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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal quarter ended September 30, 2014
  
¨ 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 001-11476
 
———————
VERTEX ENERGY, INC.
(Exact name of registrant as specified in its charter)
———————
NEVADA
94-3439569
(State or other jurisdiction of
(I.R.S. Employer Identification No.)
incorporation or organization)
 
 
 
1331 GEMINI STREET, SUITE 250
HOUSTON, TEXAS
77058
(Address of principal executive offices)
(Zip Code)
 
Registrant's telephone number, including area code: 866-660-8156

 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes ý No  ¨   
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§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  ý    No  ¨

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.
Yes   ¨ No   ý

State the number of shares of the issuer’s common stock outstanding, as of the latest practicable date: 25,417,906 shares of common stock issued and outstanding as of November 8, 2014.



TABLE OF CONTENTS

 
 
 
 
 
Page
 
 
PART I
 
Item 1.
 
Financial Statements
 
 
 
 
 
 
 
Consolidated  Balance Sheets (unaudited)
 
 
 
 
 
 
Consolidated  Statements of  Operations (unaudited)
 
 
 
 
 
 
Consolidated  Statements of Cash Flows (unaudited)
 
 
 
 
 
 
Notes to Consolidated Financial Statements (unaudited)
 
 
 
 
Item 2
 
Management’s Discussion And Analysis Of Financial Condition And Results Of Operations
 
 
 
 
Item 3.
 
Quantitative And Qualitative Disclosures About Market Risk
 
 
 
 
Item 4.
 
Controls and Procedures
 
 
 
 
 
 
PART II
 
Item 1.
 
Legal Proceedings
 
 
 
 
Item 1A.
 
Risk Factors
 
 
 
 
Item 2.
 
Unregistered Sales Of Equity Securities And Use Of Proceeds
 
 
 
 
Item 3.
 
Defaults Upon Senior Securities
 
 
 
 
Item 4.
 
Mine Safety Disclosures
 
 
 
 
Item 5.
 
Other Information
 
 
 
 
Item 6.
 
Exhibits



PART I – FINANCIAL INFORMATION
Item 1. Financial Statements
VERTEX ENERGY, INC.
CONSOLIDATED BALANCE SHEETS
(Unaudited)
 
 
September 30,
2014
 
December 31,
2013
ASSETS
 
 
 
 
Current assets
 
 
 
 
Cash and cash equivalents
 
$
1,229,746

 
$
2,678,628

Accounts receivable, net
 
21,675,824

 
11,714,813

Note receivable-related party
 
11,458,000

 

Inventory
 
19,001,712

 
8,540,459

Prepaid expenses
 
2,162,046

 
1,161,721

Total current assets
 
55,527,328

 
24,095,621

 
 
 
 
 
Noncurrent assets
 
 

 
 

 
 
 
 
 
Fixed assets, at cost
 
49,318,232

 
16,109,179

    Less accumulated depreciation
 
(1,647,153
)
 
(1,018,003
)
    Net fixed assets
 
47,671,079

 
15,091,176

Intangible assets, net
 
16,327,341

 
15,172,816

Goodwill
 
4,922,353

 
4,502,743

Deferred federal income tax
 
5,684,000

 
5,684,000

Other assets
 
2,797,842

 

Total noncurrent assets
 
77,402,615

 
40,450,735

TOTAL ASSETS
 
$
132,929,943

 
$
64,546,356

 
 
 
 
 
LIABILITIES AND EQUITY
 
 

 
 

Current liabilities
 
 

 
 

Accounts payable and accrued expenses
 
$
23,059,176

 
$
14,096,185

Capital leases
 
605,442

 

Current portion of long-term debt
 
40,781,399

 
1,956,847

        Total current liabilities
 
64,446,017

 
16,053,032

Long-term liabilities
 
 

 
 

Long-term debt
 
2,040,598

 
6,558,851

Contingent consideration
 
3,371,836

 
3,220,250

Deferred federal income tax
 
378,000

 
378,000

Total liabilities
 
70,236,451

 
26,210,133

Commitments and contingencies
 


 


 
 
 
 
 
EQUITY
 
 

 
 

Preferred stock, $0.001 par value per share:
 
 

 
 

50,000,000 shares authorized
 
 

 
 

Series A Convertible Preferred stock, $0.001 par value,
 
 
 
 
5,000,000 authorized and 630,419 and 1,319,002 issued
 
 
 
 
and outstanding at September 30, 2014 and December 31,
 
 
 
 
2013, respectively
 
630

 
1,319

Common stock, $0.001 par value per share;
 
 

 
 

750,000,000 shares authorized; 25,414,156 and 21,205,609
 
 
 
 
issued and outstanding at September 30, 2014 and
 
 
 
 
December 31, 2013, respectively
 
25,414

 
21,206

Additional paid-in capital
 
39,191,567

 
19,579,732

Retained earnings
 
23,475,881

 
17,542,004

Total Vertex Energy, Inc. stockholders' equity
 
62,693,492

 
37,144,261

Non-controlling interest
 
$

 
$
1,191,962

Total Equity
 
$
62,693,492

 
$
38,336,223

TOTAL LIABILITIES AND EQUITY
 
$
132,929,943

 
$
64,546,356

See accompanying notes to the consolidated financial statements

F-1


VERTEX ENERGY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2014 AND 2013
(UNAUDITED)
 
 
Three Months Ended   September 30,
 
Nine Months Ended September 30,
 
 
2014
 
2013
 
2014
 
2013
Revenues
 
$
76,903,516

 
$
46,830,647

 
$
196,332,796

 
$
115,196,850

Cost of revenues
 
72,846,322

 
41,945,879

 
178,252,434

 
104,287,660

Gross profit
 
4,057,194

 
4,884,768

 
18,080,362

 
10,909,190

 
 
 
 
 
 
 
 
 
Reduction of contingent liability
 
(1,876,752
)
 

 
(1,876,752
)
 
(1,850,000
)
 
 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
 
Selling, general and administrative expenses
  (exclusive of acquisition related expenses)
 
6,801,396

 
2,495,748

 
16,464,402

 
7,129,673

  Acquisition related expenses
 
259,235

 

 
2,819,065

 

Total operating expenses
 
7,060,631

 
2,495,748

 
19,283,467

 
7,129,673

 
 
 
 
 
 
 
 
 
Income (loss) from operations
 
(1,126,685
)
 
2,389,020

 
673,647

 
5,629,517

 
 
 
 
 
 
 
 
 
Other income (expense):
 
 

 
 

 
 

 
 

Other income
 
109,980

 

 
110,357

 

 Bargain purchase gain related to Omega acquisition
 
92,635

 

 
6,573,686

 

Other expense
 

 
(3,949
)
 
(10,866
)
 
(31,690
)
Interest expense
 
(947,325
)
 
(95,488
)
 
(1,680,371
)
 
(314,627
)
Total other income (expense)
 
(744,710
)
 
(99,437
)
 
4,992,806

 
(346,317
)
 
 
 
 
 
 
 
 
 
Income (loss) before income tax
 
(1,871,395
)
 
2,289,583

 
5,666,453

 
5,283,200

 
 
 
 
 
 
 
 
 
Income tax benefit (expense)
 
(57,975
)
 
40,211

 
(57,975
)
 
21,460

 
 
 
 
 
 
 
 
 
Net income (loss)
 
$
(1,929,370
)
 
$
2,329,794

 
$
5,608,478

 
$
5,304,660

 
 
 
 
 
 
 
 
 
Net loss attributable to non-controlling interest
 
$

 
$

 
$
325,399

 
$

 
 
 
 
 
 
 
 
 
Net income (loss) attributable to Vertex Energy, Inc.
 
$
(1,929,370
)
 
$
2,329,794

 
$
5,933,877

 
$
5,304,660

 
 
 
 
 
 
 
 
 
Earnings (loss) per common share
 
 

 
 

 
 

 
 

Basic
 
$
(0.08
)
 
$
0.13

 
$
0.26

 
$
0.30

Diluted
 
$
(0.08
)
 
$
0.12

 
$
0.24

 
$
0.27

 
 
 
 
 
 
 
 
 
Shares used in computing earnings per share
 
 

 
 

 
 

 
 

Basic
 
25,151,660

 
17,715,786

 
23,077,914

 
17,402,501

Diluted
 
25,151,660

 
19,997,257

 
24,825,326

 
19,766,263


See accompanying notes to the consolidated financial statements

F-2


VERTEX ENERGY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 2014 AND 2013
(UNAUDITED)
 
 
Nine Months Ended
 
 
September 30,
2014
 
September 30,
2013
Cash flows from operating activities
 
 
 
 
Net income
 
$
5,608,478

 
$
5,304,660

  Adjustments to reconcile net income to cash
  provided by operating activities
 
 

 
 

Stock based compensation expense
 
173,979

 
123,571

Depreciation and amortization
 
2,981,393

 
1,615,657

Gain on acquisition
 
(6,573,686
)
 

Deferred federal income tax
 

 
(144,000
)
Reduction of contingent liability
 
(1,876,752
)
 
(1,850,000
)
Changes in operating assets and liabilities
 
 
 
 
Accounts receivable
 
(9,731,011
)
 
(794,821
)
Allowance for doubtful accounts
 
(230,000
)
 

Notes receivable-related party
 
(3,150,000
)
 

Inventory
 
(6,269,253
)
 
(2,338,000
)
Prepaid expenses
 
(1,348,935
)
 
(78,925
)
Accounts payable
 
8,962,991

 
3,516,056

     Other assets
 
(81,450
)
 

Net cash provided by (used in) operating activities
 
(11,534,246
)
 
5,354,198

 
 
 

 
 

Cash flows from investing activities
 
 

 
 

Acquisition of Omega
 
(30,164,464
)
 
(67,972
)
Refund of asset acquisition
 

 
675,558

Purchase of fixed assets
 
(4,227,056
)
 
(1,671,295
)
Net cash used in investing activities
 
(34,391,520
)
 
(1,063,709
)
 
 
 

 
 

Cash flows from financing activities
 
 

 
 

Line of credit payments, net
 

 
(3,250,000
)
Proceeds related to secondary stock offering
 
15,803,000

 

Payments on contingent consideration
 
(136,662
)
 

Proceeds from note payable
 
41,372,315

 

Payments on note payable
 
(10,469,474
)
 
(1,372,453
)
Debt issue cost
 
(2,452,157
)
 

Proceeds from exercise of common stock options and warrants
 
359,862

 
55,250

Net cash provided by (used in) financing activities
 
44,476,884

 
(4,567,203
)
 
 
 

 
 

Net change in cash and cash equivalents
 
(1,448,882
)
 
(276,714
)
 
 
 

 
 

Cash and cash equivalents at beginning of the period
 
2,678,628

 
807,940

 
 
 

 
 

Cash and cash equivalents at end of period
 
$
1,229,746

 
$
531,226

 
 
 

 
 

SUPPLEMENTAL INFORMATION
 
 

 
 

Cash paid for interest
 
$
1,600,117

 
$
323,956

Cash paid for income taxes
 
$
80,158

 
$
122,001

 
 
 

 
 

NON-CASH INVESTING AND FINANCING TRANSACTIONS
 
 

 
 

Conversion of Series A Preferred Stock into common stock
 
$
689

 
$
189

   Note payable for acquisition of E-Source interest
 
$
854,050

 
$

   Additional paid in capital for acquisition of E-Source interest
 
$
1,790,745

 
$


 See accompanying notes to the consolidated financial statements

F-3


VERTEX ENERGY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2014
(UNAUDITED)

NOTE 1.  BASIS OF PRESENTATION AND NATURE OF OPERATIONS

The accompanying unaudited consolidated interim financial statements of Vertex Energy, Inc. (the “Company,” or “Vertex Energy”) have been prepared in accordance with accounting principles generally accepted in the United States of America and the rules of the Securities and Exchange Commission (“SEC”), and should be read in conjunction with the audited consolidated financial statements and notes thereto contained in the Company’s annual consolidated financial statements as filed with the SEC on Form 10-K on March 25, 2014 (the “Form 10-K”).  In the opinion of management, all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of financial position and the results of operations for the interim periods presented have been reflected herein.  The results of operations for interim periods are not necessarily indicative of the results to be expected for the full year. Certain prior period amounts have been reclassified to conform to current period presentation. Notes to the consolidated financial statements which would substantially duplicate the disclosure contained in the audited consolidated financial statements for the most recent fiscal year 2013 as reported in Form 10-K, have been omitted.

Leases

The company recognizes lease expense on a straight-line basis over the minimum lease terms which expire at various dates through 2032. These leases are for office and storage tank facilities and are classified as operating leases. For the leases that contain predetermined, fixed escalations of the minimum rentals, the Company recognizes the rent expense on a straight-line basis and records the difference between the rent expense and the rental amount payable in liabilities. Leasehold improvements made at the inception of the lease are amortized over the shorter of the asset life or the initial lease terms as described above. Leasehold improvements made during the lease term are also amortized over the shorter of the assets life or the remaining lease term.
For capital leases assumed as a result of an acquisition, the leased assets owned by the acquiree and financed through a capital lease are measured separately, at fair value, from the underlying lease to which they are subject. The present value of the lease is then calculated using the lease terms and implicit interest rate. For operating leases assumed as a result of an acquisition, the lease terms are measured, at acquisition date, to determine if the terms are favorable or unfavorable when compared to a comparable market lease with similar terms.
Business Combinations

The company accounts for business combinations using the acquisition method of accounting. The results of operations for the acquired entities are included in the company’s consolidated financial results from their associated acquisition dates. The company allocates the purchase price of acquisitions to the tangible assets, liabilities, and identifiable intangible assets acquired based on their estimated fair values. A portion of purchase price for our acquisitions is contingent upon the realization of certain operating results. The fair values assigned to identifiable intangible assets acquired and contingent consideration were determined by third party specialists engaged by the company on a case by case basis. The excess of the purchase price over the fair value of the identified assets and liabilities has been recorded as goodwill. If the purchase price is under the fair value of the identified assets and liabilities, a bargain purchase is recognized and included in income from continuing operations.

