR will receive additional common
stock such that the total shares received by COR upon conversion equals $500,000 plus all accrued
interest divided by 0.8 times the per share purchase price in the offering.
As consideration for consenting to the Merkin Note amendment, we issued COR a warrant to purchase
up to $200,000 of our common stock at a purchase price per share equal to the conversion price per
share of the COR Note. The COR warrant expires on April 20, 2012.
On April 25, 2011, the Company issued a $2,500,000 convertible secured note due April 24, 2012 (the
Hexagon Note) to Hexagon Investments, Inc. (Hexagon), which accrues interest at 10% per annum.
Principal and interest shall convert automatically into shares of our common stock upon completion
by us of a Qualified Financing on or before April 24, 2012. To the extent that a Qualified
Financing occurs at a per share purchase price of less than $3.60, Hexagon shall receive additional
shares of common stock such that the total shares received by Hexagon upon conversion equals the
principal amount of the Hexagon Note (X) plus all accrued interest (Y) divided by 0.8 times the per
share purchase price of the Qualified Financing (Z). If the Qualified Financing occurs in a series
of transactions, then (Z) shall be equal to the most favorable terms offered to any other investor
in that series of transactions. The Hexagon Note may also be converted at Hexagons option at any
time prior to a Qualified Financing or the maturity date into shares of our common stock at $3.00
per share, subject to adjustment solely for capital reorganization events.
We also issued Hexagon two warrants to purchase our common stock. The first warrant is exercisable
until April 25, 2013 for up to $2,000,000 of our common stock at a purchase price per share equal
to the conversion price per share of the Hexagon Note. The second warrant is exercisable until
April 25, 2014 for up to $7,500,000 of our common stock at the same purchase price.
In connection with issuance of the Hexagon Note, we granted demand and piggy-back registration
rights to Dr. Merkin and piggy-back registration rights to COR and Hexagon. Dr. Merkin also has
the right to designate one member to our Board for so long as he owns at least 1,000,000 shares of
our common stock or the Merkin Note remains outstanding. Dr. Merkin has not designated a director
at this time.
On August 3, 2011, the Company issued a $1,500,000 convertible secured note due August 3, 2012 (the
Avalon Note) to Avalon Portfolio, LLC (Avalon), which accrues interest at 10% per annum.
Principal and interest shall convert automatically into shares of our common stock upon completion
by us of a Qualified Financing on or before August 3, 2012. To the extent that a Qualified
Financing occurs at a per share purchase price of less than $3.60, Avalon shall receive additional
shares of common stock such that the total shares received by Avalon upon conversion equals the
principal amount of the Avalon Note (X) plus all accrued interest (Y) divided by 0.8 times the per
share purchase price of the Qualified Financing (Z). If the Qualified Financing occurs in a series
of transactions, then (Z) shall be equal to the most favorable terms offered to any other investor
in that series of transactions. The Avalon Note may also be converted at Avalons option at any
time prior to a Qualified Financing or the maturity date into shares of our common stock at $3.00
per share, subject to adjustment solely for capital reorganization events.
We also issued to Avalon a warrant to purchase our common stock. The warrant is exercisable until
February 3, 2014 for up to $5,700,000 of our common stock at a purchase price per share equal to
the conversion price per share of the Avalon Note.
On September 19, 2011, the Company issued a $1,500,000 convertible secured note due September 18,
2012 (the Second Hexagon Note) to Hexagon, which accrues interest at 10% per annum. Principal
and interest shall convert automatically into shares of our common stock upon completion by us of a
Qualified Financing on or before September 18, 2012. To the extent that a Qualified Financing
occurs at a per share purchase price of less than $4.44, Hexagon shall receive additional shares of
common stock such that the total shares received by Hexagon upon conversion equals the principal
amount of the Second Hexagon Note (X) plus all accrued interest (Y) divided by 0.8 times the per
share purchase price of the Qualified Financing (Z). If the Qualified Financing occurs in a
series of transactions, then (Z) shall be equal to the most favorable terms offered to any other
investor in that series of transactions. The Second Hexagon Note may also be converted at Hexagons
option at any time prior to a Qualified Financing or the maturity date into shares of our common
stock at $4.00 per share, subject to adjustment solely for capital reorganization events.
We also issued to Hexagon a warrant to purchase our common stock. The warrant is exercisable until
September 18, 2013 for up to $3,750,000 of our common stock at a purchase price per share equal to
the conversion price per share of the Second Hexagon Note.
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Critical Accounting Policies
The discussion and analysis of our financial condition and results of operations are based upon our
unaudited consolidated financial statements, which have been prepared in accordance with GAAP. The
preparation of these financial statements requires us to make estimates and judgments that affect
the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. On an ongoing basis, we evaluate our estimates based on
historical experience and on various other assumptions that we believe are reasonable under the
circumstances. The results of these assumptions form the basis for making judgments about the
carrying values of assets and liabilities that are not readily apparent from other sources. Actual
results may differ from these estimates under different assumptions or conditions. A summary of
significant accounting policies is included in Note 2 Summary of Significant Accounting
Principles. Management believes that the application of these policies on a consistent basis
enables us to provide useful and reliable financial information about our Companys operating
results and financial condition.
Note Regarding Forward-Looking Statements
In addition to historical information, this Quarterly Report on Form 10-Q contains forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E
of the Exchange Act, and the Private Securities Litigation Reform Act of 1995. This Quarterly
Report on Form 10-Q includes statements regarding our plans, goals, strategies, intent, beliefs or
current expectations. These statements are expressed in good faith and based upon a reasonable
basis when made, but there can be no assurance that these expectations will be achieved or
accomplished. These forward looking statements can be identified by the use of terms and phrases
such as believe, plan, intend, anticipate, target, estimate, expect, and the like,
and/or future-tense or conditional constructions (will, may, could, should, etc.). The
forward-looking statements may appear in a number of places and include statements with respect to,
among other things: business objectives and strategies, including our focus on the Holbrook Basin
in Arizona, as well as statements regarding intended value creation; our opinion about future
demand for and supply of potash; our plan to capitalize on potash demand; our plan to acquire
properties, companies or interests in companies with a potash reserve base; our plan to prove up
reserves by acquiring seismic data and drilling and coring test holes; our plan to complete a
preliminary economic assessment of AWPs resource in the fourth quarter of 2011, which we
anticipate may report an economically viable potash reserve; our plan to begin the environmental
and permitting process, preliminary mine design and preliminary feasibility study, which we
estimate may take six to twelve months to complete; our plan of exploration; the viability of a
potash mine in the Holbrook Basin; the economic benefits of a potash mine; future sales of state
leases and permits; our intention to raise additional funds by way of public or private offerings
of debt, equity, convertible notes or other financial instruments; our anticipation of raising and
contributing to AWP and raising additional money to fund our general corporate expenses; our
ability to further implement our business plan and generate revenue; our anticipation of investing
considerable amounts of capital to establish production from our mining project; our anticipation
of our ability to generate reserves that are capable of providing an acceptable return for
investors that is commensurate with the inherent risks of a mining project; anticipated operating
costs; impact of the adoption of new accounting standards and our financial and accounting systems
and analysis programs; anticipated compliance with and impact of laws and regulations; anticipated
results and impact of litigation and other legal proceedings; and effectiveness of our internal
control over financial reporting.
Although forward-looking statements in this report reflect the good faith judgment of management,
forward-looking statements are inherently subject to known and unknown risks, business, economic
and other risks and uncertainties that may cause actual results to be materially different from
those discussed in these forward-looking statements. Readers are urged not to place undue reliance
on these forward-looking statements, which speak only as of the date of this Quarterly Report on
Form 10-Q. We assume no obligation to update any forward-looking statements in order to reflect any
event or circumstance that may arise after the date of this Quarterly Report on Form 10-Q, other
than as may be required by applicable law or regulation. Readers are urged to carefully review and
consider the various disclosures made by us in our reports filed with the SEC which attempt to
advise interested parties of the risks and factors that may affect our business, financial
condition, results of operation and cash flows. If one or more of these risks or uncertainties
materialize, or if the underlying assumptions prove incorrect, our actual results may vary
materially from those expected or projected. Factors that may cause our actual performance to
differ materially from that contemplated by such forward-looking statements include, among others:
| our history of operating losses; |
| our limited operating history; |
| our inability to obtain sufficient additional capital; |
| our inability to maintain our ownership of AWP at its current level or our loss of
control over AWP; |
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| our dependence on the success of the exploration and development activities of AWP; |
| the denial or delay by a government agency in issuing permits and approvals necessary for
our operations or the imposition of restrictive conditions with respect to such permits and
approvals; |
| the failure of our mining prospects to yield natural resources in commercially viable
quantities; |
| production disruptions; |
| the departure of key personnel; |
| competition from other potash companies; |
| risks associated with acquiring producing properties, such as difficulties in integrating
acquired properties into our business, additional liabilities and expenses associated with
acquired properties, diversion of management attention, increasing the scope, geographic
diversity and complexity of our operations and incurrence of additional debt; |
| our inability to insure against operating risks; |
| the market price of potash and products based on potash; |
| conditions in the agricultural industry; |
| government regulation; |
| global supply of and demand for potash and potash products; |
| the cyclicality of the crop nutrient markets; |
| global economic conditions; |
| the lack of an active public market for shares of our common stock; |
| the potential volatility of the market price and trading volume of our shares of common
stock; |
| the dilutive effect of future issuances of shares of common stock; |
| the effects on the market price of our common stock of future issuances of shares of our
common stock; |
| costs associated with being a public company; |
| our common stock being a penny stock; |
| our failure to list our common stock on any national securities system or exchange; and |
| the failure of securities analysts to initiate coverage of our shares or their issuance
of negative reports. |
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ITEM 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
Not applicable to smaller reporting companies.