F-4


NOTE 2.  CONCENTRATIONS, SIGNIFICANT CUSTOMERS, COMMITMENTS AND CONTINGENCIES
 
At September 30, 2014 and 2013 and for each of the nine months then ended, the Company’s revenues and receivables were comprised of the following customer concentrations:
 
 
2014
 
2013
 
 
% of
Revenues
 
% of
Receivables
 
% of
Revenues
 
% of
Receivables
Customer 1
 
28%
 
—%
 
1%
 
—%
Customer 2
 
13%
 
8%
 
46%
 
27%
Customer 3
 
11%
 
—%
 
10%
 
—%
Customer 4
 
9%
 
47%
 
—%
 
—%
Customer 5
 
7%
 
12%
 
8%
 
16%
Customer 6
 
2%
 
11%
 
—%
 
—%
Customer 7
 
—%
 
—%
 
10%
 
16%
Customer 8
 
—%
 
—%
 
2%
 
24%
 
At September 30, 2014 and 2013 and for each of the nine months then ended, the Company's segment revenues were comprised of the following customer concentrations:

 
 
% of Revenue by Segment 2014
 
% Revenue by Segment 2013
 
 
Black Oil
 
Refining
 
Recovery
 
Black Oil
 
Refining
 
Recovery
Customer 1
 
100%
 
—%
 
—%
 
100%
 
—%
 
—%
Customer 2
 
8%
 
92%
 
—%
 
17%
 
83%
 
—%
Customer 3
 
—%
 
100%
 
—%
 
—%
 
100%
 
—%
Customer 4
 
92%
 
—%
 
2%
 
—%
 
—%
 
—%
Customer 5
 
—%
 
100%
 
—%
 
—%
 
100%
 
—%
Customer 6
 
94%
 
—%
 
6%
 
—%
 
—%
 
—%
Customer 7
 
—%
 
—%
 
—%
 
77%
 
23%
 
—%
Customer 8
 
—%
 
—%
 
—%
 
100%
 
—%
 
—%

The Company purchases goods and services from one company that represented 10% of total purchases for the nine months ended September 30, 2014 and one company that represented 11% for the nine months ended September 30, 2013.

As a result of the Omega Refining acquisition on May 2, 2014, the Company assumed a feedstock purchase contract with an unrelated third party. The Company is required to purchase a minimum of 15,200,000 gallons of used motor oil per year until the contract expires on December 31, 2014. As of September 30, 2014, the company has purchased approximately 11,200,000 gallons from this vendor, leaving a 4,000,000 gallon purchase obligation. The purchase price for this contract is calculated as discount to Platts U.S. Gulf Coast No. 6 Fuel Oil, 3% Sulphur per gallon for the month prior to the date the product is released.
The Company has had various debt facilities available for use, of which there was $43,427,439 and $10,158,333 outstanding as of September 30, 2014 and September 30, 2013, respectively. See Note 5 for further details.

In February 2013, Bank of America agreed to lease the Company up to $1,025,000 of equipment to enhance the Thermal Chemical Extraction Process (TCEP) operation, which went into effect in April 2013.  Under the current terms of the lease agreement, there are 60 monthly payments of approximately $13,328.

The Company’s revenue, profitability and future rate of growth are substantially dependent on prevailing prices for petroleum-based products.  Historically, the energy markets have been very volatile, and there can be no assurance that these prices will not be subject to wide fluctuations in the future.  A substantial or extended decline in such prices could have a material adverse effect on the Company’s financial position, results of operations, cash flows, and access to capital and on the quantities of petroleum-based products that the Company can economically produce.


F-5


The Company, in its normal course of business, is involved in various other claims and legal action.  In the opinion of management, the outcome of these claims and actions will not have a material adverse impact upon the financial position of the Company.

We intend to take advantage of any potential tax benefits related to net operating losses (“NOLs”) acquired as part of the Company's April 2009 merger with World Waste Technologies, Inc. ("World Waste").  As a result of the merger, we acquired approximately $42 million of net operating losses that may be used to offset taxable income generated by the Company in future periods.
 
It is possible that the Company may be unable to use these NOLs in their entirety.  The extent to which the Company will be able to utilize these carry-forwards in future periods is subject to limitations based on a number of factors, including the number of shares issued within a three-year look-back period, whether the merger is deemed to be a change in control, whether there is deemed to be a continuity of World Waste’s historical business, and the extent of the Company’s subsequent income. As of December 31, 2013, the Company had utilized approximately $11.25 million of these NOLs leaving approximately $30.75 million of potential NOLs of which we expect to utilize approximately $2.6 million for the nine months ended September 30, 2014.  The Company recorded a change in valuation allowance for the nine months ended September 30, 2014 of approximately $879,210.

Additionally, pursuant to a Consulting Agreement previously entered into with Heartland Group Holdings, LLC ("Heartland") in July 2014, pursuant to which Vertex Operating, LLC (the Company's wholly-owned subsidiary, "Vertex Operating") agreed to provide consulting services to Heartland (the "Consulting Agreement") while the parties negotiated the definitive terms of a purchase agreement relating to the acquisition by the Company of substantially all the assets of Heartland, which agreement was entered into by both parties in October, 2014. Vertex Operating agreed to reimburse Heartland for its operating losses (on a cash basis net of interest, depreciation, corporate overhead expenses and insurance proceeds received)(“Operating Losses”) during the period from July 16, 2014 through the earlier of the closing of the purchase agreement or the termination of the purchase agreement, which reimbursement (estimated to total approximately $1.8 to $2 million at closing) will be paid to Heartland at the closing, or if the closing does not occur as a result of the breach of the purchase agreement or default thereunder by Vertex Operating (or its affiliates), or the failure of any closing condition of Vertex Operating (or its affiliates) thereunder, such amount is due within thirty days of the date it has been determined that such closing will not occur.  In the event the closing does not occur due to the breach or default by Heartland (or its affiliates) of the purchase agreement, Heartland is required to reimburse Vertex Refining OH, LLC, a wholly-owned subsidiary of Vertex Operating ("Vertex OH") for costs and expenses incurred by it and Vertex Operating in connection with such Operating Losses. The closing of the purchase agreement is anticipated to occur prior to the end of November 2014.

Vertex OH and Vertex Operating also agreed to share equally with Heartland in the costs of certain projects undertaken by Heartland prior to the closing of the purchase agreement, provided that Heartland is not required to pay more than $788,500 of its costs associated with such project costs (a substantial portion of which amount has been fully funded by Heartland to date) which are estimated to total approximately $1.6 million.  In connection therewith, following the closing, Vertex OH will first pay, up to the amount expended by Heartland as of closing for such costs, any amounts due in connection with such projects, and the remaining amount of such projects will be split equally by Vertex OH and Heartland.  All projects undertaken following closing, if any, are in the sole discretion of Vertex OH.  Additionally, in the event of the termination of the purchase agreement due to a breach or default by Heartland (or its affiliates) under the purchase agreement, subject to any cure provision, Heartland is required to reimburse Vertex OH for any costs or expenses incurred by it or Vertex Operating in connection with such capital projects and pay Vertex OH’s portion of any capital project committed to prior to the date of termination, within thirty days of the date it has been determined that the closing will not occur. No amounts had been expended for these capital projects as of September 30, 2014.
NOTE 3. LIQUIDITY

During the three month period ended September 30, 2014, an event of default occurred under our financing agreements (as described in Notes 5 and 13). If we fail to obtain a waiver of the defaults under the credit agreements or to negotiate mutually agreed upon amendments to the credit agreements to bring the Company into compliance with such credit agreements, the lenders may exercise any and all rights and remedies available to them under their respective agreements, including demanding immediate repayment of all amounts then outstanding or initiating foreclosure or insolvency proceedings.  As of the date of this filing we are engaged in ongoing discussions with our lenders, and, in connection therewith, we have provided updated financial projections to our lenders.    In the event we are not able to come to an agreement with our current lenders to either waive the existing defaults and amend the credit agreements or to enter into forbearance agreements that are mutually agreed upon and the lenders elect to exercise certain of their remedies under the credit agreements, including demanding repayment of all amounts owing thereunder, and if we are unable to then obtain alternative financing, our business will be materially and adversely affected, and we may be forced to sharply curtail or cease our operations. In addition, if we are unable to obtain waivers of the existing defaults or enter into forbearance agreements that are mutually agreed upon, it is probable that our independent registered public accounting firm

F-6


will include an explanatory paragraph with respect to our ability to continue as a going concern in its report on our financial statements for the year ending December 31, 2014.
NOTE 4. GOODWILL

At September 30, 2014 and December 31, 2013, goodwill totaled $4,922,353 and 4,502,743, respectively. The increase in goodwill during the nine months ended September 30, 2013 is attributable to the acquisition of E-Source (as described in Notes 11 and 12) and allocated to the recovery segment. The excess purchase price over the fair value of the net tangible assets and intangible assets was recorded as goodwill. The total carrying value of goodwill for all periods has been tested and it was determined that no impairment charges were necessary as of September 30, 2014.
The following table contains consideration paid in excess of the net assets of the company's acquired, allocated to the respective business segment is as of September 30, 2014:
 
Black Oil
 
Refining & Marketing
 
Recovery
 
Total
Balance as of December 31, 2013
$3,554,515
 
$—
 
$948,228
 
$4,502,743
Acquisitions
 
 
419,610
 
419,610
Balance as of September 30, 2014
$3,554,515
 
$—
 
$1,367,838
 
$4,922,353
NOTE 5. NOTES PAYABLE

In September 2012, the Company entered into a credit agreement with Bank of America. Pursuant to the agreement, Bank of America agreed to loan the Company $8,500,000 in the form of a term loan and to provide the Company with an additional $10,000,000 in the form of a revolving line of credit.

In May 2014, the Company entered into an amended and restated credit agreement with Bank of America. The amended credit agreement amended and restated the prior credit agreement entered into with Bank of America in September 2012. Pursuant to the agreement, Bank of America agreed to loan the Company up to $20,000,000 in the form of a revolving line of credit, subject to certain terms and lending ratios, to be used for feedstock purchases and general corporate purposes. The line of credit bears interest at the option of the Company of either the lender's prime commercial lending rate then in effect between 1.25% and 2% per annum or the Bank of America LIBOR rate plus between 2.35% and 3% (both ranges dependent upon the Company's leverage ratio from time to time). Accrued and unpaid interest on the revolving note is due and payable monthly in arrears and all amounts outstanding under the revolving note are due and payable on May 2, 2017.  The balance on the revolving line of credit was $0 at September 30, 2014.

The financing arrangement discussed above is secured by a first priority security interest in all of the assets and securities of our direct and indirect subsidiaries other than E-Source Holdings, LLC. The loan includes various covenants binding upon the Company, including, requiring that the Company comply with certain reporting requirements, provide notices of material corporate events and forecasts to Bank of America, and maintain certain financial ratios relating to debt leverage, consolidated EBITDA, maximum debt exposure, and minimum liquidity, including maintaining a ratio of quarterly consolidated EBITDA to certain fixed charges.
During the three month period ended September 30, 2014, an event of default occurred under the financing agreement (as described below and in Note 13) but we are currently working with our lenders to develop new amendments or modifications to our current agreements that would facilitate a mutually beneficial resolution. The default occurred as a result of our failure to satisfy certain requirements of the Credit Agreement including, but not limited to, the following:

The Company failed to make a prepayment of the term loan under the Goldman Sachs Credit Agreement in the amount of $6,299,567 which was due on August 31, 2014, which was required because the Company did not maintain a less than 4:1 Ratio of Consolidated Total Debt to Consolidated Pro Forma Adjusted EBITDA for the twelve month period ending on August 31, 2014 (The actual Ratio of Consolidated Total Debt for the twelve months ending August 31, 2014 was 4.6:1) and;

The Company failed to maintain a fixed charge coverage ratio of not less than 1.25 to 1.00 for the period ending September 30, 2014 (the actual fixed charge coverage ratio for the period ending September 30, 2014 was 1.00 to 1.00).    

On May 2, 2014, the Company entered into a Credit and Guaranty Agreement with Goldman Sachs Bank USA. Pursuant to the agreement, Goldman Sachs Bank USA loaned the Company $40,000,000 in the form of a term loan. As set forth in the Credit Agreement, the Company has the option to select whether loans made under the Credit Agreement bear interest at (a) the greater of (i) the prime rate in effect, (ii) the weighted average of the rates on overnight Federal funds transactions with members of the

F-7


Federal Reserve System plus ½ of 1%, (iii) the sum of (A) the Adjusted LIBOR Rate and (B) 1%, and (iv) 4.5% per annum; or (b) the greater of (i) 1.50% and (ii) the applicable ICE Benchmark Administration Limited interest rate, divided by (x) one minus, (y) the Adjusted LIBOR Rate. Interest on the Credit Agreement is payable monthly in arrears. Amortizing principal payments are due on the Credit Agreement Loan in the amount of $300,000 per fiscal quarter for June 30, 2014, September 30, 2014, December 31, 2014 and March 31, 2015, and $800,000 per fiscal quarter thereafter until maturity on May 2, 2019. The balance on the term loan was $39,400,000 at September 30, 2014.