ITEM 4. | CONTROLS AND PROCEDURES |
The Companys principal executive officer and principal financial officer have evaluated the
effectiveness of the Companys disclosure controls and procedures (as defined in Rules 13a-15(e)
and 15d-15(e) promulgated under the Exchange Act) as of September 30, 2011.
Based on this evaluation, the Companys principal executive officer and principal financial officer
concluded that, as of September 30, 2011, the Companys disclosure controls and procedures were
effective, in that they provide a reasonable level of assurance that information required to be
disclosed by the Company in the reports filed or submitted by it under the Exchange Act is
recorded, processed, summarized and reported, within the time periods specified in the SECs rules
and forms.
The Companys disclosure controls and procedures are designed to provide reasonable assurance that
information required to be disclosed by the Company in the reports that it files or submits under
the Exchange Act is accumulated and communicated to the Companys management, including its
principal executive and principal financial officers, or persons performing similar functions, as
appropriate to allow timely decisions regarding required disclosure.
There have been no changes in the Companys internal control over financial reporting (as defined
in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter ended September 30,
2011 that have materially affected, or that are reasonably likely to materially affect, the
Companys internal control over financial reporting.
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PART II OTHER INFORMATION
Item 1. | Legal Proceedings |
The Company is not a party to any pending material legal proceedings nor is the Company aware of
any threatened or contemplated proceeding by any governmental authority against the Company.
Item 1A. | Risk Factors |
The Company did not include risk factors in its most recent Annual Report on Form 10-K. Upon the
completion of the merger described elsewhere in this Quarterly Report on Form 10-Q, the Company
disclosed risk factors in its Current Report on Form 8-K filed on February 11, 2011, as amended by
its Current Report on Form 8K/A filed on March 31, 2011. There has been no material change in the
risk factors disclosed in the Risk Factors section of the Companys Current Report on Form 8K/A
filed on March 31, 2011.
Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds |
Information about the Companys sale of unregistered equity securities during the nine month period
ended September 30, 2011 has been previously reported in the Companys Current Report on Form 8-K
filed on February 11, 2011, Current Report on Form 8-K filed on March 17, 2011, Current Report on
Form 8-K/A filed on March 31, 2011, Quarterly Report on Form 10-Q filed on May 12, 2011, Current
Report on Form 8-K filed on July 8, 2011, Current Report on Form 8-K filed on August 5, 2011,
Quarterly Report on Form 10-Q filed on August 11, 2011 and Current Report on Form 8-K filed on
September 23, 2011.
Item 3. | Defaults Upon Senior Securities |
None.
Item 4. | [Removed and Reserved] |
Item 5. | Other Information |
None.
Item 6. | Exhibits |
Exhibit No. | Description of Exhibit | |||
31.1 | Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer |
|||
31.2 | Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer |
|||
32 | Section 1350 Certifications of Chief Executive Officer and Chief Financial Officer |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned hereunto duly authorized.
PROSPECT GLOBAL RESOURCES INC. | ||||||
(Registrant) | ||||||
Dated: November 14, 2011
|
By: | /s/ Patrick L. Avery
|
||||
President and Chief Executive Officer | ||||||
(Principal Executive Officer) | ||||||
By: | /s/ Wayne Rich
|
|||||
Chief Financial Officer and Vice President Finance | ||||||
(Principal Financial and Accounting Officer) |
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