The Goldman Sachs Bank USA financing arrangement is secured by all of the assets of the Company, but subordinate to the aforementioned Bank of America credit agreement. Amounts outstanding under this agreement have been recorded as current on the September 30, 2014 balance sheet.

The Credit Agreement contains customary representations, warranties, and covenants for facilities of similar nature and size as the Credit Agreement. The Credit Agreement also includes various covenants binding the Company including limits on indebtedness the Company may incur and maintenance of certain financial ratios relating to consolidated EBITDA and debt leverage. During the three month period ended September 30, 2014, an event of default occurred, under the credit facility (as a result of, among other things, the cross default of the Bank of America facility described above, see Note 13), and we are currently working with our lenders to develop new amendments or modifications to our current agreements that would facilitate a mutually beneficial resolution. The Agent and Lenders have also communicated their intent to carefully monitor the situation to determine additional remedies.

On May 2, 2014, in connection with the closing of the Omega Refining acquisition, the Company assumed two capital leases totaling $3,154,860. Payments of $2,549,418 were made and the balance was $605,442 at September 30, 2014.

The Company has notes payable to various financial institutions, bearing interest at rates ranging from 5% to 6.35%, maturing from November 2015 to April 2023. The balance of the notes payable is $2,341,572 at September 30, 2014.

The Company financed insurance premiums through various financial institutions bearing interest rates from 4% to 4.52%. All such premium finance agreements have maturities of less than one year and have a balance of $862,409 at September 30, 2014.

Effective January 1, 2014, the Company purchased an additional 19% ownership interest in E-Source Holdings, LLC ("E-Source") of which it had previously acquired 51%. In consideration for the additional interest the Company will pay $854,050 of which $200,000 was paid on April 11, 2014 and the remainder is to be paid monthly in $72,672 installments through December 31, 2014. The balance of the note payable is $218,016 at September 30, 2014.


The Company's outstanding debt facilities as of September 30, 2014 are summarized as follows:

Creditor
 
Loan Type
 
Origination Date
 
Maturity Date
 
Loan Amount
 
Balance on September 30, 2014
Bank of America
 
Revolving LOC
 
May, 2014
 
May, 2017
 
$
20,000,000

 
$

Goldman Sachs USA
 
Term Loan
 
May, 2014
 
May, 2019
 
40,000,000

 
39,400,000

Pacific Western Bank
 
Capital Lease
 
December, 2010
 
December, 2014
 
970,974

 
71,626

Pacific Western Bank
 
Capital Lease
 
September, 2012
 
August, 2017
 
520,219

 
533,816

Various institutions
 
Various
 
Various
 
Various
 
2,690,677

 
2,341,572

E-source note
 
Note
 
January, 2014
 
December, 2014
 
854,050

 
218,016

Various institutions
 
Insurance premiums financed
 
Various
 
> 1 year
 
1,789,481

 
862,409

 
 
 
 
 
 
 
 
$
66,825,401

 
$
43,427,439



F-8


Future contractual maturities of notes payable are summarized as follows:

Creditor
 
Q4 2014
 
2015
 
2016
 
2017
 
2018
 
2019
 
Thereafter
Goldman Sachs USA
 
$
300,000

 
$
2,700,000

 
$
3,200,000

 
$
3,200,000

 
$
3,200,000

 
$
3,200,000

 
$
23,600,000

Pacific Western Bank
 
71,625

 

 

 

 

 

 

Pacific Western Bank
 
41,060

 
172,654

 
186,948

 
133,154

 

 

 

Various institutions
 
30,394

 
305,293

 
323,178

 
342,204

 
263,918

 
236,066

 
840,519

E-source note
 
218,017

 

 

 

 

 

 

Various institutions
 
531,722

 
330,687

 

 

 

 

 

Totals
 
$
1,192,818

 
$
3,508,634

 
$
3,710,126

 
$
3,675,358

 
$
3,463,918

 
$
3,436,066

 
$
24,440,519

NOTE 6. STOCK-BASED COMPENSATION

Stock-based compensation expense was $173,979 and $123,571 for the nine months ended September 30, 2014 and 2013, respectively, for options previously awarded by the Company.

Stock option activity for the nine months ended September 30, 2014 is summarized as follows:

 
 
Shares
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life (in
Years)
 
Grant Date
Fair Value
Outstanding at December 31, 2013
 
3,060,834

 
$
5.89

 
6.07

 
$
1,327,163

Options granted
 
250,000

 
7.91

 
9.80

 
501,893

Options forfeited/expired
 
(91,667
)
 
10.78

 

 
(29,335
)
Options exercised
 
(634,000
)
 
(0.87
)
 

 
(262,241
)
Outstanding at September 30, 2014
 
2,585,167

 
$
7.14

 
5.54

 
$
1,537,480

Vested at September 30, 2014
 
1,820,480

 
$
8.34

 
4.88

 
$
657,010

Exercisable at September 30, 2014
 
1,820,480

 
$
8.34

 
4.88

 
$
657,010


A summary of the Company’s stock warrant activity and related information for the nine months ended September 30, 2014 is as follows: 

 
 
Shares
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life (in
Years)
 
Grant Date
Fair Value
Outstanding at December 31, 2013
 
7,083

 
$
2.72

 
1.57

 
$
2,900

Warrants exercised
 
(6,250
)
 
(1.75
)
 

 
(2,800
)
Warrants cancelled/forfeited/expired
 
(833
)
 
(10.00
)
 

 
(100
)
Warrants at September 30, 2014
 

 
$

 

 
$

Vested at September 30, 2014
 

 
$

 

 
$

Exercisable at September 30, 2014
 

 
$

 

 
$


In April 2014, the Company granted two employees Incentive Stock Options to purchase an aggregate of 150,000 shares of the Company's common stock, which have a term of ten years, an exercise price of $7.55 per share and vest at the rate of 1/4th of such options per year on each of the first four anniversaries of the grant date.


F-9


In August, 2014, the Company granted one employee Incentive Stock Options to purchase an aggregate of 100,000 shares of the Company's common stock, which have a term of ten years, and exercise price of $8.44 per share and vest at the rate of 25,000 of such options on grant date and 18,750 on each of the first four anniversaries of the grant date.

NOTE 7. EARNINGS PER SHARE

Basic earnings per share includes no dilution and is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the periods presented. The calculation of basic earnings per share for the nine months ended September 30, 2014 includes the weighted average of common shares outstanding.  Diluted earnings per share reflect the potential dilution of securities that could share in the earnings of an entity, such as convertible preferred stock, stock options, warrants or convertible securities.  The calculation of diluted earnings per share for the nine months ended September 30, 2014 does not include options to purchase 1,006,000 shares due to their anti-dilutive effect.

The following is a reconciliation of the numerator and denominator for basic and diluted earnings per share for the nine months ended September 30, 2014 and 2013

 
 
2014
 
2013
Basic Earnings per Share
 
 
 
 
Numerator:
 
 
 
 
Net income available to common shareholders
 
$
5,933,877

 
$
5,304,660

Denominator:
 
 

 
 

Weighted-average shares outstanding
 
23,077,914

 
17,402,501

Basic earnings per share
 
$
0.26

 
$
0.30

 
 
 
 
 
Diluted Earnings per Share
 
 

 
 

Numerator:
 
 

 
 

Net income available to common shareholders
 
$
5,933,877

 
$
5,304,660

Denominator:
 
 

 
 

Weighted-average shares outstanding
 
23,077,914

 
17,402,501

Effect of dilutive securities
 
 

 
 

Stock options and warrants
 
1,116,993

 
1,039,925

Preferred stock
 
630,419

 
1,323,837

Diluted weighted-average shares outstanding
 
24,825,326

 
19,766,263

Diluted earnings per share
 
$
0.24

 
$
0.27

NOTE 8. COMMON STOCK

The total number of authorized shares of the Company’s common stock is 750,000,000 shares, $0.001 par value per share. As of September 30, 2014, there were 25,414,156 common shares issued and outstanding.

Each share of the Company's common stock is entitled to equal dividends and distributions per share with respect to the common stock when, as and if declared by the Company's board of directors.  No holders of any shares of the Company's common stock has a preemptive right to subscribe for any of the Company's securities, nor are any shares of the Company's common stock subject to redemption or convertible into other securities.  Upon liquidation, dissolution or winding-up of the Company and after payment of creditors and preferred shareholders of the Company, if any, the assets of the Company will be divided pro rata on a share-for-share basis among the holders of the Company's common stock.  Each share of the Company's common stock is entitled to one vote.  Shares of the Company's common stock do not possess any cumulative voting rights.

During the nine months ended September 30, 2014, a total of 688,583 shares of the Company's Series A Preferred Stock were converted into 688,583 shares of our common stock on a one-for-one basis. Warrants to purchase 6,250 shares of the Company's common stock were exercised for 6,250 shares of common stock with $10,937 of exercise price paid in cash. Options to purchase 634,000 shares of common stock were exercised for a net of 605,972 shares of common stock (when adjusting for a cashless

F-10


exercise of 212,500 of such options and the payment, in shares of common stock, of an aggregate exercise price of $205,125, along with an exercise price of $348,925 paid in cash in connection with such exercises) and 605,972 shares of common stock were issued to the option holders in connection with such exercises. Additionally, in June 2014, 2,200,000 shares were sold in connection with an underwritten offering of the Company's common stock for net proceeds of $15,803,000 after deducting offering costs of $1,247,000 from the $17,050,000 raised. The shares have a par value per share of $0.001. In May 2014, 500,000 shares of our restricted common stock (valued at $3,266,000) were issued in connection with the initial closing of the Omega Refining acquisition (see note 10). In September, 2014, 207,743 shares of Company's common stock, valued at $1,790,745, were issued as payment for the remaining 30% ownership in E-Source (additional information included in Note 12).
NOTE 9.  PREFERRED STOCK

The total number of authorized shares of the Company’s preferred stock is 50,000,000 shares, $0.001 par value per share. The total number of designated shares of the Company’s Series A Preferred Stock is 5,000,000 (“Series A Preferred”).  The total number of designated shares of the Company’s Series B Preferred Stock is 2,000,000. As of September 30, 2014, there were 630,419 shares of Series A Preferred Stock issued and outstanding and no Series B Preferred shares issued and outstanding.
NOTE 10.  SEGMENT REPORTING

The Company’s reportable segments include the Black Oil, Refining & Marketing and Recovery divisions.  Segment information for the three and nine months ended September 30, 2014 and 2013 is as follows:

NINE MONTHS ENDED SEPTEMBER 30, 2014
 
 
Black Oil
 
Refining &
Marketing
 
Recovery
 
Total
Revenues
 
$
124,884,174

 
$
58,000,951

 
$
13,447,671

 
$
196,332,796

 
 
 
 
 
 
 
 
 
Income (loss) from operations
 
$
388,035

 
$
1,768,043

 
$
(1,482,431
)
 
$
673,647


NINE MONTHS ENDED SEPTEMBER 30, 2013
 
 
Black Oil
 
Refining &
Marketing
 
Recovery
 
Total
Revenues
 
$
65,412,393

 
$
38,979,504

 
$
10,804,953

 
$
115,196,850

 
 
 
 
 
 
 
 
 
Income from operations
 
$
1,276,173

 
$
2,260,834

 
$
2,092,510

 
$
5,629,517


THREE MONTHS ENDED SEPTEMBER 30, 2014
 

Black Oil

Refining &
Marketing

Recovery

Total
Revenues

$
52,434,252


$
19,655,674


$
4,813,590


$
76,903,516














Income (loss) from operations

$
(749,043
)

$
229,260


$
(606,902
)

$
(1,126,685
)

THREE MONTHS ENDED SEPTEMBER 30, 2013
 
 
Black Oil
 
Refining &
Marketing
 
Recovery
 
Total
Revenues
 
$
22,719,678

 
$
15,913,554

 
$
8,197,415

 
$
46,830,647

 
 
 
 
 
 
 
 
 
Income (loss) from operations
 
$
(791,121
)
 
$
1,158,637

 
$
2,021,504

 
$
2,389,020



F-11


NOTE 11. CONTINGENT CONSIDERATION

As part of the consideration paid related to the August 2012 acquisition of Vertex Holdings, L.P., if certain earnings targets are met, the Company has to pay the seller approximately $2,233,000 annually in each of 2013, 2014 and 2015. In 2013, it had been determined that the 2013 earnings target would not be met and the contingent consideration was reduced by $1,850,000, which represents the discounted cash flow for year one. It had also been determined that the 2014 earnings target would not be met and the contingent consideration was reduced by $1,555,000, which represents 100% of the discounted cash flows for year two.

As part of the consideration paid in connection with the acquisition of Omega Refining (see Note 12), the Company has agreed to pay the seller additional earn-out consideration in the event that certain EBITDA targets are met (a) during any twelve month period during the eighteen month period commencing on the first day of the first full calendar month following the May 2, 2014 initial closing date (which targets begin at $8,000,000 of EBITDA during such twelve month period) of up to 470,498 shares of common stock of the Company; and (b) during the calendar year ended December 31, 2015 (which targets begin at $9,000,000 of EBITDA) of up to 770,498 shares of common stock of the Company, in each case subject to adjustment for certain capital expenditures. The contingent consideration has been evaluated by management and reduced by $99,164.

As part of the consideration paid in connection with the acquisition of 51% of E-Source Holding, LLC, if certain targets are met, the Company has to pay the seller approximately $260,000 annually in 2014, 2015, 2016 and 2017. The Company has recorded contingent consideration of $748,000, which is the discounted cash flows of the earn-out payments. Of this amount, $136,662 was paid during the three months ended September 30, 2014 and the remaining $611,338 was written off. The write off was triggered because certain terms of the contingent consideration agreement were not met by the acquiree.
As part of the consideration paid in connection with the acquisition of an additional 19% of E-source Holding, LLC, if certain targets were met, on January 31, 2015, 207,743 shares of the Company’s common stock were to be issued to the seller. The estimated fair value of the stock at the time of this agreement was approximately $231,000 and was recorded as additional paid in capital and a reduction of the non-controlling interest in accordance with ASC 850-10-45. This amount was written off during the three months ended September 30, 2014 after certain terms of the contingent consideration agreement were not met by the aquiree.
On September 4, 2014, the Company acquired the remaining 30% interest in E-Source Holdings, LLC, of which it had previously acquired 70%. In consideration for the 30% interest, the Company issued 207,743 shares of common stock, valued at approximately $1,790,745, which was recorded as additional paid in capital and a reduction of the non-controlling interest in accordance with ASC 810-10-45.
NOTE 12. ACQUISITION

E-Source Holdings Transaction
On September 4, 2014, the Company acquired the remaining 30% interest in E-Source Holdings, LLC, of which it had previously acquired 70%. In consideration for the 30%, the Company issued 207,743 shares of common stock, valued at approximately $1,790,745. The transaction was recorded as additional paid in capital and a reduction of the non-controlling interest in accordance with ASC 810-10-45.
Omega Refining Transaction

On May 2, 2014, the Company completed its acquisition of substantially all of the assets of Omega Refining, LLC (including the Marrero, Louisiana re-refinery and Omega’s Myrtle Grove complex in Belle Chaise, Louisiana ("Omega Refining") and ownership of Golden State Lubricant Works, LLC for the purpose of re-refining used lubricating oils into processed oils and other products for the distribution, supply and sale to end-customers with related products and support services. The purchase price paid at the closing was approximately $28,764,000 in cash, 500,000 shares of our restricted common stock (valued at $3,266,000) and the assumption of certain capital lease obligations and other liabilities relating to contracts and leases of Omega Refining in connection with the initial closing.  We also agreed to provide Omega Holdings a loan in the amount of up to approximately $13.8 million.
 
The acquisition was accounted for under the purchase method of accounting, with the Company identified as the acquirer. Under the purchase method of accounting, the aggregate amount of consideration paid by the Company was allocated to Omega Refining's net tangible assets and intangible assets based on their estimated fair values as of May 2, 2014. The transaction resulted in a bargain purchase of $6,481,051 recognized in net income as an acquisition-date gain. During the three month period ending September 30, 2014, an additional $92,635 bargain purchase gain was recognized after capital lease balances were true up, resulting in a total bargain purchase gain of $6,573,686. The Omega Refining purchase qualifies as a bargain purchase since the acquisition date

F-12


amounts of the identifiable net asset acquired, excluding goodwill ($39.01 million), exceed the value of the consideration transferred ($32.44 million). The difference of $6.57 million is a gain as of the acquisition date. The bargain purchase resulted from the financial distress that Omega was in due to the large amount of debt held by Omega and the unexpected decrease in crack spreads that made the debt level overbearing. The Company retained an independent third party to assist management in determining the fair value of tangible and intangible assets transferred and liabilities assumed. The allocation of the purchase price is based on the best estimates of management.
The following information summarizes the allocation of the fair values assigned to the assets at the purchase date. The allocation of fair values are preliminary and are subject to change in the future during the measurement period.
 
 
(in thousands)
Cash and cash equivalents
 
$
406

Accounts receivable
 
950

Inventory
 
4,192

Prepaid expenses
 
71

Property, plant and equipment
 
30,000

Deposits
 
400

Bango secured note issued to Vertex
 
8,308

Technology
 
2,287

Non-compete agreements
 
66

Total identifiable net assets
 
$
46,680

Less liabilities assumed, including contingent consideration
 
(7,670
)
Gain on purchase
 
(6,574
)
Total purchase price
 
$
32,436

The Company incurred $2,559,830 in costs associated with the Omega Refining acquisition. These included legal, accounting, environmental and investment banking.

The following table summarizes the cost of amortizable intangible assets related to the Omega Refining acquisition: 
 
 
Estimated Cost
(in thousands)
 
Useful life
(years)
Non-Competes
 
$
66

 
1
Technology
 
2,287

 
15
Total
 
$
2,353

 
 


F-13


The results of Omega Refining are included in the consolidated financial statements subsequent to May 2, 2014. The following schedule contains pro forma results from operations as if the acquisition had occurred on January 1, 2014. The pro forma results do not report actual results that would have occurred had the merger taken place on January 1, 2014, nor do they necessarily suggest future operating results

 
 
Nine Months Ended September 30,
 
 
2014
 
2013
Revenues
 
$
234,957,949

 
$
221,836,815

Income from operations
 
1,478,186

 
8,047,532

 
 
 
 
 
Net income
 
6,216,035

 
7,329,101

 
 
 
 
 
Net loss attributable to non-controlling interest
 
325,399

 

 
 
 
 
 
Net income attributable to Vertex Energy, Inc.
 
$
6,541,434

 
$
7,329,101

 
 
 
 
 
Earnings  per common share
 
 
 
 
Basic
 
$0.28
 
$0.42
Diluted
 
$0.26
 
$0.37
NOTE 13. SUBSEQUENT EVENTS

Subsequent to September 30, 2014, an option holder exercised options to purchase 3,750 shares of the Company's common stock at an exercise price of $2.75 per share for $10,313 of cash and was issued 3,750 shares of our common stock.

Subsequent to September 30, 2014, the available credit on the Line of Credit was $20,000,000. As of November 10, 2014, the outstanding balance drawn on the line of credit is $0, leaving an available balance for draw downs of $20,000,000.
Effective October 3, 2014, the Company entered into a consulting agreement with its director, Timothy C. Harvey, pursuant to which Mr. Harvey agreed to provide consulting services to the Company in connection with overseeing the Company’s trading and selling of finished products and assisting the Company with finding the best markets for products from the Company’s facilities for a term of one year.  In consideration for agreeing to provide services under the agreement, the Company agreed to pay Mr. Harvey $10,000 per month, and to grant him an option to purchase up to 75,000 shares of the Company's common stock at an exercise price of $6.615 per share, the mean between the highest and lowest quoted selling prices of the Company's common stock on October 2, 2014 (the day immediately preceding the approval by the Board of Directors of the agreement), which vest at the rate of 1/4th of such options per year, subject to Mr. Harvey’s continued consulting, employment or service as a director of the Company, which options were granted under the Company's 2013 Stock Incentive Plan.
On October 21, 2014, the Company entered into an Asset Purchase Agreement (the “Purchase Agreement”) by and among the Company, Vertex Operating, Vertex Refining OH, LLC, a wholly-owned subsidiary of Vertex Operating (“Vertex OH”), and Heartland Group Holdings, LLC (“Heartland”).  Heartland is in the business of operating an oil re-refinery and, in connection therewith, collecting, aggregating and purchasing used lubricating oils and re-refining such oils into processed oils and other products for the distribution, supply and sale to end-customers (collectively, the “Heartland Business”).

Pursuant to the Purchase Agreement, we agreed to acquire substantially all of the assets of Heartland related to and used in the operating of the Heartland Business, including raw materials, finished products and work-in-process, equipment and other fixed assets, customer lists and marketing information, the name ‘Heartland’ and other related trade names, Heartland’s real property relating to its used oil refining facility located in Columbus, Ohio, used oil storage and transfer facilities located in Columbus, Zanesville and Norwalk, Ohio, and leases related to storage and transfer facilities located in Zanesville, Ohio, Mount Sterling, Kentucky, and Ravenswood, West Virginia (collectively, the “Heartland Assets”) and to assume certain liabilities of Heartland associated with certain assumed and acquired agreements.  The main assets excluded from the purchased assets pursuant to the Purchase Agreement are Heartland’s cash and cash equivalents, receivables, certain prepaid expenses, refunds and related claims, rights to certain tax refunds, certain assets used in the operations of Heartland which are used more than incidentally by Heartland’s majority equity owner (Warren Distribution, Inc. (“Warren”)) in connection with the operation of its other businesses and certain real property assets.

The transactions contemplated by the Purchase Agreement are planned to close on or before November 30, 2014 (such closing date, the “Closing”).

F-14


The purchase price payable in consideration for the Heartland Assets is $8,276,792 and the assumption of the assumed liabilities (subject to adjustment in connection with certain required inventory levels at closing as set forth in the Purchase Agreement), which amount is payable by way of the issuance to Heartland (or its assigns) of 1,189,637 shares of the Company’s restricted common stock, of which 150,000 shares of restricted common stock will be held in escrow and used to satisfy indemnification claims (the “Escrow Shares”).  The purchase price is subject to certain negotiated exceptions for excluded liabilities, taxes and other fundamental items. Heartland’s indemnification obligations under the Purchase Agreement are capped at $4 million.

The Escrow Shares are to be held in escrow to satisfy indemnification claims for 24 months following the Closing; provided that Heartland has the option at any time to acquire such Escrow Shares and instead place cash in such escrow account, upon the payment into the escrow account of $333,333 in cash for each 50,000 Escrow Shares acquired by Heartland.  Any claims made against the Escrow Shares pursuant to the indemnification provisions of the Purchase Agreement result in the cancellation of Escrow Shares equal in value to the amount of the applicable claim divided by the ten-day volume weighted average price per share of the Company’s common stock ending on and including the trading day immediately preceding the date of such applicable claim.

Heartland will also have the right pursuant to the terms of the Purchase Agreement to earn additional earn-out consideration of up to a maximum of $8,276,792, based on total EBITDA related to the Heartland Business during the twelve month period beginning on the first day of the first full calendar month commencing on or after the first anniversary of the Closing (the “Earnout Period”), as follows (as applicable, the “Contingent Payment”):

EBITDA generated during Earnout Period
Contingent Payment Due
Less than $1,650,000
$0
At least $1,650,000
$4,138,396
More than $1,650,000 and less than $3,300,000
Pro-rated between $4,138,396 and $8,276,792
$3,300,000 or more
$8,276,792

Any Contingent Payment due is payable 50% in cash and 50% in shares of the Company’s common stock based on the volume-weighted average of the regular session closing prices per share of the Company’s common stock on the NASDAQ Capital Market for the ten (10) consecutive trading days commencing on the trading day immediately following the last day of the Earnout Period and ending on such tenth trading day thereafter.  Additionally, the amount of any Contingent Payment is reduced by two-thirds of the cumulative total of required capital expenditures incurred at Heartland’s refining facility in Columbus, Ohio, which are paid or funded by Vertex OH after the Closing, not to exceed $866,667, which capital expenditures are estimated to total $1.3 million in aggregate.

Notwithstanding the above, the maximum number of shares of common stock to be issued pursuant to the Purchase Agreement cannot (i) exceed 19.9% of the outstanding shares of common stock outstanding on October 21, 2014, (ii) exceed 19.9% of the combined voting power of the Company on October 21, 2014, or (iii) otherwise exceed such number of shares of common stock that would violate applicable listing rules of the NASDAQ Stock Market in the event the Company’s stockholders do not approve the issuance of such shares (the “Share Cap”).  In the event the number of shares to be issued under the Purchase Agreement exceeds the Share Cap, then Vertex OH is required to instead pay any such additional consideration in cash or obtain the approval of the Company’s stockholders under applicable rules and requirements of the NASDAQ Capital Market for the additional issuance of shares.

 Additionally, we are required to file a registration statement within thirty days of the Closing registering at least 1,189,637 shares of the Company’s common stock and use commercially reasonable efforts to obtain effectiveness of the registration statement within 90 days of the filing date if the SEC does not review the registration statement or within 120 days if the SEC does review the registration statement filing.   Pursuant to the Purchase Agreement, Heartland agreed to not sell more than 50,000 shares of the Company’s common stock each week, if otherwise permitted pursuant to applicable law and regulation.


F-15


As of September 30, 2014, the Company was not in compliance with certain covenants contained in its credit facilities, including the financial covenants noted below with Bank of America (“BOA”) and Goldman Sachs Bank USA (“Goldman Sachs”):

The Company failed to make a prepayment of the term loan under the Goldman Sachs Credit Agreement in the amount of $6,299,567 which was due on August 31, 2014, which was required because the Company did not maintain a less than 4:1 Ratio of Consolidated Total Debt to Consolidated Pro Forma Adjusted EBITDA for the twelve month period ending on August 31, 2014 (the actual Ratio of Consolidated Total Debt for the twelve month period ending on August 31, 2014 was 4.6:1); and
                        
The Company failed to maintain a fixed charge coverage ratio of not less than 1.25 to 1.00 for three month period ending September 30, 2014 (the actual fixed charge coverage ratio for the period ending September 30, 2014 was 1.00 to 1.00).

In connection with the defaults above (and additional defaults described below), in October and November 2014, the Company received notices of events of default from Bank of America and Goldman Sachs, respectively, describing the occurrence of the following events of default under the credit agreements in addition to the prior financial covenant defaults described above:

The Company entering into various letters of intent in violation of the permitted activities covenants of the Goldman Sachs Credit Agreement; and

The Company failing to timely comply with various post-closing obligations set forth in the credit agreements including, among others, to deliver certificates of title of Company vehicles to the lenders, assignments of rights under various agreements from the Company to Vertex Operating, confirmation of the closing or transfer of various Company bank accounts, various surveys of mortgaged properties, and delivering a collateral access agreement to BOA.

Additionally, as each credit facility contains cross-default provisions, the default under each lender credit agreement constitutes a default under the agreement with the other lender. As events of default have occurred under the BOA credit agreement, BOA is not required to lend us any further funds under such agreement.

Notwithstanding the above described events of default, both the BOA and Goldman Sachs notices of default stated that while the lenders (and where applicable, their agents) are entitled to exercise any and all default-related rights and remedies under the credit agreements (including declaring the outstanding principal and interest under such facilities immediately due and payable, exercising rights of set-off and demanding further collateral under such credit agreements), neither of the lenders (or where applicable their agents) are charging default interest on such credit agreements or exercising any rights or remedies in connection with such events of default at this time; notwithstanding that neither lender has agreed to forbear from taking any such action in the future and have further reserved all rights, powers, privileges and remedies under their respective credit agreements and can exercise such rights, powers, privileges and remedies at any time without further notice to us.

If we fail to enter into formal forbearance agreements, cure the defaults, negotiate a waiver of the defaults under the credit agreements, or to negotiate mutually agreed upon amendments to the credit agreements to bring the Company into compliance with such credit agreements, the lenders may exercise any and all rights and remedies available to them under their respective agreements, including demanding immediate repayment of all amounts then outstanding under such credit agreements or initiating foreclosure or insolvency proceedings against us. As of the date of this filing we are engaged in ongoing discussions with our lenders, and, in connection therewith, we have provided updated financial projections to our lenders; however, as of the date of this filing, we have been unable to cure the events of default which have occurred and no events of default have been waived by such lenders. In the event we are not able to come to an agreement with our current lenders to either waive the existing defaults and amend the credit agreements or to enter into forbearance agreements that are mutually agreed upon and the lenders elect to exercise certain of their rights and remedies under the credit agreements, including demanding repayment of all amounts owing thereunder, and if we are unable to then obtain alternative financing, our business will be materially and adversely affected, and we may be forced to sharply curtail or cease our operations. In addition, if we are unable to obtain waivers of the existing defaults or enter into forbearance agreements that are mutually agreed upon, it is probable that our independent registered public accounting firm will include an explanatory paragraph with respect to our ability to continue as a going concern in its report on our financial statements for the year ending December 31, 2014 which could trigger additional defaults under agreements to which we are party and may further negatively affect our ability to maintain a listing of our common stock on the NASDAQ Capital Market.

As the credit agreements are secured by substantially all of our assets, there is a risk that if the lenders were to request the immediate repayment of such credit facilities and we did not have, and could not timely raise, funds to repay such obligations, that the lenders (or where applicable, their agents) could foreclose on our assets which could cause us to significantly curtail or cease operations.


F-16


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

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION

This Report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. In some cases, you can identify forward-looking statements by the following words: “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “ongoing,” “plan,” “potential,” “predict,” “project,” “should,” or the negative of these terms or other comparable terminology, although not all forward-looking statements contain these words. Forward-looking statements are not a guarantee of future performance or results, and will not necessarily be accurate indications of the times at, or by, which such performance or results will be achieved. Forward-looking statements are based on information available at the time the statements are made and involve known and unknown risks, uncertainties and other factors that may cause our results, levels of activity, performance or achievements to be materially different from the information expressed or implied by the forward-looking statements in this Report. These factors include:

risks associated with our outstanding credit facilities, including amounts owed, restrictive covenants and security interests thereon;
the level of competition in our industry and our ability to compete;
our ability to respond to changes in our industry;
the loss of key personnel or failure to attract, integrate and retain additional personnel;
our ability to protect our intellectual property and not infringe on others’ intellectual property;
our ability to scale our business;
our ability to maintain supplier relationships and obtain adequate supplies of feedstocks;
our ability to obtain and retain customers;
our ability to produce our products at competitive rates;
our ability to execute our business strategy in a very competitive environment;
trends in, and the market for, the price of oil and gas and alternative energy sources;
our ability to maintain our relationship with KMTEX, Ltd.;
the impact of competitive services and products;
our ability to maintain insurance;
potential future litigation, judgments and settlements;
rules and regulations making our operations more costly or restrictive;
changes in environmental and other laws and regulations and risks associated with such laws and regulations;
economic downturns both in the United States and globally;
risk of increased regulation of our operations and products;
negative publicity and public opposition to our operations;
disruptions in the infrastructure that we and our partners rely on;
an inability to identify attractive acquisition opportunities and successfully negotiate acquisition terms;
our ability to effectively integrate acquired assets, companies, employees or businesses;
liabilities associated with acquired companies, assets or businesses;
interruptions at our facilities;
our ability to complete pending and future acquisitions;
required earn-out payments and other contingent payments we are required to make;
unexpected changes in our anticipated capital expenditures resulting from unforeseen required maintenance, repairs, or upgrades;
our ability to acquire and construct new facilities;
certain events of default which have occurred and are continuing under our debt facilities;

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our ability to effectively manage our growth;
repayment of and covenants in our debt facilities;
the lack of capital available on acceptable terms to finance our continued growth; and
other risk factors included under “Risk Factors” below and in our Annual Report on Form 10-K and prior Form 10-Qs.

You should read the matters described in “Risk Factors” below and disclosed in the Company’s Annual Report on Form 10-K, filed with the Commission on March 25, 2014 and the Company's Quarterly Report on Form 10-Q, filed with the Commission on August 14, 2014, and the other cautionary statements made in this Report as being applicable to all related forward-looking statements wherever they appear in this Report. We cannot assure you that the forward-looking statements in this Report will prove to be accurate and therefore prospective investors are encouraged not to place undue reliance on forward-looking statements. Other than as required by law, we undertake no obligation to update or revise these forward-looking statements, even though our situation may change in the future.

Please see the “Glossary of Selected Terms” incorporated by reference hereto as Exhibit 99.1, for a list of abbreviations and definitions used throughout this Report.

In this Quarterly Report on Form 10-Q, we may rely on and refer to information regarding the refining, re-refining, used oil and oil and gas industries in general from market research reports, analyst reports and other publicly available information.  Although we believe that this information is reliable, we cannot guarantee the accuracy and completeness of this information, and we have not independently verified any of it.

Corporate History of the Registrant:

Vertex Energy, Inc. (the “Company,” “we,” “us,” and “Vertex”) was formed as a Nevada corporation on May 14, 2008.  Pursuant to an Amended and Restated Agreement and Plan of Merger dated May 19, 2008, by and between Vertex Holdings, L.P. (formerly Vertex Energy, L.P.), a Texas limited partnership ("Holdings"), us, World Waste Technologies, Inc., a California corporation (“WWT” or “World Waste”), Vertex Merger Sub, LLC, a California limited liability company and our wholly-owned subsidiary ("Merger Subsidiary"), and Benjamin P. Cowart, our Chief Executive Officer, as agent for our shareholders (as amended from time to time, the “Merger Agreement”). Effective on April 16, 2009, World Waste merged with and into Merger Subsidiary, with Merger Subsidiary continuing as the surviving corporation and becoming our wholly-owned subsidiary (the "Merger"). In connection with the Merger, (i) each outstanding share of World Waste common stock was cancelled and exchanged for 0.10 shares of our common stock; (ii) each outstanding share of World Waste Series A preferred stock was cancelled and exchanged for 0.4062 shares of our Series A preferred stock; and (iii) each outstanding share of World Waste Series B preferred stock was cancelled and exchanged for 11.651 shares of our Series A preferred stock. Additionally, as a result of the Merger, the common stock of World Waste was effectively reversed one for ten (10) as a result of the exchange ratios set forth in the Merger, and unless otherwise noted, the impact of such effective reverse stock split, created by the exchange ratio set forth above, is retroactively reflected throughout this Report.

Finally, as a result of the Merger, as the successor entity of World Waste, we assumed World Waste’s filing obligations with the Securities and Exchange Commission and our common stock began trading on the Over-The-Counter Bulletin Board under the symbol “VTNR.OB” effective May 4, 2009.  Subsequently, effective February 13, 2013, our common stock began trading on the NASDAQ Capital Market under the symbol “VTNR".

Material Acquisitions

Holdings:

Effective as of August 31, 2012, we acquired 100% of the outstanding equity interests of Vertex Acquisition Sub, LLC (“Acquisition Sub”), a special purpose entity consisting of substantially all of the assets of Holdings and real-estate properties of B & S Cowart Family L.P. (“B&S LP” and the “Acquisition”), both of which entities were owned and operated by related parties.  Prior to closing the Acquisition, Holdings contributed to Acquisition Sub substantially all of its assets and liabilities relating to the business of transporting, storing, processing and re-refining petroleum products, crudes and used lubricants, including all of the outstanding equity interests in Holdings’ wholly-owned operating subsidiaries, Cedar Marine Terminals, L.P. (“CMT”), Crossroad Carriers, L.P. (“Crossroad”), Vertex Recovery, L.P. (“Vertex Recovery”) and H&H Oil, L.P. (“H&H Oil”, and collectively, the “Transferred Partnerships”), and B&S LP contributed real estate associated with the operations of H&H Oil.


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We paid the following consideration for 100% of the equity interests in Acquisition Sub (the “Purchase Price”): (i) to Holdings, (a) $14.8 million in cash and assumed debt; and (b) 4,545,455 million restricted shares of our common stock; and (ii) to B&S LP, $1.7 million cash consideration, representing the appraised value of certain real estate contributed by B&S LP to Acquisition Sub.  Additionally, for each of the three one-year periods following September 11, 2012, the closing date of the transaction, Holdings will be eligible to receive earn-out payments of $2.23 million, up to $6.7 million in the aggregate (the “Earn-Out Payments”), contingent on the combined company achieving adjusted EBITDA targets of $10.75 million, $12.0 million and $13.5 million, respectively, in those periods. In 2013 it was determined that the 2013 earnings target would not be met and the contingent consideration was reduced by $1,850,000, which represents the discounted cash flow for year one. It had also been determined that the 2014 earnings target would not be met and the contingent consideration was reduced by $1,555,000, which represents 100% of the discounted cash flows for year two.

We had numerous relationships and related-party transactions with Holdings and its subsidiaries prior to the closing of the Acquisition, including the lease of a storage facility, the subletting of office space, and agreements to operate the Thermal Chemical Extraction Process ("TCEP") (described below) facility and to transport and store feedstock and end products. The closing of the Acquisition eliminated these related-party transactions.  The description of our operations below reflects the closing of the Acquisition, unless otherwise stated or the discussion requires otherwise.

E-Source:

Effective October 1, 2013 Vertex acquired a 51% interest in E-Source Holdings, LLC (“E-Source”), a company that leases and operates a facility located in Houston, Texas, and provides dismantling, demolition, decommission and marine salvage services at industrial facilities throughout the Gulf Coast. E-Source also owns and operates a fleet of trucks and other vehicles used for shipping and handling equipment and scrap materials. The consideration paid for the acquisition of E-Source was approximately $900,000 and the right of one of the sellers (the “Earn-Out Seller”) to earn additional earn-out payments of up to 15% of E-Source’s net income before taxes, in the event certain calendar year net income thresholds are met, in calendar years 2014 through 2017, as well as a commission of 20% of the net income before taxes associated with certain future planned projects of E-Source required to be completed prior to December 31, 2014, as long as such applicable seller remains an employee of E-Source during such applicable periods. Effective on March 14, 2014, we entered into an amendment to our acquisition agreement with the Earn-Out Seller, and mutually agreed that the lesser of (a) 20% and (b) $100,000, per calendar year of earn-out payments due the Earn-Out Seller, if any, will be payable in shares of our restricted common stock, based on the average of the five closing sales prices of the Company’s common stock on the first five trading days of each applicable calendar year (each a “Valuation”) for which the earn-out consideration relates, provided that the parties mutually agreed to use a valuation of $3.2922 per share (the “2014 Valuation Price”) for any earn-out payments relating to the 2014 calendar year and further agreed that in no event will any future calendar year Valuation be less than the 2014 Valuation Price. On March 26, 2014, but effective January 1, 2014, the Company acquired an additional 19% interest in E-Source for $854,050 in cash consideration and the right to receive stock consideration (on January 31, 2015) in the amount of 207,743 shares of stock subject to certain performance metrics being met during 2014 (which the parties agreed would not be met as of their entry into the August 2014 acquisition agreement described below). Of this amount, $136,662 was paid during the three months ended September 30, 2014 and the remaining $611,338 in cash and $231,000 in stock contingencies were written off. The write off was triggered because certain terms of the contingent consideration agreement were not met by the acquiree.

In August 2014, Vertex Energy Operating, LLC, a wholly-owned subsidiary of the Company, acquired the remaining 30% interest in E-Source, in consideration for the issuance of 207,743 shares of Company common stock and confirmation by the parties that the performance metrics relating to the 207,743 shares of common stock issuable in connection with the 19% acquisition would not be met. Following this transaction, E-Source became a 100% wholly-owned subsidiary of Vertex Operating.

E-Source leases and operates a facility located in Houston, Texas, and provides dismantling, demolition, decommission and marine salvage services at industrial facilities throughout the Gulf Coast.   E-Source also owns and operates a fleet of trucks and other vehicles used for shipping and handling equipment and scrap materials.

Omega:

On May 2, 2014, we completed the Initial Closing (defined below) contemplated under the Asset Purchase Agreement entered into on March 17, 2014, and amended by the First Amendment dated April 14, 2014, Second Amendment dated April 30, 2014 and Third Amendment dated May 2, 2014 (as amended to date, the “Purchase Agreement”) by and among the Company, Vertex Refining LA, LLC and Vertex Refining NV, LLC (“Vertex Refining Nevada”), both wholly-owned subsidiaries of Vertex Operating,

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LLC (“Vertex Operating”), Omega Refining, LLC (“Omega Refining”), Bango Refining NV, LLC (“Bango Refining”) and Omega Holdings Company LLC (“Omega Holdings” and collectively with Omega Refining and Bango Refining, “Omega” or the “sellers”).

Pursuant to the Purchase Agreement, we agreed to acquire certain of Omega’s assets related to (1) the operation of oil re-refineries and, in connection therewith, purchasing used lubricating oils and re-refining such oils into processed oils and other products for the distribution, supply and sale to end-customers and (2) the provision of related products and support services. Specifically, the assets included Omega’s Marrero, Louisiana and Bango, Nevada, re-refineries (which re-refine approximately 80 million gallons of used motor oil per year). Additionally, the Marrero, Louisiana plant produces vacuum gas oil (VGO) and the Bango, Nevada plant produces base lubricating oils. Omega also operates Golden State Lubricants Works, LLC (“Golden State”), a strategic blending and storage facility located in Bakersfield, California, which is included in the acquisition. In connection with the acquisition, we also acquired certain of Omega’s prepaid assets and inventory.
 
The acquisition is to close in two separate closings, the first of which relating to the acquisition of Omega Refining (including the Marrero, Louisiana re-refinery and Omega’s Myrtle Grove complex in Belle Chaise, Louisiana) and ownership of Golden State, as described above, closed on May 2, 2014 (the “Initial Closing”), and the second of which relating to the acquisition of Bango Refining and the Bango, Nevada plant, is expected to close on or around November 2014, subject to certain closing conditions being met prior to closing (the “Final Closing”). Vertex’s obligation to consummate the Final Closing is subject to among other things, compliance with certain provisions of the credit agreements described herein and that the Bango plant operated by Bango Refining be fully restored and operational, as well as the plant meeting certain used motor oil processing run rates and that there are no adverse claims or legal proceedings related to an accident that occurred at the Bango plant in December 2013.
 
The purchase price paid at the Initial Closing was approximately $28,764,000 in cash (which funds we raised pursuant to our entry into the Credit Agreements, described below under “Liquidity and Capital Resources”), 500,000 shares of our restricted common stock (valued at $3,266,000) and the assumption of certain capital lease obligations and other liabilities relating to contracts and leases of Omega Refining in connection with the Initial Closing. We also agreed to provide Omega a loan in the amount of up to approximately $13.8 million (described below).
 
The amount due at the Final Closing, in consideration for the acquisition of Bango Refining, will be the assumption of certain loans made pursuant to the Omega Secured Note (described below), the issuance of 1,500,000 shares of Vertex’s common stock (which shares we are not required to register with the Commission and do not currently anticipate registering with the Commission) of which 650,000 shares (with an agreed value of $3.2301 per share or approximately $2.1 million) will be held in escrow (the “Pledged Shares”) and used to satisfy indemnification claims and secure the repayment of the Omega Secured Note (defined below), and which amount is subject to adjustment in the event minimum inventory levels are not delivered at the Final Closing, and the assumption of certain capital lease obligations and other liabilities relating to contracts and leases of Bango Refining. A portion of the Pledged Shares will be released from escrow, subject to outstanding claims, on September 15, 2015, and the remainder will be released on the 18 month anniversary of the Final Closing. Subject to certain negotiated exceptions for excluded liabilities, taxes and other fundamental items, the sellers’ indemnification obligations are capped at $5 million.

In connection with the First Closing, Omega Refining and Bango Refining provided Vertex Refining Nevada a Secured Promissory Note (the “Omega Secured Note”) in the aggregate amount of $13,858,067, representing (a) a loan to Omega in the amount of approximately $7.56 million (representing the agreed upon value of the amount by which the consideration paid at the Initial Closing (which included consideration relating to the assets acquired at the Initial Closing and which will be acquired at the Final Closing) exceeded the value of assets acquired at the Initial Closing) (the “Purchase Price Loan”); (b) a $750,000 loan related to the delivery of a certain amount of used motor oil inventory at the Initial Closing (the “First Inventory Loan”); (c) a $1,400,000 loan related to the delivery of a certain amount of used motor oil inventory at the Final Closing (the “Second Inventory Loan” and along with the First Inventory Loan, the “Inventory Loans”); (d) a loan in a single advance of $3.15 million to satisfy accounts payable and other working capital related obligations of Omega after the Initial Closing, provided such loans are not required to be made until after June 16, 2014 (the “Draw Down Loan”) and (e) an additional loan of up to $1 million for capital expenditures, if mutually approved by us and Omega (the “Capital Expenditure Loan”). The Purchase Price Loan and the Draw Down Loan bear interest at the short-term federal rate as published by the Internal Revenue Service from time to time (currently 0.33% per annum) prior to October 30, 2014, and thereafter at 9.5% per annum, payable monthly in arrears and have a maturity date of March 31, 2015. The First Inventory Loan and the Draw Down Loan accrue interest at the rate of 9.5% per annum beginning on May 31, 2014, and are due and payable on March 31, 2015. Upon an event of default under any of the loans, the loans accrue interest at 18% per annum until paid in full. The Purchase Price Loan and the Draw Down Loan are due and payable in full on the earlier of March 31, 2015 and the date of the Final Closing, provided that both the Purchase Price Loan and Draw Down Loan (including accrued and unpaid interest thereon) will be deemed paid in full upon the Final Closing. The Omega Secured Note may be prepaid in whole or part from time to time without penalty.

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The repayment of the Omega Secured Note is guaranteed by Omega Holdings pursuant to a Guaranty Agreement and secured by a security interest granted pursuant to the terms of the Omega Secured Note and a Leasehold Deed of Trust, Security Agreement, Assignment of Leases and Rents and Fixture Filing. Additionally, we have the right to set-off any amount due upon an event of default against certain of the Pledged Shares and the earn-out consideration described below, of which a portion of such shares were pledged to secure the Omega Secured Note pursuant to a Pledge Agreement, subject to the terms of the Purchase Agreement.

The consideration payable in connection with the Final Closing is subject to customary adjustments prior to the Final Closing depending on certain criteria, including the amount of inventory delivered by the sellers at the Final Closing.
 
The sellers also have the right to earn additional earn-out consideration in the event certain EBITDA targets are met by (a) Vertex Refining NV, LLC during the years ended December 31, 2015 and 2016 (which targets begin at $3.5 million of EBITDA per year), of up to an aggregate of $6 million (payable in shares of the Company’s common stock equal to the volume-weighted average of the regular session closing prices per share of the Company’s common stock on the NASDAQ Capital Market for the ten (10) consecutive trading days prior to the applicable due date of such payments, provided, however, in no event shall the VWAP be less than $3.15 per share or more than $10.00 per share, as adjusted for any stock splits or recapitalizations); (b) Vertex Refining LA, LLC during any twelve month period during the eighteen month period commencing on the first day of the first full calendar month following the Initial Closing date (which targets begin at $8 million of EBITDA during such twelve month period) of up to 470,498 shares of common stock of the Company; and (c) Vertex Refining LA, LLC during the calendar year ended December 31, 2015 (which targets begin at $9 million of EBITDA) of up to 770,498 shares of common stock of the Company, in each case subject to adjustment for certain capital expenditures (collectively, the “Earn-Outs). Notwithstanding the above, the maximum number of shares of common stock to be issued pursuant to the Purchase Agreement cannot (i) exceed 19.9% of the outstanding shares of common stock outstanding on March 17, 2014, (ii) exceed 19.9% of the combined voting power of the Company on March 17, 2014, or (iii) otherwise exceed such number of shares of common stock that would violate applicable listing rules of the NASDAQ Stock Market in the event the Company’s stockholders do not approve the issuance of such shares (the “Share Cap”). In the event the number of shares to be issued under the Purchase Agreement exceeds the Share Cap, then the Company is required to instead pay any such additional consideration in cash or obtain the approval of the Company’s stockholders under applicable rules and requirements of the NASDAQ Capital Market for the additional issuance of shares. The contingent consideration has been evaluated by management and reduced by $99,164.
 
Finally, pursuant to the acquisition, (a) with certain exceptions related to sellers’ operation of Bango Refining between the Initial Closing and the Final Closing, the sellers agreed to enter into a non-competition agreement whereby they agreed not to compete against Vertex in connection with the acquired businesses, or to solicit active customers of the acquired businesses for a period of five years and (b) certain of the employees of the sellers agreed to enter into three year employment agreements with Vertex’s newly formed subsidiaries.

Additionally, we were required to file and obtain effectiveness of a registration statement within 90 days following the Initial Closing (if the Securities and Exchange Commission did not review the filing) and 150 days following the Initial Closing (if the Securities and Exchange Commission did review the filing), registering the shares of common stock issuable in connection with the acquisition, which registration statement was declared effective on July 29, 2014.
 
We obtained rights to certain material agreements and contracts of Omega Refining in connection with the Initial Closing, including obligations under Omega Refining’s capital leases and rights under a Terminaling Services Agreement dated May 1, 2008, originally between Omega Refining and Marrero Terminal LLC (the “Terminaling Agreement”) and a Second Used Motor Oil Buy/Sell Contract originally between Omega Refining and Thermo Fluids Inc. dated August 1, 2012 (the “Used Oil Contract”). Pursuant to the Terminaling Agreement, Marrero Terminal LLC agreed to provide certain terminaling services at the Marrero, Louisiana facility, subject to the terms of the agreement, including the use of tanks for storage in consideration for certain per barrel storage and throughput fees. The Terminaling Agreement has a term through April 30, 2018, subject to the right to extend such agreement pursuant to the terms thereof. Pursuant to the Used Oil Contract, we are required to purchase from Thermo Fluids Inc. an aggregate of a minimum of 26 million gallons of used motor oil through the end of the term of the agreement, December 31, 2014, with certain required minimum monthly and yearly volumes. We are required to pay Thermo Fluids Inc. consideration based on a discount to the average low posting of Platts U.S. Gulf Coast No. 6 Fuel Oil, plus in some cases additional consideration per barrel, for all used motor oil purchased pursuant to the agreement, subject to certain adjustments provided for in the agreement.

The Final Closing remains subject to the satisfaction of certain customary closing conditions. The Purchase Agreement contains customary representations, warranties, covenants and indemnities by the parties thereto. Craig-Hallum Capital Group LLC is acting as exclusive financial advisor to the Company in connection with the acquisition and has provided a fairness opinion to the Board of Directors in connection with the transaction.


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Heartland:

On October 21, 2014, the Company entered into an Asset Heartland Purchase Agreement (the “ Heartland Purchase Agreement”) by and among the Company, Vertex Operating, Vertex Refining OH, LLC, a wholly-owned subsidiary of Vertex Operating (“Vertex OH”), and Heartland Group Holdings, LLC (“Heartland”).  Heartland is in the business of operating an oil re-refinery and, in connection therewith, collecting, aggregating and purchasing used lubricating oils and re-refining such oils into processed oils and other products for the distribution, supply and sale to end-customers (collectively, the “Heartland Business”).

Pursuant to the Heartland Purchase Agreement, we agreed to acquire substantially all of the assets of Heartland related to and used in the operating of the Heartland Business, including raw materials, finished products and work-in-process, equipment and other fixed assets, customer lists and marketing information, the name ‘Heartland’ and other related trade names, Heartland’s real property relating to its used oil refining facility located in Columbus, Ohio, used oil storage and transfer facilities located in Columbus, Zanesville and Norwalk, Ohio, and leases related to storage and transfer facilities located in Zanesville, Ohio, Mount Sterling, Kentucky, and Ravenswood, West Virginia (collectively, the “Heartland Assets”) and to assume certain liabilities of Heartland associated with certain assumed and acquired agreements.  The main assets excluded from the purchased assets pursuant to the Heartland Purchase Agreement are Heartland’s cash and cash equivalents, receivables, certain prepaid expenses, refunds and related claims, rights to certain tax refunds, certain assets used in the operations of Heartland which are used more than incidentally by Heartland’s majority equity owner (Warren Distribution, Inc. (“Warren”)) in connection with the operation of its other businesses and certain real property assets.

The transactions contemplated by the Heartland Purchase Agreement are planned to close on or before November 30, 2014 (such closing date, the “Closing”).

The purchase price payable in consideration for the Heartland Assets is the assumption of the assumed liabilities and $8,276,792 (subject to adjustment in connection with certain required inventory levels at closing as set forth in the Heartland Purchase Agreement), which amount is payable by way of the issuance to Heartland (or its assigns) of 1,189,637 shares of the Company’s restricted common stock, of which 150,000 shares of restricted common stock will be held in escrow and used to satisfy indemnification claims (the “Escrow Shares”).  The Purchase Price is subject to certain negotiated exceptions for excluded liabilities, taxes and other fundamental items. Heartland’s indemnification obligations under the Heartland Purchase Agreement are capped at $4 million.
 
Additionally, pursuant to a Consulting Agreement previously entered into with Heartland in July 2014, pursuant to which Vertex Operating agreed to provide consulting services to Heartland while the parties negotiated the definitive terms of the Heartland Purchase Agreement (the “Consulting Agreement”), Vertex Operating agreed to reimburse Heartland for its operating losses (on a cash basis net of interest, depreciation, corporate overhead expenses and insurance proceeds received)(“Operating Losses”) during the period from July 16, 2014 through the earlier of the Closing or the termination of the Heartland Purchase Agreement, which reimbursement (estimated to total approximately $1.8 to $2 million at Closing) will be paid to Heartland at the Closing, or if the Closing does not occur as a result of the breach of the Heartland Purchase Agreement or default thereunder by Vertex Operating (or its affiliates), or the failure of any closing condition of Vertex Operating (or its affiliates) thereunder, such amount is due within thirty days of the date it has been determined that such Closing will not occur.  In the event the Closing does not occur due to the breach or default by Heartland (or its affiliates) of the Heartland Purchase Agreement, Heartland is required to reimburse Vertex OH for costs and expenses incurred by it and Vertex Operating in connection with such Operating Losses.

Vertex OH and Vertex Operating also agreed to share equally with Heartland in the costs of certain capital projects undertaken by Heartland prior to Closing, provided that Heartland is not required to pay more than $788,500 of its costs associated with such project costs (a substantial portion of which amount has been fully funded by Heartland to date) which are estimated to total approximately $1.6 million.  In connection therewith, following the Closing, Vertex OH will first pay, up to the amount expended by Heartland as of Closing for such costs, any amounts due in connection with such projects, and the remaining amount of such projects will be split equally by Vertex OH and Heartland.  All projects undertaken following Closing, if any, are in the sole discretion of Vertex OH.  Additionally, in the event of the termination of the Heartland Purchase Agreement due to a breach or default by Heartland (or its affiliates) under the Heartland Purchase Agreement, subject to any cure provision, Heartland is required to reimburse Vertex OH for any costs or expenses incurred by it or Vertex Operating in connection with such capital projects and pay Vertex OH’s portion of any capital project committed to prior to the date of termination, within thirty days of the date it has been determined that the Closing will not occur.

The Escrow Shares are to be held in escrow to satisfy indemnification claims for 24 months following the Closing; provided that Heartland has the option at any time to acquire such Escrow Shares and instead place cash in such escrow account, upon the payment into the escrow account of $333,333 in cash for each 50,000 Escrow Shares acquired by Heartland.  Any claims made

18


against the Escrow Shares pursuant to the indemnification provisions of the Heartland Purchase Agreement result in the cancellation of Escrow Shares equal in value to the amount of the applicable claim divided by the ten-day volume weighted average price per share of the Company’s common stock ending on and including the trading day immediately preceding the date of such applicable claim.

Heartland will also have the right pursuant to the terms of the Heartland Purchase Agreement to earn additional earn-out consideration of up to a maximum of $8,276,792, based on total EBITDA related to the Heartland Business during the twelve month period beginning on the first day of the first full calendar month commencing on or after the first anniversary of the Closing (the “Earnout Period”), as follows (as applicable, the “Contingent Payment”):

EBITDA generated during Earnout Period
Contingent Payment Due
Less than $1,650,000
$0
At least $1,650,000
$4,138,396
More than $1,650,000 and less than $3,300,000
Pro-rated between $4,138,396 and $8,276,792
$3,300,000 or more
$8,276,792

Any Contingent Payment due is payable 50% in cash and 50% in shares of the Company’s common stock based on the volume-weighted average of the regular session closing prices per share of the Company’s common stock on the NASDAQ Capital Market for the ten (10) consecutive trading days commencing on the trading day immediately following the last day of the Earnout Period and ending on such tenth trading day thereafter.  Additionally, the amount of any Contingent Payment is reduced by two-thirds of the cumulative total of required capital expenditures incurred at Heartland’s refining facility in Columbus, Ohio, which are paid or funded by Vertex OH after the Closing, not to exceed $866,667, which capital expenditures are estimated to total $1.3 million in aggregate.

Notwithstanding the above, the maximum number of shares of common stock to be issued pursuant to the Heartland Purchase Agreement cannot (i) exceed 19.9% of the outstanding shares of common stock outstanding on October 21, 2014, (ii) exceed 19.9% of the combined voting power of the Company on October 21, 2014, or (iii) otherwise exceed such number of shares of common stock that would violate applicable listing rules of the NASDAQ Stock Market in the event the Company’s stockholders do not approve the issuance of such shares (the “Share Cap”).  In the event the number of shares to be issued under the Heartland Purchase Agreement exceeds the Share Cap, then Vertex OH is required to instead pay any such additional consideration in cash or obtain the approval of the Company’s stockholders under applicable rules and requirements of the NASDAQ Capital Market for the additional issuance of shares.

Additionally, we are required to file a registration statement within thirty days of the Closing registering at least 1,189,637 shares of the Company’s common stock and use commercially reasonable efforts to obtain effectiveness of the registration statement within 90 days of the filing date if the SEC does not review the registration statement or within 120 days if the SEC does review the registration statement filing.   Pursuant to the Heartland Purchase Agreement, Heartland agreed to not sell more than 50,000 shares of the Company’s common stock each week, if otherwise permitted pursuant to applicable law and regulation.


Description of Business Activities:

We are an environmental services company that recycles industrial waste streams and off-specification commercial chemical products. Our primary focus is recycling used motor oil and other petroleum by-products.  We are engaged in operations across the entire petroleum recycling value chain including collection, aggregation, transportation, storage, refinement, and sales of aggregated feedstock and re-refined products to end users.  We operate in three divisions- the Black Oil, Refining and Marketing and Recovery divisions. Our Black Oil division collects and purchases used motor oil directly from third-party generators, aggregates used motor oil from an established network of local and regional collectors, and sells used motor oil to our customers for use as a feedstock or replacement fuel for industrial burners. Our Refining and Marketing division aggregates and manages the re-refinement of used motor oil and other petroleum by-products and sells the re-refined products to end customers. Our Recovery division is a generator solutions company for the proper recovery and management of hydrocarbon streams. We operate a refining facility that uses our proprietary TCEP technology and we also utilize third-party processing facilities.

We recently acquired 100% interest in E-Source (as described above) a company that leases and operates a facility located in Houston, Texas, and provides dismantling, demolition, decommission and marine salvage services at industrial facilities throughout the Gulf Coast.   E-Source also owns and operates a fleet of trucks and other vehicles used for shipping and handling equipment and scrap materials. We also recently acquired Omega's Marrero, Louisiana re-refinery and Myrtle Grove complex in Belle

19


Chasse, Louisiana and ownership of Golden State, as described above. The Marrero, Louisiana facility re-refines used motor oil and also produces vacuum gas oil. Golden State operates a strategic blending and storage facility located in Bakersfield, California.
 
Black Oil Division
 
Our Black Oil division is engaged in operations across the entire used motor oil recycling value chain including collection, aggregation, transportation, storage, refinement, and sales of aggregated feedstock and re-refined products to end users. We collect and purchase used oil directly from generators such as oil change service stations, automotive repair shops, manufacturing facilities, petroleum refineries, and petrochemical manufacturing operations.  We collect and purchase used oil directly from generators such as oil change service stations, automotive repair shops, manufacturing facilities, petroleum refineries, and petrochemical manufacturing operations.  We own a fleet of 13 collection vehicles which routinely visit generators to collect and purchase used motor oil.   We also aggregate used oil from a diverse network of approximately 50 suppliers who operate similar collection businesses to ours.

We manage the logistics of transport, storage and delivery of used oil to our customers. We own a fleet of seven transportation trucks and more than 90 aboveground storage tanks with over 4.5 million gallons of storage capacity. These assets are used by both the Black Oil division and the Refining and Marketing division. In addition, we also utilize third parties for the transportation and storage of used oil feedstocks. Typically, we sell used oil to our customers in bulk to ensure efficient delivery by truck, rail, or barge. In many cases, we have contractual purchase and sale agreements with our suppliers and customers, respectively. We believe these contracts are beneficial to all parties involved because it ensures that a minimum volume is purchased from collectors and generators, a minimum volume is sold to our customers, and we are able to minimize our inventory risk by a spread between the costs to acquire used oil and the revenues received from the sale and delivery of used oil. We also use our proprietary TCEP technology to re-refine used oil into marine fuel cutterstock and a higher-value feedstock for further processing. In addition at our Marrero facility we produce a Vacuum Gas Oil (VGO) product that is sold to refineries as well as to the marine fuels market.
 
Refining and Marketing Division
 
Our Refining and Marketing division is engaged in the aggregation of feedstock, re-refining it into higher value end products, and selling these products to our customers, as well as related transportation and storage activities. We aggregate a diverse mix of feedstocks including used motor oil, petroleum distillates, transmix and other off-specification chemical products. These feedstock streams are purchased from pipeline operators, refineries, chemical processing facilities and third-party providers, and are also transferred from our Black Oil division. We have a toll-based processing agreement in place with KMTEX, Ltd. (“KMTEX”) to re-refine feedstock streams, under our direction, into various end products that we specify. KMTEX uses industry standard processing technologies to re-refine our feedstocks into pygas, gasoline blendstock and marine fuel cutterstock. We sell all of our re-refined products directly to end-customers or to processing facilities for further refinement.

Recovery Division

The Recovery division is a generator solutions company for the proper recovery and management of hydrocarbon streams. The Recovery division also provides industrial dismantling, demolition, decommissioning, investment recovery and marine salvage services in industrial facilities. The Company (through this division) owns and operates a fleet of eight trucks and heavy equipment used for processing, shipping and handling of reusable process equipment and other scrap commodities.

We currently provide our services in 13 states, primarily in the Gulf Coast and Central Midwest regions of the United States. For the rolling twelve month period ending September 30, 2014, we aggregated approximately 103 million gallons of used motor oil and other petroleum by-product feedstocks and managed the re-refining of approximately 54 million gallons of used motor oil with our proprietary TCEP process and VGO process.

Biomass Renewable Energy

We are also continuing to work on joint development commercial projects which focus on the separation of municipal solid waste into feedstocks for energy production. We are very selective in choosing opportunities that we believe will result in value for our shareholders. We can provide no assurance that the ongoing venture will successfully bring any projects to a point of financing or successful construction and operation.

Thermal Chemical Extraction Process

We own the intellectual property for our patented TCEP technology.  TCEP is a technology which utilizes thermal and chemical dynamics to extract impurities from used oil which increases the value of the feedstock.  We currently sell the TCEP final product

20


as fuel oil cutterstock. We intend to continue to develop the TCEP technology and design with the goal of producing additional re-refined products including lubricating base oil.

TCEP differs from conventional re-refining technologies, such as vacuum distillation and hydrotreatment, by relying more heavily on chemical processes to remove impurities rather than temperature and pressure. Therefore, the capital requirements to build a TCEP plant are typically much less than a traditional re-refinery because large feed heaters, vacuum distillation columns, and a hydrotreating unit are not required.  The end product currently produced by TCEP is used as fuel oil cutterstock. Conventional re-refineries produce lubricating base oils or product grades slightly lower than base oil that can be used as industrial fuels or transportation fuel blendstocks.

We currently estimate the cost to construct a new, fully-functional, commercial facility using our TCEP technology, with annual processing capacity of between 25 and 50 million gallons at another location would be approximately $10 to $15 million, which could fluctuate based on throughput capacity.  The facility infrastructure would require additional capitalized expenditures which would depend on the location and site specifics of the facility.

Strategy and Plan of Operations

The principal elements of our strategy include:

Expand Feedstock Supply Volume.  We intend to expand our feedstock supply volume by growing our collection and aggregation operations.  We plan to increase the volume of feedstock we collect directly by developing new relationships with generators and working to displace incumbent collectors; increasing the number of collection personnel, vehicles, equipment, and geographical areas we serve; and acquiring collectors in new or existing territories.  We intend to increase the volume of feedstock we aggregate from third-party collectors by expanding our existing relationships and developing new vendor relationships.  We believe that our ability to acquire large feedstock volumes will help to cultivate new vendor relationships because collectors often prefer to work with a single, reliable customer rather than manage multiple relationships and the uncertainty of excess inventory.

Broaden Existing Customer Relationships and Secure New Large Accounts.  We intend to broaden our existing customer relationships by increasing sales of used motor oil and re-refined products to these accounts. In some cases, we may also seek to serve as our customers’ primary or exclusive supplier.  We also believe that as we increase our supply of feedstock and re-refined products that we will secure larger customer accounts that require a partner who can consistently deliver high volumes.

Re-Refine Higher Value End Products.  We intend to develop, lease, or acquire technologies to re-refine our feedstock supply into higher-value end products, including assets or technologies which complement TCEP.  Currently, we are using TCEP to re-refine used oil feedstock into cutterstock for use in the marine fuel market.  We believe that the expansion of our TCEP facilities and continued improvements in our technology, and investments in additional technologies, will enable us to upgrade feedstock into end products, such as lubricating base oil, that command higher market prices than the current re-refined products we produce. In addition to TCEP, at our Marrero, Louisiana facility we are producing a vacuum gas oil (VGO) through our re-refinery.

Expand TCEP Re-Refinement Capacity.  We intend to expand our TCEP capacity by building additional TCEP facilities to re-refine feedstock.  We believe the TCEP technology has a distinct competitive advantage over conventional re-refining technology because it produces a high-quality, fuel oil product, and the capital expenditures required to build a TCEP plant are significantly lower than a comparable conventional re-refining facility.  By continuing the transition from our historical role as a value-added logistics provider to operating as a re-refiner, we believe we will be able to leverage our feedstock supply network and aggregation capabilities to upgrade a larger percentage of our feedstock inventory into higher value end products which we believe should lead to increased revenue and gross margins. We intend to build TCEP facilities near the geographic location of substantial feedstock sources that we have relationships with through our existing operations or from an acquisition.  By establishing TCEP facilities near proven feedstock sources, we seek to lower our transportation costs and lower the risk of operating plants at low capacity.
 
Pursue Selective Strategic Relationships Or Acquisitions.  We plan to grow market share by consolidating feedstock supply through partnering with or acquiring collection and aggregation assets, such as the acquisition of Omega's assets (as described in greater detail above) and our recently announced proposed acquisition of certain assets from Heartland Group Holdings, LLC.  Such acquisitions and/or partnerships could increase our revenue and provide better control over the quality and quantity of feedstock available for resale and/or upgrading as well as providing additional locations for the implementation of TCEP.  In addition, we intend to pursue further vertical integration opportunities by acquiring complementary recycling and processing technologies where we can realize synergies by leveraging our customer and vendor relationships, infrastructure, and personnel, and by eliminating duplicative overhead costs.


21


Alternative Energy Project Development. We will continue to evaluate and potentially pursue various alternative energy project development opportunities.  These opportunities may be a continuation of the projects sourced originally by World Waste and/or may include new projects initiated by us.

Recent Events

In September 2014, we entered into a joint supply and marketing agreement "JSMA" with a strategic petroleum products trading company whereby we will jointly market our finished product produced from our Marrero, Louisiana facility (low sulfur fuel oil and marine bunker fuel) and split the gross profit resulting in the sales of such product equally (50/50).  As such, the finished product related to this venture has been sold and paid for from the JSMA and the cost associated therewith has been reimbursed to us; however no additional revenues associated with the sale of such products will be recognized until the product is further delivered to the end markets and the JSMA recognizes gross profit on such sales.  The agreement has a term through the end of November 2014.
RESULTS OF OPERATIONS

Description of Material Financial Line Items:

Revenues

We generate revenues from three existing operating divisions as follows:

BLACK OIL - Revenues for our Black Oil division are comprised primarily of feedstock sales (used motor oil) which are purchased from generators of used motor oil such as oil change shops and garages, as well as a network of local and regional suppliers.  Volumes are consolidated for efficient delivery and then sold to third-party re-refiners and fuel oil blenders for the export market.  In addition, through used oil re-refining, we re-refine used oil through TCEP.  The finished product is then sold by barge as a fuel oil cutterstock and a feedstock component for major refineries. Through the operations at our Marrero, Louisiana facility we produce a Vacuum Gas Oil (VGO) product from used oil re-refining which is then sold via barge to end users to utilize in a refining process or a fuel oil blend.
 
REFINING AND MARKETING - The Refining and Marketing division generates revenues relating to the sales of finished products.  The Refining and Marketing division gathers hydrocarbon streams in the form of petroleum distillates, transmix and other chemical products that have become off-specification during the transportation or refining process. These feedstock streams are purchased from pipeline operators, refineries, chemical processing facilities and third-party providers, and then processed at a third-party facility under our direction. The end products are typically three distillate petroleum streams (gasoline blendstock, pygas and fuel oil cutterstock), which are sold to major oil companies or to large petroleum trading and blending companies. The end products are delivered by barge and truck to customers.  

RECOVERY - The Recovery division is a generator solutions company for the proper recovery and management of hydrocarbon streams. This division also provides dismantling, demolition, decommission and marine salvage services at industrial facilities. We own and operate a fleet of trucks and other vehicles used for shipping and handling equipment and scrap materials.

Our revenues are affected by changes in various commodity prices including crude oil, natural gas, #6 oil and metals.

Cost of Revenues

BLACK OIL - Cost of revenues for our Black Oil division are comprised primarily of feedstock purchases from a network of providers. Other cost of revenues include processing costs, transportation costs, purchasing and receiving costs, analytical assessments, brokerage fees and commissions, and surveying and storage costs.
 
REFINING AND MARKETING - The Refining and Marketing division incurs cost of revenues relating to the purchase of feedstock, purchasing and receiving costs, and inspection and processing of the feedstock into gasoline blendstock, pygas and fuel oil cutter by a third party. Cost of revenues also includes broker’s fees, inspection and transportation costs.
    
RECOVERY - The Recovery division incurs cost of revenues relating to the purchase of hydrocarbon products, purchasing and receiving costs, inspection, demolition and transporting of metals and other salvage and materials. Cost of revenues also includes broker’s fees, inspection and transportation costs.


22


Our cost of revenues are affected by changes in various commodity indices, including crude oil, natural gas, #6 oil and metals.  For example, if the price for crude oil increases, the cost of solvent additives used in the production of blended oil products, and fuel cost for transportation cost from third party providers will generally increase. Similarly, if the price of crude oil falls, these costs may also decline.

General and Administrative Expenses
 
Our general and administrative expenses consist primarily of salaries and other employee-related benefits for executive, administrative, legal, financial and information technology personnel, as well as outsourced and professional services, rent, utilities, and related expenses at our headquarters, as well as certain taxes.
 
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2014 COMPARED TO THE THREE MONTHS ENDED SEPTEMBER 30, 2013
 
Set forth below are our results of operations for the three months ended September 30, 2014 as compared to the same period in 2013. In the comparative tables below, increases in revenue/income or decreases in expense (favorable variances) are shown without parentheses while decreases in revenue/income or increases in expense (unfavorable variances) are shown with parentheses in the “$ Change” and “% Change” columns. 

 

Three Months Ended September 30,

 

 
 

2014

2013

$ Change

% Change
Revenues

$
76,903,516


$
46,830,647


$
30,072,869


64
 %
Cost of Revenues

72,846,322


41,945,879


(30,900,443
)

(74
)%
Gross Profit

4,057,194


4,884,768


(827,574
)

(17
)%
Reduction of contingent liability

(1,876,752
)



1,876,752


100
 %
Selling, general and administrative expenses

6,801,396


2,495,748


(4,305,648
)

(173
)%
Acquisition related expenses

259,235




(259,235
)

(100
)%
Income (loss) from operations

(1,126,685
)

2,389,020


(3,515,705
)

(147
)%
Other Income

109,980




109,980


100
 %
Bargain purchase gain related to Omega acquisition
 
92,635

 

 
92,635

 
100
 %
Other expense



(3,949
)

3,949


100
 %
Interest Expense

(947,325
)

(95,488
)

(851,837
)

(892
)%
Total other income (expense)

(744,710
)

(99,437
)

(645,273
)

(649
)%
Income (loss) before income taxes

(1,871,395
)

2,289,583


(4,160,978
)

(182
)%
Income tax (expense) benefit

(57,975
)

40,211


(98,186
)

(244
)%
Net income (loss)

$
(1,929,370
)

$
2,329,794


$
(4,259,164
)

(183
)%


23


Each of our segments’ gross profit during the three months ended September 30, 2014 and 2013 was as follows (increases in revenue and/or decreases in cost of revenues are shown without parentheses while decreases in revenue and/or increases in cost of revenues are shown with parentheses in the “$ Change” and “% Change” columns): 

 

Three Months Ended 
 September 30,

 

 
Black Oil Segment

2014

2013

$ Change

% Change
Total revenue

$
52,434,252


$
22,719,678


$
29,714,574


131
 %
Total cost of revenue

49,933,205


21,586,736


(28,346,469
)

(131
)%
Gross profit

2,501,047


1,132,942


1,368,105


121
 %
Reduction in contingent consideration
 
1,876,752

 

 
1,876,752

 
100
 %
Selling general and administrative expense
 
5,126,842

 
1,924,063

 
(3,202,779
)
 
(166
)%
Income from operations
 
$
(749,043
)
 
$
(791,121
)
 
$
42,078

 
5
 %
 
 
 
 
 
 
 
 
 
Refining Segment

 


 


 


 

Total revenue

$
19,655,674


$
15,913,554


$
3,742,120


24
 %
Total cost of revenue

18,679,687


14,244,023


(4,435,664
)

(31
)%
Gross profit

975,987


1,669,531


(693,544
)

(42
)%
Selling general and administrative expense
 
746,727

 
510,894

 
(235,833
)
 
(46
)%
Income from operations
 
$
229,260

 
$
1,158,637

 
$
(929,377
)
 
(80
)%
 
 
 
 
 
 
 
 
 
Recovery Segment












Total revenue

$
4,813,590


$
8,197,415


$
(3,383,825
)

(41
)%
Total cost of revenue

4,233,430


6,115,120


1,881,690


31
 %
Gross profit

580,160


2,082,295


(1,502,135
)

(72
)%
Selling general and administrative expense
 
1,187,062

 
60,791

 
(1,126,271
)
 
(1,853
)%
Income (loss) from operations
 
$
(606,902
)
 
$
2,021,504

 
$
(2,628,406
)
 
(130
)%
 

The following schedule separates revenues and gross profit contributed by our recently acquired business entities, Omega Refining and E-Source, during the three month period ending September 30, 2014. The isolated figures are presented in dollars and as a percentage of total consolidated results.
 
Three Months Ended September 30, 2014
 
 
Consolidated Results
Omega Refining
% Contributed by Omega Refining
Total Revenue
$
76,903,516

$
32,973,450

43%
Gross Profit
4,057,194

2,047,560

50%
 
 
 
 
 
Consolidated Results
E-Source
% Contributed by E-Source
Total Revenue
$
76,903,516

$
1,732,967

2%
Gross Profit
4,057,194

327,805

8%
Our revenues and cost of revenues are significantly impacted by fluctuations in commodity prices; decreases in commodity prices typically result in decreases in revenue and cost of revenues.  Our gross profit is to a large extent a function of the market discount we are able to obtain in purchasing feedstock, as well as how efficiently management conducts operations.

Total revenues increased 64% for the three months ended September 30, 2014 compared to the same period in 2013, due primarily to an increase in overall volume of product sold during the three months ended September 30, 2014 compared to the same period in 2013. Total volume increased 56% largely as a result of the recent addition of the Marrero facility in May 2014, which produces a VGO finished product. Gross profit decreased by 17% for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. Additionally, our per barrel margin decreased 47% relative to the three months ended September

24


30, 2013. This decrease was a result of operational decisions made at our TCEP facility, where we decreased our production during the period to make significant improvements as well as maintenance at the location. In addition volumes were lower at our Marrero facility related to stack testing that was being done for permitting purposes to determine if the facility could qualify for increased production in the future. In addition finished product values for our VGO product declined dramatically due to certain facilities being down in the Gulf Coast causing disruption in supply/demand balances during August and September. Market demand being lower for VGO products during this period caused a sharp drop in our finished product values during this period. Due to lower demand for VGO during this period The 74% increase in cost of revenues for the three months ended September 30, 2014 compared to the three months ended September 30, 2013 is mainly a result of our increased revenues.
 
Our Black Oil division's volume increased approximately 106% during the three months ended September 30, 2014 compared to the same period in 2013. This increase was due to the increased amount of volume managed through our TCEP operation as a result of the improvements that were made, as well as the increased volume we realized from the Marrero facility (beginning May 2, 2014) (described in greater detail below) which produces a VGO finished product. Volumes collected through our H&H business increased 41% during the three months ended September 30, 2014 compared to the same period in 2013.

We experienced a 7% increase in the volume of our TCEP refined product during the three months ended September 30, 2014, compared to the same period in 2013. This increase is a result of the improvements that were made in 2013 to improve efficiencies and improve the volume throughput at the facility. This increase would have been much higher if we had not brought the plant down for improvements and maintenance during the 3rd quarter. In addition, commodity prices decreased approximately 6% for the three months ended September 30, 2014, compared to the same period in 2013. The average posting (U.S. Gulfcoast Residual Fuel No. 6 3%) for the three months ended September 30, 2014 decreased $5.58 per barrel from a three month average of $92.98 for the three months ended September 30, 2013 per barrel to $87.40 per barrel for the three months ended September 30, 2014.

Our TCEP technology generated revenues of $14,364,173 during the three months ended September 30, 2014 with cost of revenues of $13,934,459, producing a gross profit of $429,714.  The per barrel margin for our TCEP product decreased 63% as compared to the same period during 2013.  This decrease was largely a result of the maintenance and improvements taking place at the facility, which caused an increase in our cost of goods during this period, as well as the decrease in the market value of the finished product of 6% while feedstock costs remained relatively unchanged. In addition the lower than expected volume through the facility during this period had an impact on the overall Gross Profit.

Overall volume for the Refining and Marketing division increased 17% during the three month period ended September 30, 2014 as compared to the same period in 2013. This division experienced an increase in production of 10% for its gasoline blendstock for the three months ended September 30, 2014, compared to the same period in 2013. Our fuel oil cutter volumes decreased 13% for the three months ended September 30, 2014, compared to the same period in 2013. Our pygas volumes increased 180% for the three months ended September 30, 2014 as compared to the same period in 2013. These increases are a result of some new feedstock streams as well as variations in volume builds that can vary throughout the year at the facility where our product is produced.

Our Recovery division includes the business operations of Vertex Recovery as well as the recently acquired business of E-Source (of which we own a 100% interest). This segment was formed as of the fourth quarter of 2013 (provided that our historical segment information provided below and elsewhere throughout this filing has been retroactively adjusted to include the Recovery division had it been in place during the periods presented). Revenues for this division decreased 41% mostly as a result of E-Source during the three months ended September 30, 2014. This division periodically participates in project work that is not ongoing thus we expect to see fluctuations in revenue and gross profit from this division from period to period.

Overall gross profit decreased 17% and our margin per barrel decreased approximately 47% for the three months ended September 30, 2014, compared to the same period in 2013. This decrease was largely a result of lower volumes than expected at each facility along with the slight decrease in overall business production at each of our facilities compared to what we plan for.

25


The following table sets forth the high and low spot prices during the first nine months of 2014 for our key benchmarks.

2014
 
 
 
 
 
 
 
 
Benchmark
 
High
 
Date
 
Low
 
Date
U.S. Gulfcoast No. 2 Waterborne (dollars per gallon)
 
$
3.00

 
March 3
 
$
2.55

 
September 30
U.S. Gulfcoast Unleaded 87 Waterborne (dollars per gallon)
 
$
3.08

 
June 20
 
$
2.54

 
January 3